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UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarter ended April 30, 2004
Commission file number 1-12006
FINANCIAL FEDERAL CORPORATION
(Exact name of Registrant as specified in its charter)
Nevada 88-0244792
(State of incorporation) (I.R.S. Employer Identification Number)
733 Third Avenue, New York, New York 10017
(Address of principal executive offices)
(212) 599-8000
(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. Yes |X| No | |
Indicate by check mark whether the Registrant is an accelerated filer as defined
in Rule 12b-2 of the Securities Exchange Act of 1934. Yes |X| No | |
At June 1, 2004, 17,256,920 shares of Registrant's common stock, $.50 par
value, were outstanding.
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FINANCIAL FEDERAL CORPORATION AND SUBSIDIARIES
Quarterly Report on Form 10-Q
for the quarter ended April 30, 2004
TABLE OF CONTENTS
Part I - Financial Information Page No.
- ----------------------------------------------------------------------------------------------- --------
Item 1. Financial Statements:
Consolidated Balance Sheets at April 30, 2004 (unaudited) and July 31, 2003 (audited) 3
Consolidated Statements of Stockholders' Equity for the nine months ended April 30,
2004 and 2003 (unaudited) 4
Consolidated Income Statements for the three and nine months ended April 30, 2004 and
2003 (unaudited) 5
Consolidated Statements of Cash Flows for the nine months ended April 30, 2004 and
2003 (unaudited) 6
Notes to Consolidated Financial Statements (unaudited) 7-11
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 11-18
Item 3. Quantitative and Qualitative Disclosures about Market Risk 18
Item 4. Controls and Procedures 19
Part II - Other Information
- -----------------------------------------------------------------------------------------------
Item 2. Changes in Securities 19
Item 6. Exhibits and Reports on Form 8-K 19-20
Signatures 21
2
FINANCIAL FEDERAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
(In thousands, except par value)
========================================================================================================================
April 30, 2004* July 31, 2003
========================================================================================================================
ASSETS
Finance receivables $1,433,818 $1,415,489
Allowance for credit losses (23,620) (23,754)
- ------------------------------------------------------------------------------------------------------------------------
Finance receivables - net 1,410,198 1,391,735
Cash 7,140 8,015
Other assets 15,374 26,332
- ------------------------------------------------------------------------------------------------------------------------
TOTAL ASSETS $1,432,712 $1,426,082
========================================================================================================================
LIABILITIES
Debt:
Long-term ($5,854 at April 30, 2004 and $9,080 at July 31, 2003 due to
related parties) $ 910,519 $ 775,023
Short-term 164,800 267,253
Accrued interest, taxes and other liabilities 62,798 67,410
- ------------------------------------------------------------------------------------------------------------------------
Total liabilities 1,138,117 1,109,686
- ------------------------------------------------------------------------------------------------------------------------
STOCKHOLDERS' EQUITY
Preferred stock - $1 par value, authorized 5,000 shares - -
Common stock - $.50 par value, authorized 100,000 shares, shares issued and
outstanding: 17,253 (net of 1,672 treasury shares) at April 30, 2004 and
18,483 (net of 149 treasury shares)at July 31, 2003 8,626 9,242
Additional paid-in capital 100,844 105,464
Retained earnings 185,125 201,690
- ------------------------------------------------------------------------------------------------------------------------
Total stockholders' equity 294,595 316,396
- ------------------------------------------------------------------------------------------------------------------------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $1,432,712 $1,426,082
========================================================================================================================
* Unaudited
The notes to consolidated financial statements are made a part hereof.
3
FINANCIAL FEDERAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY *
(In thousands)
=======================================================================================================
Common Stock - $.50 Par Value
------------------------------------------
Additional Retained
Shares Par Value Paid-in Capital Earnings
=======================================================================================================
BALANCE AT JULY 31, 2002 17,372 $ 8,686 $ 67,595 $ 172,288
Conversion of subordinated debt 1,159 580 34,437 -
Repurchases of common stock (12) (6) (220) -
Employee stock plans:
Shares issued 132 66 1,097 -
Shares canceled (133) (67) 67 -
Compensation recognized - - 1,950 -
Tax benefits - - 323 -
Net earnings - - - 23,178
- -------------------------------------------------------------------------------------------------------
BALANCE AT APRIL 30, 2003 18,518 $ 9,259 $ 105,249 $ 195,466
=======================================================================================================
=======================================================================================================
Common Stock - $.50 Par Value
------------------------------------------
Additional Retained
Shares Par Value Paid-in Capital Earnings
=======================================================================================================
BALANCE AT JULY 31, 2003 18,483 $ 9,242 $ 105,464 $ 201,690
Repurchases of common stock (1,665) (833) (15,153) (39,544)
Employee stock plans:
Shares issued 435 217 7,030 -
Compensation recognized - - 1,788 -
Tax benefits - - 1,715 -
Net earnings - - - 22,979
- -------------------------------------------------------------------------------------------------------
BALANCE AT APRIL 30, 2004 17,253 $ 8,626 $ 100,844 $ 185,125
=======================================================================================================
* Unaudited
The notes to consolidated financial statements are made a part hereof.
