1
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
FORM 10-Q
(X) Quarterly Report Pursuant To Section 13 or 15(d) of the Securities Exchange
Act of 1934
For The Quarterly Period Ended September 30, 1998
or
( ) Transition Report pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
For the transition period from ____________ to ____________
Commission File Number 000-21786
RESOURCE BANCSHARES MORTGAGE GROUP, INC.
- - --------------------------------------------------------------------------------
(Exact name of registrant as specified in its charter)
STATE OF DELAWARE 57-0962375
- - ------------------------------- ------------------------------------
(State or other jurisdiction of (I.R.S. Employer Identification No.)
incorporation or organization)
7909 Parklane Road, Columbia, SC 29223
- - --------------------------------------------------------------------------------
(Address of Principal Executive Office) (Zip Code)
Registrant's telephone number, including area code (803) 741-3000
--------------
Indicate by check mark whether the registrant has filed all reports required to
be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during
the preceding 12 months (or for each shorter period that the registrant was
required to file reports) and has been subject to such filing requirements for
the past 90 days.
YES X NO
--- ---
The number of shares of common stock of the Registrant outstanding as of
October 31, 1998, was 23,540,145.
Page 1
Exhibit Index on Pages A to E
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RESOURCE BANCSHARES MORTGAGE GROUP, INC.
Form 10-Q for the quarter ended September 30, 1998
TABLE OF CONTENTS OF INFORMATION REQUIRED IN REPORT
PAGE
PART I. FINANCIAL INFORMATION ----
Item 1. Financial Statements - (Unaudited)
Consolidated Balance Sheet 3
Consolidated Statement of Income 4
Consolidated Statement of Changes in Stockholders' Equity 5
Consolidated Statement of Cash Flows 6
Notes to Consolidated Financial Statements 7
ITEM 2. Management's Discussion and Analysis of 12
Financial Condition and Results of Operations
PART II. OTHER INFORMATION 47
ITEM 6. Exhibits and Reports on Form 8-K 47
SIGNATURES 48
EXHIBIT INDEX A-E
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Part I. Financial Information
Item 1. Financial Statements
RESOURCE BANCSHARES MORTGAGE GROUP, INC.
CONSOLIDATED BALANCE SHEET
($ in thousands)
September 30, December 31,
1998 1997
-------------- ------------
ASSETS (Unaudited)
Cash $ 103,620 $ 13,546
Receivables 112,771 87,702
Trading securities:
Mortgage-backed securities 462,653 334,598
Residual interest in subprime securitizations 33,393 19,684
Mortgage loans held-for-sale 858,712 844,590
Lease receivables 88,150 51,494
Servicing rights, net 177,391 127,326
Premises and equipment, net 34,725 27,723
Accrued interest receivable 4,294 4,372
Goodwill and other intangibles 16,583 15,519
Other assets 79,659 30,375
----------- -----------
Total assets $ 1,971,951 $ 1,556,929
=========== ===========
LIABILITIES AND STOCKHOLDERS' EQUITY
Liabilities
Short-term borrowings $ 1,548,770 $ 1,224,489
Long-term borrowings 6,390 6,461
Accrued expenses 30,561 24,262
Other liabilities 134,626 86,578
----------- -----------
Total liabilities 1,720,347 1,341,790
----------- -----------
Stockholders' equity
Common stock (31,637,244 and 31,120,383 shares outstanding
at September 30, 1998 and December 31, 1997, respectively) 316 311
Additional paid-in capital 305,266 299,516
Retained earnings 49,199 17,763
Common stock held by subsidiary at cost (7,767,099 shares
outstanding at September 30, 1998 and December 31, 1997) (98,953) (98,953)
Unearned shares of employee stock ownership plan (4,224) (3,498)
----------- -----------
Total stockholders' equity 251,604 215,139
----------- -----------
Total liabilities and stockholders' equity $ 1,971,951 $ 1,556,929
=========== ===========
See accompanying notes to consolidated financial statements.
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RESOURCE BANCSHARES MORTGAGE GROUP, INC.
CONSOLIDATED STATEMENT OF INCOME
($ in thousands, except share information)
(Unaudited)
For the Nine Months Ended For the Quarter Ended
September 30, September 30,
----------------------------- -----------------------------
1998 1997 1998 1997
------------ ------------ ------------ ------------
REVENUES
Interest income $ 74,649 $ 53,301 $ 25,009 $ 21,613
Interest expense (60,297) (39,115) (20,408) (17,078)
------------ ------------ ------------ ------------
Net interest income 14,352 14,186 4,601 4,535
Net gain on sale of mortgage loans 129,226 71,578 45,597 29,328
Gain on sale of mortgage servicing rights 1,613 5,948 533 3,237
Servicing fees 31,134 23,049 11,419 7,711
Gain on sale of retail production franchise 1,490
Other income 1,894 572 487 146
------------ ------------ ------------ ------------
Total revenues 179,709 115,333 62,637 44,957
------------ ------------ ------------ ------------
EXPENSES
Salary and employee benefits 62,041 43,631 20,479 16,487
Occupancy expense 8,058 5,328 2,627 1,886
Amortization of mortgage servicing rights 20,053 13,673 7,750 4,840
General and administrative expenses 31,055 29,580 10,395 17,837
------------ ------------ ------------ ------------
Total expenses 121,207 92,212 41,251 41,050
------------ ------------ ------------ ------------
Income before income taxes 58,502 23,121 21,386 3,907
Income tax expense (22,557) (8,713) (8,134) (1,340)
------------ ------------ ------------ ------------
Net income $ 35,945 $ 14,408 $ 13,252 $ 2,567
============ ============ ============ ============
Weighted average common shares outstanding -- Basic 23,189,299 20,281,774 23,394,524 20,573,846
============ ============ ============ ============
Net income per common share -- Basic $ 1.55 $ 0.71 $ 0.57 $ 0.12
============ ============ ============ ============
Weighted average common shares outstanding -- Diluted 23,569,021 20,702,851 23,831,297 21,049,549
============ ============ ============ ============
Net income per common share -- Diluted $ 1.53 $ 0.70 $ 0.56 $ 0.12
============ ============ ============ ============
See accompanying notes to consolidated financial statements.
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RESOURCE BANCSHARES MORTGAGE GROUP, INC.
CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDERS' EQUITY
($ in thousands, except share information)
(Unaudited)
Unearned
Shares of
Employee Common
Common Stock Additional Stock Stock Total
Nine Months Ended ------------------ Paid-in Retained Ownership Held by Treasury Stockholders'
September 30, 1997 Shares Amount Capital Earnings Plan Subsidiary Stock Equity
- - -------------------------------- ---------- ------ ---------- --------- ---------- ---------- --------- -------------
Balance, December 31, 1996 19,285,020 $ 193 $ 149,653 $ 12,007 $ (4,552) $ 157,301
Issuance of restricted stock 23,528 * 328 328
Shares issued under Dividend
Reinvestment and Stock
Purchase Plan and Stock
Investment Plan 5,599 * 18 (78) (60)
Cash dividends (1,739) (1,739)
Exercise of stock options 62,000 1 379 380
Acquisition of Meritage Mortgage
Corporation 673,197 6 7,162 7,168
Shares committed to be
released under ESOP 213 584 797
Retroactive adjustment for the
5% stock dividend declared
on October 31, 1997 1,002,467 10 13,398 (13,408)
Net income 14,408
Total comprehensive income 14,408
---------- ----- --------- -------- -------- ---------- --------- ---------
Balance, September 30, 1997 21,051,811 $ 210 $ 171,151 $ 11,190 $ (3,968) $ 178,583
========== ===== ========= ======== ======== ========== ========= =========
Unearned
Shares of
Employee Common
Common Stock Additional Stock Stock Total
Nine Months Ended ------------------ Paid-in Retained Ownership Held by Treasury Stockholders'
September 30, 1998 Shares Amount Capital Earnings Plan Subsidiary Stock Equity
- - -------------------------------- ---------- ------ ---------- --------- ---------- ---------- --------- -------------
Balance, December 31, 1997 31,120,383 $ 311 $ 299,516 $ 17,763 $ (3,498) $ (98,953) $ 215,139
Issuance of restricted stock 20,056 * 328 328
Cash dividends (4,417) (4,417)
Treasury stock purchased (200,000) $(3,034) (3,034)
Exercise of stock options 355,965 2 (26) 3,034 3,010
Shares committed to be
released under ESOP 413 774 1,187
Purchase of shares by Employee
Stock Ownership Plan (1,500) (1,500)
Shares issued under Dividend
Reinvestment and Stock
Purchase Plan and Stock
Investment Plan 198,722 1 3,271 (92) 3,180
Acquisition of Meritage Mortgage
Corporation 142,118 2 1,764 1,766
Net income 35,945
Total comprehensive income 35,945
---------- ----- --------- -------- -------- ---------- --------- ---------
Balance, September 30, 1998 31,637,244 $ 316 $ 305,266 $ 49,199 $ (4,224) $ (98,953) $ 251,604
========== ===== ========= ======== ======== ========== ========= =========
* Amount less than $1
See accompanying notes to consolidated financial statements.
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RESOURCE BANCSHARES MORTGAGE GROUP, INC.
CONSOLIDATED STATEMENT OF CASH FLOWS
($ in thousands)
(Unaudited)
- - ---------------------------------------------------------------------------------------------------------------------------------
Nine Months Ended September 30,
1998 1997
- - ---------------------------------------------------------------------------------------------------------------------------------
OPERATING ACTIVITIES:
Net income $ 35,945 $ 14,408
Adjustments to reconcile net
income to cash used in operating activities:
Depreciation and amortization 23,998 16,191
Employee Stock Ownership Plan compensation 1,187 797
Provision for estimated foreclosure losses 6,452 2,605
Increase in receivables (25,069) (36,214)
Acquisition of mortgage loans (12,062,075) (7,799,804)
Proceeds from sales of mortgage loans and mortgage-backed securities 12,042,649 7,583,386
Acquisition of mortgage servicing rights (241,738) (175,232)
Sales of mortgage servicing rights 174,601 146,004
Net gain on sales of mortgage loans and servicing rights (130,839) (77,526)
Decrease in accrued interest on loans 78 487
Increase in lease receivables (36,656)
Increase in other assets (50,559) (6,679)
Increase in residual certificates (13,709) (7,550)
Increase in accrued expenses and other liabilities 54,347 24,648
- - ---------------------------------------------------------------------------------------------------------------------------------
Net cash used in operating activities (221,388) (314,479)
- - ---------------------------------------------------------------------------------------------------------------------------------
INVESTING ACTIVITIES:
Purchases of premises and equipment, net (10,315) (5,500)
- - ---------------------------------------------------------------------------------------------------------------------------------
Net cash used in investing activities (10,315) (5,500)
- - ---------------------------------------------------------------------------------------------------------------------------------
FINANCING ACTIVITIES:
Proceeds from borrowings 30,126,715 20,666,472
Repayment of borrowings (29,802,505) (20,336,652)
Issuance of restricted stock 328 328
Shares issued under Dividend Reinvestment and Stock Purchase Plan
and Stock Investment Plan 3,180 (60)
Acquisition of Meritage Mortgage Corporation (1,750)
Debt issuance costs (553)
Cash dividends (4,417) (1,739)
Acquisition of treasury stock (3,034)
Issuance of treasury stock 1,674
Exercise of stock options 1,336 380
Purchase of shares by Employee Stock Ownership Plan (1,500)
- - -------------------------------------------------------------------------------------------------------------------------------
Net cash provided by financing activities 321,777 326,426
- - ---------------------------------------------------------------------------------------------------------------------------------
Net increase in cash 90,074 6,447
Cash, beginning of period 13,546 2,492
- - ---------------------------------------------------------------------------------------------------------------------------------
Cash, end of period $ 103,620 $ 8,939
=================================================================================================================================
See accompanying notes to consolidated financial statements.
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RESOURCE BANCSHARES MORTGAGE GROUP, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(All Amounts in Thousands Except Per Share Data)
September 30, 1998
Note 1 - Basis of Presentation:
The financial information included herein should be read in
conjunction with the consolidated financial statements and related notes
of Resource Bancshares Mortgage Group, Inc. (the Company), included in
the Company's December 31, 1997, Annual Report on Form 10-K. Certain
financial information, which is normally included in financial
statements prepared in accordance with generally accepted accounting
principles, is not required for interim financial statements and has
been omitted. The accompanying interim consolidated financial statements
are unaudited. However, in the opinion of management of the Company, all
adjustments, consisting of normal recurring items, necessary for a fair
presentation of operating results for the periods shown have been made.
Certain prior period amounts have been reclassified to conform to
current period presentation.
In February 1997, the Financial Accounting Standards Board
issued Statement of Financial Accounting Standards No. 128, "Earnings
per Share" (SFAS No. 128), which is effective for financial statements
issued for periods ending after December 15, 1997. The Company adopted
SFAS No. 128 in December 1997 and has retroactively restated to report
its earnings per share on a comparable basis for all periods presented.
In June 1997, the FASB issued SFAS No. 130, "Reporting
Comprehensive Income", which requires that changes in the amounts of
comprehensive income items, currently reported as separate components of
equity, be shown in a financial statement, displayed as prominently as
other financial statements. The most common components of other
comprehensive income include foreign currency translation adjustments,
minimum pension liability adjustments and/or unrealized gains and losses
on available-for-sale securities. SFAS No. 130 does not require a
specific format for the new statement, but does require that an amount
representing total comprehensive income be reported. SFAS No. 130 is
required to be adopted for fiscal years beginning after December 15,
1997. The Company has adopted SFAS No. 130 in 1998.
In June 1997, the FASB issued SFAS No. 131, "Disclosures about
Segments of an Enterprise and Related Information", which establishes
new standards for business segment reporting. Requirements of SFAS No.
131 include reporting of (a) financial and descriptive information about
reportable operating segments, (b) a measure of segment profit or loss,
certain specific revenue and expense items and segment assets with
reconciliations of such amounts to the Company's financial statements
and (c) information regarding revenues derived from the Company's
products and services, information about major customers and information
related to geographic areas. SFAS No. 131 is effective for fiscal years
beginning after December 15, 1997. The Company plans to adopt SFAS No.
131 for the full-year 1998.
In February 1998, the Financial Accounting Standards Board issued
SFAS No. 132, "Employers' Disclosures about Pension and Other
Postretirement Benefits" which revises employers' disclosures about
pension and other postretirement benefit plans. It does not change the
measurement or recognition of those plans. The statement is effective
for fiscal years beginning after December 15, 1997. The Company plans to
adopt SFAS No. 132 for the full-year 1998.
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In June 1998, the Financial Accounting Standards Board (FASB)
issued Statement of Financial Accounting Standards No. 133, Accounting
for Derivative Instruments and Hedging Activities (SFAS No. 133). SFAS
No. 133 requires that all derivative instruments be recorded on the
balance sheet at their fair value. Changes in the fair value of
derivatives are recorded each period in current earnings or other
comprehensive income, depending on whether a derivative is designed as
part of a hedge transaction and , if it is, the type of hedge
transaction. For fair-value hedge transactions in which the Company is
hedging changes in an asset's, liability's or firm commitment's fair
value, changes in the fair value of the derivative instrument will
generally be offset in the income statement by changes in the hedged
item's fair value. For cash-flow hedge transactions, in which the
Company is hedging the variability of cash flows related to a
variable-rate asset, liability or a forecasted transaction, changes in
the fair value of the derivative instrument will be reported in other
comprehensive income. The gains and losses on the derivative instrument
that are reported in other comprehensive income will be reclassified as
earnings in the periods in which earnings are impacted by the
variability of the cash flows of the hedged item. The ineffective
portion of all hedges will be recognized in current period earnings.
