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SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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FORM 10-Q
[X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
or
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended: March 31, 1999
Commission File Number 000-20841
UGLY DUCKLING CORPORATION
(Exact name of registrant as specified in its charter)
Delaware 86-0721358
(State or other jurisdiction of (I.R.S. employer
incorporation or organization) identification
no.)
2525 E. Camelback Road, Suite 500,
Phoenix, Arizona 85016
(Address of principal executive offices) (Zip Code)
(602) 852-6600
(Registrant's telephone number, including area code)
Indicate by check mark whether the registrant (1) 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 such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days.
[X] Yes [ ] No
---------------
INDICATE THE NUMBER OF SHARES OUTSTANDING OF EACH OF THE ISSUER'S CLASSES OF
COMMON STOCK, AS OF THE LATEST PRACTICABLE DATE:
At May 11, 1999, there were approximately 14,938,600 shares of Common
Stock, $0.001 par value, outstanding.
This document serves both as a resource for analysts, shareholders, and
other interested persons, and as the quarterly report on Form 10-Q of Ugly
Duckling Corporation (Ugly Duckling) to the Securities and Exchange Commission,
which has taken no action to approve or disapprove the report or pass upon its
accuracy or adequacy. Additionally, this document is to be read in conjunction
with the consolidated financial statements and notes thereto included in Ugly
Duckling's Annual Report on Form 10-K, for the year ended December 31, 1998.
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UGLY DUCKLING CORPORATION
FORM 10-Q
TABLE OF CONTENTS
Page
Part I. -- FINANCIAL STATEMENTS
Item 1. FINANCIAL STATEMENTS
Condensed Consolidated Balance Sheets-- March 31, 1999 and December 31, 1998.......................... 1
Condensed Consolidated Statements of Operations-- Three Months Ended March 31, 1999 and March 31, 1998 2
Condensed Consolidated Statements of Cash Flows-- Three Months Ended March 31, 1999 and March 31, 1998 3
Notes to Condensed Consolidated Financial Statements.................................................. 4
Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS.......... 9
Part II.-- OTHER INFORMATION 28
Item 1. LEGAL PROCEEDINGS..............................................................................
Item 2. CHANGES IN SECURITIES.......................................................................... 28
Item 3. DEFAULTS UPON SENIOR SECURITIES................................................................ 28
Item 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS............................................ 28
Item 5. OTHER INFORMATION.............................................................................. 28
Item 6. EXHIBITS AND REPORTS ON FORM 8-K............................................................... 28
SIGNATURES.............................................................................................. 30
Exhibit 10.1 Engagement Letter between Greenwich Capital Markets, Inc.
and Registrant dated March 16, 1999 for Greenwich to Act as Placement Agent
for not less than $300 Million of Securitized Loans
Exhibit 10.2 Commitment Letter between Greenwich Capital Markets, Inc.
and Registrant dated March 17, 1999 with Term Sheet for $100 Million
Revolving Credit Facility
Exhibit 10.3 $20 Million Loan agreement between Greenwich Capital
Financial Products, Inc. and Registrant dated March 18, 1999
Exhibit 10.3(a) Stock Pledge Agreement among Greenwich Capital Financial
Products, Inc., Registrant, and certain related parties, dated March 18,1999
Exhibit 10.4 Amendment to the Amended and Restated Motor Vehicle
Installment Contract Loan and Security Agreement between
General Electric Capital Corporation and Registrant dated
March 25, 1999 regarding Year 2000 date change
Exhibit 11 Statement regarding computation per share earnings (see note 5
of Notes to Condensed Consolidated Financial Statements)
Exhibit 27 Financial Data Schedule
Exhibit 99 Statement Regarding Forward Looking Statements and Risk Factors
ITEM 1.
UGLY DUCKLING CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(In thousands)
March 31, December 31,
1999 1998
----------------- ---------------
ASSETS
Cash and Cash Equivalents $ 4,387 $ 2,751
Finance Recievables, net 237,928 163,209
Notes Receiveable, Net 21,670 28,257
Inventory 39,891 44,167
Property and Equipment, net 34,299 32,970
Intangible Assets, Net 15,256 15,530
Other Assets 22,880 20,575
Net Assets of Discontinued Operations 30,305 38,516
---------- ----------
$ 406,616 $ 345,975
========== ==========
LIABILITIES AND STOCKHOLDERS' EQUITY
Liabilities:
Accounts Payable $ 5,678 $ 2,479
Accrued Expenses and Other Liabilities 30,329 19,694
Notes Payable 171,904 117,294
Subordinated Notes Payable 40,815 43,741
--------- ---------
Total Liabilities: 248,726 183,208
--------- ---------
Stockholders' Equity
Common Stock 19 19
Additional Paid in Capital 173,819 173,809
Retained Earnings 3,869 3,449
Treasury Stock (19,817) (14,510)
--------- ---------
Total Stockholders' Equity 157,890 162,767
--------- ---------
$ 406,616 $ 345,975
========= =========
See accompanying notes to Condensed Consolidated Financial Statements.
Page 1
UGLY DUCKLING CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
Three Months Ended March 31, 1999 and 1998
(In thousands, except earnings per share amounts)
1999 1998
---------- ----------
Sales of Used Cars $106,443 $ 72,973
Less:
Cost of Used Cars Sold 60,097 39,731
Provision for Credit Losses 28,561 15,362
-------- --------
17,785 17,880
-------- --------
Other Income:
Interest Income 14,003 6,205
Gain on Sale of Finance Receivables - 4,614
Servicing and Other Income 9,672 3,912
-------- --------
23,675 14,731
-------- --------
Income before Operating Expenses 41,460 32,611
Operating Expenses:
Selling and Marketing 6,416 4,921
General and Administrative 28,553 18,786
Depreciation and Amortization 2,135 1,173
-------- --------
37,104 24,880
-------- --------
Operating Income 4,356 7,731
Interest Expense 3,656 1,502
-------- --------
Earnings before Income Taxes 700 6,229
Income Taxes 280 2,500
-------- --------
Income from Continuing Operations 420 3,729
Discontinued Operations:
Loss from Operations of Discontinued Operations, net of income
tax benefit of $492 - (768)
Loss on Disposal of Discontinued Operations net of income tax
benefit of $3,024 - (4,827)
-------- --------
Net Earnings (Loss) $ 420 $ (1,866)
======== ========
Earnings per Common Share from Continuing Operations:
Basic $ 0.03 $ 0.20
======== ========
Diluted $ 0.03 $ 0.20
======== ========
Net Earnings (Loss) per Common Share:
Basic $ 0.03 $ (0.10)
======== ========
Diluted $ 0.03 $ (0.10)
======== ========
Shares Used in Computation:
Basic 15,650 18,557
======== ========
Diluted 15,785 19,093
======== ========
Page 2
UGLY DUCKLING CORPORATION AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS
Three Months Ended March 31, 1999 and 1998
(In thousands)
1999 1998
----------- -----------
Cash Flows from Operating Activities:
Net Earnings (Loss) $ 420 $ (1,866)
Adjustments to Reconcile Net Earnings (Loss) to Net Cash Provided
by Operating Activities:
Loss from Discontinued Operations - 5,595
Provision for Credit Losses 28,561 15,362
Purchase of Finance Receivables for Sale - (69,708)
Increase in Deferred Income Taxes (5,188) (2,205)
Depreciation and Amortization 2,135 1,173
Gain on Sale of Finance Receivables - (4,614)
Proceeds from Sale of Finance Receivables - 62,556
Collections of Finance Receivables - 5,935
Decrease in Inventory 4,276 6,914
Decrease in Other Assets 237 1,324
Increase in Accounts Payable, Accrued Expenses and Other 9,911 2,139
Increase in Income Taxes Payable 6,689 793
--------- ----------
Net Cash Provided by Operating Activities 47,041 23,398
--------- ----------
Cash Flows Used in Investing Activities:
Increase in Finance Receivable (137,358) (8,735)
Collections of Finance Receivables 36,319 4,741
Increase in Investments Held in Trust (2,116) (3,543)
Advances under Notes Receivable (3,109) (11,131)
Repayments of Notes Receivable 9,571 4,926
Purchase of Property and Equipment (3,190) (6,640)
--------- ----------
Net Cash Used in Investing Activities (99,883) (20,382)
--------- ----------
Cash Flows from Financing Activities:
Additions to Notes Payable 72,717 45,000
Repayment of Notes Payable (21,538) (31,867)
Proceeds from Issuance of Common Stock 32 202
Acquisition of Treasury Stock (5,307) -
Other, Net 363 223
--------- ----------
Net Cash Provided by Financing Activities 46,267 13,558
--------- ----------
Cash Provided by (Used in) Discontinued Operations 8,211 (19,597)
--------- ----------
Net Increase (Decrease) in Cash and Cash Equivalents 1,636 (3,023)
Cash and Cash Equivalents and Beginning of Period 2,751 3,537
--------- ----------
Cash and Cash Equivalents and End of Period $ 4,387 $ 514
========= ==========
Supplemental Statement of Cash Flows Information:
Interest Paid $ 5,934 $ 2,222
========= ==========
Income Taxes Paid $ - $ 408
========= ==========
See accompanying notes to Condensed Consolidated Financial Statements.
Page 3
UGLY DUCKLING CORPORATION
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(Unaudited)
Note 1. Basis of Presentation
Our accompanying unaudited condensed consolidated financial statements have
been prepared in accordance with generally accepted accounting principles for
interim financial information and pursuant to rules and regulations of the
Securities and Exchange Commission. Accordingly, they do not include all of the
information and footnotes required by generally accepted accounting principles
for a complete financial statement presentation. In our opinion, such unaudited
interim information reflects all adjustments, consisting only of normal
recurring adjustments, necessary to present our financial position and results
of operations for the periods presented. Our results of operations for interim
periods are not necessarily indicative of the results to be expected for a full
fiscal year. Our Condensed Consolidated Balance Sheet as of December 31, 1998
was derived from our audited consolidated financial statements as of that date
but does not include all the information and footnotes required by generally
accepted accounting principles. We suggest that these condensed consolidated
financial statements be read in conjunction with the audited consolidated
financial statements included in our Annual Report on Form 10-K, for the year
ended December 31, 1998.