4
FINANCIAL FEDERAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED INCOME STATEMENTS *
(In thousands, except per share amounts)
=======================================================================================================
Three Months Ended Nine Months Ended
April 30, April 30,
-------------------------------------------------
2004 2003 2004 2003
=======================================================================================================
Finance income $29,029 $30,692 $88,840 $98,941
Interest expense 8,213 9,995 25,453 33,725
- -------------------------------------------------------------------------------------------------------
Net finance income before provision for credit
losses on finance receivables 20,816 20,697 63,387 65,216
Provision for credit losses on finance receivables 2,050 4,050 7,950 7,900
- -------------------------------------------------------------------------------------------------------
Net finance income 18,766 16,647 55,437 57,316
Salaries and other expenses 5,566 5,823 17,694 17,305
Loss on redemption of convertible debt - - - 1,737
- -------------------------------------------------------------------------------------------------------
Earnings before income taxes 13,200 10,824 37,743 38,274
Provision for income taxes 5,164 4,239 14,764 15,096
- -------------------------------------------------------------------------------------------------------
NET EARNINGS $ 8,036 $ 6,585 $22,979 $23,178
=======================================================================================================
EARNINGS PER COMMON SHARE:
Diluted $ 0.44 $ 0.36 $ 1.25 $ 1.27
=======================================================================================================
Basic $ 0.45 $ 0.36 $ 1.27 $ 1.29
=======================================================================================================
* Unaudited
The notes to consolidated financial statements are made a part hereof.
5
FINANCIAL FEDERAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS *
(In thousands)
=======================================================================================================
Nine Months Ended April 30, 2004 2003
=======================================================================================================
Cash flows from operating activities:
Net earnings $ 22,979 $ 23,178
Adjustments to reconcile net earnings to net cash provided by
operating activities:
Provision for credit losses on finance receivables 7,950 7,900
Depreciation and amortization 13,064 12,787
Loss on redemption of convertible debt - 1,737
Decrease (increase) in other assets 14,907 (3,159)
Decrease in accrued interest, taxes and other liabilities (4,511) (15,725)
Tax benefits from stock plans 1,715 323
- -------------------------------------------------------------------------------------------------------
Net cash provided by operating activities 56,104 27,041
- -------------------------------------------------------------------------------------------------------
Cash flows from investing activities:
Finance receivables originated (559,958) (497,141)
Finance receivables collected 522,695 506,958
- -------------------------------------------------------------------------------------------------------
Net cash (used in) provided by investing activities (37,263) 9,817
- -------------------------------------------------------------------------------------------------------
Cash flows from financing activities:
Commercial paper, net decrease (30,613) (105,397)
Bank borrowings, net increase (decrease) 4,555 (60,230)
Proceeds from convertible debentures issued 175,000 -
(Repayments of) proceeds from asset securitization financings (39,000) 100,000
Proceeds from term notes issued 5,000 215,000
Repayments of term notes (82,000) (125,000)
Redemptions of subordinated debt - (59,598)
Deferred debt issuance costs (4,375) -
Repurchases of common stock (51,591) (226)
Proceeds from stock option exercises 3,308 1,163
- -------------------------------------------------------------------------------------------------------
Net cash used in financing activities (19,716) (34,288)
- -------------------------------------------------------------------------------------------------------
NET (DECREASE) INCREASE IN CASH (875) 2,570
Cash - beginning of period 8,015 7,092
- -------------------------------------------------------------------------------------------------------
CASH - END OF PERIOD $ 7,140 $ 9,662
=======================================================================================================
Supplemental disclosures of cash flow information:
Interest paid $ 26,142 $ 33,261
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Income taxes paid $ 25,292 $ 17,816
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* Unaudited
The notes to consolidated financial statements are made a part hereof.
6
FINANCIAL FEDERAL CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(Dollars in thousands, except per share amounts)
(Unaudited)
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation
In the opinion of management of Financial Federal Corporation and
Subsidiaries (the "Company"), the accompanying unaudited consolidated
financial statements contain all adjustments (consisting only of normal
recurring items) necessary to present fairly the financial position at
April 30, 2004 and the results of operations and cash flows of the Company
for the three and nine month periods ended April 30, 2004 and 2003. These
condensed consolidated financial statements and note disclosures should be
read in conjunction with the consolidated financial statements and note
disclosures in the Company's Annual Report on Form 10-K for the fiscal year
ended July 31, 2003. The consolidated results of operations for the three
and nine months ended April 30, 2004 may not be indicative of full year
results.
Description of Business
The Company provides collateralized lending, financing and leasing
services nationwide to middle-market businesses in the general
construction, road and infrastructure construction and repair, road
transportation, waste disposal and manufacturing industries. The Company
lends against, finances and leases a wide range of new and used revenue-
producing/essential-use equipment such as cranes, earth movers, machine
tools, personnel lifts, trailers and trucks.