SFAS No. 133 is effective for all fiscal quarters of all fiscal years
beginning after June 15, 1999 (January 1, 2000 for the Company).
However, early adoption is permitted. The Company has not yet determined
either the impact that the adoption of SFAS 133 will have on its
earnings or statement of financial position or the period in which the
statement will be implemented.
In October 1998, the FASB issued Statement of Financial Accounting
Standards No. 134, Accounting for Mortgage-Backed Securities Retained
After the Securitization of Mortgage Loans Held for Sale by a Mortgage
Banking Enterprise (SFAS No. 134). SFAS No. 134 requires that after the
securitization of a mortgage loan held for sale, an entity engaged in
mortgage banking activities classify the resulting mortgage-backed
securities or other retained interests based on its ability and intent
to sell or hold those investments. This statement shall be effective for
the first fiscal quarter beginning after December 15, 1998.
Effective April 1, 1997, the Company completed a merger with
Meritage Mortgage Corporation (Meritage), in which it exchanged
approximately $1,750 thousand of cash and 537,846 (564,738 after
retroactive adjustment for the 5% stock dividend declared on October 31,
1997) noncontingent shares of RBMG common stock for all the outstanding
stock of Meritage. This transaction was accounted for under the purchase
method of accounting. In addition, 406,053 (426,355 after retroactive
adjustment for the 5% stock dividend declared on October 31, 1997)
shares of RBMG common stock were issued contingent upon Meritage
achieving specified increasingly higher levels of subprime mortgage
production during certain periods following closing. During 1997,
270,702 (284,237 shares after retroactive adjustment for the 5% stock
dividend declared on October 31, 1997) contingent shares of RBMG common
stock were released. During the first nine months of 1998, 135,351
(142,118 after retroactive adjustment for the 5% stock dividend declared
on October 31, 1997) contingent shares of RBMG common stock were
released. Therefore, all the contingent shares have now been released.
The fair market value of contingent shares had been excluded from the
purchase price for purposes of recording goodwill and from outstanding
shares for purposes of earnings per share computations. As each
specified increasingly higher subprime mortgage production level was
achieved, the corresponding fair market value of the associated
contingent shares released was recorded as additional goodwill and such
shares were prospectively treated as outstanding for purposes of
earnings per share computations. The purchase price for the Meritage
merger has been allocated to tangible and identifiable assets and
liabilities based upon management's estimate of their respective fair
values with the excess of estimated cost over the fair value of the net
assets acquired allocated to goodwill. Goodwill and other intangible
assets are being amortized over a 20 year period using the straight line
method. Amortization expense for the third quarter and nine month
periods ended September 30, 1998, was approximately $149 and $415,
respectively. The following is a schedule of the allocation of the
purchase price:
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Subsequent
Release of
At Acquisition on Contingent
April 1, 1997 Shares September 30, 1998
----------------- ----------- ------------------
Cash paid $ 1,750 $ 1,750
Estimated fair market value of shares of
RBMG common stock issued or released 4,748 $ 5,748 10,496
Deferred merger cost 463 463
------- ------- --------
Total purchase price 6,961 5,748 12,709
Fair value of net assets acquired 1,000 1,000
------- ------- --------
Goodwill and intangibles $ 5,961 $ 5,748 $ 11,709
======= ======= ========
Effective May 1, 1998, the Company sold the retail production
franchise of Intercounty Mortgage, Inc. to CFS Bank. Historically, the
Company has focused on accumulation of loan production through
third-party correspondent and wholesale broker channels because of the
relatively lower fixed expenses and capital investments required, among
other reasons. Management believes the sale of the retail operation will
allow the Company to refocus on its core competency as a correspondent
and wholesale mortgage lender. The following is a schedule of the gain
recognized on the sale of the retail production franchise:
Cash proceeds $ 5,503
Investment banking, legal and other advisory fees (533)
Severance and other transaction costs (1,980)
---------
Net proceeds 2,990
Basis in assets sold (1,500)
---------
Net pre-tax gain on sale of retail production franchise $ 1,490
=========
The following is a reconciliation of basic earnings per share to
diluted earnings per share as calculated under SFAS No. 128 for the
nine months ended September 30, 1998 and 1997, respectively:
Per
Income Shares Share
For the Nine Months Ended September 30, 1998 (Numerator) (Denominator) Amount
-------------------------------------------------- ----------- ----------------- ------
Net Income Per Common Share - Basic
Income available to common
stockholders $ 35,945 23,189,299 $ 1.55
======
Effect of dilutive securities
stock options 379,722
--------- ---------------
Net Income Per Common Share - Diluted
Income available to common
stockholders plus assumed
conversions $ 35,945 23,569,021 $ 1.53
========= =============== ======
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The exercise prices of all options outstanding at September 30,
1998 were less than the average market price of the common shares for
the first nine months of 1998; therefore all options were included in
the computation of diluted earnings per share.
Per
Income Shares Share
For the Nine Months Ended September 30, 1997 (Numerator) (Denominator) Amount
-------------------------------------------------- ----------- ----------------- ------
Net Income Per Common Share - Basic
Income available to common
stockholders $ 14,408 20,281,774 $ 0.71
======
Effect of dilutive securities
stock options 421,077
-------- ----------
Net Income Per Common Share - Diluted
Income available to common
stockholders plus assumed
conversions $ 14,408 20,702,851 $ 0.70
======== ========== ======
Options to purchase 6,300 shares of common stock at $16.27 per
share were outstanding during the first nine months of 1997 but were
not included in the computation of diluted earnings per share because
the options' exercise prices were greater than the average market price
of the common shares. The options, which will expire on August 26, 2007
were still outstanding at September 30, 1997.
The following is a reconciliation of basic earnings per share
to diluted earnings per share as calculated under SFAS No. 128 for the
quarters ended September 30, 1998 and 1997, respectively:
Per
Income Shares Share
For the Quarter Ended September 30, 1998 (Numerator) (Denominator) Amount
-------------------------------------------------- ----------- ----------------- ------
Net Income Per Common Share - Basic
Income available to common
stockholders $ 13,252 23,394,524 $ 0.57
======
Effect of dilutive securities
stock options 436,773
-------- -----------
Net Income Per Common Share - Diluted
Income available to common
stockholders plus assumed
conversions $ 13,252 23,831,297 $ 0.56
======== =========== ======
The exercise prices of all options outstanding at September 30,
1998 were less than the average market price of the common shares for
the third quarter of 1998, therefore all options were included in the
computation of diluted earnings per share.
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Per
Income Shares Share
For the Quarter Ended September 30, 1997 (Numerator) (Denominator) Amount
-------------------------------------------------- ----------- ----------------- ------
Net Income Per Common Share - Basic
Income available to common
stockholders $ 2,567 20,573,846 $ 0.12
======
Effect of dilutive securities
stock options 475,703
------- ----------
Net Income Per Common Share - Diluted
Income available to common
stockholders plus assumed
conversions $ 2,567 21,049,549 $ 0.12
======= ========== ======
Options to purchase 6,300 shares of common stock at $16.27 per
share were outstanding during the third quarter of 1997 but were not
included in the computation of diluted earnings per share because the
options' exercise price was greater than the average market price of
the common shares. The options, which will expire on August 26, 2007
were still outstanding at September 30, 1997.
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RESOURCE BANCSHARES MORTGAGE GROUP, INC.
Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
The following discussion and analysis should be read in conjunction with
the Financial Information, the Consolidated Financial Statements of Resource
Bancshares Mortgage Group, Inc. (the Company) (and the notes thereto) and the
other information included or incorporated by reference into the Company's 1997
Annual Report on Form 10-K and the interim Consolidated Financial Statements
contained herein. Statements included in this discussion and analysis (or
elsewhere in this document) which are not statements of historical fact are
intended to be, and are hereby identified as, "forward looking statements" for
purposes of the safe harbor provided by Section 27A of the Securities Act of
1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as
amended. Readers are cautioned that any such forward-looking statements are not
guarantees of future performance and involve a number of risks and
uncertainties, and that actual results could differ materially from those
indicated by such forward-looking statements. Important factors that could cause
actual results to differ materially from those indicated by such forward-looking
statements include, but are not limited to, the following which are described in
the Company's Joint Proxy Statement/Prospectus dated December 2, 1997: (i)
interest rate risks; (ii) changes in economic conditions; (iii) competition;
(iv) changes in regulations and related matters; (v) litigation affecting the
mortgage banking business; (vi) delinquency and default risks; (vii) changes in
the market for servicing rights, mortgage loans and lease receivables; (viii)
environmental matters; (ix) changes in the demand for mortgage loans; and (x)
availability of funding sources and other risks and uncertainties, discussed
elsewhere herein, in the Company's Joint Proxy Statement/Prospectus dated
December 2, 1997 or from time to time in the Company's periodic reports filed
with the Securities and Exchange Commission. The Company disclaims any
obligation to update any forward-looking statements.
THE COMPANY
The Company is a diversified financial services company engaged
primarily in the business of mortgage banking, through the purchase (through a
nationwide network of correspondents and brokers), sale and servicing of
agency-eligible and subprime residential, single-family first-mortgage loans and
the purchase and sale of servicing rights associated with such loans. In
addition, the Company originates, sells and services small ticket commercial
equipment leases and originates, sells, underwrites for investors and services
commercial mortgage loans.
PRODUCTION
The Company purchases residential mortgage loans from its correspondents
and through its wholesale division and, until the sale of its retail production
platform in May 1998, originated mortgage loans through its retail division. The
Company also purchases and originates subprime mortgage loans through a separate
division. In addition, the Company originates commercial mortgage loans and
leases small ticket equipment items.
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A summary of production by source for the periods indicated is set forth
below:
($ in thousands) For the Nine Months For the Quarter
Ended September 30, Ended September 30,
------------------------- ------------------------
1998 1997 1998 1997
----------- ---------- ---------- ----------
Loan Production:
Correspondent Division $ 8,524,393 $5,690,799 $2,864,933 $2,136,619
Wholesale Division 2,202,280 1,349,408 718,791 501,239
Retail Division 264,059 509,528 N/A 195,655
----------- ---------- ---------- ----------
Total Agency-Eligible Loan Production 10,990,732 7,549,735 3,583,724 2,833,513
Subprime Division 417,892 230,199 165,760 96,441
Commercial Mortgage (for Investors
and Conduits) 653,451 N/A 290,829 N/A
Leases 55,853 N/A 22,310 N/A
----------- ---------- ---------- ----------
Total Production $12,117,928 $7,779,934 $4,062,623 $2,929,954
=========== ========== ========== ==========
Initially, the Company was exclusively focused on purchasing
agency-eligible mortgage loans through its correspondents. In order to diversify
its sources of loan volume, the Company started a wholesale operation in 1994, a
retail operation in 1995 and a subprime division in 1997. Management anticipates
that its higher margin wholesale and subprime production will continue to
account for an increasing percentage of total mortgage loan production as those
divisions are expanded more rapidly than correspondent operations. In general,
management has targeted as a near-term goal a residential mortgage production
mix of approximately 70% correspondent, 25% wholesale and 5% subprime. In order
to further diversify its sources of production and revenue, the Company acquired
Resource Bancshares Corporation (RBC) in December 1997. Through RBC, the Company
originates small ticket commercial equipment leases and commercial mortgage
loans. These two new sources of production accounted for 7.7% and 5.9% of the
Company's total third quarter and nine months ended September 30, 1998
production, respectively.
A summary of key information relevant to industry residential mortgage
loan production activity is set forth below:
($ in thousands) At or For the Quarter Ended September 30,
-----------------------------------------
1998 1997
--------------- --------------
U. S. 1-4 Family Mortgage Originations Statistics (1):
U. S. 1-4 Family Mortgage Originations $ 375,000,000 $ 239,000,000
Adjustable Rate Mortgage Market Share 13.00% 20.00%
Estimated Fixed Rate Mortgage Originations $ 326,000,000 $ 191,000,000
Company Information:
Agency-Eligible Loan Production $ 3,583,724 $ 2,833,513
Estimated Company Market Share 0.96% 1.19%
(1) Source: Mortgage Bankers Association of America, Economics Department.
The Company's total agency-eligible residential mortgage production
increased by 26% to $3.6 billion for the third quarter of 1998 from $2.8 billion
for the third quarter of 1997. The increase is a direct result of the nationwide
57% increase in 1-4 family mortgage originations for the third quarter of
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1998 as compared to the third quarter of 1997. The decrease in the Company's
estimated market share of U.S. mortgage originations from 1.19% for the third
quarter of 1997 to 0.96% for the third quarter of 1998 is primarily due to the
Company's focus on improved agency-eligible profitability and expansion of its
higher margin subprime, wholesale, commercial mortgage and leasing production.
Correspondent Loan Production
The Company purchases closed mortgage loans through its network of
approved correspondent lenders. Correspondents are primarily mortgage lenders,
larger mortgage brokers and smaller savings and loan associations and commercial
banks, which have met the Company's approval requirements.
The Company continues to emphasize correspondent loan production as its
basic business focus because of the lower fixed expenses and capital investment
required of the Company. That is, the Company has developed a cost structure
that is more directly variable with loan production because the correspondent
incurs most of the fixed costs of operating and maintaining branch offices and
of identifying and interacting directly with loan applicants.
A summary of key information relevant to the Company's correspondent
residential loan production activities is set forth below:
($ in thousands) At or For the At or For the
Nine Months Quarter
Ended September 30, Ended September 30,
------------------------- -------------------------
1998 1997 1998 1997
---------- ----------- ---------- -----------
Correspondent Loan Production $8,524,393 $ 5,690,799 $2,864,933 $ 2,136,619
Estimated Correspondent Market Share (1) 0.82% 0.89% 0.76% 0.89%
Approved Correspondents 870 934 870 934
(1) Source: Mortgage Bankers Association of America, Economics Department.
The 34% increase in the Company's correspondent loan production from
$2.1 billion for the third quarter of 1997 to $2.9 billion for the third quarter
of 1998 resulted primarily from the 57% increase in nationwide 1-4 family
mortgage loan production. The number of approved correspondent lenders at the
end of the third quarter of 1998 decreased slightly from that of the third
quarter of 1997 as the Company focused on maintenance of those correspondent
relationships most compatible with the Company's overall business strategies and
profitability goals while continuing a disciplined and measured expansion
through establishment of new correspondent relationships.
Wholesale Loan Production
The wholesale division receives loan applications through brokers,
underwrites the loans, funds the loans at closing and prepares all closing
documentation. The wholesale branches also handle all shipping and follow-up
procedures on loans. Typically mortgage brokers are responsible for taking
applications and accumulating the information precedent to the Company's
processing of the loans. Although the establishment of wholesale branch offices
involves the incurrence of fixed expenses associated with maintaining those
offices, wholesale operations also provide for higher profit margins than
correspondent loan production. Additionally, each branch office can serve a
relatively sizable geographic area by establishing relationships with large
numbers of independent mortgage loan brokers who bear much of the cost of
identifying and interacting directly with loan applicants.