Note 2. Summary of Finance Receivables
Following is a summary of our Finance Receivables, net, as of March 31, 1999 and
December 31, 1998 (in thousands):
March 31, 1999 December 31, 1998
---------------------------------------- ----------------------------------------
Non Non
Dealership Dealership Dealership Dealership
Operations Operations Total Operations Operations Total
------------- ------------ ------------ ------------ ------------ -------------
Installment Sales Contract Principal Balances $ 182,150 $ 69,053 $ 251,203 $ 93,936 $ 51,282 $ 145,218
Add: Accrued Interest 1,798 765 2,563 877 473 1,350
Loan Origination Costs 3,583 - 3,583 2,237 - 2,237
------------ ------------ ------------ ------------ ------------ ------------
Principal Balances, net 187,531 69,818 257,349 97,050 51,755 148,805
Residuals in Finance Receivables Sold 28,480 2,625 31,105 33,331 2,625 35,956
Investments Held in Trust 22,680 - 22,680 20,564 - 20,564
------------ ------------ ------------ ------------ ------------ ------------
238,691 72,443 311,134 150,945 54,380 205,325
Allowance for Credit Losses (48,628) (2,326) (50,954) (24,777) (2,024) (26,801)
Discount on Acquired Loans - (22,252) (22,252) - (15,315) (15,315)
------------ ------------ ------------ ------------ ------------ ------------
Finance Receivables, net $ 190,063 $ 47,865 $ 237,928 $ 126,168 $ 37,041 $ 163,209
============ ============ ============ ============ ============ ============
Classification:
Finance Receivables Held for Investment $ 123,787 $ 69,053 $ 192,840 $ 26,852 $ 51,282 $ 78,134
Finance Receivables Held as Collateral for
Securitization Note Payable 58,363 - 58,363 67,084 - 67,084
------------ ------------ ------------ ------------ ------------ ------------
$ 182,150 $ 69,053 $ 251,203 $ 93,936 $ 51,282 $ $145,218
============ ============ ============ ============ ============ ============
Page 4
As of March 31, 1999 and December 31, 1998, our Residuals in Finance Receivables
Sold from dealership operations were comprised of the following (in thousands):
March 31, December 31,
1999 1998
------------- ------------
Retained interest in subordinated securities (B Certificates) $ 41,165 $ 51,243
Net interest spreads, less present value discount 19,837 25,838
Reduction for estimated credit losses (32,522) (43,750)
----------- ------------
Residuals in finance receivables sold $ 28,480 $ 33,331
=========== ============
Securitized principal balances outstanding $ 158,890 $ 198,747
=========== ============
Estimated credit losses as a % of securitized principal
balances outstanding 20.5% 22.0%
=========== ============
The following table reflects a summary of activity for our Residuals in
Finance Receivables Sold from dealership operations for the three month periods
ended March 31, 1999 and 1998 (in thousands):
March 31, March 31,
1999 1998
------------ ------------
Balance, Beginning of Period $ 33,331 $ 13,277
Additions - 13,858
Amortization (4,851) (2,394)
------------ ------------
Balance, End of Period $ 28,480 $ 24,741
============ ============
Note 3. Notes Receivable
Our Cygnet dealer program has various notes receivable from used car
dealers. Under Cygnet's asset based loan program, our commitments for revolving
notes receivable totaled $10.2 million at March 31, 1999.
In July 1997, First Merchants Acceptance Corporation (First Merchants) filed
for bankruptcy. Immediately subsequent to the bankruptcy filing, we executed a
loan agreement to provide First Merchants with debtor in possession financing
(DIP facility). The maximum commitment under the DIP facility is $11.5 million
at March 31, 1999. The outstanding balance on the DIP facility totaled $11.1
million and $12.2 million at March 31, 1999 and December 31, 1998.
Following is a summary of Notes Receivable at March 31, 1999 and December
31, 1998 (in thousands):
March 31, December 31,
1999 1998
-------------- -------------
Notes Receivable under the asset based loan program, net of
allowance for doubtful accounts of $167, and $500, respectively $ 7,230 $ 8,311
First Merchants Debtor in Possession Note Receivable 11,062 12,228
First Merchants Bank Group Participation 2,331 6,856
Other Notes Receivable 1,047 862
-------------- ------------
Notes Receivable, net $ 21,670 $ 28,257
============== ============
Page 5
Note 4. Notes Payable
The following is a summary of Notes Payable at March 31, 1999 and December
31, 1998 (in thousands):
March 31, December 31,
1999 1998
----------- ------------
Revolving Facility with GE Capital $ 75,606 $ 51,765
Securitization Note Payable 44,596 49,967
Note Payable Collateralized by the Common Stock of our Securitization Subsidiaries 19,999 12,234
Note Payable Collateralized by Finance Receivables Contracts 28,876 -
Mortgage Loan with Finance Company 3,386 3,386
Others 897 967
------------ ------------
Subtotal 173,360 118,319
Less: Unamortized Loan Fees 1,456 1,025
------------ ------------
Notes Payable $ 171,904 $ 117,294
============ ============
Note 5. Common Stock Equivalents
Net Earnings (Loss) per common share amounts are based on the weighted
average number of common shares and common stock equivalents outstanding for the
three month periods ended March 31, 1999, and 1998 as follows (in thousands,
except for per share amounts):
March 31, March 31,
1999 1998
---------------- ----------------
Income from Continuing Operations $ 420 $ 3,729
================ ================
Net Earnings (Loss) $ 420 $ (1,866)
================ ================
Basic EPS-Weighted Average Shares Outstanding 15,650 18,557
================ ================
Basic Earnings (Loss) Per Share from:
Continuing Operations $ 0.03 $ 0.20
================ ================
Net Earnings (Loss) $ 0.03 $ (0.10)
================ ================
Basic EPS-Weighted Average Shares Outstanding 15,650 18,557
Effect of Diluted Securities:
Warrants - 87
Stock Options 135 449
---------------- ----------------
Dilutive EPS-Weighted Average Shared Outstanding 15,785 19,093
================ ================
Diluted Earnings (Loss) Per Share from:
Continuing Operations $ 0.03 $ 0.20
================ ================
Net Earnings (Loss) $ 0.03 $ (0.10)
================ ================
Warrants Not Included in Diluted EPS Since Antidilutive 1,556 715
================ ================
Stock Options Not Included in Diluted EPS since Antidilutive 1,153 603
================ ================
Note 6. Business Segments
We have two divisions: dealership operations and non-dealership operations.
Within our divisions we have six distinct business segments. Within the
dealership operations division, the segments consist of retail car sales
operations (company dealerships), the income generated from the finance
receivables generated at the Ugly Duckling dealerships and corporate and other
operations. Under the non-dealership operations division, the segments consist
of the Cygnet dealer program, bulk purchasing and loan servicing, and corporate
and other operations.
Page 6
A summary of operating activity by business segment for the three months
ended March 31, 1999 and 1998 follows (in thousands):
Dealership Operations Non Dealership Operations
-------------------------------------------- ------------------------------------------
Company
Company Dealership Corporate Cygnet Cygnet Loan Corporate
Dealerships Receivables and Other Dealer Servicing and Other Total
----------- ----------- --------- ---------- --------------- ------------- ------------
1999:
Sales of Used Cars $ 106,443 $ - $ - $ - $ - $ - $ 106,443
Less: Cost of Used Cars Sold 60,097 - - - - - 60,097
Provision for Credit Losses 21,893 5,871 - 797 - - 28,561
---------- ----------- --------- ----------- ------------ ------------- ------------
24,453 (5,871) - (797) - - 17,785
---------- ----------- --------- ----------- ------------ ------------- ------------
Interest Income - 10,312 61 3,317 313 - 14,003
Servicing and Other Income 6 2,883 45 47 6,691 - 9,672
---------- ----------- --------- ----------- ------------ ------------- ------------
Income before Operating Expenses 24,459 7,324 106 2,567 7,004 - 41,460
---------- ----------- --------- ----------- ------------ ------------- ------------
Operating Expenses:
Selling and Marketing 6,378 35 3 - 6,416
General and Administrative 11,102 4,590 5,332 963 5,821 745 28,553
Depreciation and Amortization 791 283 521 78 321 141 2,135
---------- ----------- --------- ----------- ------------ ------------- ------------
18,271 4,873 5,853 1,076 6,145 886 37,104
---------- ----------- --------- ----------- ------------ ------------- ------------
Operating Income $ 6,188 $ 2,451 $ (5,747)$ 1,491 $ 859 $ (886) $ 4,356
========== =========== ========= =========== ============ ============= ============
1998:
Sales of Used Cars $ 72,973 $ - $ - $ - $ - $ - $ 72,973
Less: Cost of Used Cars Sold 39,731 - - - - - 39,731
Provision for Credit Losses 15,034 - - 328 - - 15,362
---------- ----------- --------- ----------- ------------ ------------- ------------
18,208 - - (328) - - 17,880
---------- ----------- --------- ----------- ------------ ------------- ------------
Interest Income - 3,816 64 1,598 727 - 6,205
Gain on Sale of Loans - 4,614 - - - - 4,614
Servicing and Other Income 41 3,825 46 - - - 3,912
---------- ----------- --------- ----------- ------------ ------------- ------------
Income before Operating Expenses 18,249 12,255 110 1,270 727 - 32,611
---------- ----------- --------- ----------- ------------ ------------- ------------
Operating Expenses:
Selling and Marketing 4,878 - - 43 - - 4,921
General and Administrative 10,506 4,555 2,619 515 - 591 18,786
Depreciation and Amortization 613 337 201 22 - - 1,173
---------- ----------- --------- ----------- ------------ ------------- ------------
15,997 4,892 2,820 580 - 591 24,880
---------- ----------- --------- ----------- ------------ ------------- ------------
Operating Income $ 2,252 $ 7,363 $ 2,710) $ 690 $ 727 $ (591) $ 7,731
========== =========== ========= =========== ============ ============= ============
Note 7. Discontinued Operations
In February 1998, we announced our intention to close our branch office
network, through which we purchased retail installment contracts from third
party dealers, and exit this line of business. We substantially completed the
branch office closure as of March 31, 1998. We are continuing to negotiate lease
settlements and terminations with respect to our branch office network closure.