Stock-Based Compensation
The Company continues to apply Accounting Principles Board Opinion
("APB") No. 25, "Accounting for Stock Issued to Employees," and related
Interpretations to account for stock options. Under APB No. 25, the
Company does not record compensation expense for its stock options. If the
Company applied the expense recognition provisions of Statement of
Financial Accounting Standards ("SFAS") No. 123, "Accounting for Stock-
Based Compensation," compensation expense would have been recorded for
stock options based on their fair value computed with an option-pricing
model. The effect on net earnings and earnings per share had the Company
recorded compensation expense under SFAS No. 123 follows:
==============================================================================
Three months ended Nine months ended
April 30, April 30,
--------------------------------------
2004 2003 2004 2003
==============================================================================
Net earnings, as reported $8,036 $6,585 $22,979 $23,178
Add: Compensation expense recorded for
restricted stock awards (after-tax) 364 352 1,093 1,190
Deduct: Total stock-based compensation
expense determined under SFAS No.
123 for all awards (after-tax) (871) (956) (2,411) (2,591)
------------------------------------------------------------------------------
Pro forma net earnings $7,529 $5,981 $21,661 $21,777
==============================================================================
Diluted earnings per common share:
As reported $0.44 $0.36 $1.25 $1.27
Pro forma 0.41 0.33 1.17 1.19
==============================================================================
Basic earnings per common share:
As reported $0.45 $0.36 $1.27 $1.29
Pro forma 0.42 0.33 1.20 1.21
==============================================================================
New Accounting Standards
In December 2003, the Financial Accounting Standards Board issued
Interpretation ("FIN") No. 46R, "Consolidation of Variable Interest
Entities--an interpretation of ARB No. 51." FIN No. 46R replaced FIN No.
46 issued in January 2003. FIN No. 46R requires variable interest entities
to be consolidated by the primary beneficiary (the entity at risk for a
majority of the expected losses or receiving a majority of the expected
residual returns of the variable interest entity). The Company adopted FIN
No. 46R on January 31, 2004. Prior to the adoption of FIN No. 46R, the
7
Company consolidated fully one variable interest entity (a special purpose
entity it established for its asset securitization facility). The
consolidation of this entity was not affected by the adoption of FIN No.
46R. The adoption of FIN No. 46R did not have a material impact on the
Company's results of operations or financial position.
Use of Estimates
The consolidated financial statements and the notes thereto were
prepared in accordance with accounting principles generally accepted in the
United States of America that require significant estimates and assumptions
to be made by management affecting the amounts reported therein. Actual
results could differ significantly from those estimates.
NOTE 2 - FINANCE RECEIVABLES
Finance receivables comprise installment sale agreements and secured
loans (including line of credit arrangements), collectively referred to as
loans, with fixed or floating (indexed to the prime rate) interest rates,
and direct financing leases as follows:
==========================================================================
April 30, 2004 July 31, 2003
==========================================================================
Loans:
Fixed rate $1,146,948 $1,073,158
Floating rate 66,096 85,532
--------------------------------------------------------------------------
Total loans 1,213,044 1,158,690
Direct financing leases * 220,774 256,799
--------------------------------------------------------------------------
Finance receivables $1,433,818 $1,415,489
==========================================================================
* includes residual values of $44,080 at April 30, 2004 and $48,813 at
July 31, 2003.
Non-performing assets comprise finance receivables classified as non-
accrual (income recognition has been suspended) and assets received to satisfy
finance receivables (repossessed equipment, included in other assets), as
follows:
==========================================================================
April 30, 2004 July 31, 2003
==========================================================================
Finance receivables classified as
non-accrual $37,279 $42,910
Assets received to satisfy finance
receivables 4,156 19,666
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Non-performing assets $41,435 $62,576
==========================================================================
The activity of the allowance for credit losses follows:
==============================================================================
Three months ended Nine months ended
April 30, April 30,
--------------------------------------
2004 2003 2004 2003
==============================================================================
Beginning balance $23,471 $23,742 $23,754 $24,171
Provision 2,050 4,050 7,950 7,900
Write-downs (2,366) (4,195) (9,417) (9,338)
Recoveries 465 37 1,333 901
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Ending balance $23,620 $23,634 $23,620 $23,634
==============================================================================
Percentage of finance receivables 1.65% 1.68% 1.65% 1.68%
==============================================================================
Net charge-offs * $ 1,901 $ 4,158 $ 8,085 $ 8,437
==============================================================================
Loss ratio ** 0.54% 1.18% 0.76% 0.79%
==============================================================================
* write-downs less recoveries
** net charge-offs over average finance receivables, annualized
The allowance for credit losses included $700 at April 30, 2004 and
$750 at July 31, 2003 specifically allocated to $5,535 and $6,222,
respectively, of impaired receivables.
The Company also provides commitments to extend credit. These
commitments contain off-balance sheet risk. The Company uses the same
credit policies and procedures in providing these commitments as it does
for finance receivables, since the credit risks are substantially the same.
The unused portion of these commitments was $10,007 at April 30, 2004 and
$8,624 at July 31, 2003.