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15
A summary of key information relevant to the Company's wholesale production
activities is set forth below:
($ in thousands) At or For the At or For the
Nine Months Quarter
Ended September 30, Ended September 30,
------------------------- -------------------------
1998 1997 1998 1997
---------- ----------- ---------- -----------
Wholesale Loan Production $2,202,280 $ 1,349,408 $ 718,791 $ 501,239
Estimated Wholesale Market Share (1) 0.21% 0.21% 0.19% 0.21%
Wholesale Division Operating Expenses $ 11,650 $ 8,029 $ 3,910 $ 3,065
Approved Brokers 3,232 2,956 3,232 2,956
Number of Branches 15 14 15 14
Number of Employees 155 126 155 126
(1) Source: Mortgage Bankers Association of America, Economics Department.
The 43% ($218 million) increase in wholesale loan production, from
$501.2 million for the third quarter of 1997 to $718.8 million during the third
quarter of 1998, resulted primarily from the 57% nationwide increase in loan
production and the Company's addition of two new wholesale branches between the
third quarter of 1997 and the third quarter of 1998. The increase in operating
expenses for the wholesale division was primarily a result of the increased
production. Wholesale division operating expenses as a percentage of production
decreased 11% from 61 basis points in the third quarter of 1997 to 54 basis
points in the third quarter of 1998 primarily as a result of increased operating
efficiencies.
Strategically, management anticipates focusing over the longer term on
continued expansion of its wholesale presence nationwide due to the relatively
higher margins attributable to this channel. Management anticipates that the
wholesale division will continue to account for an increasing percentage of the
Company's total loan production.
Retail Loan Production
During late 1997, the Company began reviewing the compatibility of the
retail operation with its primary business focus. On March 11, 1998, the Company
signed a definitive agreement with CFS Bank under which the Company sold the
retail production franchise of Intercounty Mortgage, Inc. to CFS Bank effective
May 1, 1998. Historically, the Company has focused on accumulation of loan
production through third-party correspondent and wholesale broker channels
because of the relatively lower fixed expenses and capital investments required,
among other reasons. Management believes the sale of the retail operation will
allow the Company to refocus on its core competency as a correspondent and
wholesale mortgage lender.
15
16
A summary of key information relevant to the Company's retail production
activities is set forth below:
($ in thousands) At or For the At or For the
Nine Months Quarter
Ended September 30, Ended September 30,
------------------------- -------------------------
1998 1997 1998 1997
---------- ----------- ---------- -----------
Retail Loan Production $ 264,059 $ 509,528 N/A $ 195,655
Retail Division Operating Expenses $ 5,699 $ 12,700 N/A $ 4,407
(1) Source: Mortgage Bankers Association of America, Economics Department.
The primary cause of the variations observed above relate to the sale of
the retail production platform effective May 1, 1998.
Subprime Loan Production
In 1997, the Company began its initial expansion into subprime lending
activities. In connection therewith, the Company acquired Meritage Mortgage
Corporation (Meritage), a wholesale producer of subprime mortgage loans, in
April 1997. The Company's subprime division produced $417.9 million during the
first nine months of 1998, 82% more than for the comparable prior year period.
Management anticipates continuing near-term increases in subprime
production volumes as subprime branches recently opened or acquired in 1997 and
as subprime operations introduced and made available through the Company's
existing 15 branch agency-eligible wholesale network reach full year production
levels. In the future, the Company plans to offer select subprime loan products
through the existing nationwide correspondent production channel.
A summary of key information relevant to the Company's subprime
production activities is set forth below:
($ in thousands) At or For the At or For the
Nine Months Quarter
Ended September 30, Ended September 30,
------------------------- -------------------------
1998 1997 1998 1997
---------- ----------- ---------- -----------
Subprime Loan Production $ 417,892 $ 230,199 $ 165,760 $ 96,441
Subprime Division Operating Expenses $ 15,888 $ 6,729 $ 5,313 $ 3,200
Number of Brokers 835 661 835 661
Number of Employees 243 116 243 116
Subprime loan production increased by 72% to $165.8 million for the
third quarter of 1998 as compared to $96.4 million during the third quarter of
1997 as the Company expanded its operations during 1998.
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Commercial Mortgage Production
In connection with its acquisition of RBC on December 31, 1997, the
Company acquired RBC's subsidiary, Laureate Realty Services, Inc. (Laureate
Realty). Laureate Realty originates commercial mortgage loans for various
insurance companies and other investors. Commercial mortgage loans are generally
originated in the name of the investor and, in most instances, Laureate Realty
retains the right to service the loans under a servicing agreement.
A summary of key information relevant to the Company's commercial
mortgage production activities is set forth below:
($ in thousands) At or For the At or For the
Nine Months Quarter
Ended September 30, Ended September 30,
------------------------- -------------------------
1998 1997 1998 1997
---------- ----------- ---------- -----------
Commercial Mortgage Production $ 653,451 N/A $ 290,829 N/A
Commercial Mortgage Division Operating $ 7,763 N/A $ 2,957 N/A
Expenses
Number of Branches 11 N/A 11 N/A
Number of Employees 77 N/A 77 N/A
Lease Production
Through RBC's leasing division, Republic Leasing, acquired on December
31, 1997, the Company originates and services small-ticket equipment leases.
Substantially all of Republic Leasing's lease receivables are acquired from
independent brokers who operate throughout the continental United States.
A summary of key information relevant to the Company's lease production
activities is set forth below:
($ in thousands) At or For the At or For the
Nine Months Quarter
Ended September 30, Ended September 30,
------------------------- -------------------------
1998 1997 1998 1997
---------- ----------- ---------- -----------
Lease Production $ 55,853 N/A $ 22,310 N/A
Lease Division Operating Expenses $ 3,635 N/A $ 1,175 N/A
Number of Brokers 210 N/A 210 N/A
Number of Employees 61 N/A 61 N/A
AGENCY-ELIGIBLE MORTGAGE SERVICING
Agency-eligible mortgage servicing includes collecting and remitting
mortgage loan payments, accounting for principal and interest, holding escrow
funds for payment of mortgage-related expenses such as taxes and insurance,
making advances to cover delinquent payments, making inspections as required of
the mortgaged premises, contacting delinquent mortgagors, supervising
foreclosures and property dispositions in the event of unremedied defaults and
generally administering mortgage loans.
The Company is somewhat unique in that its strategy is to sell
substantially all of its produced agency-eligible mortgage servicing rights to
other approved servicers. In that regard, the Company
17
18
believes it is the largest national supplier of agency-eligible servicing rights
to the still-consolidating mega-servicers. Typically, the Company sells its
agency-eligible mortgage servicing rights within 90 to 180 days of purchase or
origination. However, for strategic reasons, the Company also strives to
maintain a servicing portfolio whose size is determined by reference to the
Company's cash operating costs which, in turn, are largely determined by the
size of its loan production platform. By continuing to focus on the low-cost
correspondent and wholesale production channels, the Company is able to minimize
the cash operating costs of its loan production platform and thus the
strategically required size of its agency-eligible loan servicing operation.
A summary of key information relevant to the Company's loan servicing
activities is set forth below:
($ in thousands) At or For the Nine Months At or For the Quarter
Ended September 30, Ended September 30,
------------------------------- -------------------------------
1998 1997 1998 1997
------------ ------------ ------------ ------------
Underlying Unpaid Principal Balances:
Beginning Balance * $ 7,125,222 $ 6,670,267 $ 9,369,326 $ 7,239,065
Loan Production (net of servicing-
released production) 11,547,716 7,864,319 3,715,794 3,054,529
Net Change in Work-in-Progress (151,839) (379,131) (84,229) (142,736)
Bulk Acquisitions 122,467 774,097 N/A N/A
Sales of Servicing (7,675,411) (7,102,140) (2,871,176) (2,801,046)
Paid-In-Full Loans (989,514) (486,965) (338,623) (201,385)
Amortization, Curtailments and Other, net (255,649) (344,081) (68,100) (152,061)
------------ ------------ ------------ ------------
Ending Balance* $ 9,722,992 $ 6,996,366 $ 9,722,992 $ 6,996,366
Subservicing Ending Balance 3,206,581 3,066,256 3,206,581 3,066,256
------------ ------------ ------------ ------------
Total Underlying Unpaid Principal Balances $ 12,929,573 $ 10,062,622 $ 12,929,573 $ 10,062,622
============ ============ ============ ============
* These numbers and statistics apply to the Company's owned agency-eligible
servicing portfolio and therefore exclude the subservicing portfolio.
Of the $9.7 billion and $7.0 billion unpaid principal balance at
September 30, 1998 and 1997, approximately $5.6 billion and $4.2 billion,
respectively, are classified as available for sale, while $4.1 billion and $2.8
billion, respectively, are classified as held for sale.
At or For the Nine Months At or For the Quarter
Ended September 30, Ended September 30,
------------------------- ------------------------
1998 1997 1998 1997
--------- -------- -------- --------
Total Company Servicing Fees $ 31,134 $ 23,049 $ 11,419 $ 7,711
Net Interest Income from Owned Leases 3,198 N/A 1,216 N/A
--------- -------- -------- --------
34,332 23,049 12,635 7,711
--------- -------- -------- --------
Total Company Operating Expenses 121,207 92,212 41,251 41,050
Total Company Amortization and
Depreciation (23,998) (16,191) (9,112) (5,738)
--------- -------- -------- --------
Total Company Cash Operating Expenses $ 97,209 $ 76,021 $ 32,139 $ 35,312
--------- -------- -------- --------
Coverage Ratio 35% 30% 39% 22%
========= ======== ======== ========
The Company's coverage ratio for the first nine months of 1998 at 35%
was lower than the Company's target level of between 50% and 80%.
Opportunistically and as market conditions permit, management would expect to
bring this ratio back in line with the stated objective. Effective May 1,
18
19
1998, the Company sold its retail production franchise, which accounted for $5.6
million of the Company's cash operating expenses for the first nine months of
1998. Without retail division operating expenses for the first nine months of
1998, the Company's coverage ratio would have been 37%.
A summary of agency-eligible servicing statistics follows:
($ in thousands) At or For the Nine Months At or For the Quarter
Ended September 30, Ended September 30,
----------------------------- ---------------------------
1998 1997 1998 1997
------------ ----------- ----------- -----------
Average Underlying Unpaid Principal Balances
(including subservicing) $11,394,262 $ 9,225,094 $12,428,469 $ 9,683,313
Weighted Average Note Rate* 7.36% 7.82% 7.36% 7.82%
Weighted Average Servicing Fee* 0.40% 0.41% 0.40% 0.41%
Delinquency (30+ days) Including
Bankruptcies and Foreclosures* 1.81% 3.76% 1.81% 3.76%
Number of Servicing Division Employees 156 125 156 125
* These numbers and statistics apply to the Company's owned agency-eligible
servicing portfolio and therefore exclude the subservicing portfolio.
The $2.7 billion, or 28%, increase in the average underlying unpaid
principal balance of agency-eligible mortgage loans being serviced for the third
quarter of 1998 as compared to the third quarter of 1997 is primarily related to
the Company's decision to retain a larger percentage of the servicing rights
associated with its production during the first nine months of 1998.
Additionally, the Company's increased loan production volumes during the latter
part of 1997 and the first nine months of 1998 compared to the same periods of
the prior years contributed to the increase. Since the Company generally sells
servicing rights related to the agency-eligible loans it produces within 90 to
180 days of purchase or origination, increased production volumes generally
result in a higher volume of mortgage servicing rights held in inventory pending
sale.
RESULTS OF OPERATIONS - NINE MONTHS ENDED SEPTEMBER 30, 1998, COMPARED TO NINE
MONTHS ENDED SEPTEMBER 30, 1997
Summary by Operating Division
Following is a summary of the allocated revenues and expenses for each
of the Company's operating divisions for the nine months ended September 30,
1998 and 1997, respectively:
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20
Residential
-------------------------------
($ in thousands) Mortgage Production
------------------- Agency -
For the Nine Months Ended Agency - Eligible Commercial
September 30, 1998* Eligible Subprime Servicing Mortgage Leasing Other Consolidated
- - ------------------------------------------ -------- --------- --------- ---------- -------- ------ ------------
Net interest income $ 4,492 $ 5,999 $ 374 $ 3,198 $ 289 $ 14,352
Net gain on sale of mortgage loans 101,547 22,218 5,461 129,226
Gain on sale of mortgage servicing rights $ 1,613 1,613
Servicing fees 27,257 2,776 773 328 31,134
Other income 1,702 272 230 (13) 571 622 3,384
- - ------------------------------------------ -------- --------- -------- ---------- -------- ------ ------------
Total revenues 107,741 28,489 29,100 8,598 4,542 1,239 179,709
- - ------------------------------------------ -------- --------- -------- ---------- -------- ------ ------------
Salary and employee benefits 41,339 11,270 2,491 4,924 1,561 456 62,041
Occupancy expense 5,377 1,362 313 598 264 144 8,058
Amortization of mortgage servicing rights 19,081 972 20,053
General and administrative expenses 19,750 3,256 4,456 1,269 1,810 514 31,055
- - ------------------------------------------ -------- --------- -------- ---------- -------- ------ ------------
Total expenses 66,466 15,888 26,341 7,763 3,635 1,114 121,207
- - ------------------------------------------ -------- --------- -------- ---------- -------- ------ ------------
Income before income taxes 41,275 12,601 2,759 835 907 125 58,502
Income tax expense (16,152) (4,571) (1,069) (317) (359) (89) (22,557)
- - ------------------------------------------ -------- --------- -------- ---------- -------- ------ ------------
Net income $ 25,123 $ 8,030 $ 1,690 $ 518 $ 548 $ 36 $ 35,945
======== ========= ======== ========== ======== ====== ============
Residential
-------------------------------
($ in thousands) Mortgage Production
------------------- Agency -
For the Nine Months Ended Agency - Eligible Commercial
September 30, 1997* Eligible Subprime Servicing Mortgage Leasing Other Consolidated
- - ------------------------------------------ -------- --------- --------- ---------- -------- ------ ------------
Net interest income $ 14,186 $ 14,186
Net gain on sale of mortgage loans 62,079 $ 9,499 71,578
Gain on sale of mortgage servicing rights $ 5,948 5,948
Servicing fees 23,049 23,049
Other income 572 572
- - ------------------------------------------ -------- ------- ------- ---------- -------- ------- --------
Total revenues 76,837 9,499 28,997 115,333
- - ------------------------------------------ -------- ------- ------- ---------- -------- ------- --------
Salary and employee benefits 36,481 5,021 2,129 43,631
Occupancy expense 4,662 435 231 5,328
Amortization of mortgage servicing rights 13,673 13,673
General and administrative expenses 12,784 1,273 5,376 $10,147 29,580
- - ------------------------------------------ -------- ------- ------- ---------- -------- ------- --------
Total expenses 53,927 6,729 21,409 10,147 92,212
- - ------------------------------------------ -------- ------- ------- ---------- -------- ------- --------
Income before income taxes 22,910 2,770 7,588 (10,147) 23,121
Income tax expense (8,690) (1,051) (2,878) 3,906 (8,713)
- - ------------------------------------------ -------- ------- ------- ---------- -------- ------- --------
Net income $ 14,220 $ 1,719 $ 4,710 $(6,241) $ 14,408
======== ======= ======= ========== ======== ======= ========
*Revenues and expenses have been recorded on a direct basis to the extent
possible. Other than direct charges, management believes that revenues and
expenses have been allocated to the respective divisions on a reasonable basis.