As a result of the branch office network closure, we reclassified the results of
operations of the branch office network in the accompanying condensed
consolidated balance sheets and condensed consolidated statements of operations
to discontinued operations.
The components of Net Assets of Discontinued Operations as of March 31,
1999 and December 31, 1998 follow (in thousands):
March 31, December 31,
1999 1998
---------------- ----------------
Finance Receivables, net $ 24,282 $ 30,649
Residuals in Finance Receivables Sold 6,052 7,875
Investments Held in Trust 2,971 3,665
Disposal Liability (3,000) (3,673)
---------------- ----------------
Net Assets of Discontinued Operations $ 30,305 $ 38,516
================ ================
Page 7
Note 8. Use of Estimates
The preparation of our consolidated financial statements requires us to make
estimates and assumptions that affect the reported amount of assets and
liabilities and disclosure of contingent assets and liabilities at the date of
the financial statement and the reported amounts of revenues and expenses during
the reporting period.
Actual results could differ from our estimates.
Note 9. Certain Bankruptcy Remote Entities
Ugly Duckling Receivables Corporation ("UDRC") and Ugly Duckling Receivables
Corporation II ("UDRC II") (collectively referred to as "Securitization
Subsidiaries"), are our wholly-owned special purpose "bankruptcy remote
entities." Their assets, including assets classified as Discontinued Operations,
include Residuals in Finance Receivables Sold and Investments Held In Trust, in
the amounts of approximately $34.5 million and $25.6 million, respectively, at
March 31, 1999. These amounts would not be available to satisfy claims of our
creditors on a consolidated basis.
Note 10. Reclassifications
We have made certain reclassifications to previously reported information to
conform to the current presentation.
Page 8
ITEM 2.
MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
Our Quarterly Report on Form 10-Q contains forward looking statements. We
may make additional written or oral forward looking statements from time to time
in filings with the Securities and Exchange Commission or otherwise. Such
forward looking statements are within the meaning of that term in Section 27A of
the Securities Act of 1933, as amended, and Section 21E of the Securities
Exchange Act of 1934, as amended. Such statements may include, but are not
limited to, projections of revenues, income, or loss, capital expenditures,
plans for future operations, financing needs or plans, and plans relating to our
products or services, as well as assumptions relating to the foregoing. The
words "believe," "expect," "intend," "anticipate," "estimate," "project," and
similar expressions identify forward looking statements, which speak only as of
the date the statement was made. Forward looking statements are inherently
subject to risks and uncertainties, some of which cannot be predicted or
quantified. Future events and actual results could differ materially from those
set forth in, contemplated by, or underlying the forward looking statements. We
undertake no obligation to publicly update or revise any forward looking
statements, whether as a result of new information, future events, or otherwise.
Statements in this Quarterly Report, including the Notes to the Condensed
Consolidated Financial Statements and "Management's Discussion and Analysis of
Financial Condition and Results of Operations," describe factors, among others,
that could contribute to or cause such differences. Additional risk factors that
could cause actual results to differ materially from those expressed in such
forward looking statements are set forth in Exhibit 99 which is attached hereto
and incorporated by reference into this Quarterly Report on Form 10-Q.
Introduction
General. We operate the largest chain of buy here-pay here used car
dealerships in the United States. We sell and finance our used vehicles to
customers within the sub-prime segment of the used car market. Our customers
will typically have limited credit histories, low incomes or past credit
problems. At March 31, 1999, we operated 58 dealerships located in several large
markets, including Los Angeles, Atlanta, Tampa, San Antonio, Phoenix and Dallas.
In addition to our dealership and financing operations, we also
o provide financing to other independent used car dealers through our
Cygnet dealer program,
o service and collect large portfolios of finance receivablesowned by
others, and
o manage selected financial assets that we acquire from financially
distressed third parties.
From 1994 through the first quarter of 1998, we maintained a national branch
office network that acquired and serviced retail installment contracts from
numerous independent third party dealers. We discontinued these operations in
1998.
Below is a summary of our businesses by division and their related segments:
[OBJECT OMITTED]
The chart above shows Ugly Duckling with two operating divisions. Dealership
operations is the first division. Dealership operations has three distinct
segments. Retail sales is its first segment. This is the segment that operates
our chain of Ugly Duckling Car Sales dealerships. Portfolio and loan servicing
is the second segment of dealership operations. This segment holds and services
the loan portfolios originated or acquired by our dealership operations.
Page 9
Finally, dealership operations has an administration segment that provides
corporate administration to the division. Our non-dealership operations division
also contains three segments. The first non-dealership operations segment is the
bulk purchasing/loan servicing segment. In this segment, we acquire loan
portfolios from third parties and provide loan servicing for third parties. The
second segment of non-dealership operations is the Cygnet dealer program under
which we provide various credit facilities to independent used car dealers.
Finally, the non-dealership operations also have an administration segment that
provides corporate administration to the non-dealership operations. Last, the
chart shows our discontinued operations, which contains our branch office
network that we closed in February 1998 and the loans we acquired through that
network.
Company Dealership Operations
We commenced dealership operations in 1992 with the acquisition of two
dealerships in Arizona, and have expanded aggressively since then through a
combination of acquisitions and development of new stores. Our most significant
growth occurred in 1997, when
o we acquired from Seminole Finance, Inc. and related companies
(Seminole), four dealerships in Tampa/St. Petersburg and a contract
portfolio of approximately $31.1 million;
o we purchased from E-Z Plan, Inc. (E-Z Plan), seven dealerships in San
Antonio and a contract portfolio of approximately $24.3 million;
o we purchased from Kars-Yes Holdings, Inc. and related companies
(Kars), six dealerships in the Los Angeles market, two in the Miami
market, two in the Atlanta market, and two in the Dallas market; and
o we opened our first used car dealership in the Las Vegas market, two
additional dealerships in the Albuquerque market and one additional
dealership in the Phoenix market. We also closed a dealership in
Arizona.
We continued our aggressive growth in 1998, adding 17 new dealerships in our
existing markets. We opened one dealership in the Albuquerque market, four
dealerships in the Atlanta market, three dealerships in the Dallas market, two
dealerships in the Los Angeles market, two dealerships in the Phoenix market,
two dealerships in the San Antonio market, and three dealerships in the Tampa
market. We also closed two dealerships in Miami and exited that market. We had a
total of 56 dealerships in operation at December 31, 1998.
In the first quarter of 1999, we added a dealership in the Tampa and Dallas
markets, which brought our total number of dealerships to 58. The following
table summarizes the number of stores we had in operation by major market as of
March 31, 1999, and each of the last three years ended December 31, 1998:
Number of Stores by Market
----------------------------------------------------------------
March 31, December 31,
--------------- -------------------------------
1999 1998 1997 1996
---------- --------- --------- ---------
Phoenix 9 9 7 5
San Antonio 9 9 7 -
Atlanta 9 9 5 -
Los Angeles 8 8 6 -
Tampa 9 8 5 -
Dallas 7 6 3 -
Tucson 3 3 3 3
Albuquerque 3 3 2 -
Las Vegas 1 1 1 -
Miami - - 2 -
--------- --------- --------- ---------
58 56 41 8
========= ========= ========= =========
Non-Dealership Operations
Cygnet Dealer Program. In 1997 we began operating the Cygnet dealer program,
which provides qualified dealers with warehouse purchase facilities and
revolving lines of credit primarily secured by the dealers' finance receivable
portfolios. We extend credit facilities that are subject to various collateral
coverage ratios, maximum advance rates, and performance measurements, depending
on the financial condition of the dealer and the quality of the finance
receivables originated. The dealer remains responsible for collection of finance
receivable payments and retains control of the customer relationship. As a
condition to providing financing, each dealer is required to satisfy certain
criteria to qualify for the program, report collection activities to us on a
daily basis and provide us with periodic financial statements. In addition, our
dealers are "audited" by our audit department on a periodic basis.
Bulk Purchasing and Loan Servicing Operations. We have entered into several
large servicing and/or bulk purchasing transactions involving third party dealer
contract portfolios. Under these transactions, we have acquired loan portfolios
or participation interests in loan portfolios that we also service. During April
1999, we decided to close our loan servicing facility in Nashville, Tennessee,
and consolidate all of our loan servicing operations in our two remaining
facilities, which are located in Aurora, Colorado and Plano, Texas.
Page 10
In April 1998, we announced that our Board of Directors had directed our
management team to separate our dealership operations and non-dealership
operations into separate, publicly held companies. Our stockholders approved a
proposal to split-up the company through a rights offering at the annual
stockholders meeting held in August 1998. Due to a lack of stockholder interest,
however, we canceled the rights offering. In the first quarter of 1999, we
discontinued efforts to sell or spin off the Cygnet dealer program and bulk
purchasing and loan servicing operations.
Discontinued Operations
In 1994, we acquired Champion Financial Services, Inc., an independent
automobile finance company. In April 1995, we initiated an aggressive plan to
expand Champion's branch office network and, by December 31, 1997, we operated
83 branch offices across the country. In February 1998, we announced our
intention to close the branch office network and exit this line of business in
the first quarter of 1998. We recorded a pre-tax charge to discontinued
operations totaling approximately $9.1 million (approximately $5.6 million, net
of income taxes) during the first quarter of 1998. In addition, a $6.0 million
charge (approximately $3.6 million, net of income taxes) was taken during the
third quarter of 1998 due primarily to higher than anticipated loan losses and
servicing expenses. The branch office closure was substantially complete by the
end of the first quarter of 1998.
In the following discussion and analysis we explain the general financial
condition and the results of operations of Ugly Duckling and its subsidiaries.
In particular, we analyze and explain the changes in the results of operations
of our various business segments for the first quarter of 1999 compared to the
first quarter of 1998.