8
NOTE 3 - DEBT
Debt is summarized as follows:
==========================================================================
April 30, 2004 July 31, 2003
==========================================================================
Floating rate term notes due 2005 - 2010* $ 338,750 $ 278,000
Fixed rate term notes due 2005 - 2008* 181,250 319,000
2.0% fixed rate convertible debentures
due 2034 175,000 -
--------------------------------------------------------------------------
Total term notes 695,000 597,000
Asset securitization financings 286,000 325,000
Commercial paper 80,947 111,561
Bank borrowings 16,000 11,445
--------------------------------------------------------------------------
Total principal amount 1,077,947 1,045,006
Fair value adjustment of hedged debt (2,628) (2,730)
--------------------------------------------------------------------------
Total debt $1,075,319 $1,042,276
==========================================================================
* $143,250 at April 30, 2004 and $87,500 at July 31, 2003 of fixed rate
term notes swapped to floating rates are classified as floating rate
term notes
Convertible Debentures
In April 2004, the Company issued $175,000 of senior convertible
debentures. The debentures do not contain any financial or other
restrictive covenants. The senior debt of the Company's subsidiaries is
effectively senior to the debentures.
The debentures have a 2.0% fixed annual interest rate and interest is
payable semi-annually. Commencing in April 2009, the Company may incur
additional interest for a semi-annual interest period if the average market
value of the debentures on the last five days of the prior interest period
was at least 20% higher than their principal amount. Additional interest
would be computed at the annual rate of 0.25% of the average market value
of the debentures during the aforementioned five days.
The debentures are convertible into 3,969,000 shares of the Company's
common stock at the conversion price of $44.10 per share resulting in an
initial conversion rate of 22.6778 shares per one thousand dollars of
principal. The conversion price was set at 32.5% over the April 5, 2004
closing price of $33.28. The conversion rate would be adjusted if a
specified corporate transaction occurs including dividend payments or stock
splits. The debentures can be converted into common stock only under the
following circumstances; (i) in any fiscal quarter if the closing price of
the Company's common stock was at least 30% higher than the conversion
price for at least 20 of the last 30 trading days of the prior fiscal
quarter (the "market price condition"), (ii) the debentures are rated "BB"
or lower by Fitch Ratings, Inc. (three ratings levels lower than the
initial rating), (iii) the debentures are called for redemption or (iv) a
specified corporate transaction occurs. Currently, the market price
condition would be met if the Company's common stock closed at a price
above $57.33 for the required period. The Company's common stock closed at
$31.30 on April 30, 2004. The debentures will not affect the computation
of diluted earnings per share unless one of the aforementioned events
allowing for conversion occurs.
The Company can redeem the debentures for their principal amount
anytime starting in April 2009 and debenture holders can require the
Company to repurchase debentures for their principal amount on each five
year anniversary of issuance or when a specified corporate transaction
occurs. The debentures have a 30 year term. Upon conversion, the Company
can deliver the value of the convertible shares in any combination of cash
and/or common stock.
Asset Securitization Financings
The Company has a $325,000 asset securitization facility that provides
for committed revolving financing for a one year term. If the facility is
not renewed prior to its current expiration date of April 29, 2005, the
Company can convert borrowings outstanding into term debt. Finance
receivables include $388,114 and $432,328 of securitized receivables at
April 30, 2004 and July 31, 2003, respectively. At April 30, 2004, the
Company could securitize an additional $178,021 of finance receivables.
Borrowings are limited to 94% of securitized receivables.
9
Bank Borrowings
At April 30, 2004, the Company had $310,000 of committed unsecured
revolving credit facilities with seven banks expiring as follows: $162,500
within one year and $147,500 on various dates from February 2006 through
January 2007.
Other
The debt agreements of the Company's major operating subsidiary
contain restrictive covenants including limitations on the subsidiary's
indebtedness, encumbrances, investments, dividends and other distributions
to the Company, sales of assets, mergers and other business combinations,
capital expenditures, interest coverage and net worth. None of the
agreements contain a material adverse change clause.
Long-term debt comprised the following:
==========================================================================
April 30, 2004 July 31, 2003
==========================================================================
Term notes $487,372 $502,270
Convertible debentures 175,000 -
Asset securitization financings 151,200 149,747
Commercial paper and bank borrowings
supported by bank credit facilities
expiring after April 30, 2005 and
July 31, 2004, respectively 96,947 123,006
--------------------------------------------------------------------------
Total long-term debt $910,519 $775,023
==========================================================================
NOTE 4 - DERIVATIVES
In 2004, the Company entered into two interest rate swap agreements
with a total notional amount of $55,750. The Company designated them as
fair value hedges of $24,500 of 4.37% fixed rate term notes due in April
2008 and $31,250 of 6.23% fixed rate term notes due in August 2007. At
April 30, 2004 and July 31, 2003, the total notional amount of interest
rate swaps was $143,250 and $87,500, respectively. All of the swaps have
been designated as fair value hedges of fixed rate term notes. The Company
receives fixed rates equal to the rates of the respective hedged notes and
pays floating rates indexed to six-month LIBOR on the swaps' notional
amounts. The swaps expire on the maturity dates of the respective notes.
The fair value of the swaps was a $2,628 liability at April 30, 2004 and a
$2,730 liability at July 31, 2003.
NOTE 5 - STOCKHOLDERS' EQUITY
In October 2003, the Company received 135,000 shares of its common
stock (at the market price of $34.15 per share) in exchange for its CEO's
exercise of 200,000 stock options and related minimum income taxes pursuant
to the CEO's October 1998 stock option agreement. The Company also
received 7,000 shares at $34.15 for other senior officers' exercise of
12,000 stock options and related taxes. These shares were retired.