Agency-Eligible Mortgage Operations
Following is a comparison of the revenues and expenses allocated to the
Company's agency-eligible mortgage production operations.
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For the Nine Months Ended
September 30,
---------------------------
($ in thousands) 1998 1997
----------- ----------
Net interest income $ 4,492 $ 14,186
Net gain on sale of mortgage loans 101,547 62,079
Other income 1,702 572
----------- ----------
Total production revenue 107,741 76,837
----------- ----------
Salary and employee benefits 41,339 36,481
Occupancy expense 5,377 4,662
General and administrative expenses 19,750 12,784
----------- ----------
Total production expenses 66,466 53,927
----------- ----------
Net pre-tax production margin $ 41,275 $ 22,910
----------- ----------
Production $10,990,732 $7,549,735
Pool delivery 10,934,899 7,268,069
Total production revenue to pool delivery 99 bps 106 bps
Total production expenses to production 60 bps 71 bps
----------- ----------
Net pre-tax production margin 39 bps 35 bps
=========== ==========
Summary
The production revenue to pool delivery ratio declined seven basis
points, or 7%, for the first nine months of 1998 as compared to the first nine
months of 1997. Generally, net gain on sale of mortgage loans (93 basis points
for 1998 versus 85 basis points for 1997) improved due to better overall
execution into the secondary markets. However, net interest income declined and
offset this improvement due to the relatively flatter yield curve environment.
The production expenses to production ratio decreased 11 basis points, or 15%,
for the first nine months of 1998 as compared to the first nine months of 1997.
Generally, this relates to better leverage of fixed operating expenses in the
higher volume production environment for the first nine months of 1998 versus
the comparable period of 1997. As a consequence of the foregoing, the Company's
net agency-eligible pre-tax production margin improved 4 basis points, or 11%,
to 39 basis points while in absolute dollars it increased $18.4 million, or 80%.
Net Interest Income
The following table analyzes net interest income allocated to the
Company's agency-eligible mortgage production activities in terms of rate and
volume variances of the interest spread (the difference between interest rates
earned on loans and mortgage-backed securities and interest rates paid on
interest-bearing sources of funds) for the nine months ended September 30, 1998
and 1997, respectively.
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($ in thousands)
Variance
Average Volume Average Rate Interest Attributable to
- - --------------------------------------- ------------------- ---------------------
1998 1997 1998 1997 1998 1997 Variance Rate Volume
- - --------------------------------------- -------------------------------------------------------
Interest Income
---------------
Mortgages Held for Sale and
$1,155,602 $ 909,185 6.83% 7.82% Mortgage-Backed Securities $ 59,156 $ 53,301 $ 5,855 $ (8,591) $14,446
- - --------------------------------------- -------------------------------------------------------
Interest Expense
----------------
$ 452,737 $ 436,248 4.63% 4.88% Warehouse Line $ 15,678 $ 15,916 $ (238) $ (840) $ 602
673,677 446,697 5.91% 5.59% Gestation Line 29,755 18,680 11,075 1,583 9,492
95,755 6.73% Servicing Secured Line 4,820 4,820 4,820
33,321 58,493 5.90% 6.44% Servicing Receivable Line 1,470 2,819 (1,349) (136) (1,213)
7,918 4,213 8.09% 8.13% Other Borrowings 479 256 223 (3) 226
Facility Fees & Other Charges 2,462 1,444 1,018 1,018
- - --------------------------------------- -------------------------------------------------------
$1,263,408 $ 945,651 5.78% 5.53% Total Interest Expense $ 54,664 $ 39,115 $15,549 $ 5,424 $10,125
- - --------------------------------------- -------------------------------------------------------
1.05% 2.29% Net Interest Income $ 4,492 $ 14,186 $(9,694) $(14,015) $ 4,321
=============== =======================================================
Net interest income from agency-eligible production decreased 68% to
$4.5 million for the first nine months of 1998 compared to $14.2 million for the
first nine months of 1997. The 124 basis point decrease in the interest-rate
spread was primarily the result of the narrower spreads between long and
short-term rates in the first nine months of 1998 compared to the first nine
months of 1997. The Company's mortgages and mortgage-backed securities are
generally sold and replaced within 30 to 35 days. Accordingly, the Company
generally borrows at rates based upon short-term indices, while its asset yields
are primarily based upon long-term mortgage rates.
Estimated Provision for Foreclosure Losses
As a servicer of agency-eligible mortgage loans and small-ticket
equipment leases the Company will incur certain losses in the event it becomes
necessary to carry out foreclosure actions on these loans or leases serviced.
Generally, such agency-eligible mortgage loan losses relate to FHA or VA loans,
which are insured or guaranteed on a limited basis. The allowance for estimated
loan losses on foreclosure, which is part of the mortgage servicing rights
basis, is determined based on delinquency trends and management's evaluation of
the probability that foreclosure actions will be necessary. For the nine months
ended September 30, 1998 and for the nine months ended September 30, 1997 the
Company recorded provision for foreclosure expense of approximately $6.5 million
and $2.6 million, respectively. The Company acquired a small-ticket equipment
leasing operation effective December 31, 1997. Accordingly, $0.8 million of the
increase in provision expense is attributable to the acquisition of this
operation. The balance of the overall increase is attributable to the overall
growth of the Company's production and servicing operations.
Net Gain on Sale of Agency-eligible Mortgage Loans
A reconciliation of gain on sale of agency-eligible mortgage loans for
the periods indicated follows:
($ in thousands) For the Nine Months Ended September 30,
---------------------------------------
1998 1997
----------- ----------
Gross proceeds on sales of mortgage loans $11,126,158 $7,426,512
Initial unadjusted acquisition cost of mortgage loans sold, net
of hedge results 11,124,898 7,422,340
----------- ----------
Unadjusted gain on sale of mortgage loans 1,260 4,172
Loan origination and correspondent program administrative fees 28,669 23,852
----------- ----------
Unadjusted aggregate margin 29,929 28,024
Acquisition basis allocated to mortgage servicing rights
(SFAS No. 125) 70,984 32,661
Net change in deferred administrative fees 634 1,394
----------- ----------
Net gain on sale of agency-eligible mortgage loans $ 101,547 $ 62,079
=========== ==========
The Company sold agency-eligible loans during the first nine months of
1998 with an aggregate unpaid principal balance of $11.1 billion compared to
sales of $7.4 billion for the first nine months of 1997. The amount of proceeds
received on sales of mortgage loans exceeded the initial unadjusted acquisition
cost of the loans sold by $1.3 million (1 basis point) for the first nine months
of 1998 as compared to $4.2 million (6 basis points) for the comparable period
of the prior year. The Company received loan origination and correspondent
program administrative fees of $28.7 million (26 basis points) on these loans
during the first nine months of 1998 and $23.9 million (32 basis points) during
the first nine months of 1997. The Company allocated $71.0 million (64 basis
points) to basis in mortgage
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servicing rights for loans sold in the first nine months of 1998 as compared to
$32.7 million (44 basis points) during the first nine months of 1997 in
accordance with Statement of Financial Accounting Standards (SFAS) No. 125,
"Accounting for Transfers and Servicing of Financial Assets and Extinguishments
of Liabilities". Consequently, net gain on sale of agency-eligible mortgage
loans increased to $101.5 million for the first nine months of 1998 versus $62.1
million for the first nine months of 1997. Overall, the increase is attributed
to better execution into the secondary markets.
Subprime Mortgage Operations
Following is an analysis of the revenues and expenses allocated to the
Company's subprime mortgage production operations.
For the Nine Months Ended
September 30,
----------------------
($ in thousands) 1998 1997
-------- --------
Net interest income $ 5,999 N/A
Net gain on sale of mortgage loans 22,218 $ 9,499
Other income 272 N/A
-------- --------
Total production revenue 28,489 9,499
-------- --------
Salary and employee benefits 11,270 5,021
Occupancy expense 1,362 435
General and administrative expenses 3,256 1,273
-------- --------
Total production expenses 15,888 6,729
-------- --------
Net pre-tax production margin $ 12,601 $ 2,770
======== ========
Production $417,892 $230,199
Whole loan sales and securitizations 365,946 228,153
Total production revenue to whole loan sales and securitizations 779 bps 416 bps
Total production expenses to production 380 bps 292 bps
-------- --------
Net pre-tax production margin 399 bps 124 bps
======== ========
Summary
During the first nine months of 1998, the Company produced $417.9
million of subprime loans. The Company sold approximately $213.7 million (51%)
of its first nine months 1998 production in whole loan transactions and
delivered $152.3 million into the secondary markets through securitization
transactions. Overall, the Company operated during the first nine months of 1998
at a 3.99% pre-tax subprime production margin. At September 30, 1998, the
Company had unsold subprime mortgage loans of $90.5 million. During the first
nine months of 1997, the Company's subprime division was in its initial startup
phase and $46.8 million of the subprime mortgage loan production for that period
was purchased in bulk from Meritage prior to the Company's acquisition of
Meritage.
Net Interest Income
The following table analyzes net interest income allocated to the
Company's subprime mortgage production activities in terms of rate and volume
variances of the interest spread (the difference between
23
24
interest rates earned on loans and residual certificates and interest rates paid
on interest-bearing sources of funds) for the nine months ended September 30,
1998 and 1997, respectively.
($ in thousands)
Variance
Average Volume Average Rate Interest Attributable to
- - --------------------------------------- ------------------- ---------------------
1998 1997 1998 1997 1998 1997 Variance Rate Volume
- - --------------------------------------- -------------------------------------------------------
Interest Income
---------------
Mortgages Held for Sale and
$ 129,822 N/A 9.89% N/A Residual Certificates $ 9,630 N/A $ 9,630 $ 9,630 N/A
--------------------------------------------------------
- - -----------------------------------------
Interest Expense
----------------
$ 87,261 N/A 5.56% N/A Total Interest Expense $ 3,631 N/A $ 3,631 $ 3,631 N/A
- - ----------------------------------------- --------------------------------------------------------
4.33% N/A Net Interest Income $ 5,999 N/A $ 5,999 $ 5,999 N/A
=============== ========================================================
Net interest income on subprime loans and accretion income on residuals
was $6.0 million and the interest rate spread was 433 basis points for the first
nine months of 1998. This was primarily the result of the larger interest rate
spreads possible for subprime product.
Net Gain on Securitization and Sale of Subprime Mortgage Loans
A reconciliation of the gain on securitization of subprime mortgage
loans for the periods indicated follows:
($ in thousands) For the Nine Months Ended
September 30,
------------------------
1998 1997
--------- -------
Gross proceeds on securitization of subprime mortgage loans $ 149,063 $ 90,831
Initial acquisition cost of subprime mortgage loans
securitized, net of fees 152,286 94,914
--------- --------
Unadjusted loss on securitization of subprime mortgage loans (3,223) (4,083)
Initial capitalization of residual certificates 11,227 7,550
--------- --------
Net gain on securitization of subprime mortgage loans $ 8,004 $ 3,467
========= ========
Residual certificates arising from subprime securitizations are
classified as trading securities (as defined in SFAS No. 115), and changes in
the fair value of such certificates are recorded as adjustments to income in the
period of change. The Company has not yet assessed whether it will amend its
current policies upon the adoption of SFAS No. 134 (see Notes to the
Consolidated Financial Statements.) The Company assesses the fair value of the
residual certificates quarterly, based on an independent third party valuation.
This valuation is based on the discounted cash flows expected to be available to
the holder of the residual certificate. Significant assumptions used at
September 30, 1998 for all residual certificates held by the Company include a
discount rate of 13%, a constant default rate of 3% and a loss severity rate of
25%. Ramping periods are based on prepayment penalty periods and adjustable rate
mortgage first reset dates. Constant prepayment rate assumptions specific to the
individual certificates for purposes of the September 30, 1998 valuations are
set forth below:
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25
1997-1 1997-2 1998-1 Other
---------- ----------- ----------- ----------
Prepayment Speeds
Fixed rate mortgages 32% cpr 30% cpr 28% cpr 24% cpr
Adjustable rate mortgages 32% cpr 30% cpr 28% cpr 32% cpr
The assumptions above are estimated based on current conditions for
similar instruments that are subject to prepayment and credit risks. Other
factors evaluated in the determination of fair value include credit and
collateral quality of the underlying loans, current economic conditions and
various fees and costs (such as prepayment penalties) associated with ownership
of the residual certificate. Although the Company believes that the fair values
of its residual certificates are reasonable given current market conditions, the
assumptions used are estimates and actual experience may vary from these
estimates. Differences in the actual prepayment speed and loss experience from
the assumptions used, could have a significant effect on the fair value of the
residual certificates.
The Company also sold subprime mortgage loans on a whole loan basis
during the first nine months of 1998. Whole loans are generally sold without
recourse to third parties with the gain or loss being calculated based on the
difference between the carrying value of the loans sold and the gross proceeds
received from the purchaser. No interest in these loans is retained by the
Company.
A reconciliation of the gain on subprime mortgage whole loan sales for
the periods indicated follows:
($ in thousands) For the Nine Months
Ended September 30,
----------------------
1998 1997
-------- --------
Gross proceeds on whole loan sales of subprime mortgage loans $227,874 $139,271
Initial acquisition cost of subprime mortgage loans sold, net of fees 213,660 133,239
-------- --------
Net gain on whole loan sales of subprime mortgage loans $ 14,214 $ 6,032
======== ========
As summarized in the following analysis, the recorded residual values
imply that the Company's securitizations are valued at 1.57 times the implied
excess yield at September 30, 1998, as compared to the 1.75 multiple implied at
June 30, 1998. The table below represents balances as of September 30, 1998,
unless otherwise noted.
25
26
($ in thousands) Securitizations
----------------------------------
1997-1 1997-2 1998-1 Subtotal Other Total
------- ------- -------- -------- ------- --------
Residual Certificates $ 8,003 $10,092 $ 10,455 $ 28,550 $ 4,843 $ 33,393
Bonds $60,612 * $86,379 * $121,636 * $268,627 $47,399 * $316,026
------- ------- -------- -------- ------- --------
Subtotal $68,615 $96,471 $132,091 $297,177 $52,242 $349,419
Unpaid Principal Balance $64,961 * $90,726 * $122,879 * $278,566 $50,217 * $328,783
------- ------- -------- -------- ------- --------
Implied Price 105.63 106.33 107.50 106.68 104.03 106.28
------- ------- -------- -------- ------- --------
* Amounts were based upon trustee statements dated October 25, 1998 that covered
the period ended September 30, 1998.