Results of Operations for the Three Months Ended March 31, 1999 and 1998
Income items in our Statement of Operations consist of:
o Sales of Used Cars
less Cost of Used Cars Sold
less Provision for Credit Losses
o Interest Income
o Gain on Sale of Loans
o Servicing and Other Income
Page 11
Sales of Used Cars and Cost of Used Cars Sold
Three Months Ended March 31,
(dollars in thousands)
1999 1998
----------- ----------
Used Cars Sold (Units) 12,754 9,439
=========== ==========
Sales of Used Cars $ 106,443 $ 72,973
Cost of Used Cars Sold 60,097 39,731
----------- ----------
Gross Margin $ 46,346 $ 33,242
=========== ==========
Gross Margin % 43.5% 45.6%
=========== ==========
Per Unit Sold:
Sales of Used Cars $ 8,346 $ 7,731
Cost of Used Cars Sold 4,712 4,209
----------- ----------
Gross Margin $ 3,634 $ 3,522
=========== ==========
The number of cars we sold (units) increased by 35.1% for the three months
ended March 31, 1999 over the same period in 1998. Same store unit sales for the
three months ended March 31, 1999 increased 5.0 % compared to the three month
period ended March 31, 1998. The increase in our same store unit sales was
primarily a result of the maturation of stores purchased or opened in late 1997.
We anticipate future revenue growth will come from increasing the number of our
dealerships and not from higher sales volumes at existing dealerships.
Our Used Car Sales revenues increased by 45.9% for the three ended March 31,
1999 over the same period ended March 31, 1998. The growth for these periods
reflects increases in the number of dealerships in operation and the average
unit sales price. The Cost of Used Cars Sold increased by 51.3% for the three
months ended March 31, 1999 over the same period ended March 31, 1998. The gross
margin on used car sales (Sales of Used Cars less Cost of Used Cars Sold
excluding Provision for Credit Losses) increased by 39.4% for the three months
ended March 31, 1999 over the same period ended March 31, 1998. The gross margin
per car sold for the first quarter of 1999 is comparable to the first quarter of
1998.
Our average sales price per car increased by 8.0% for the three months ended
March 31, 1999 over the three months ended March 31, 1998. The increase in the
average sales price was necessary to offset the increase in the Cost of Used
Cars Sold. On a per unit basis, the Cost of Used Cars Sold increased by 12.0%
for the three months ended March 31, 1999 over the three months ended March 31,
1998. The increase in our average cost per used car sold is primarily due to an
increase in the direct cost of the cars we acquire and re-sell.
Page 12
Provision for Credit Losses
We record provisions for credit losses in our dealership operations and our
non-dealership operations.
Dealership Operations. Following is a summary of the Provision for Credit
Losses from our dealership operations:
Three Months Ended
March 31,
1999 1998
------------- ------------
Provision for Credit Losses (in thousands) $27,764 $15,034
============= ============
Provision per contact originated $2,198 $1,610
============= ============
Provision as a percentage of
principal balances originated 27.0% 21.6%
============= ============
The Provision for Credit Losses in our dealership operations increased by
84.7% in the three months ended March 31, 1999 over the three months ended March
31, 1998. The Provision for Credit Losses per unit originated at our dealerships
increased by $588 or 36.5% in the three months ended March 31, 1999 over the
three months ended March 31, 1998. When we changed how we structure
securitizations for accounting purposes in the fourth quarter of 1998, we also
changed the timing of providing for credit losses. For periods prior to the
fourth quarter of 1998, we generally provided a Provision for Credit Losses of
approximately 21% of the loan principal balance at the time of origination to
record the loan at the lower of cost or market. However, as a consequence of our
revised securitization structure, we will now be retaining securitized loans on
our balance sheet for accounting purposes and recognizing income over the life
of the contracts. We record the provision for credit losses at 27% of the
principal balance at the time of origination.
Non-Dealership Operations. The provision for credit losses in our
non-dealership operations increased by 143.0% to $797,000 in the three months
ended March 31, 1999 from $328,000 in the three months ended March 31, 1998. The
increase was primarily due to the significant increase in loans under the Cygnet
dealer program.
See also "Allowance for Credit Losses" below.
Interest Income
We generate Interest Income from both our dealership operations and our
non-dealership operations.
Dealership Operations. Interest Income consists primarily of interest on
finance receivables from our dealership sales and income from Residuals in
Finance Receivables Sold from our Securitized Contract Sales (defined below).
Interest Income increased by 167.3% to $10.4 million for the three months ended
March 31, 1999 from $6.5 million for the three months ended March 31, 1998. The
increase was primarily due to the increase in the average finance receivables
retained on our balance sheet. Because we structured most of our securitizations
to recognize income as sales for accounting purposes prior to 1999, there were
fewer receivables retained on our balance sheet and Interest Income was lower in
these periods. See "Securitizations-Dealership Operations" below for additional
discussion of our securitization transactions and our on balance sheet
portfolio.
A primary element of our sales strategy is to provide financing to our
customers, almost all of whom are sub-prime borrowers. As summarized in the
following table, we continue to increase the percentage of sales revenue
financed, and the number of units sold and financed.
Three Months Ended March 31,
1999 1998
------------ ---------
Percentage of sales revenue financed 96.5% 95.5%
Percentage of sales units financed 99.1% 98.9%
Page 13
As a result of our expansion into markets with interest rate limits,
the yield on our dealership receivable contracts has gone down. The average
effective yield on finance receivables from our dealerships was approximately
25.3% for the three months ended March 31, 1999 and 26.0% for the three months
ended March 31, 1998. Our policy is to charge 29.9% per year on our dealership
contracts. However, in those states that impose interest rate limits, such as
Texas and Florida, we charge the maximum interest rate permitted.
Non-Dealership Operations. In our non-dealership operations, we generate
interest income primarily from our Cygnet dealer program and from a loan we made
to First Merchants as part of its bankruptcy proceedings. Interest Income from
the First Merchants transaction decreased by 56.9% to $313,000 for the three
months ended March 31, 1999 from $727,000 for the three months ended March 31,
1998. Interest Income from the Cygnet dealer program increased by 107.6% to $3.3
million for the three months ended March 31, 1999 from $1.6 million for the
three months ended March 31, 1998. The increase in interest income in the Cygnet
dealer program reflects a significant increase in the amount of loans
outstanding during the three months ended March 31, 1999 compared to the three
months ended March 31, 1998.
Gain on Sale of Loans
Dealership Operations. The gain on sale of finance receivables we have
recorded prior to the fourth quarter of 1998 was generated from securitizations
that were structured as sale transactions (Securitization Contract Sales).
During the fourth quarter of 1998, we began structuring our securitization
transactions as Securitized Borrowings (defined below) for accounting purposes
instead of sales transactions and, therefore, we will not recognize gains on the
sale of loans from securitization transactions in the future. We recorded Gains
on Sale of Loans related to securitized contract sales of zero for the three
months ended March 31, 1999 and $4.6 million during the three months ended March
31, 1998. See "Securitizations-Dealership Operations" below for a summary of the
structure of our securitizations.
Servicing and Other Income
We generate Servicing and Other Income from both our dealership operations
and our non-dealership operations. A summary of Servicing and Other Income
follows for the three months ending March 31, 1999 and 1998 (in thousands):
Dealership Non-Dealership
Operations Operations Total
--------------- -------------- ------------
March 31, 1999 $ 2,934 $ 6,738 $ 9,672
=============== ============== ============
March 31, 1998 $ 3,912 $ - $ 3,912
=============== ============== ============
Dealership Operations. Servicing and Other Income decreased by 25.0% to
$2.9 million in the three months ended March 31, 1999 compared to the $3.9
million recognized in the three months ended March 31, 1998. We service the
securitized contracts that were included in the Securitized Contract Sales
transactions for monthly fees ranging from .25% to .33% of the beginning of
month principal balances (3.0% to 4.0% per year). We do not, however, recognize
service fee income on the contracts included in our Securitized Borrowings. The
significant decrease in Servicing and Other Income is primarily due to the
decrease in the principal balance of (1) contracts being serviced under the
previous securitization structure and (2) a portfolio we service on behalf of a
third party. We anticipate that our future Servicing and Other Income will
decline as the principal balance of the contracts serviced under the Securitized
Contract Sales agreements and the third party portfolio will continue to
decrease.
Page 14
Non-Dealership Operations. Our Service Fee and Other Income in the first
quarter 1999 totaled $6.7 million. Our servicing fee is generally a percentage
of the portfolio balance (generally 3.25% to 4.0% per year) with a minimum fee
per loan serviced (generally $14 to $17 per month). Our service fee income is
tied to the contract principal dollars and units that we service and will
continue to decline, subject to the incentive compensation discussed below,
unless we increase the number and amount of contracts we are servicing. We have
not entered into any loan servicing agreements thus far in 1999 and expect that
our service fee income will continue to decline as the principal balances of the
portfolios that we are currently servicing decrease. We did not recognize any
servicing income in the first quarter 1998, as we did not begin servicing loans
in our non-dealership operations until April 1998.
Our non-dealership operations have entered into servicing agreements with
two companies that have filed and subsequently emerged from bankruptcy and
continue to operate under their approved plans of reorganization. Under the
terms of the respective servicing agreements and approved plans of
reorganization, once certain creditors of the bankrupt companies have been paid
in full, we are entitled to certain incentive compensation in excess of the
servicing fees that we have earned to date. As of March 31, 1999, we estimate
that the total incentive compensation from both agreements could range from $0
to $8.0 million. We have not accrued any fee income from these incentives.
Income before Operating Expenses
As a result of our continued expansion, Income before Operating Expenses
grew by 27.1% to $41.5 million for the three months ended March 31, 1999 from
$32.6 million for the three months ended March 31, 1998. Growth of Sales of Used
Cars, Interest Income, and Servicing and Other Income were the primary
contributors to the increase.
Operating Expenses
Operating Expenses consist of:
o Selling and Marketing Expenses,
o General and Administrative Expenses, and
o Depreciation and Amortization.