In March 2004, the Company received 21,000 shares of its common stock
from certain officers at $33.29 per share as payment of income taxes
required to be withheld by the Company on the vesting of their restricted
stock. In April 2004, the Company repurchased 1,502,000 shares of its
common stock at $33.28 per share for $50,000. These shares were held in
treasury at April 30, 2004. At April 30, 2004, $13,195 remained available
under the Company's common stock repurchase program.
NOTE 6 - STOCK PLANS
In March 2004, the Company granted 400,000 stock options with a $33.95
exercise price to employees under its 1998 Stock Option and Restricted
Stock Plan (the "1998 Plan"). The options vest evenly over four years
starting in March 2006 and expire in March 2010. In April 2004, the
Company awarded 65,000 shares of restricted stock to senior officers under
the 1998 Plan. The shares vest annually over their eight-year life.
Vesting of the shares may be accelerated and unvested shares are subject to
forfeiture.
10
NOTE 7 - EARNINGS PER COMMON SHARE
Earnings per common share ("EPS") was calculated as follows (in
thousands, except per share amounts):
==============================================================================
Three months ended Nine months ended
April 30, April 30,
--------------------------------------
2004 2003 2004 2003
==============================================================================
Net earnings (used for basic EPS) $8,036 $6,585 $22,979 $23,178
Effect of convertible securities - - - 115
------------------------------------------------------------------------------
Adjusted net earnings (used for
diluted EPS) $8,036 $6,585 $22,979 $23,293
==============================================================================
Weighted average common shares
outstanding (used for basic EPS) 17,928 18,061 18,096 17,935
Effect of dilutive securities:
Stock options 248 71 266 257
Restricted stock 63 3 85 41
Convertible notes - - - 166
------------------------------------------------------------------------------
Adjusted weighted average common
shares and assumed conversions
(used for diluted EPS) 18,239 18,135 18,447 18,399
==============================================================================
Net earnings per common share:
Diluted $0.44 $0.36 $1.25 $1.27
==============================================================================
Basic $0.45 $0.36 $1.27 $1.29
==============================================================================
None of the events that allow the $175,000 of convertible debentures
to be converted into common stock occurred as of April 30, 2004. Therefore,
the debentures did not affect the 2004 computations of diluted earnings per
share. If an event occurs that allows the debentures to be converted into
common stock, the computation of diluted earnings per share would be adjusted
by (i) removing the after-tax interest cost of the debentures from net
earnings and (ii) treating the shares issuable upon conversion of the
debentures as shares outstanding. This would reduce diluted earnings per
share. At April 30, 2004, the annual after-tax interest cost is approximately
$2,800 and 3,969,000 shares would be issuable if conversion was allowed.
PART I
Item 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
---------------------------------------------------------------
CRITICAL ACCOUNTING POLICIES
The preparation of financial statements and related disclosures in
conformity with accounting principles generally accepted in the United
States requires management to make judgments, assumptions, and estimates
that affect the amounts reported in the Consolidated Financial Statements
and accompanying notes. Note 1 to the Consolidated Financial Statements in
the Annual Report on Form 10-K for the fiscal year ended July 31, 2003
describes the significant accounting policies and methods used in the
preparation of the Consolidated Financial Statements. Estimates are used
for, but not limited to, the accounting for the allowance for credit losses
on finance receivables, impaired finance receivables, assets received to
satisfy receivables and residual values on direct financing leases. The
following critical accounting policies are impacted significantly by
judgments, assumptions and estimates used in the preparation of the
Consolidated Financial Statements.
The allowance for credit losses on finance receivables is management's
estimate of the losses inherent in the Company's finance receivables at
each balance sheet date. The allowance is based on total finance
receivables, charge-off experience, non-accrual/delinquent finance
receivables and management's current assessment of the risks inherent in
the Company's finance receivables from national and regional economic
conditions, industry conditions, concentrations, the financial condition of
counterparties (includes the obligor/lessee and other parties the Company
may have recourse to such as equipment vendors/manufacturers and
owners/affiliates of the obligor/lessee), equipment collateral values and
other factors. The allowance level may have to be changed significantly
due to unexpected changes in these factors. Increases in the allowance
would reduce net earnings through higher provisions for credit losses. The
allowance was $23,620 and 1.65% of finance receivables at April 30, 2004.
11
Impaired finance receivables are recorded at their current estimated
net realizable value (if less than their carrying amount). Assets received
to satisfy receivables are recorded at their current estimated fair value
less selling costs (if less than their carrying amount). These estimated
values are based on management's evaluation of the expected cash flows and
market value/condition of the collateral/assets. Unexpected adverse
changes in the expected cash flows and market value/condition of the
collateral/assets would require a write-down to be recorded. This would
reduce net earnings. Impaired finance receivables and assets received to
satisfy receivables totaled $41.4 million and 2.9% of finance receivables
at April 30, 2004.
Residual values are recorded on direct financing leases at the lowest
of (i) any stated purchase option, (ii) the present value at the end of the
initial lease term of rentals due under any renewal options or (iii)
management's estimate of the equipment's fair value at the end of the
lease. Residual values may not be fully realized due to subsequent
unexpected adverse changes in equipment values. This would result in a
write-down and reduce net earnings. Residual values were $44.1 million and
3.1% of finance receivables at April 30, 2004.