Collateral Yield 10.39 10.00 9.72 9.97 10.85 10.10
Collateral Equivalent
Securitization Costs (0.73) (0.64) (0.60) (0.64) (0.03) (0.55)
Collateral Equivalent
Bond Rate (5.09) (5.24) (5.34) (5.25) (7.20) (5.53)
----- ----- ---- ---- ----- -----
Implied Collateral Equivalent
Excess Yield 4.57 4.12 3.78 4.08 3.62 4.01
----- ----- ---- ---- ----- -----
Implied Premium Above Par 5.63 6.33 7.50 6.68 4.03 6.28
Implied Collateral
Equivalent Excess Yield 4.57 4.12 3.78 4.08 3.62 4.01
----- ----- ---- ---- ----- -----
Multiple 1.23 x 1.54 x 1.99 x 1.64 x 1.11 x 1.57 x
----- ----- ---- ---- ----- -----
Agency-Eligible Mortgage Servicing
Following is a summary of the revenues and expenses allocated to the
Company's agency-eligible mortgage servicing operations for the nine months
ended September 30, 1998 and 1997:
For the Nine Months Ended
September 30,
--------------------------
($ in thousands) 1998 1997
---------- ----------
Servicing fees $ 27,257 $ 23,049
Other income 230 N/A
---------- ----------
Servicing revenues 27,487 23,049
---------- ----------
Salary and employee benefits 2,491 2,129
Occupancy expense 313 231
Amortization of mortgage servicing rights 19,081 13,673
General and administrative expenses 4,456 5,376
---------- ----------
Total loan servicing expenses 26,341 21,409
---------- ----------
Net pre-tax servicing margin 1,146 1,640
Gain on sale of mortgage servicing rights 1,613 5,948
---------- ----------
Net pre-tax servicing contribution $ 2,759 $ 7,588
========== ==========
Average owned servicing portfolio $9,024,339 $7,415,702
Servicing sold 7,675,411 6,584,487
Net pre-tax servicing margin to average servicing portfolio 2 bps 3 bps
Gain on sale of servicing to servicing sold 2 bps 9 bps
26
27
Summary
The ratio of net pre-tax servicing margin to the average servicing
portfolio declined one basis point primarily due to relative increases in
amortization and general and administrative expenses. The increased amortization
expense is attributable to generally higher levels of mortgage servicing rights
held for sale and the generally higher amortization expenses required in the
current higher prepay speed environment.
Overall, the servicing division contributed $2.8 million to the first
nine months of 1998 pre-tax net income, a $4.8 million, or 64%, decrease from
the $7.6 million contribution for the first nine months of 1997.
Loan servicing fees were $27.3 million for the first nine months of
1998, compared to $23.0 million for the first nine months of 1997, an increase
of 18%. This increase is primarily related to an increase in the average
aggregate underlying unpaid principal balance of mortgage loans serviced to $9.0
billion during the first nine months of 1998 from $7.4 billion during the first
nine months of 1997, an increase of 22%. Similarly, amortization of mortgage
servicing rights also increased to $19.1 million during the first nine months of
1998 from $13.7 million during the first nine months of 1997, an increase of
40%. The increase in amortization is primarily attributable to the growth in the
average balance of the mortgage loans serviced and the current generally higher
prepay speed environment.
Given current market conditions, management continually assesses market
prepay trends and adjusts amortization accordingly. Management believes that the
value of mortgage servicing rights are reasonable in light of current market
conditions. However, there can be no guarantee that market conditions will not
change such that mortgage servicing right valuations will require additional
amortization or impairment charges.
Included in loan servicing fees for the first nine months of 1998 and
1997 are subservicing fees received by the Company of $581 thousand and $367
thousand, respectively. The subservicing fees are associated with temporary
subservicing agreements between the Company and purchasers of mortgage servicing
rights.
Gain on Sale of Mortgage Servicing Rights
A reconciliation of the components of gain on sale of mortgage servicing
rights for the periods indicated follows:
($ in thousands) For the Nine Months Ended
September 30,
-----------------------------
1998 1997
----------- -----------
Underlying unpaid principal balances of mortgage loans
on which servicing rights were sold during the period $ 7,675,411 $ 6,584,487
=========== ===========
Gross proceeds from sales of mortgage servicing rights $ 174,601 $ 146,004
Initial acquisition basis, net of amortization and hedge results 131,504 113,158
----------- -----------
Unadjusted gain on sale of mortgage servicing rights 43,097 32,846
Acquisition basis allocated from mortgage loans, net of
amortization (SFAS No. 125) (41,484) (26,898)
----------- -----------
Gain on sale of mortgage servicing rights $ 1,613 $ 5,948
=========== ===========
During the first nine months of 1998, the Company completed 19 sales of
mortgage servicing rights representing $7.7 billion of underlying unpaid
principal mortgage loan balances. This compares to 25 sales of mortgage
servicing rights representing $6.6 billion of underlying unpaid principal
mortgage loan balances in the first nine months of 1997. The unadjusted gain on
the sale of mortgage servicing rights was $43.1 million (56 basis points) for
the first nine months of 1998, up from $32.8 million (50 basis
27
28
points) for the first nine months of 1997. The Company reduced this unadjusted
gain by $41.5 million in the first nine months of 1998, versus a $26.9 million
reduction during the first nine months of 1997, in accordance with SFAS No. 125.
Commercial Mortgage Operations
Following is a summary of the revenues and expenses allocated to the
Company's commercial mortgage production operations.
For the Nine Months Ended
September 30,
-----------------------
($ in thousands) 1998 1997
----------- -------
Net interest income $ 374 N/A
Net gain on sale of mortgage loans 5,461 N/A
Other income (13) N/A
----------- -------
Total production revenue 5,822 N/A
----------- -------
Salary and employee benefits 4,924 N/A
Occupancy expense 598 N/A
General and administrative expenses 1,269 N/A
----------- -------
Total production expenses 6,791 N/A
----------- -------
Net pre-tax production margin (969) N/A
----------- -------
Servicing fees 2,776 N/A
Amortization of mortgage servicing rights (972) N/A
----------- -------
Net pre-tax servicing margin 1,804 N/A
----------- -------
Pre-tax income $ 835 N/A
----------- -------
Production $ 653,451 N/A
Whole loan sales 653,451 N/A
Average commercial mortgage servicing portfolio $ 2,939,070 N/A
Total production revenue to whole loan sales 89 bps N/A
Total production expenses to production 104 bps N/A
----------- ---
Net pre-tax production margin (15) bps N/A
----------- ---
Servicing fees to average commercial mortgage servicing portfolio 13 bps N/A
Amortization of mortgage servicing rights to average commercial
mortgage servicing portfolio 4 bps N/A
----------- ---
Net pre-tax servicing margin 9 bps N/A
----------- ---
Laureate Realty originates commercial mortgage loans for various
insurance companies and other investors, primarily in Alabama, Florida, Indiana,
North Carolina, South Carolina, Tennessee and Virginia. Substantially all loans
originated by Laureate Realty have been originated in the name of the investor,
and in most cases, Laureate Realty has retained the right to service the loans
under a servicing agreement with the investor. Most commercial mortgage loan
servicing agreements are short-term, and retention of the servicing contract is
dependent on maintaining the investor relationship.
28
29
Net Gain on Sale of Commercial Mortgage Loans
A reconciliation of gain on sale of commercial mortgage loans for the
periods indicated follows:
($ in thousands) For the Nine Months Ended
September 30,
--------------------
1998 1997
-------- -------
Gross proceeds on sales of commercial mortgage loans $653,451 N/A
Initial unadjusted acquisition cost of commercial mortgage
loans sold 653,451 N/A
-------- -----
Unadjusted gain on sale of commercial mortgage loans
Commercial mortgage and origination fees 4,816 N/A
-------- -----
Unadjusted aggregate margin 4,816 N/A
Initial acquisition cost allocated to basis in commercial
Mortgage servicing rights (SFAS No. 125) 645 N/A
-------- -----
Net gain on sale of commercial mortgage loans $ 5,461 N/A
======== =====
During the first nine months of 1998, the commercial mortgage division
originated and sold approximately $653 million in commercial mortgage loans.
Commercial mortgage fees on these loans were $4.8 million or 74 basis points.
Origination fees are generally between 50 and 100 basis points on the loan
amount. In addition the commercial mortgage division allocated $645 thousand, or
10 basis points, to basis in servicing rights retained on commercial mortgage
loans produced during the period.
Leasing Operations
Following is a summary of the revenues and expenses allocated to the
Company's small ticket equipment leasing operations for the periods indicated:
For the Nine Months Ended
September 30,
-------------------
($ in thousands) 1998 1997
-------- -------
Net interest income $ 3,198 N/A
Other income 571 N/A
-------- -------
Leasing production revenue 3,769 N/A
-------- -------
Salary and employee benefits 1,561 N/A
Occupancy expense 264 N/A
General and administrative expenses 1,810 N/A
-------- -------
Total lease operating expenses 3,635 N/A
-------- -------
Net pre-tax leasing production margin 134 N/A
-------- -------
Servicing fees 773 N/A
-------- -------
Net pre-tax leasing margin $ 907 N/A
-------- -------
Average owned leasing portfolio $ 66,332 N/A
Average serviced leasing portfolio 57,909 N/A
-------- -------
Average leasing portfolio $124,241 N/A
======== =======
29
30
Leasing production revenue to average owned portfolio 758 bps N/A
Leasing operating expenses to average owned portfolio 731 bps N/A
-------- -------
Net pre-tax leasing production margin 27 bps N/A
======== =======
Servicing fees to average serviced leasing portfolio 178 bps N/A
Substantially all of the Company's lease receivables are acquired from
independent brokers who operate throughout the continental United States and
referrals from independent banks. At September 30, 1998 the Company's managed
lease servicing portfolio was $131.5 million. Of this managed lease portfolio,
$85.7 million was owned and $45.8 million was serviced for investors.
Net Interest Income
Net interest income for the first nine months of 1998 was $3.2 million.
This is an annualized net interest margin of 3.39% based upon average lease
receivables owned of $66.3 million and average debt outstanding of $42.5
million.
Non-recurring and Special Charges
During the nine months ended September 30, 1998, the Company
recognized a $1.5 million gain on sale of the retail production platform.
During the nine months ended September 30, 1997, the Company recorded
as a component of other operating expenses a $2.3 million ($1.4 million
after-tax) charge related to joint termination of a merger agreement and a
special charge of $7.9 million ($4.8 million after-tax) related to certain
non-recoverable operating receivables.
RESULTS OF OPERATIONS - QUARTER ENDED SEPTEMBER 30, 1998, COMPARED TO QUARTER
ENDED SEPTEMBER 30, 1997
Summary by Operating Division
Following is a summary of the allocated revenues and expenses for each
of the Company's operating divisions for the quarters ended September 30, 1998
and 1997, respectively:
30
31
Residential
-------------------------------
($ in thousands) Mortgage Production
------------------- Agency -
For the Quarter Ended Agency - Eligible Commercial
September 30, 1998* Eligible Subprime Servicing Mortgage Leasing Other Consolidated
- - ------------------------------------------ -------- --------- --------- ---------- -------- ------ ------------
Net interest income $ 623 $ 2,586 $ 114 $ 1,216 $ 62 $ 4,601
Net gain on sale of mortgage loans 34,782 8,836 1,979 45,597
Gain on sale of mortgage servicing rights $ 533 533
Servicing fees 10,027 964 264 164 11,419
Other income 7 135 89 (11) 146 121 487
- - ------------------------------------------ -------- --------- --------- ---------- -------- ------ ------------
Total revenues 35,412 11,557 10,649 3,046 1,626 347 62,637
- - ------------------------------------------ -------- --------- --------- ---------- -------- ------ ------------
Salary and employee benefits 13,308 3,681 843 2,004 531 112 20,479
Occupancy expense 1,685 491 95 209 98 49 2,627
Amortization of mortgage servicing rights 7,432 318 7,750
General and administrative expenses 6,805 1,141 1,339 426 546 138 10,395
- - ------------------------------------------ -------- --------- --------- ---------- -------- ------ ------------
Total expenses 21,798 5,313 9,709 2,957 1,175 299 41,251
- - ------------------------------------------ -------- --------- --------- ---------- -------- ------ ------------
Income before income taxes 13,614 6,244 940 89 451 48 21,386
Income tax expense (5,212) (2,322) (359) (35) (171) (35) (8,134)
- - ------------------------------------------ -------- --------- --------- ---------- -------- ------ ------------
Net income $ 8,402 $ 3,922 $ 581 $ 54 $ 280 $ 13 $13,252
======== ========= ========= ========== ======== ====== ============
Residential
-------------------------------
($ in thousands) Mortgage Production
------------------- Agency -
For the Quarter Ended Agency - Eligible Commercial
September 30, 1997* Eligible Subprime Servicing Mortgage Leasing Other Consolidated
- - ------------------------------------------ -------- --------- --------- ---------- -------- ------ ------------
Net interest income $ 4,535 $ 4,535
Net gain on sale of mortgage loans 24,611 $4,717 29,328
Gain on sale of mortgage servicing rights $ 3,237 3,237
Servicing fees 7,711 7,711
Other income 146 146
- - ------------------------------------------ -------- --------- --------- ---------- -------- ------ ------------
Total revenues 29,292 4,717 10,948 44,957
- - ------------------------------------------ -------- --------- --------- ---------- -------- ------ ------------
Salary and employee benefits 13,307 2,434 746 16,487
Occupancy expense 1,612 199 75 1,886
Amortization of mortgage servicing rights 4,840 4,840
General and administrative expenses 4,510 567 2,613 $10,147 17,837
- - ------------------------------------------ -------- --------- --------- ---------- -------- ------ ------------
Total expenses 19,429 3,200 8,274 10,147 41,050
- - ------------------------------------------ -------- --------- --------- ---------- -------- ------ ------------
Income before income taxes 9,863 1,517 2,674 (10,147) 3,907
Income tax expense (3,682) (566) (998) 3,906 (1,340)
- - ------------------------------------------ -------- --------- --------- ---------- -------- ------ ------------
Net income $ 6,181 $ 951 $ 1,676 $(6,241) $ 2,567
======== ========= ========= ========== ======== ====== ============
*Revenues and expenses have been recorded on a direct basis to the extent
possible. Other than direct charges, management believes that revenues and
expenses have been allocated to the respective divisions on a reasonable basis.
31
32
Agency-Eligible Mortgage Operations
Following is a comparison of the revenues and expenses allocated to the
Company's agency-eligible mortgage production operations.
For the Quarter Ended
September 30,
--------------------------
($ in thousands) 1998 1997
---------- ----------
Net interest income $ 623 $ 4,535
Net gain on sale of mortgage loans 34,782 24,611
Other income 7 146
---------- ----------
Total production revenue 35,412 29,292
---------- ----------
Salary and employee benefits 13,308 13,307
Occupancy expense 1,685 1,612
General and administrative expenses 6,805 4,510
---------- ----------
Total production expenses 21,798 19,429
---------- ----------
Net pre-tax production margin $ 13,614 $ 9,863
---------- ----------
Production $3,583,724 $2,833,513
Pool delivery 3,763,526 2,768,506
Total production revenue to pool delivery 94 bps 106 bps
Total production expenses to production 61 bps 69 bps
---------- ----------
Net pre-tax production margin 33 bps 37 bps
========== ==========
Summary
The production revenue to pool delivery ratio declined 12 basis points,
or 11%, for the third quarter of 1998 as compared to the third quarter of 1997.
Generally, net gain on sale of mortgage loans (92 basis points for 1998 versus
89 basis points for 1997) improved due to better overall execution into the
secondary markets. However, net interest income declined significantly and
offset this improvement due to the relatively flatter yield curve environment.