Page 15
A summary of operating expenses for our business segments for the three
months ended March 31, 1999 and 1998 follows (in thousands):
Dealership Operations Non-Dealership Operations
------------------------------------ -----------------------------------
Company
Company Dealership Corporate Cygnet Cygnet Loan Corporate
Dealerships Receivables and Other Dealer Servicing and Other Total
----------------------------------------------------------------------------------------
1999:
Selling and Marketing $ 6,378 $ - $ - $ 35 $ 3 $ - $ 6,416
General and Administrative 11,102 4,590 5,332 963 5,821 745 28,553
Depreciation and Amortization 791 283 521 78 321 141 2,135
========= ======== ======= ======= ======= ====== ========
$ 18,271 $ 4,873 $5,853 $1,076 $6,145 $ 886 $37,104
========= ======== ======= ======= ======= ====== ========
1998:
Selling and Marketing $ 4,878 $ - $ - $ 43 $ - $ - $ 4,921
General and Administrative 10,506 4,555 2,619 515 - 591 18,786
Depreciation and Amortization 613 337 201 22 - - 1,173
========= ======== ======= ======= ======= ====== ========
$ 15,997 $ 4,892 $2,820 $ 580 $ - $ 591 $24,880
========= ======== ======= ======= ======= ====== ========
Selling and Marketing Expenses. A summary of Selling and Marketing
Expense as a percentage of Sales of Used Cars and Selling and Marketing Expense
per car sold from our dealership operations follows:
1999 1998
-------- -------
Selling and Marketing Expense as a
Percent of Sales of Used Cars 6.0% 6.7%
======== =======
Selling and Marketing Expense
per Car Sold $ 500 $ 517
======== =======
For the three months ended March 31, 1999 and 1998, Selling and Marketing
Expenses consisted almost entirely of advertising costs and commissions relating
to our dealership operations. Selling and Marketing Expenses increased by 30.8%
to $6.4 million for the three months ended March 31, 1999 from $4.9 million for
the three months ended March 31, 1998. The decrease in Selling and Marketing
Expense as a percentage of Sales of Used Cars and on a per unit basis from 1998
to 1999 is due to the significant increase in the number of cars sold in 1999
compared to 1998 and an increase in the selling price of units sold and
management's decision to reduce expenditures for advertising on a per car basis.
General and Administrative Expenses. General and Administrative Expenses
increased by 52.0% to $28.6 million for the three months ended March 31, 1999
from $18.8 million for the three months ended March 31, 1998. The increase in
General and Administrative Expenses was primarily a result of the addition of
our bulk purchasing and loan servicing operations, the expansion of
infrastructure to administer the increased number of used car dealerships in
operation, and the growth of the Cygnet dealer program.
Depreciation and Amortization. Depreciation and Amortization consists of
depreciation and amortization on our property and equipment and amortization of
goodwill and trademarks. Depreciation and amortization increased by 82.0% to
$2.1 million for the three months ended March 31, 1999 from $1.2 million for the
three months ended March 31, 1998. The increase in 1999 was primarily due to
depreciation from our non-dealership operations and an increase in software
amortization of our investment in our integrated car sales and loan servicing
system.
Interest Expense
Interest expense increased by 143.4% to $3.7 million for the three months
ended March 31, 1999 from $1.5 million for the three months ended March 31,
1998. The increase in the first quarter of 1999 was primarily due to increased
borrowings under our Securitization Note Payable, Notes Payable and Subordinated
Notes Payable. The increased borrowings were used primarily to fund the
increases in Finance Receivables in our dealership operations and Cygnet dealer.
Page 16
Income Taxes
Income taxes totaled $280,000 for the three months ended March 31, 1999, and
$2.5 million for the three months ended March 31, 1998. Our effective tax rate
was 40.0% for the three months ended March 31, 1999 and 40.1% for the three
months ended March 31, 1998.
Discontinued Operations
We recorded a pre-tax charge to discontinued operations totaling
approximately $9.1 million (approximately $5.6 million, net of income taxes)
during the first quarter of 1998 related to the closure of our branch office
network. In addition, we recorded a $6.0 million charge (approximately $3.6
million, net of income taxes) during the third quarter of 1998 due primarily to
higher than anticipated loan losses and servicing expenses. The charges we
recorded to Discontinued Operations represent the total estimated net loss we
expect to realize from the branch office network closure. As a result, there was
no income or loss from Discontinued Operations for the three months ended March
31, 1999.
Financial Position
Total assets increased by 17.5% to $406.6 million at March 31, 1999 from
$346.0 million at December 31, 1998. The increase was due primarily to an
increase in Finance Receivables of $74.7 million to $237.9 million at March 31,
1999 from $163.2 million at December 31, 1998. Our dealership operations'
Finance Receivables increased approximately $63.9 million and our non-dealership
operations' Finance Receivables increased approximately $10.8 million primarily
as a result of growth of the Cygnet dealer program.
We financed the increases in assets primarily through additional borrowings,
represented by increases in Notes Payable. Notes Payable increased by $54.6
million to $171.9 million at March 31, 1999 from $117.3 million at December 31,
1998. We obtained a $30 million repurchase facility in the first quarter of
1999, which resulted in the increase in Collateralized Notes Payable. The
increase in our Notes Payable is attributable to an increase in the balance of
our revolving line of credit, which totaled approximately $75.6 million at March
31, 1999, compared to $51.8 million at December 31, 1998.
Growth in Finance Receivables. As a result of our continued expansion,
contract receivables managed by our dealership operations have continued to
increase. The following table reflects the growth in period end balances of our
dealership operations measured in terms of the principal amount and the number
of contracts outstanding.
Total Contracts Outstanding - Dealership Operations
(In thousands, except number of contracts)
March 31, 1999 December 31, 1998
--------------------------------- ----------------------------------
Principal Number of Principal Number of
Amount Contracts Amount Contracts
--------------------------------- ----------------------------------
Managed Portfolio $ 341,040 56,333 $ 292,683 49,601
Less: Portfolios Securitized and Sold 158,890 28,409 198,747 37,186
--------------------------------- ----------------------------------
Total Retained Principal $ 182,150 27,924 $ 93,936 12,415
================================= ==================================
In addition to the loan portfolio summarized above, the Company also
services loan portfolios totaling approximately $92.1 million ($36.1 million for
Kars and $56.0 million from branch office originations) as of March 31, 1999 and
$121.2 million ($47.9 million for Kars and $73.3 million from branch office
originations) as of December 31, 1998.
The following table reflects the growth in contract originations measured in
terms of the principal amount and the number of contracts.
Page 17
Total Contracts Originated/Purchased - Dealership Operations:
(In Thousands, Except Number of Contracts and Average Principal)
Three Months Ending March 31,
1999 1998
--------------- ---------------------
Principal Amount $ 102,733 $ 69,708
Number of Contracts 12,634 9,339
Average Principal $ 8,131 $ 7,464
Finance Receivable principal balances generated or acquired by our
dealership operations during the three months ended March 31, 1999 increased by
47.4% to $102.7 million from $69.7 million for the three months ended March 31,
1998. The increase in average principal financed is due to the increase in our
average sales price per car sold.
Our non-dealership operations began servicing loans on behalf of First
Merchants in April 1998, and began servicing additional loan portfolios on
behalf of other third parties throughout 1998. At March 31, 1999 our
non-dealership bulk purchasing/loan servicing operations were servicing a total
of approximately $480.0 million in finance receivables (approximately 70,000
contracts) compared to $587.3 million in finance receivables (approximately
80,000 contracts) at December 31, 1998.
Cygnet dealer's net investment in finance receivables purchased from two
third party dealers totaled approximately $16.3 million representing
approximately 30.1% of Cygnet dealer's net finance receivables portfolio as of
March 31, 1999. We did not have any other third party dealer loans that exceeded
10% of our Cygnet dealer finance receivable portfolio as of March 31, 1999.
Allowance for Credit Losses
We have established an Allowance for Credit Losses (Allowance) to cover
inherent credit losses on the contracts currently in our portfolio. We
established the Allowance by recording an expense through the Provision for
Credit Losses.
For Finance Receivables generated at our dealerships, our policy is to
charge off a contract the earlier of:
o when we believe it is uncollectible, or
o when it is delinquent for more than 90 days.
The following table reflects activity in the Allowance of our dealership
operations, as well as information regarding charge off activity for the three
months ended March 31, 1999 and 1998, in thousands.
1999 1998
------------------ -----------------
Allowance Activity:
Balance, Beginning of Period $ 24,777 $ 10,356
Provision for Credit Losses 27,764 15,034
Reduction Attributable to Loans Sold - (17,090)
Net Charge Offs (3,913) (2,147)
------------------ -----------------
Balance, End of Period $ 48,628 $ 6,153
================== =================
Allowance as a Percent of Period End Balances 26.7% 18.5%
================== =================
Charge off Activity:
Principal Balances $ 5,155 $ 3,197
Recoveries, Net (1,242) (1,050)
------------------ -----------------
Net Charge Offs $ (3,913) $ (2,147)
================== =================
Net Charge Offs as a Percent of Average Principal Outstanding 11.4% 13.1%
================== =================
Average Principal Balance Outstanding $ 137,669 $ 65,567
================== =================
Page 18
The Allowance on contracts from dealership operations was 26.7% of the
outstanding principal balances as of March 31, 1999 and 18.5% of outstanding
principal balances as of March 31, 1998. The increase is due to the change in
the structure to securitized borrowings, which resulted in us retaining the
securitized loans from our fourth quarter securitization on balance sheet. We
increased the provision for credit losses to 27% of the principal balance for
loans originated beginning in the fourth quarter of 1998 as we intend to hold
the balance sheet portfolio for investment and not for sale.
The Allowance on contracts from non-dealership operations was 3.5% of the
outstanding principal balances as of March 31, 1999 and 2.9% of outstanding
principal balances as of March 31, 1998. In addition, our non-dealership
operations held non-refundable discounts and security deposits from third party
dealers totaling $22.3 million, which represented 32.2% of outstanding principal
balances as of March 31, 1999. Our non-dealership operations held non-refundable
discounts and security deposits from third party dealers totaling $9.1 million,
which represented 27.6% of the outstanding principal balances as of March 31,
1998.
Even though a contract is charged off, we continue to attempt to collect the
contract. Recoveries as a percentage of principal balances charged off from
dealership operations averaged 24.1% for the three months ended March 31, 1999
compared to 32.8% for the three months ended March 31, 1998. Recoveries as a
percentage of principal balances charged off from non-dealership operations
averaged 52.4% for the year three months ended March 31, 1999 compared to 29.7%
for the three months ended March 31, 1998.
For Finance Receivables acquired by our non-dealership operations with
recourse to the seller, our general policy is to exercise the recourse
provisions in our agreements under the Cygnet dealer program when a contract is
delinquent for 45 days. For contracts not purchased with recourse, our policy is
similar to that of our dealership operations.