SIGNIFICANT EVENTS
Issuance of Senior Convertible Debentures
In April 2004, the Company issued $175.0 million of senior convertible
debentures and used the proceeds (net of $4.4 million of issuance costs) to
repay a $65.0 million 7.05% term note that matured, to repurchase $50.0
million of common stock and to increase liquidity by repaying $55.6 million
of securitization and bank borrowings. The debentures also further
diversified the Company's funding sources and lengthened debt maturities.
The debentures are rated "BBB" by Fitch Ratings, Inc. ("Fitch", a
Nationally Recognized Statistical Ratings Organization) with a positive
outlook and do not contain any financial or other restrictive covenants.
The senior debt of the Company's subsidiaries is effectively senior to the
debentures.
The debentures have a 2.0% fixed annual interest rate and interest is
payable semi-annually. Commencing in April 2009, the Company may incur
additional interest for a semi-annual interest period if the average market
value of the debentures on the last five days of the prior interest period
was at least 20% higher than their principal amount. Additional interest
would be computed at the annual rate of 0.25% of the average market value
of the debentures during the aforementioned five days.
The debentures are convertible into 4.0 million shares of the
Company's common stock at the conversion price of $44.10 per share
resulting in an initial conversion rate of 22.6778 shares per $1,000 of
principal. The conversion price was set at 32.5% over the April 5, 2004
closing price of $33.28. The conversion rate would be adjusted if a
specified corporate transaction occurs including dividend payments or stock
splits. The debentures can be converted into common stock only under the
following circumstances; (i) in any fiscal quarter if the closing price of
the Company's common stock was at least 30% higher than the conversion
price for at least 20 of the last 30 trading days of the prior fiscal
quarter (the "market price condition"), (ii) the debentures are rated "BB"
or lower by Fitch (three ratings levels lower than the initial rating),
(iii) the debentures are called for redemption or (iv) a specified
corporate transaction occurs. Currently, the market price condition would
be met if the Company's common stock closed at a price above $57.33 for the
required period. The Company's common stock closed at $31.30 on April 30,
2004. The debentures will not affect the computation of diluted earnings
per share unless one of the aforementioned events allowing for conversion
occurs.
The Company can redeem the debentures for their principal amount
anytime starting in April 2009 and debenture holders can require the
Company to repurchase debentures for their principal amount on each five
year anniversary of issuance or when a specified corporate transaction
occurs. The debentures have a 30 year term. Upon conversion, the Company
can deliver the value of the convertible shares in any combination of cash
and/or common stock.
Repurchase of Common Stock
In April 2004, the Company repurchased 1.5 million shares of its
common stock with $50.0 million of the convertible debentures proceeds.
The Company paid $33.28 (the April 5, 2004 closing price) per share. The
shares repurchased represented 8% of the Company's outstanding shares. The
Company repurchased the shares to offset the potential dilution of the 4.0
million shares issuable from the convertible debentures. The repurchase
increased leverage to 3.7 from 3.0 and is accretive to basic and diluted
earnings per share. At April 30, 2004, the 1.5 million shares were held in
treasury.
12
RESULTS OF OPERATIONS
Comparison of three months ended April 30, 2004 to three months ended April
30, 2003
Net earnings increased by 22% to $8.0 million in the third quarter of
fiscal 2004 from $6.6 million in the third quarter of fiscal 2003. The
increase was due to the effects of fewer non-performing assets and, to a
lesser extent, average debt decreasing when average finance receivables
increased. These factors were partially offset by the effects of continued
low market interest rates and, to a lesser extent, increased costs of being
a public company (includes insurance, internal and external audit costs,
legal fees and Sarbanes-Oxley compliance costs).
Finance income decreased by 5% to $29.0 million in the third quarter
of fiscal 2004 from $30.7 million in the third quarter of fiscal 2003. The
decrease resulted from the lower net yield of finance receivables.
Continued low market interest rates have reduced the net yield on finance
receivables to 8.3% from 8.9% in the third quarter of fiscal 2004 and 2003,
respectively. Average finance receivables increased by less than 1% ($6
million) to $1.419 billion from $1.413 billion in the third quarter of
fiscal 2004 and 2003, respectively. The increase in receivables, the
decrease in non-accrual receivables and the extra day in the quarter from
leap-year increased finance income slightly in the third quarter of fiscal
2004.
Interest expense, incurred on borrowings used to fund finance
receivables, decreased by 18% to $8.2 million in the third quarter of
fiscal 2004 from $10.0 million in the third quarter of fiscal 2003. The
decrease resulted from the lower weighted average cost of funds and, to a
lesser extent, the 3% ($33 million) decrease in average debt. Lower market
interest rates and $143.3 million of fixed rate term notes swapped to
significantly lower floating rates reduced the weighted average cost of
funds to 3.3% from 3.9% in the third quarter of fiscal 2004 and 2003,
respectively.
Net finance income before provision for credit losses on finance
receivables decreased by 1% to $21.0 million in the third quarter of fiscal
2004 from $20.7 million in the third quarter of fiscal 2003. Net interest
margin (net finance income before provision for credit losses expressed as
an annualized percentage of average finance receivables) decreased to 5.9%
in the third quarter of fiscal 2004 from 6.0% in the third quarter of
fiscal 2003 due to lower market interest rates.