The production expenses to production ratio decreased 8 basis points, or 12%,
for the third quarter of 1998 as compared to the third quarter of 1997.
Generally, this relates to better leverage of fixed operating expenses in the
higher volume production environment for the third quarter of 1998 versus the
comparable period of 1997. As a consequence of the foregoing, the Company's net
agency-eligible pre-tax production margin declined 4 basis points, or 11%, to 33
basis points while in absolute dollars it increased $3.8 million, or 38%.
Net Interest Income
The following table analyzes net interest income allocated to the
Company's agency-eligible mortgage production activities in terms of rate and
volume variances of the interest spread (the difference between interest rates
earned on loans and mortgage-backed securities and interest rates paid on
interest-bearing sources of funds).
32
33
($ in thousands)
Variance
Average Volume Average Rate Interest Attributable to
- - --------------------------------------- ------------------- ---------------------
1998 1997 1998 1997 1998 1997 Variance Rate Volume
- - --------------------------------------- -------------------------------------------------------
Interest Income
---------------
Mortgages Held for Sale and
$1,111,581 $1,102,862 6.68% 7.84% Mortgage-Backed Securities $18,564 $21,613 $(3,049) $(3,220) $ 171
- - ---------------------------------------- -------------------------------------------------------
Interest Expense
----------------
$ 429,658 $ 504,375 4.65% 5.03% Warehouse Line $ 5,035 $ 6,391 $(1,356) $ (409) $ (947)
658,379 576,109 5.96% 5.88% Gestation Line 9,886 8,539 1,347 128 1,219
98,819 6.61% Servicing Secured Line 1,646 1,646 1,646
33,822 87,553 5.91% 6.56% Servicing Receivable Line 504 1,447 (943) (55) (888)
10,270 6,580 8.34% 7.93% Other Borrowings 216 132 84 11 73
Facility Fees & Other Charges 654 569 85 85
- - ---------------------------------------- -------------------------------------------------------
$1,230,948 $1,174,617 5.78% 5.77% Total Interest Expense $17,941 $17,078 $ 863 $ 1,321 $ (458)
- - ---------------------------------------- -------------------------------------------------------
0.90% 2.07% Net Interest Income $ 623 $ 4,535 $(3,912) $(4,541) $ 629
================ =======================================================
Net interest income from agency-eligible product decreased 86% to $0.6
million for the third quarter of 1998 compared to $4.5 million for the third
quarter of 1997. The 117 basis point decrease in the interest-rate spread was
primarily the result of the narrower spreads between long and short-term rates
in the third quarter of 1998 compared to the third quarter of 1997. The
Company's mortgages and mortgage-backed securities are generally sold and
replaced within 30 to 35 days. Accordingly, the Company generally borrows at
rates based upon short-term indices, while its asset yields are primarily based
upon long-term mortgage rates.
Net Gain on Sale of Agency-eligible Mortgage Loans
A reconciliation of gain on sale of agency-eligible mortgage loans for
the periods indicated follows:
($ in thousands) For the Quarter Ended
September 30,
----------------------------
1998 1997
----------- ----------
Gross proceeds on sales of mortgage loans $ 3,886,406 $2,837,133
Initial unadjusted acquisition cost of mortgage loans sold, net
of hedge results 3,887,623 2,837,111
----------- ----------
Unadjusted gain on sale of mortgage loans (1,217) 22
Loan origination and correspondent program administrative fees 8,833 9,716
----------- ----------
Unadjusted aggregate margin 7,616 9,738
Acquisition basis allocated to mortgage servicing rights
(SFAS No. 125) 27,128 14,541
Net change in deferred administrative fees 38 332
----------- ----------
Net gain on sale of agency-eligible mortgage loans $ 34,782 $ 24,611
=========== ==========
The Company sold agency-eligible loans during the third quarter of 1998
with an aggregate unpaid principal balance of $3.9 billion compared to sales of
$2.8 billion for the third quarter of 1997. The amount of proceeds received on
sales of mortgage loans was less than the initial unadjusted acquisition cost of
the loans sold by $1.2 million (3 basis points) for the third quarter of 1998 as
compared to $22 thousand (0 basis points) for the comparable period of the prior
year. The Company received loan origination and correspondent program
administrative fees of $8.8 million (23 basis points) on these loans during the
third quarter of 1998 and $9.7 million (34 basis points) during the third
quarter of 1997. The Company allocated $27.1 million (70 basis points) to basis
in mortgage servicing rights for loans
33
34
sold in the third quarter of 1998 as compared to $14.5 million (51 basis points)
during the third quarter of 1997 in accordance with Statement of Financial
Accounting Standards (SFAS) No. 125, "Accounting for Transfers and Servicing of
Financial Assets and Extinguishments of Liabilities". Consequently, net gain on
sale of agency-eligible mortgage loans increased to $34.8 million for the third
quarter of 1998 versus $24.6 million for the third quarter of 1997. The increase
is primarily attributed to better execution into the secondary markets.
Subprime Mortgage Operations
Following is an analysis of the revenues and expenses allocated to the
Company's subprime mortgage production operations.
For the Quarter Ended
September 30,
---------------------
($ in thousands) 1998 1997
-------- -------
Net interest income $ 2,586
Net gain on sale of mortgage loans 8,836 $ 4,717
Other income 135 N/A
-------- -------
Total production revenue 11,557 4,717
-------- -------
Salary and employee benefits 3,681 2,434
Occupancy expense 491 199
General and administrative expenses 1,141 567
-------- -------
Total production expenses 5,313 3,200
-------- -------
Net pre-tax production margin $ 6,244 $ 1,517
-------- -------
Production $165,760 $96,411
Whole loan sales and securitizations 149,252 79,217
Total production revenue to whole loan sales and securitizations 774 bps 595 bps
Total production expenses to production 321 bps 332 bps
-------- -------
Net pre-tax production margin 453 bps 263 bps
======== =======
Summary
During the third quarter of 1998, the Company produced $165.8 million of
subprime loans. The Company sold approximately $123.9 million (75%) of its third
quarter 1998 subprime production in whole loan transactions and delivered $25.3
million into the secondary markets through securitization transactions. Overall,
the Company operated during the third quarter of 1998 at a 4.53% pre-tax
subprime production margin. This compares to a 2.63% pre-tax subprime production
margin for the third quarter of 1997.
Net Interest Income
The following table analyzes net interest income allocated to the
Company's subprime mortgage production activities in terms of rate and volume
variances of the interest spread (the difference between interest rates earned
on loans and residual certificates and interest rates paid on interest-bearing
sources of funds) for the quarter ended September 30, 1998 and 1997,
respectively.
34
35
($ in thousands)
Variance
Average Volume Average Rate Interest Attributable to
- - --------------------------------------- ------------------- ---------------------
1998 1997 1998 1997 1998 1997 Variance Rate Volume
- - --------------------------------------- -------------------------------------------------------
Interest Income
---------------
Mortgages Held for Sale and
$165,487 N/A 10.13% N/A Residual Certificates $ 4,191 N/A $ 4,191 $ 4,191 N/A
- - --------------------------------------- ------------------------------------------------------
Interest Expense
----------------
$122,353 N/A 5.20% N/A Total Interest Expense $ 1,605 N/A $ 1,605 $ 1,605 N/A
- - --------------------------------------- ------------------------------------------------------
4.93% N/A Net Interest Income $ 2,586 N/A $ 2,586 $ 2,586 N/A
============== ======================================================
Net interest income on subprime loans and accretion income on residuals
was $2.6 million, and the interest rate spread was 493 basis points, for the
third quarter of 1998. This was primarily the result of the larger interest rate
spreads possible for subprime product.
Net Gain on Securitization and Sale of Subprime Mortgage Loans
A reconciliation of the gain on securitization of subprime mortgage
loans for the periods indicated follows:
($ in thousands) For the Quarter Ended
September 30,
-----------------------
1998 1997
-------- --------
Gross proceeds on securitization of subprime mortgage loans $ 24,826 $ 90,831
Initial acquisition cost of subprime mortgage loans
securitized, net of fees 25,311 94,914
-------- --------
Unadjusted loss on securitization of subprime mortgage loans (485) (4,083)
Initial capitalization of residual certificates 1,965 7,550
-------- --------
Net gain on securitization of subprime mortgage loans $ 1,480 $ 3,467
======== ========
The Company also sold subprime mortgage loans on a whole loan basis
during the third quarter of 1998. Whole loans are generally sold without
recourse to third parties with the gain or loss being calculated based on the
difference between the carrying value of the loans sold and the gross proceeds
received from the purchaser. No interest in these loans is retained by the
Company.
A reconciliation of the gain on subprime mortgage whole loan sales for
the periods indicated follows:
($ in thousands) For the Quarter Ended
September 30,
---------------------
1998 1997
-------- -------
Gross proceeds on whole loan sales of subprime mortgage loans $131,297 $20,062
Initial acquisition cost of subprime mortgage loans sold, net of fees 123,941 18,812
-------- -------
Net gain on whole loan sales of subprime mortgage loans $ 7,356 $ 1,250
======== =======
Agency-Eligible Mortgage Servicing
Following is a summary of the revenues and expenses allocated to the
Company's agency-eligible mortgage servicing operations for the quarters ended
September 30, 1998 and 1997:
35
36
For the Quarter Ended
September 30,
---------------------------
($ in thousands) 1998 1997
---------- -----------
Servicing fees $ 10,027 $ 7,711
Other income 89
---------- -----------
Servicing revenues 10,116 7,711
---------- -----------
Salary and employee benefits 843 746
Occupancy expense 95 75
Amortization of mortgage servicing rights 7,432 4,840
General and administrative expenses 1,339 2,613
---------- -----------
Total loan servicing expenses 9,709 8,274
---------- -----------
Net pre-tax servicing margin 407 (563)
Gain on sale of mortgage servicing rights 533 3,237
---------- -----------
Net pre-tax servicing contribution $ 940 $ 2,674
========== ===========
Average owned servicing portfolio $9,994,019 $ 7,561,606
Servicing sold 2,871,176 2,800,277
Net pre-tax servicing margin to average servicing portfolio 2 bps (3) bps
Gain on sale of servicing to servicing sold 2 bps 12 bps
Summary
The ratio of net pre-tax servicing margin to the average servicing
portfolio increased five basis points as incremental revenues from the larger
servicing portfolio more than offset related increases in amortization and
general and administrative expenses. The increased amortization expense is
attributable to generally higher levels of mortgage servicing rights held for
sale which are carried at a higher basis than older available-for-sale mortgage
servicing rights and thus require a relatively higher periodic amortization
charge.
Overall, the servicing division contributed $0.9 million to third
quarter 1998 pre-tax net income, a $1.8 million, or 65%, decrease from the $2.7
million contribution for the third quarter of 1997. Loan servicing fees were
$10.0 million for the third quarter of 1998, compared to $7.7 million for the
third quarter of 1997, an increase of 30%. This increase is primarily related to
an increase in the average aggregate underlying unpaid principal balance of
mortgage loans serviced to $10.0 billion during the third quarter of 1998 from
$7.6 billion during the third quarter of 1997, an increase of 32%. Similarly,
amortization of mortgage servicing rights also increased to $7.4 million during
the third quarter of 1998 from $4.8 million during the third quarter of 1997, an
increase of 54%. The increase in amortization is primarily attributable to the
growth in the average balance of the mortgage loans serviced and the higher
basis in the servicing rights.
Included in loan servicing fees for the third quarters of 1998 and 1997
are subservicing fees received by the Company of $158 thousand and $140
thousand, respectively. The subservicing fees are associated with temporary
subservicing agreements between the Company and purchasers of mortgage servicing
rights.
36
37
Gain on Sale of Mortgage Servicing Rights
A reconciliation of the components of gain on sale of mortgage servicing
rights for the periods indicated follows:
($ in thousands) For the Quarter Ended September 30,
-----------------------------------
1998 1997
----------- -----------
Underlying unpaid principal balances of mortgage
loans on which servicing rights were sold during
the period $ 2,871,176 $ 2,800,277
=========== ===========
Gross proceeds from sales of mortgage servicing rights $ 63,940 $ 61,927
Initial acquisition basis, net of amortization and hedge
results 45,564 47,213
----------- -----------
Unadjusted gain on sale of mortgage servicing rights 18,376 14,714
Acquisition basis allocated from mortgage loans, net of
amortization (SFAS No. 125) (17,843) (11,477)
----------- -----------
Gain on sale of mortgage servicing rights $ 533 $ 3,237
=========== ===========
During the third quarter of 1998, the Company completed six sales of
mortgage servicing rights representing $2.9 billion of underlying unpaid
principal mortgage loan balances. This compares to seven sales of mortgage
servicing rights representing $2.8 billion of underlying unpaid principal
mortgage loan balances in the third quarter of 1997. The unadjusted gain on the
sale of mortgage servicing rights was $18.4 million (64 basis points) for the
third quarter of 1998, compared to $14.7 million (53 basis points) for the third
quarter of 1997. The Company reduced this unadjusted gain by $17.8 million in
the third quarter of 1998, versus a $11.5 million reduction during the third
quarter of 1997, in accordance with SFAS No. 125.
Commercial Mortgage Operations
Following is a summary of the revenues and expenses allocated to the
Company's commercial mortgage production operations.
37
38
For the Quarter Ended
September 30,
-----------------------
($ in thousands) 1998 1997
----------- -------
Net interest income $ 114 N/A
Net gain on sale of mortgage loans 1,979 N/A
Other income (11) N/A
----------- -------
Total production revenue 2,082 N/A
----------- -------
Salary and employee benefits 2,004 N/A
Occupancy expense 209 N/A
General and administrative expenses 426 N/A
----------- -------
Total production expenses 2,639 N/A
----------- -------
Net pre-tax production margin $ (557) N/A
=========== =======
Servicing fees $ 964 N/A
Amortization of mortgage servicing rights 318 N/A
----------- -------
Net pre-tax servicing margin 646 N/A
----------- -------
Pre-tax income $ 89 N/A
=========== =======
Production $ 290,829 N/A
Whole loan sales 290,829 N/A
Average commercial mortgage servicing portfolio $ 3,079,683 N/A
Total production revenue to whole loan sales 716 bps N/A
Total production expenses to production 907 bps N/A
----------- -------
Net pre-tax production margin (191) bps N/A
=========== =======
Servicing fees to average commercial mortgage servicing portfolio 13 bps N/A
Amortization of mortgage servicing rights to average commercial
mortgage servicing portfolio 4 bps N/A
----------- -------
Net pre-tax servicing margin 9 bps N/A
=========== =======
Laureate Realty originates commercial mortgage loans for various
insurance companies and other investors, primarily in Alabama, Florida, Indiana,
North Carolina, South Carolina, Tennessee and Virginia. Substantially all loans
originated by Laureate Realty have been originated in the name of the investor,
and in most cases, Laureate Realty has retained the right to service the loans
under a servicing agreement with the investor. Most commercial mortgage loan
servicing agreements are short-term, and retention of the servicing contract is
dependent on maintaining the investor relationship.