Static Pool Analysis
We use a "static pool" analysis to monitor performance for contracts we have
originated at our dealerships. In a static pool analysis, we assign each month's
originations to a unique pool and track the charge offs for each pool
separately. We calculate the cumulative net charge offs for each pool as a
percentage of that pool's original principal balances, based on the number of
complete payments made by the customer before charge off. The table below
displays the cumulative net charge offs of each pool as a percentage of original
contract cumulative balances, based on the quarter the loans were originated.
The table is further stratified by the number of payments made by our customers
prior to charge off. For periods denoted by "x", the pools have not seasoned
sufficiently to allow us to compute cumulative losses. For periods denoted by
"-", the pools have not yet reached the indicated cumulative age. While we
monitor static pools on a monthly basis, for presentation purposes, we are
presenting the information in the table below on a quarterly basis.
Currently reported cumulative losses may vary from those previously reported
for the reasons listed below, however, management believes that such variation
will not be material:
o ongoing collection efforts on charged off accounts, and
o the difference between final proceeds on the sale of repossessed
collateral versus our estimates of the sale proceeds.
The following table sets forth as of April 30, 1999, the cumulative net
charge offs as a percentage of original contract cumulative (pool) balances,
based on the quarter of origination and segmented by the number of monthly
payments completed by customers before charge off. The table also shows the
percent of principal reduction for each pool since inception and cumulative
total net losses incurred (TLI).
Page 19
POOL'S CUMULATIVE NET LOSSES AS PERCENTAGE OF POOL'S ORIGINAL
AGGREGATE PRINCIPAL BALANCE
Monthly Payments Completed by Customer Before Charge Off
-----------------------------------------------------------------------
Orig. 0 3 6 12 18 24 TLI Reduced
------------ ------ --------- -------- --------- -------- -------- --------- ----------
1994:
1st Quarter $ 6,305 3.4% 10.0% 13.4% 17.9% 20.3% 20.9% 21.0% 100.0%
2nd Quarter $ 5,664 2.8% 10.4% 14.1% 19.6% 21.5% 22.0% 22.1% 100.0%
3rd Quarter $ 6,130 2.8% 8.1% 12.0% 16.3% 18.2% 19.1% 19.2% 100.0%
4th Quarter $ 5,490 2.4% 7.6% 11.2% 16.4% 19.3% 20.2% 20.3% 100.0%
1995:
1st Quarter $ 8,191 1.6% 9.1% 14.7% 20.4% 22.7% 23.6% 23.8% 100.0%
2nd Quarter $ 9,846 2.0% 8.5% 13.3% 18.1% 20.7% 22.2% 22.6% 99.9%
3rd Quarter $ 10,106 2.5% 7.9% 12.2% 18.8% 22.2% 23.6% 24.2% 99.5%
4th Quarter $ 8,426 1.5% 6.6% 11.7% 18.2% 22.6% 24.1% 24.7% 99.2%
1996:
1st Quarter $ 13,635 1.6% 8.0% 13.7% 20.7% 24.8% 26.2% 27.1% 97.8%
2nd Quarter $ 13,462 2.2% 9.2% 13.4% 22.1% 26.1% 27.7% 28.9% 95.4%
3rd Quarter $ 11,082 1.6% 6.9% 12.5% 21.5% 25.7% 28.0% 28.5% 91.8%
4th Quarter $ 10,817 0.6% 8.5% 16.0% 25.0% 29.3% 31.2% 31.2% 88.5%
1997:
1st Quarter $ 16,279 2.1% 10.6% 17.9% 24.6% 29.6% 30.9% 31.3% 83.8%
2nd Quarter $ 25,875 1.5% 9.9% 15.9% 22.8% 27.3% 27.5% 27.5% 75.9%
3rd Quarter $ 32,147 1.4% 8.4% 13.3% 22.6% 25.3% 26.4% 26.4% 68.7%
4th Quarter $ 42,529 1.5% 6.9% 12.7% 21.6% 23.4% X 23.4% 61.8%
1998:
1st Quarter $ 69,708 0.9% 6.9% 13.6% 22.0% X - 20.1% 53.6%
2nd Quarter $ 66,908 1.1% 8.1% 14.3% X - - 16.9% 40.5%
3rd Quarter $ 71,027 1.0% 8.1% X - - - 11.7% 27.7%
4th Quarter $ 69,583 1.0% X - - - - 4.7% 13.1%
1999:
1st Quarter $102,733 X - - - - - 0.3% 0.0%
The following table sets forth the principal balances 31 to 60 days
delinquent, and 61 to 90 days delinquent as a percentage of total outstanding
contract principal balances from dealership operations.
Retained Securitized Managed
------------------------------------
March 31, 1999:
31 to 60 days 2.3% 4.9% 3.5%
61 to 90 days 1.1% 2.8% 1.9%
December 31, 1998:
31 to 60 days 2.3% 5.2% 4.6%
61 to 90 days 0.5% 2.2% 1.9%
In accordance with our charge off policy, there are no accounts more than 90
days delinquent as of March 31, 1999 and December 31, 1998.
Securitizations--Dealership Operations
Structure of Securitizations. In the fourth quarter of 1998 we announced
that we were changing the way we structure transactions for accounting purposes
under our securitization program. Through September 30, 1998, we had structured
these transactions as sales for accounting purposes (Securitized Contract
Sales). However, beginning in the fourth quarter of 1998, we began structuring
Page 20
securitizations for accounting purposes to retain the contract, and the related
Securitization Note Payable on our balance sheet and recognize the income over
the life of the contracts (Securitized Borrowings). This change will not affect
our prior securitizations. Historically, Gains on Sale of Loans have been
material to our reported revenues and net earnings. Altering the structure of
these transactions so that no gain is recognized at the time of a securitization
transaction will have a material effect on our reported revenues and net
earnings until such time as we accumulate Finance Receivables on our balance
sheet sufficient to generate interest income (net of interest, credit losses,
and other expenses) equivalent to the revenues that we had historically
recognized on our securitization transactions.
Under our securitization program, we transfer the securitized Finance
Receivables to our securitization subsidiaries who then assign and transfer the
Finance Receivables to separate trusts for either Securitized Contract Sales or
Securitized Borrowings. The trusts issue Class A certificates and subordinated
Class B certificates (Residuals in Finance Receivables Sold) to the
securitization subsidiaries. The securitization subsidiaries then sell the Class
A certificates to the investors and retain the Class B certificates. We continue
to service the securitized contracts.
Residuals in Finance Receivables Sold. The residuals are a component of
Finance Receivables and represent our retained interest (the Class B
certificates) in the Finance Receivables included in our Securitized Contract
Sales. We utilize a number of assumptions to determine the initial value of the
Residuals in Finance Receivables Sold. The Residuals in Finance Receivables Sold
represent the present value of the expected net cash flows of the securitization
trusts using the out of the trust method. The net cash flows out of the trusts
are the collections on the loans in the trust in excess of the Class A
certificate principal and interest payment and certain other trust expenses. The
assumptions used to compute the Residuals in Finance Receivables Sold include,
but are not limited to:
o charge off rates,
o repossession recovery rates,
o portfolio delinquency,
o prepayment rates, and
o trust expenses.
The Residuals in Finance Receivables Sold are adjusted monthly to
approximate the present value of the expected remaining net cash flows out of
the trusts. If actual cash flows on a securitization are below our original
estimates, and those differences appear to be other than temporary in nature, we
are required to revalue Residuals in Finance Receivables Sold and record a
charge to earnings based upon the reduction. The cumulative net loss at
origination assumption inherent in the securitization transactions we entered
into in 1996 and 1997 is approximately 27.5%. For the securitizations that we
completed during the nine month period ended September 30, 1998, net losses were
estimated using total expected cumulative net losses at loan origination of
approximately 29.0%. The remaining net charge offs in our Residuals in Finance
Receivables Sold as a percentage of the remaining principal balances of
securitized contracts was approximately 20.5% as of March 31, 1999, compared to
22.0% as of December 31, 1998. The balance of the Residuals in Finance
Receivables sold was $28.5 million at March 31, 1999 and $33.3 million as of
December 31, 1998. We classify the residuals as "held-to-maturity" securities in
accordance with SFAS No. 115.
Spread Account Requirements. We maintain a spread account under our
securitization agreements. The spread account is a reserve account that would be
used to repay the Class A certificates in the event collections on a particular
pool of finance receivables was insufficient to make the required payments. At
the time a securitization transaction is entered into, our securitization
subsidiary makes an initial cash deposit into the spread account, generally
equivalent to 4% of the initial underlying Finance Receivables principal
balance, and pledges this cash to the spread account agent. The trustee then
makes additional deposits to the spread account out of collections on the
securitized receivables as necessary to maintain the spread account to a
specified percentage, ranging from 6.0% to 10.5%, of the underlying Finance
Receivables' principal balance. The trustee will not make distributions to the
securitization subsidiaries on the Class B certificates unless:
o the spread account has the required balance,
o the required periodic payments to the Class A certificate holders are
current, and
o the trustee, servicer and other administrative costs are current.
At March 31, 1999, we met the targeted spread account balances under our
securitization agreements of $19.8 million. We also maintain spread accounts for
the securitization transactions that were consummated by our discontinued
operations. We had satisfied the spread account funding obligation of $3.0
million as of March 31, 1999 with respect to these securitization transactions.
Certain financial information regarding securitizations. During the first
quarter of 1998, we securitized $86.9 million in contracts, issuing $62.6
million in Class A certificates, and $24.3 million in Class B certificates. We
recorded the carrying value of the related Residuals in Finance Receivables Sold
at $14.7 million. We did not enter into a securitization transaction in the
first quarter of 1999.
Page 21
Liquidity and Capital Resources
In recent periods, our needs for additional capital resources have increased
in connection with the growth of our business. We require capital for:
o increases in our contract portfolio,
o expansion of our dealership network,
o our commitments under the First Merchants transaction,
o expansion of the Cygnet dealer program,
o common stock repurchases,
o the purchase of inventories,
o the purchase of property and equipment, and
o working capital and general corporate purposes.
We fund our capital requirements primarily through:
o operating cash flow,
o our revolving facility with General Electric Capital Corporation (GE
Capital),
o securitization transactions,
o supplemental borrowings, and
o in the past, equity offerings.