The provision for credit losses on finance receivables decreased to
$2.1 million in the third quarter of fiscal 2004 from $4.1 million in the
third quarter of fiscal 2003. The provision for credit losses is the
amount required to change the allowance for credit losses to the
appropriate estimated level. Net charge-offs (write-downs of finance
receivables less recoveries) decreased to $1.9 million in the third quarter
of fiscal 2004 from $4.2 million in the third quarter of fiscal 2003. The
loss ratio (net charge-offs expressed as an annualized percentage of
average finance receivables) decreased to 0.54% in the third quarter of
fiscal 2004 from 1.18% in the third quarter of fiscal 2003. Net charge-
offs decreased due to fewer non-performing assets and improved equipment
values.
Salaries and other expenses decreased by 4% to $5.6 million in the
third quarter of fiscal 2004 from $5.8 million in the third quarter of
fiscal 2003. The decrease resulted from cost savings from the reduction in
non-performing assets partially offset by increased costs of being a public
company. The expense ratio (salaries and other expenses expressed as an
annualized percentage of average finance receivables) was 1.6% in the third
quarter of fiscal 2004 and 2003.
Diluted earnings per share increased by 22% to $0.44 in the third
quarter of fiscal 2004 from $0.36 in the third quarter of fiscal 2003, and
basic earnings per share increased by 25% to $0.45 in the third quarter of
fiscal 2004 from $0.36 in the third quarter of fiscal 2003. The percentage
increase in basic earnings per share was higher than the percentage
increase in net earnings primarily due to rounding.
Comparison of nine months ended April 30, 2004 to nine months ended April
30, 2003
Net earnings decreased by less than 1% to $23.0 million in the first
nine months of fiscal 2004 from $23.2 million in the first nine months of
fiscal 2003. Excluding a non-recurring $1.7 million convertible debt
redemption loss in the first nine months of fiscal 2003 ($1.1 million after-
tax), net earnings decreased by 6%. The decrease resulted from the effects
of continued low market interest rates and, to a lesser extent, increased
costs of being a public company. These factors were partially offset by
the decrease in average debt significantly exceeding the decrease in
average receivables, and to a lesser extent, lower salary expense and the
effects of fewer non-performing assets.
Finance income decreased by 10% to $88.8 million in the first nine
months of fiscal 2004 from $98.9 million in the first nine months of fiscal
2003. The decrease resulted from the lower net yield of finance
receivables and, to a lesser extent, the 1% ($15 million) decrease in
average finance receivables. Continued low market interest rates have
13
reduced the net yield on finance receivables to 8.4% from 9.3% in the first
nine months of fiscal 2004 and 2003, respectively. Average finance
receivables decreased to $1.414 billion in the first nine months of fiscal
2004 from $1.429 billion in the first nine months of fiscal 2003.
Interest expense decreased by 25% to $25.5 million in the first nine
months of fiscal 2004 from $33.7 million in the first nine months of fiscal
2003. The decrease resulted from the lower weighted average cost of funds
and, to a lesser extent, the 5% ($51 million) decrease in average debt
(mostly fixed rate). Lower market interest rates and, to a lesser extent,
$143.3 million of fixed rate term notes swapped to significantly lower
floating rates reduced the weighted average cost of funds to 3.3% from 4.2%
in the first nine months of fiscal 2004 and 2003, respectively.
Net finance income before provision for credit losses on finance
receivables decreased by 3% to $63.4 million in the first nine months of
fiscal 2004 from $65.2 million in the first nine months of fiscal 2003.
Net interest margin decreased to 6.0% in the first nine months of fiscal
2004 from 6.1% in the first nine months of fiscal 2003 due to the effects
of lower market interest rates.
The provision for credit losses on finance receivables was $7.9
million in the first nine months of fiscal 2004 and 2003. Net charge-offs
decreased to $8.1 million in the first nine months of fiscal 2004 from $8.4
million in the first nine months of fiscal 2003. The loss ratio decreased
to 0.76% in the first nine months of fiscal 2004 from 0.79% in the first
nine months of fiscal 2003.
Salaries and other expenses increased by 2% to $17.7 million in the
first nine months of fiscal 2004 from $17.3 million in the first nine
months of fiscal 2003. The increase resulted from higher costs of being a
public company partially offset by lower salary expense from the effect of
work force reductions exceeding salary increases and cost savings from the
reduction in non-performing assets. The expense ratio increased to 1.7% in
the first nine months of fiscal 2004 from 1.6% in the first nine months of
fiscal 2003 resulting from the increase in expenses and the decrease in
average finance receivables.
Diluted earnings per share decreased by 2% to $1.25 in the first nine
months of fiscal 2004 from $1.27 in the first nine months of fiscal 2003,
and basic earnings per share decreased by 2% to $1.27 in the first nine
months of fiscal 2004 from $1.29 in the first nine months of fiscal 2003.
Diluted and basic earnings per share for the first nine months of fiscal
2003 excluding the after-tax loss on redemption of convertible debt were
$1.33 and $1.36, respectively.