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39
Net Gain on Sale of Commercial Mortgage Loans
A reconciliation of gain on sale of commercial mortgage loans for the
periods indicated follows:
($ in thousands) For the Quarter Ended
September 30,
------------------
1998 1997
------- -------
Gross proceeds on sales of commercial mortgage loans $290,829 N/A
Initial unadjusted acquisition cost of commercial mortgage
loans sold
290,829 N/A
-------- -------
Unadjusted gain on sale of commercial mortgage loans
Commercial mortgage and transaction processing fees 1,835 N/A
-------- -------
Unadjusted aggregate margin 1,835 N/A
Initial acquisition cost allocated to basis in commercial
mortgage servicing rights (SFAS No. 125) 144 N/A
-------- -------
Net gain on sale of commercial mortgage loans $ 1,979 N/A
======== =======
During the third quarter of 1998, the commercial mortgage division
originated and sold $291 million in commercial loans. Commercial mortgage fees
on these loans were $1.8 million, or 63 basis points. Origination fees on
commercial mortgages are generally between 50 and 100 basis points on the loan
amount. In addition the commercial mortgage division allocated $144 thousand, or
5 basis points, to basis in servicing rights retained on commercial mortgage
loans produced during the period.
Leasing Operations
Following is a summary of the revenues and expenses allocated to the
Company's small ticket equipment leasing operations for the periods indicated:
For the Quarter Ended
September 30,
-------------------
($ in thousands) 1998 1997
-------- -------
Net interest income $ 1,216 N/A
Other income 146 N/A
-------- -------
Leasing production revenue 1,362 N/A
-------- -------
Salary and employee benefits 531 N/A
Occupancy expense 98 N/A
General and administrative expenses 546 N/A
-------- -------
Total lease operating expenses 1,175 N/A
-------- -------
Net pre-tax leasing production margin 187 N/A
-------- -------
Servicing fees 264 N/A
-------- -------
Net pre-tax leasing margin $ 451 N/A
-------- -------
Average owned leasing portfolio $ 78,197 N/A
Average serviced leasing portfolio 50,009 N/A
-------- -------
Average leasing portfolio $128,206 N/A
======== =======
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40
Leasing production revenue to average owned portfolio 697 bps N/A
Lease operating expenses to average owned portfolio 601 bps N/A
-------- -------
Net pre-tax leasing production margin 96 bps N/A
======== =======
Servicing fees to average serviced portfolio 211 bps N/A
Substantially all of the Company's lease receivables are acquired from
independent brokers who operate throughout the continental United States and
referrals from independent banks. At September 30, 1998 the Company's managed
lease servicing portfolio was $131.5 million. Of this managed lease portfolio,
$85.7 million was owned and $45.8 million was serviced for investors.
Net Interest Income
Net interest income for the third quarter of 1998 was $1.2 million.
This is an annualized net interest margin of 3.40% based upon average lease
receivables owned of $78.2 million and average debt outstanding of $58.4
million.
40
41
FINANCIAL CONDITION
During the third quarter of 1998, the Company experienced a 5% increase in
total production originated and acquired compared to the second quarter of 1998,
from $3.9 billion during the second quarter of 1998 to $4.1 billion during the
third quarter of 1998. The September 30, 1998, locked mortgage application
pipeline (mortgage loans not yet closed but for which the interest rate has been
locked) was approximately $1.8 billion and the application pipeline (mortgage
loans for which the interest rate has not yet been locked) was approximately
$0.5 billion.
Mortgage loans held for sale and mortgage-backed securities totaled $1.3
billion at September 30, 1998, versus $1.2 billion at December 31, 1997, an
increase of 8%. The Company's servicing portfolio (exclusive of loans under
subservicing agreements) increased to $9.7 billion at September 30, 1998, from
$7.1 billion at December 31, 1997, an increase of 37%.
Short-term borrowings, which are the Company's primary source of funds,
totaled $1.6 billion at September 30, 1998, compared to $1.2 billion at December
31, 1997, an increase of 33%. The increase in the balance outstanding at
September 30, 1998, resulted from increased funding requirements related to the
increase in the balance of mortgage loans held for sale and mortgage-backed
securities. There were $6.4 million in long-term borrowings at September 30,
1998, compared to $6.5 million at December 31, 1997, a decrease of 2%.
Other liabilities totaled $134.6 million as of September 30, 1998,
compared to the December 31, 1997, balance of $86.6 million, an increase of
$48.0 million, or 55%. The increase in other liabilities resulted primarily from
an increase in the volume of loans acquired through certain correspondent
funding programs of the Company.
The Company continues to face the same challenges as other companies
within the mortgage banking industry and as such is not immune from significant
volume declines precipitated by a rise in interest rates or mortgage servicing
rights and residual certificate valuation declines resulting from changes in
interest rates that can lead to changing prepayment speeds or other factors
beyond the Company's control. Management of the Company recognizes these
challenges and intends to continue to manage the Company accordingly.
LIQUIDITY AND CAPITAL RESOURCES
The Company's primary cash-flow requirement involves the funding of loan
production, which is met primarily through external borrowings. The Company has
entered into a 364-day, $670 million warehouse line of credit provided by a
syndicate of unaffiliated banks that expires in July 1999. The credit agreement
includes covenants requiring the Company to maintain (i) a minimum net worth of
$185 million, plus net income subsequent to June 30, 1998, and capital
contributions and minus permitted dividends, (ii) a ratio of total liabilities
to net worth of not more than 8.0 to 1.0, excluding debt incurred pursuant to
gestation and repurchase financing agreements, (iii) its eligibility as a
servicer of Ginnie Mae, FHA, VA, Fannie Mae and Freddie Mac mortgage loans and
(iv) a mortgage servicing rights portfolio with an underlying unpaid
41
42
principal balance of at least $4 billion. The provisions of the agreement also
restrict the Company's ability (i) to pay dividends in any fiscal quarter which
exceed 50% of the Company's net income for the quarter or (ii) to engage
significantly in any type of business unrelated to the mortgage banking
business, the servicing of mortgage loans or equipment leasing.
Additionally, the Company entered into a $200 million, 364-day term
revolving credit facility with a syndicate of unaffiliated banks. An $80 million
portion of the revolver facility converts in July 1999, into a four-year term
loan. The facility is secured by the Company's servicing portfolio designated as
"available-for-sale". A $70 million portion of the revolver facility matures in
July 1999, and is secured by the Company's servicing portfolio designated as
"held-for-sale". A $50 million portion of the revolver facility matures in July
1999, and is secured by a first-priority security interest in receivables on
servicing rights sold. The facility includes covenants identical to those
described above with respect to the warehouse line of credit.
The Company has also entered into a $200 million, 364-day term subprime
revolving credit facility, which expires in July 1999. The facility includes
covenants identical to those described above with respect to the warehouse line
of credit.
The Company was in compliance with the above-mentioned debt covenants at
September 30, 1998. Although management anticipates continued compliance, there
can be no assurance that the Company will be able to comply with the debt
covenants specified for each of these financing agreements. Failure to comply
could result in the loss of the related financing.
RBMG Asset Management Company, Inc. (Asset Management Co.), a
wholly-owned subsidiary of RBMG, Inc., and a bank entered into a master
repurchase agreement dated as of December 11, 1997, pursuant to the terms of
which Asset Management Co. is entitled from time to time to deliver eligible
subprime mortgage loans in an aggregate principal amount of up to $150 million
to a bank. The term of this repurchase agreement is 364 days. As of September
30, 1998 no loans have been sold under this agreement.
The Company has also entered into an uncommitted gestation financing
arrangement. The interest rate on funds borrowed pursuant to the gestation line
is based on a spread over the Federal Funds rate. The gestation line has a
funding limit of $1.2 billion.
The Company entered into a $6.6 million note agreement in May 1997. This
debt is secured by the Company's corporate headquarters. The terms of the
agreement require the Company to make 120 equal monthly principal and interest
payments based upon a fixed interest rate of 8.07%. The note contains covenants
similar to those described above.
RBC has a 364-day $150 million revolving credit facility to provide
financing for its leasing portfolio. The warehouse credit agreement matures in
July 1999, and contains various covenants regarding characteristics of the
collateral and the performance of the leases originated and serviced by RBC and
which restrict RBC's ability to incur debt, encumber assets, other than as
collateral for the facility, sell assets, merge, declare or pay any dividends or
change its corporate by-laws or articles of incorporation.
YEAR 2000
The Company recognizes the need to ensure that its operations will not be
materially adversely impacted by Year 2000 problems. These problems extend to
42
43
business systems and equipment, facilities, infrastructure and services,
non-information technology and the readiness of the Company's business partners.
Failures due to processing errors potentially arising from calculations
and date routines and from non-information technology systems relating to the
Year 2000 date are a known risk. Some of the risks involved with Year 2000
problems are discussed later in this section. The Company is addressing these
risk with special attention being paid to the availability and integrity of its
mortgage production systems, financial systems and related interfaces.
State of Readiness
The Company has reviewed all of its mission critical information
technology and non-information technology systems and the following steps have
already been taken to help ensure that the Company's operations will continue
substantially unaffected by Year 2000 issues. They are:
- - -- Replacement of most production computer hardware, including servers,
desktop PCs and network infrastructure components with Year 2000
compliant systems. This effort is approximately 90% complete as of
September 30, 1998 and is scheduled to be finished during the first
quarter of 1999.
- - -- Implementation of Cybertek's LoanXchange Mortgage Processing System.
This software is designed to replace fourteen non-compliant applications
with an integrated system customized to support the Company's business.
The new system has been certified as Year 2000 compliant and
installation of the primary components is scheduled for the first
quarter of 1999.
- - -- Implementation of a standardized "Gold Desktop" that delivers Year 2000
compliant desktop software to each PC in the Company and offers
significant enhancements, particularly in the areas of reliability and
serviceability. Installation has begun and is scheduled to be
completed during the first quarter of 1999.
- - -- Replacement of PCDOCS, Cogent, General Ledger, Accounts Payable and the
Human Resources systems with Year 2000 compliant systems. Installation
has been completed.
The Company's growth required that it replace or upgrade many of the
Company's systems. This has been ongoing for the past eighteen months. The
Company's management believes that the new systems should resolve a very large
percentage of the Company's Year 2000 issues while providing the added benefit
of enhanced functionality, performance and reliability. The replacement of
existing systems with upgraded systems was not accelerated because of Year 2000
issues.
43
44
Internal Proprietary Programs
The Company currently uses 20 applications that were developed
internally. Fourteen of these should be eliminated with the installation of
LoanXchange and the remaining six are anticipated to be modified for Year 2000
compliance. The Company does not view this as a significant task as all 20
applications combined represent only 175,000 lines of code with 43,000 contained
in the six programs that are scheduled to be modified. It is anticipated that
this work will be completed during the first quarter of 1999.
Laureate Realty
Laureate Realty, the Company's commercial mortgage company, has replaced
most of its hardware and infrastructure components with Year 2000 compliant
hardware. Additionally an upgrade from Version 7 to Version 8 of the McCracken
commercial mortgage servicing system is scheduled to occur in the first quarter
of 1999.
Republic Leasing
Republic Leasing, the Company's small ticket leasing company, uses only
two mission critical systems. One of the systems is Year 2000 compliant and an
upgrade of the other system to a Year 2000 compliant level is scheduled to be
completed during the fourth quarter of 1998.
Meritage Mortgage
Meritage Mortgage, the Company's sub-prime lender, plans to convert to the
LoanXchange system during 1999. Meritage's primary system is Contour, and an
upgrade to Contour's Year 2000 compliant system is also available. Existing
Meritage accounting systems are being eliminated and the functions moved to the
Company's already compliant accounting software.
Third Party Suppliers
The Company currently uses three non-compliant mission critical systems
provided by third parties. Alltel provides the Company's primary loan servicing
system and is the largest vendor of loan servicing systems in the United States.
This system is not Year 2000 compliant but Alltel has an active Year 2000
program underway. Fannie Mae and Freddie Mac also supply software to the Company
for the transmittal of loan information to them. Both entities have Year 2000
projects underway and have expressed high levels of confidence that they will be
completed during the first quarter of 1999. Alltel, Fannie Mae and Freddie Mac
are participating in a testing program run by the Mortgage Banker's Association
of America. The Company is monitoring their progress through this testing
vehicle.
Trading Partners
Connectivity with trading partners is a major issue for many companies,
but of lesser impact for the Company. The Company has only a handful of these
relationships, and in almost every instance its trading partner has provided the
tools, and remains responsible for the Year 2000 issues. Fannie Mae and Freddie
Mac provide most of this software, and as noted above, the Company has a high
confidence level in their Year 2000 programming and testing plans.
44
45
Most loan registration and locking activity between the Company and its
correspondents and brokers is initiated by telephone and fax. Less than 15% is
electronic, and the Company provides that interface through the Internet.
The Company's residential mortgage business is obtained from over 4,000
correspondents and brokers and is not concentrated within a small universe of
these companies. Therefore, the Company is not undertaking a readiness review of
its customers. The Company is, however, enhancing its ability to provide
tracking reports to its customers over the Internet and by mail so it can assist
them in meeting their obligation to provide additional documentation on loans
already purchased by the Company. The Company does not believe that Year 2000
issues should have a material impact on its correspondent and broker
relationships. The Company is also communicating with suppliers, dealers,
financial institutions and others with which it does business to coordinate Year
2000 conversion. The Company does not foresee a material impact to the Company
surrounding the Year 2000 compliance of these external entities.
Ongoing Strategy
The Company is at a stage in its compliance efforts where it has extended
the scope of its compliance activities to include the entire enterprise and the
systems not addressed by the major projects already underway. To this end the
Company has engaged an outside consulting firm to assist in developing a plan
for addressing Year 2000 that should encompass the entire enterprise from both a
business and an information technology perspective.
The Company's approach utilizes an inventory strategy that captures
relevant data about each item with Year 2000 implications. Once the data is
collected, the Company will prioritize the information. By focusing on the most
critical systems first, the Company expects to report significant progress on
the major systems substantially in advance of January 1, 2000.
Financial Impact
Direct costs associated exclusively with achieving Year 2000 compliance
are expected to be between $0.5 and $1 million dollars and will be paid out of
cash flow. Direct costs associated with the first phase (the assessment phase)
of the Year 2000 effort were approximately $135 thousand through September 30,
1998. The Year 2000 effort is expected to use approximately 5% of information
technology's 1999 budget.
Risks
The costs of the project and the date on which the Company believes it
will complete the Year 2000 modifications are based on management's best
estimates, which were derived utilizing numerous assumptions of future events,
including the continued availability of certain resources and other factors.
However, there can be no guarantee that these estimates will be achieved and
actual results could differ materially from those anticipated. Specific factors
that might cause such material differences include, but are not limited to, the
availability and cost of personnel
45
46
trained in this area, the ability to locate and correct all relevant computer
codes and unforeseen circumstances causing the Company to allocate its resources
elsewhere.
Contingency Planning
As management believes that the LoanXchange conversion will solve most of
the Company's Year 2000 issues, a significant risk is the inability to install
this software, currently scheduled for February, 1999, timely. To prepare for
this contingency the following alternative remedial actions have been developed:
- - -- To eliminate the non-compliant wholesale branch system the Company has
created an Internet transaction system that the Company intends to
begin using in the fourth quarter of 1998 to register and lock loans. A
back up third party system for generating closing documents is already
available in all offices. The combination of these two actions should
allow the Company to function without its current branch system or
LoanXchange.
- - -- Plans to install the Year 2000 compliant Contour system at Meritage
have been formulated and should be implemented as an interim step prior
to LoanXchange. This will provide a Year 2000 compliant system should
LoanXchange be delayed for Meritage.