While to date we have met our liquidity requirements as needed, there can be
no assurance that we will be able to continue to do so in the future.
Operating Cash Flow
Net Cash Provided by Operating Activities increased by $23.6 million in the
three months ended March 31, 1999 to $47.0 million compared to the three months
ended March 31, 1998 of $23.4 million. The change in inventory and accounts
payable and accrued expenses contributed to the increase in operating cash flow
for the quarter.
Net Cash Used in Investing Activities increased by $79.5 million to $99.9
million in the three months ended March 31, 1999 compared to $20.4 million in
the three months ended March 31, 1998. The increase is primarily due to
increases in Cash Used in Investing Activities from purchases of Finance
Receivables, net decreases in Cash advanced under our Notes Receivable, which
were offset by increased collections of Finance Receivables and Notes
Receivable.
Net Cash Provided by Financing Activities increased by $32.7 million to
$46.3 million in the three months ended March 31, 1999 compared to $13.6 million
in the three months ended March 31, 1998. The increase is due to increases in
Notes Payable, net of increases in repayments of Notes Payable and the
acquisition of Treasury Stock.
Page 22
Financing Resources
Revolving Facility. The maximum commitment under our revolving credit
facility with GE Capital is $125.0 million. Under the revolving facility, we may
borrow:
o up to 65.0% of the principal balance of eligible contracts originated
from the sale of used cars,
o up to 86.0% of the principal balance of eligible contracts previously
originated by our branch office network,
o the lesser of $20 million or 58% of the direct vehicle costs for
eligible vehicle inventory, and
o the lesser of $15 million or 50% of eligible contracts or loans
originated under the Cygnet dealer program.
However, an amount up to $8.0 million of the borrowing capacity under the
revolving facility is not available at any time while our guarantee to the
purchaser of contracts acquired from First Merchants is outstanding. The
revolving facility expires in June 2000 and contains a provision that requires
us to pay GE Capital a termination fee of $200,000 if we terminate the revolving
facility prior to the expiration date. We secure the facility with substantially
all of our assets.
As of March 31, 1999, our borrowing capacity under the revolving facility
was $97.1 million, the aggregate principal amount outstanding under the
revolving facility was approximately $75.6 million, and the amount available to
be borrowed under the facility was $21.5 million. The revolving facility bears
interest at the 30-day LIBOR plus 3.15%, payable daily (total rate of 8.09% as
of March 31, 1999).
The revolving facility contains covenants that, among other things, limit
our ability to do the following without GE Capital's consent:
o incur additional indebtedness,
o make any change in our capital structure,
o declare or pay dividends, except in accordance with all applicable
laws and not in excess of fifteen percent (15%) of each year's net
earnings available for distribution, and
o make certain investments and capital expenditures.
The revolving facility also provides that an event of default will occur if
Mr. Ernest C. Garcia II owns less than 15.0% of our voting stock. Mr. Garcia
owned approximately 32.0% of our common stock at March 31, 1999.
In addition, we are also required to:
o be Year 2000 compliant no later than June 30, 1999 (see discussion
below under the Year 2000 Readiness Disclosure), and
o maintain specified financial ratios, including a debt to equity ratio
of 2.2 to 1 and a net worth of at least $110 million.
Under the terms of the revolving facility, we are required to maintain an
interest coverage ratio that we failed to satisfy during the three months ended
March 31, 1999. We failed to meet this covenant primarily due to the reduction
in earnings we recognized as a result of the change in our securitization
structure. GE Capital has waived the covenant violation as of March 31, 1999. In
May 1999, GE Capital amended the interest coverage ratio required by the
agreement to reflect the anticipated changes in our operating results due to the
change in securitization structure.
Securitizations. Our securitization program is a primary source of our
working capital. Since September 30, 1997, we have closed all of our
securitizations with private investors through Greenwich Capital Markets, Inc.
(Greenwich Capital). In March 1999, we executed a commitment letter with
Greenwich Capital to act as our exclusive agent in placing up to $300 million of
surety wrapped securities under our securitization program.
Securitizations generate cash flow for us from:
o the sale of Class A certificates,
o ongoing servicing fees, and
o excess cash flow distributions from collections on the contracts
securitized after:
o payments on the Class A certificates sold to third party
investors,
o payment of fees, expenses, and insurance premiums, and
o required deposits to the spread account.
Page 23
In April 1999, we closed a securitization transaction through Greenwich
Capital. Under this transaction, we securitized approximately $120 million of
contracts and issued approximately $87 million of Class A certificates with an
annual interest rate of 5.7%. We received approximately $87 million in cash that
we used to repay our repurchase facility and pay down our revolving line of
credit.
Securitization also allows us to fix our cost of funds for a given contract
portfolio. Failure to regularly engage in securitization transactions will
adversely affect us. See "Management's Discussion and Analysis of Financial
Condition and Results of Operations--Securitizations--Dealership operations" for
a more complete description of our securitization program.
Supplemental Borrowings
Verde Debt. Prior to our public offering in September 1996, we historically
borrowed substantial amounts from Verde Investments, Inc. (Verde), which is
owned by our Chairman and Chief Executive Officer, Ernest C. Garcia II. The
Subordinated Notes Payable balances outstanding to Verde totaled $10.0 million
as of March 31, 1999 and as of December 31, 1998. Under the terms of this note,
we are required to make monthly payments of interest and annual payments of
principal in the amount of $2.0 million. These borrowings accrue interest at an
annual rate of 10.0%. Except for the debt incurred related to our exchange
offer, this debt is junior to all of our other indebtedness and we may suspend
interest and principal payments if we are in default on obligations to any other
creditors. In July 1997, our Board of Directors approved the prepayment of the
$10.0 million in subordinated debt after the earlier of the following:
o the completion of a debt offering,
o the First Merchants transactions have been completed or the cash
requirements for completion of the transaction are known, or
o we either have cash in excess of our current needs or have funds
available under our financing sources in excess of our current needs.
No such prepayment has been made as of the date of filing of this Form 10-Q.
Any prepayment would require the consent of certain of our lenders.
Exchange Offer. In the fourth quarter of 1998, we acquired approximately 2.7
million shares of our common stock in exchange for approximately $17.5 million
of subordinated debentures. The debentures are unsecured and are subordinate to
all of our existing and future indebtedness. We must pay interest on the
debentures twice a year at 12% per year. We are required to pay the principal
amount of the debentures on October 23, 2003.
We issued the debentures at a premium of approximately $3.9 million over the
market value of the shares of our common stock that were exchanged for the
debentures. Accordingly, the debt was recorded at $13.6 million on our balance
sheet. The premium will be amortized over the life of the debentures and results
in an effective annual interest rate of approximately 18.8%. We can redeem all
or part of the debentures at any time, subject to the subordination provision of
the debentures. The balance of the subordinated debentures was $13.8 million at
March 31, 1999.
Senior Subordinated Notes. In February 1998, we borrowed a total of $15.0
million of subordinated debt from unrelated third parties for a three year term.
We pay interest on this debt quarterly at 12% per annum. This debt is:
o senior to the Verde subordinated note (described above) and the
subordinated debentures issued in our exchange offer (also described
above), and
o subordinate to our other indebtedness.
We issued warrants to the lenders of this debt to purchase up to 500,000
shares of our common stock at an exercise price of $10.00 per share, exercisable
at any time until the later of February 2001, or when the debt is paid in full.
In July 1998, we borrowed a total of $5.0 million in subordinated debt from
unrelated third parties for a three-year term. Under the terms of the loan
agreement, we were required to issue warrants to purchase 115,000 shares of our
common stock by December 31, 1998 if the loan was not paid in full by that date.
The warrants were to have been issued at an exercise price of 120% of the
average trading price for our common stock for the 20 consecutive trading days
prior to the issuance of the warrants. In the first quarter of 1999, we prepaid
$3.0 million of the loans and the lenders waived their right to a proportionate
amount of the warrants. We have agreed to pay the remaining $2.0 million on June
30, 1999 and we anticipate not having to issue the remaining warrants if we
repay the loan by that date.
Page 24
Additional Financing. On November 12, 1998, we borrowed $15.0 million for a
term of 364 days from Greenwich Capital. We pay interest on this loan at an
interest rate equal to LIBOR plus 400 basis points. We secured the loan with the
common stock of our securitization subsidiaries. In March 1999, we borrowed
$20.0 million for a term of 278 days from Greenwich Capital. $1.5 million was
used to repay the remaining balance of the $15.0 million Greenwich Capital loan.
The new loan was secured by the common stock of our securitization subsidiaries.
The interest rate is at LIBOR plus 500 basis points and we paid an origination
fee of 100 basis points.
On March 26, 1999, we borrowed approximately $28.9 million from Greenwich
Capital under a repurchase facility with a 62% advance rate, bearing interest at
8.5%, and maturing May 31, 1999. This repurchase facility was repaid subsequent
to March 31, 1999. In addition, in March 1999, we executed a commitment letter
with Greenwich Capital in which, subject to satisfaction of certain conditions,
Greenwich Capital agreed to provide us with a $100 million surety-wrapped
warehouse line of credit at a rate equal to LIBOR plus 110 basis points.
Debt Shelf Registration. In 1997, we registered up to $200 million of our
debt securities under the Securities Act of 1933. There can be no assurance that
we will be able to use this registration statement to sell debt securities, or
successfully register and sell other debt securities in the future.
Capital Expenditures and Commitments
During the three months ended March 31, 1999, we opened two new dealerships.
We also have 6 more dealerships under development. The direct cost of opening a
dealership is primarily a function of whether we lease a facility or construct a
facility. A leased facility costs approximately $650,000 to develop, while a
facility we construct costs approximately $1.7 million. In addition, we require
capital to finance the portfolio that we carry on our balance sheet for each
store. It takes approximately $2.2 million in cash to support a typical
stabilized store portfolio with our existing 65% advance rate under our GE
facility. Additionally, it takes approximately 30 months for a store portfolio
to reach a stabilized level.