- - -- The 14 internal programs being eliminated by LoanXchange represent only
132,000 lines of code. The Company has tested the applications and
identified the Year 2000 issues with each of the applications. Analysis
indicates that the applications could be made Year 2000 complaint with
minimal effort. Should LoanXchange installation be delayed materially
beyond the planned February 1999 installations, the Company intends to
undertake that action as necessary.
The Company is in the process of assessing what is its most likely worst
case scenario. Failure by either the Company or third parties to achieve Year
2000 compliance could cause short-term operational inconveniences and
inefficiencies for the Company. This may temporarily divert management's time
and attention from ordinary business activities. To the extent reasonably
achievable, the Company will seek to prevent or mitigate the efforts of such
possible failures through its contingency planning efforts. With the delivery
and testing of LoanXchange scheduled for the fourth quarter of 1998, the Company
feels sufficient time exists to execute the contingency plan.
Significant work has been accomplished to date on Year 2000 compliance as
part of the Company's aggressive growth and planned implementation of technology
to support the growth. The Company will continue its compliance efforts in both
the information systems area as well in the peripheral areas and non-information
technology that have potential impact on the Company's continuing operation.
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47
Part II. OTHER INFORMATION
Item 6. - Exhibits and Reports on Form 8-K
- (a) A list of exhibits filed with this Form 10-Q, along with the
exhibit index can be found on pages A to E following the
signature page.
- (b) none
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48
Pursuant to the requirements of the Securities Exchange Act of 1934, the
Registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
RESOURCE BANCSHARES MORTGAGE GROUP, INC.
(Registrant)
/s/ Steven F. Herbert
-------------------------------------------
Steven F. Herbert
Senior Executive Vice President and
Chief Financial Officer
(signing in the capacity of (i) duly
authorized officer of the registrant and
(ii) principal financial officer of the
registrant)
DATED: November 15, 1998
48
49
INDEX TO EXHIBITS
Exhibit No. Description Page
- - ----------- ----------- ----
3.1 Restated Certificate of Incorporation of the Registrant incorporated by reference to *
Exhibit 3.3 of the Registrant's Registration No. 33-53980
3.2 Certificate of Amendment of Certificate of Incorporation of the Registrant *
incorporated by reference to Exhibit 3.2 of the Registrant's Annual Report
on Form 10-K for the year ended December 31, 1997
3.3 Certificate of Designation of the Preferred Stock of the Registrant *
incorporated by reference to Exhibit 4.1 of the Registrant's Form 8-A
filed on February 8, 1998
3.4 Amended and Restated Bylaws of the Registrant incorporated by reference to *
Exhibit 3.4 of the Registrant's Registration No. 33-53980
4.1 Specimen Certificate of Registrant's Common Stock incorporated by *
reference to Exhibit 4.1 of the Registrant's Registration No. 33-53980
4.2 Rights Agreement dated as of February 6, 1998 between the Registrant and First Chicago *
Trust Company of New York incorporated by reference to Exhibit 4.1 of the Registrant's
Form 8-A filed on February 8, 1998
4.3 Third Amended and Restated Secured Revolving/Term Credit Agreement dated as of July ___
28, 1998, between the Registrant and the Banks Listed on the Signature Pages Thereof,
Bank One, Texas, National Association, First Bank National Association, NationsBank of
Texas, N.A. and Texas Commerce Bank, National Association, as Co-agents and the
Bank of New York as Agent and Collateral Agent
4.4 Second Amended and Restated Revolving/Term Security and Collateral Agency Agreement *
dated as of July 31, 1996, between the Registrant and The Bank of New York as Collateral
Agent and Secured Party incorporated by reference to Exhibit 4.3 of the Registrant's Form
10-Q for the period ended September 30, 1996
4.5 Amendment No. 1 dated as of July 28, 1998 to Second Amended and Restated ___
Revolving/Term Security and Collateral Agency Agreement dated as of
July 31, 1996, among the Registrant, the Banks and Co-Agents named therein
and The Bank of New York as Collateral Agent
10.1 Employment Agreement dated June 3, 1993, between the Registrant and *
David W. Johnson, Jr. as amended by amendment dated October 22, 1993
incorporated by reference to Exhibit 10.1 of the Registrant's Annual Report on
Form 10-K for the year ended December 31, 1993
10.2 Office Building Lease dated March 8, 1991, as amended by Modification of Office *
Lease dated October 1, 1991, incorporated by reference to Exhibit 10.5 of the Registrant's
Registration No. 33-53980
10.3 Assignment and Assumption of Office Lease incorporated by reference to Exhibit 10.6 *
of the Registrant's Registration No. 33-53980
A
50
Exhibit No. Description Page
- - ----------- ----------- ----
10.4 (A) Stock Option Agreement between the Registrant and David W. Johnson, Jr. *
incorporated by reference to Exhibit 10.8 (A) of the Registrant's Annual Report on
Form 10-K for the year ended December 31, 1993
(B) Stock Option Agreement between the Registrant and Lee E. Shelton *
incorporated by reference to Exhibit 10.8 (B) of the Registrant's Annual
Report on Form 10-K for the year ended December 31, 1993
10.5 Termination Agreement dated June 3, 1993, between the Registrant and *
David W. Johnson, Jr. incorporated by reference to Exhibit 10.9 (A) of the Registrant's
Annual Report on Form 10-K for the year ended December 31, 1993
10.6 (A) Deferred Compensation Agreement dated June 3, 1993, between the Registrant and *
David W. Johnson, Jr. incorporated by reference to Exhibit 10.10 (A) of the Registrant's
Annual Report on Form 10-K for the year ended December 31, 1993
(B) Deferred Compensation Rabbi Trust, for David W. Johnson, dated January *
19, 1994, between RBC and First Union National Bank of North Carolina
incorporated by reference to Exhibit 10.10 (C) of the Registrant's Annual
Report on Form 10-K for the year ended December 31, 1993
10.7 Flexible Benefits Plan incorporated by reference to Exhibit 10.16 of the Registrant's *
Annual Report on Form 10-K for the year ended December 31, 1993
10.8 Section 125 Plan incorporated by reference to Exhibit 10.17 of the Registrant's Annual *
Report on Form 10-K for the year ended December 31, 1993
10.9 Pension Plan incorporated by reference to Exhibit 10.18 of the Registrant's Annual *
Report on Form 10-K for the year ended December 31, 1993
10.10 Governmental Real Estate Sub-Lease-Office, between Resource Bancshares Mortgage *
Group, Inc. and the South Carolina Department of Labor, Licensing and Regulation
incorporated by reference to Exhibit 10.19 of the Registrant's Quarterly Report on
Form 10-Q for the period ended March 31, 1994
10.11 First Sub-Lease Amendment to Governmental Real Estate Sub-Lease-Office, *
between Resource Bancshares Mortgage Group, Inc. and the South Carolina Department
of Labor, Licensing and Regulation incorporated by reference to Exhibit 10.20 of the
Registrant's Quarterly Report on Form 10-Q for the period ended June 30, 1994
10.12 Amendment I to Pension Plan incorporated by reference to Exhibit 10.21 of the Registrant's *
Annual Report on Form 10-K for the year ended December 31, 1994
10.13 Amendment II to Pension Plan incorporated by reference to Exhibit 10.22 of the Registrant's *
Annual Report on Form 10-K for the year ended December 31, 1994
10.14 Resource Bancshares Mortgage Group, Inc. Supplemental Executive Retirement Plan *
incorporated by reference to Exhibit 10.14 of the Registrant's Quarterly Report
on Form 10-Q for the period ended June 30, 1998.
B
51
Exhibit No. Description Page
- - ----------- ----------- ----
10.15 Pension Restoration Plan incorporated by reference to Exhibit 10.25 of the Registrant's *
Annual Report on Form 10-K for the year ended December 31, 1994
10.16 Stock Investment Plan incorporated by reference to Exhibit 4.1 of the Registrant's *
Registration No. 33-87536
10.17 Amendment I to Stock Investment Plan incorporated by reference to Exhibit *
10.27 of the Registrant's Annual Report on Form 10-K for the year ended
December 31, 1994
10.18 Employee Stock Ownership Plan incorporated by reference to Exhibit 10.29 *
of the Registrant's Annual Report on Form 10-K for the year ended December 31, 1994
10.19 Amended Resource Bancshares Mortgage Group, Inc. Successor Employee Stock *
Ownership Trust Agreement dated December 1, 1994, between the Registrant and
Marine Midland Bank incorporated by reference to Exhibit 10.30 of the Registrant's
Annual Report on Form 10-K for the year ended December 31, 1994
10.20 ESOP Loan and Security Agreement dated January 12, 1995, between the Registrant *
and The Resource Bancshares Mortgage Group, Inc. Employee Stock Ownership Trust
incorporated by reference to Exhibit 10.31 of the Registrant's Annual Report on
Form 10-K for the year ended December 31, 1994
10.21 Employment Agreement dated June 30, 1995, between the Registrant and Steven F. Herbert *
incorporated by reference to Exhibit 10.34 of the Registrant's Quarterly Report
on Form 10-Q for the period ended September 30, 1995
10.22 Formula Stock Option Plan incorporated by reference to Exhibit 10.36 of *
the Registrant's Quarterly Report on Form 10-Q for the period ended
September 30, 1995
10.23 Amended and Restated Omnibus Stock Award Plan incorporated by reference to Exhibit 99.10 *
of the Registrant's Registration No. 333-29245 filed on December 1, 1997
10.24 Employment Agreement dated September 25, 1995, between the Registrant and *
Richard M. Duncan incorporated by reference to Exhibit 10.38 of the Registrant's Quarterly
Report on Form 10-Q for the period ended September 30, 1995
10.25 Request for Extension of Governmental Real Estate Sub-Lease-Office, between the Registrant *
and the South Carolina Department of Labor, Licensing and Regulation dated
December 12, 1995 incorporated by reference to Exhibit 10.39 of the Registrant's
Annual Report on Form 10-K for the year ended December 31, 1995
10.26 First Amendment to Employee Stock Ownership Plan dated October 31, 1995 *
incorporated by reference to Exhibit 10.41 of the Registrant's
Annual Report on Form 10-K for the year ended December 31, 1995
10.27 Amendment to Pension Plan effective January 1, 1995 incorporated by reference *
to Exhibit 10.42 of the Registrant's Annual Report on Form 10-K for the year
ended December 31, 1995
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Exhibit No. Description Page
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10.28 Second Amendment to Employee Stock Ownership Plan dated August 12, 1996 *
incorporated by reference to Exhibit 10.45 of the Registrant's Quarterly Report on Form
10-Q for the period ended September 30, 1996
10.29 Resource Bancshares Mortgage Group, Inc. Non-Qualified Stock Option Plan *
dated September 1, 1996 incorporated by reference to Exhibit 10.33 of the Registrant's
Annual Report on Form 10-K for the year ended December 31, 1996
10.30 Amended and Restated Retirement Savings Plan dated April 1, 1996 *
incorporated by reference to Exhibit 10.34 of the Registrant's Annual Report on
Form 10-K for the year ended December 31, 1996
10.31 First Amendment to Amended and Restated Retirement Savings Plan dated as of *
November 8, 1996 incorporated by reference to Exhibit 10.35 of the Registrant's
Annual Report on Form 10-K for the year ended December 31, 1996
10.32 ESOP Loan and Security Agreement dated May 3, 1996, between the Registrant and *
The Resource Bancshares Mortgage Group, Inc. Employee Stock Ownership Trust
incorporated by reference to Exhibit 10.36 of the Registrant's Annual Report on Form
10-K for the year ended December 31, 1996
10.33 Second Amendment to Amended and Restated Retirement Savings Plan dated *
January 1997, incorporated by reference to Exhibit 10.38 of the Registrant's
Quarterly Report on Form 10-Q for the period ended March 31, 1997
10.34 Form of Incentive Stock Option Agreement (Omnibus Stock Award Plan) *
incorporated by reference to Exhibit 10.40 of the Registrant's
Quarterly Report on Form 10-Q for the period ended March 31, 1997
10.35 Form of Non-Qualified Stock Option Agreement (Non-Qualified Stock Option Plan), *
incorporated by reference to Exhibit 10.41 of the Registrant's Quarterly Report
on Form 10-Q for the period ended March 31, 1997
10.36 First Amendment to the Formula Stock Option Plan incorporated by reference to *
Exhibit 99.8 of the Registrant's Registration No. 333-29245 as filed on December 1, 1997
10.37 (A) Agreement of Merger dated April 18, 1997 between Resource Bancshares *
Mortgage Group, Inc., RBC Merger Sub, Inc. and Resource Bancshares Corporation
incorporated by reference to Annex A of the Registrant's Registration No.333-29245
(B) First Amendment to Agreement of Merger dated April 18, 1997 between *
Resource Bancshares Mortgage Group, Inc., RBC Merger Sub, Inc. and
Resource Bancshares Corporation incorporated by reference to Exhibit 10.42
of the Registrant's Quarterly Report on Form 10-Q for the period ended
September 30, 1997
(C) Second Amendment to Agreement of Merger dated April 18, 1997 between *
Resource Bancshares Mortgage Group, Inc., RBC Merger Sub, Inc. and
Resource Bancshares Corporation incorporated by reference to Annex A of
the Registrant's Registration No. 333-29245
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Exhibit No. Description Page
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10.38 (A) Mutual Release and Settlement Agreement between the Registrant, Lee E. Shelton *
and Constance P. Shelton dated January 31, 1997 incorporated by reference to Exhibit
10.44 of the Registrant's Quarterly Report on Form 10-Q for the period ended June 30, 1997
(B) Amendment to Mutual Release and Settlement Agreement between the *
Registrant, Lee E. Shelton and Constance P. Shelton dated January 31,
1997 incorporated by reference to Exhibit 10.44 of the Registrant's
Quarterly Report on Form 10-Q for the period ended September 30, 1997
10.39 Note Agreement between the Registrant and UNUM Life Insurance Company of *
America dated May 16, 1997 incorporated by reference to Exhibit 10.45 of the
Registrant's Quarterly Report on Form 10-Q for the period ended June 30, 1997
10.40 Amendment to Resource Bancshares Mortgage Group, Inc. Omnibus Stock Award Plan, *
Formula Stock Option Plan and Non-Qualified Stock Option Plan as incorporated by
reference to Exhibit 10.42 of the Registrant's Quarterly Report on Form 10-Q
for the period ended March 31, 1997
10.41 Second Amendment to the Non-Qualified Stock Option Agreement dated February 6, 1998 *
incorporated by reference to Exhibit 10.40 of the Registrant's Quarterly Report on Form 10-Q
for the period ended March 31, 1998
10.42 Agreement and Release Form of Non-Qualified Stock Option Agreement incorporated by *
reference to Exhibit 10.41 of the Registrant's Quarterly Report on Form 10-Q for the period
ended March 31, 1998
10.43 Preferred Provider Organization Plan for Retired Executives _____
10.44 First Amendment to Omnibus Stock Award Plan and Form of Incentive Stock Option _____
Agreement and Release to the Omnibus Stock Award Plan
11.1 Statement re: Computation of Net Income per Share _____
27.1 Financial Data Schedule _____
- - ----------------------------------
* Incorporated by reference
E