On July 11, 1997, we entered into an agreement to provide debtor in
possession financing to First Merchants (DIP facility). As of March 31, 1999,
the maximum commitment on the DIP facility was $11.5 million and the outstanding
balance on the DIP facility totaled $11.1 million. We have obligations under our
debtor-in-possession credit facility. First Merchants is currently in default on
the DIP facility. We have negotiated a settlement with them that will increase
our funding obligation by $2.0 million, subject to satisfaction of certain
conditions.
We intend to finance the construction of new dealerships and the DIP
facility financing through operating cash flows and supplemental borrowings,
including amounts available under the revolving facility and the securitization
program.
Common Stock Repurchase Program. During the first quarter of 1999 we
repurchased approximately 928,000 shares of our common stock for $5.2 million
under our stock repurchase program. We have repurchased a total of one million
shares of our common stock under the program, which is the total number of
shares the Board of Directors authorized. In April 1999, our Board of Directors
authorized, subject to certain conditions, a second stock repurchase program
that would allow us to repurchase up to 2.5 million additional shares of our
common stock. Purchases may be made depending on market conditions, share price,
and other factors.
Year 2000 Readiness Disclosure
Many older computer programs refer to years only in terms of their final
two digits. Such programs may interpret the year 2000 to mean the year 1900
instead. The problem affects not only computer software, but also computer
hardware and other systems containing processors and embedded chips. Business
systems affected by this problem may not be able to accurately process date
related information before, during or after January 1, 2000. This is commonly
referred to as the Year 2000 problem. Failures of our own business systems due
to the Year 2000 problem as well as those of our suppliers and business partners
could materially adversely affect our business. We are in the process of
addressing these issues.
Page 25
Our Year 2000 compliance program consists of:
o identification and assessment of critical computer programs, hardware
and other business equipment and systems,
o remediation and testing,
o assessment of the Year 2000 readiness of our critical suppliers,
vendors and business partners, and o contingency planning.
Identification and Assessment
The first component of our Year 2000 compliance program is complete. We have
identified our critical computer programs, hardware, and other equipment to
determine which systems are compliant, or must be replaced or remediated.
Remediation and Testing
Dealership Operations. We have finished remediating the program code and
underlying data and regression testing on the program code modifications for our
integrated car sales and loan servicing system (CLASS System). We placed the
modified program code into production in April 1999 and have begun performing
future date testing on the modified code.
Non-Dealership Operations. Our non-dealership loan servicing operations
currently utilize several loan processing and collections programs provided
through third party service bureaus. Based upon certifications we have received
from the software vendors, and independent testing we have performed, we believe
that our loan processing and collections programs are Year 2000 compliant.
Our Cygnet dealer program utilizes one of the same loan processing and
collections programs used by our loan servicing operations. The service bureau
that provides the program has written a custom module for us and has stated the
custom module is Year 2000 compliant. We anticipate performing and completing
independent Year 2000 compliance testing in May 1999.
We believe the remediation of the critical business systems used by our
dealership and non-dealership operations will be substantially completed during
the second quarter of 1999.
Assessment of Business Partners
We have also identified critical suppliers, vendors, and other business
partners and we are taking steps to determine their Year 2000 readiness. These
steps include interviews, questionnaires, and other types of inquiries. Because
of the large number of business systems that our business partners use and their
varying levels of Year 2000 readiness, it is difficult to determine how any Year
2000 issues of our business partners will affect us. We are not currently aware
of any business relationships with third parties that we believe will likely
result in a significant disruption of our businesses. We believe that our
greatest risk is with our utility suppliers, banking and financial institution
partners, and suppliers of telecommunications services, all of which are
operating within the United States. Potential consequences if we, or our
business partners, are not Year 2000 compliant include:
o failure to operate from a lack of power,
o shortage of cash flow,
o disruption or errors in loan collection and processing efforts, and
o delays in receiving inventory, supplies, and services.
If any of these events occurred, the results could have a material adverse
impact on us and our operations.
Page 26
Contingency Plans
We are also developing contingency plans to mitigate the risks that could
occur in the event of a Year 2000 business disruption. Contingency plans may
include:
o increasing inventory levels,
o securing additional financing,
o relocating operations to unaffected sites,
o vendor/supplier replacement,
o utilizing temporary manual or spreadsheet-based processes, or
o other prudent actions.
Costs
We currently estimate that remediation and testing of our business systems
will cost between $2.2 million and $2.7 million. Most of these costs will be
expensed and funded by our operating line of credit. Costs to date approximate
$2.0 million, including approximately $140,000 of internal payroll costs,
substantially all of which have been charged to general and administrative
expense. Costs incurred in the three month period ended March 31, 1999
approximated $600,000. No such costs were incurred in the comparable period in
1998. We cannot currently estimate costs associated with developing and
implementing contingency measures. The scheduled completion dates and costs
associated with the various components of our Year 2000 compliance program
described above are estimates and are subject to change.
Accounting Matters
In February 1998, the Financial Accounting Standards Board issued Statement
of Financial Accounting Standards No. 132, "Employer's Disclosures about
Pensions and Other Postretirement Benefits" (SFAS No. 132) which became
effective for us January 1, 1999. SFAS No. 132 establishes standards for the
information that public enterprises report in annual financial statements. The
adoption of SFAS No. 132 did not have a material impact on us.
In June 1998, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 133, "Accounting for Derivative Instruments
and Hedging Activities" (SFAS No. 133) which becomes effective for us July 1,
1999. We believe the adoption of SFAS No. 133 will not have a material impact on
us.
Page 27
PART II. OTHER INFORMATION
Item 1. Legal Proceedings.
We sell our cars on an "as is" basis. We require all customers to
acknowledge in writing on the date of sale that we disclaim any obligation for
vehicle-related problems that subsequently occur. Although we believe that these
disclaimers are enforceable under applicable laws, there can be no assurance
that they will be upheld in every instance. Despite obtaining these disclaimers,
in the ordinary course of business, we receive complaints from customers
relating to vehicle condition problems as well as alleged violations of federal
and state consumer lending or other similar laws and regulations. Most of these
complaints are made directly to us or to various consumer protection
organizations and are subsequently resolved. However, customers occasionally
name us as a defendant in civil suits filed in state, local, or small claims
courts. Additionally, in the ordinary course of business, we are a defendant in
various other types of legal proceedings. Although we cannot determine at this
time the amount of the ultimate exposure from these lawsuits, if any, we, based
on the advice of counsel, do not expect the final outcome to have a material
adverse effect on our financial position.
Item 2. Changes in Securities and Use of Proceeds.
(a) None
(b) None
(c) None
(d) Not Applicable
Item 3. Defaults Upon Senior Securities.
See "Management's Discussion and Analysis of Financial Condition and
Results of Operations -- Liquidity and
Capital Resources -- Financing Resources
Item 4. Submission of Matters to a Vote of Security Holders.
None.
Item 5. Other Information.
In April 1999, Mr. Garcia advised our Board of Directors that during 1999 he
intends to step down from his position as Chief Executive Officer of Ugly
Duckling. He will remain as our Chairman of the Board. Mr. Garcia plans to
transition his CEO duties to Gregory B. Sullivan, our current president and
Chief Operating Officer and one of our directors, in anticipation of Mr.
Sullivan being appointed as our Chief Executive Officer.
Page 28
Item 6. Exhibits and Reports on Form 8-K.
(a) Exhibits
Exhibit 10.1--Engagement Letter between Greenwich Capital Markets,
Inc. and Registrant dated March 16, 1999 for Greenwich to Act as
Placement Agent for not less than $300 Million of Securitized Loans
Exhibit 10.2--Commitment Letter between Greenwich Capital Markets,
Inc. and Registrant dated March 17, 1999 with Term Sheet for $100
Million Revolving Credit Facility
Exhibit 10.3--$20 Million Loan agreement between Greenwich Capital
Financial Products, Inc. and Registrant dated March 18, 1999
Exhibit 10.3(a)--Stock Pledge Agreement among Greenwich Capital
Financial Products, Inc., Registrant, and certain related parties,
dated March 18, 1999
Exhibit 10.4 -- Amendment to the Amended and Restated Motor Vehicle
Installment Contract Loan and Security Agreement between General
Electric Capital Corporation and Registrant dated March 25, 1999
regarding year 2000 date change
Exhibit 11 -- Statement regarding computation per share earnings (see
note 5 of Notes to condensed consolidated Financial Statements)
Exhibit 27 -- Financial Data Schedule
Exhibit 99 --Statement Regarding Forward Looking Statements and Risk
Factors
(b) Reports on Form 8-K.
During the first quarter of 1999, the Company filed one report on Form 8-K.
The report on Form 8-K, dated and filed March 16, 1999, pursuant to Items 5 and
7 filed as an exhibit to the Form 8-K a press release dated March 16, 1999
titled "Ugly Duckling Corporation Announces Reclassification of Cygnet Dealer
Into Continuing Operations and Anticipated First Quarter Results." After the
first quarter of 1999, the Company has not filed a report on Form 8-K.
Page 29
SIGNATURE
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.
UGLY DUCKLING CORPORATION
/s/ STEVEN T. DARAK
-------------------
Steven T. Darak
Senior Vice President and
Chief Financial Officer
(Principal Financial and Accounting Officer)
Date: May 13, 1999
Page 30
EXHIBIT INDEX
Exhibit
Number Description
- ------- ------------------
10.1 Engagement Letter between Greenwich Capital Markets, Inc. and
Registrant dated March 16, 1999 for Greenwich to Act as Placement
Agent for not less than $300 Million of Securitized Loans
10.2 Commitment Letter between Greenwich Capital Markets, Inc. and
Registrant dated March 17, 1999 with Term Sheet for $100 Million
Revolving Credit Facility
10.3 $20 Million Loan agreement between Greenwich Capital Financial
Products, Inc. and Registrant dated March 18, 1999
10.3(a) Stock Pledge Agreement among Greenwich Capital Financial Products,
Inc., Registrant, and certain related parties, dated March 18, 1999
10.4 Amendment to the Amended and Restated Motor Vehicle Installment
Contract Loan and Security Agreement between General Electric Capital
Corporation and Registrant dated March 25, 1999 regarding year 2000
date change
11 Statement regarding computation of per share earnings (see note 5 of
Notes to Condensed Consolidated Financial Statements)
27 Financial Data Schedule
99 Statement Regarding Forward Looking Statements and Risk Factors
Page 31