The amounts of net earnings and diluted and basic earnings per share
excluding the fiscal 2003 $1.1 million after-tax convertible debt
redemption loss are non-GAAP financial measures. Management believes these
amounts are useful to investors in comparing the Company's fiscal 2004 and
fiscal 2003 operating results. This non-recurring loss resulted from the
Company's redemption of its 4.5% convertible subordinated notes. The notes
were redeemed to eliminate their dilutive effect.
RECEIVABLE PORTFOLIO AND ASSET QUALITY
Finance receivables increased by over 1% ($18.3 million) to $1.434
billion at April 30, 2004 from $1.415 billion at July 31, 2003. Finance
receivables comprise installment sale agreements and secured loans
(collectively referred to as "loans") and direct financing leases. At
April 30, 2004, 85% ($1.213 billion) of finance receivables were loans and
15% ($220.8 million) were leases.
Finance receivables originated in the third quarter of fiscal 2004 and
2003 were $211 million and $158 million, respectively, and finance
receivables originated in the first nine months of fiscal 2004 and 2003
were $560 million and $497 million, respectively. Finance receivables
collected in the third quarter of fiscal 2004 and 2003 were $179 million
and $167 million, respectively, and finance receivables collected in the
first nine months of fiscal 2004 and 2003 were $523 million and $506
million, respectively. Originations increased due to improvement in
domestic equipment financing demand.
The Company's underwriting policies and procedures require obtaining a
first lien on equipment financed or ownership of equipment leased. Most of
the equipment securing the Company's finance receivables possess
characteristics that can mitigate potential charge-offs. The equipment
collateral typically has an economic life exceeding the term of the
transaction, historically low levels of technological obsolescence, use in
multiple industries, ease of access and transporting, and a broad,
established resale market. The Company may also obtain additional
equipment or other collateral, third-party guarantees, advanced payments
and/or hold back a portion of the amount financed. The Company does not
14
finance/lease aircraft and railcars, computer related equipment, fixtures
and telecommunications equipment or equipment located outside the United
States.
The allowance for credit losses was $23.6 million at April 30, 2004
and $23.8 million at July 31, 2003. The allowance level was 1.65% of
finance receivables at April 30, 2004 and 1.68% at July 31, 2003.
Management periodically reviews the allowance to determine its level is
appropriate. The allowance level may decline further if the Company's
asset quality statistics continue to improve.
Net charge-offs of finance receivables (write-downs less recoveries)
decreased to $8.1 million in the first nine months of fiscal 2004 compared
to $10.9 million in the last nine months of fiscal 2003 (the prior nine
month period) and the loss ratio decreased to 0.76% from 1.02%. Net charge-
offs decreased to $1.9 million in the third quarter of fiscal 2004 compared
to $2.5 million in the second quarter of fiscal 2004 and the loss ratio
decreased to 0.54% from 0.70%. Net charge-offs have been decreasing due to
fewer non-performing assets and improving economic conditions and equipment
values.
Non-performing assets comprise non-accrual finance receivables and
repossessed equipment as follows ($ in millions):
==========================================================================
April 30, 2004 July 31, 2003
==========================================================================
Non-accrual finance receivables $37.3 $42.9
Repossessed equipment 4.1 19.7
--------------------------------------------------------------------------
Total non-performing assets $41.4 $62.6
==========================================================================
Percentage of total finance receivables 2.9% 4.4%
==========================================================================
The decrease in repossessed equipment accounted for the reduction in
other assets. At April 30, 2004, approximately half of non-accrual finance
receivables were not delinquent. Delinquent finance receivables
(transactions with a contractual payment 60 or more days past due) were
$26.3 million (1.8% of total finance receivables) at April 30, 2004
compared to $22.2 million (1.6% of total finance receivables) at July 31,
2003.
The Company's asset quality statistics for the first nine months of
fiscal 2004 reflect improving conditions in the economy and the industries
the Company finances. Continued improvement could result in lower levels
of net charge-offs and non-performing assets. Lower levels of net charge-
offs and non-performing assets would have a positive effect on earnings
through decreases in the provision for credit losses and operating expenses
and by increasing finance income.
LIQUIDITY AND CAPITAL RESOURCES
Liquidity and access to capital are vital to the Company. The
Company's operations and growth depend upon the continued availability of
funds to originate or acquire finance receivables, to purchase portfolios
of finance receivables and to repay maturing debt. The Company may obtain
funds from many sources, including operating cash flow, private and public
issuances of fixed and floating rate term debt, conduit and term
securitizations of finance receivables, borrowings under bilateral or
syndicated committed unsecured revolving credit facilities, commercial
paper and sales of common and preferred equity. Management believes that
the Company's sources of liquidity are well diversified. The Company is
not dependent on any single funding source or on any single credit
provider.
At April 30, 2004, the Company had $252.1 million of funding sources
available as follows; $213.1 million of unused bank credit facilities
(after taking commercial paper outstanding into account) and $39.0 million
of an unused securitization facility. The Company could also increase its
securitization facility by $167.3 million. Management believes, but cannot
assure, that sufficient liquidity is available to the Company to support
its future operations and growth.
The term notes and commercial paper of the Company's major operating
subsidiary are rated "BBB" and "F2," respectively, by Fitch with a positive
outlook. All of the Company's term notes and a majority of its commercial
paper were issued by the subsidiary. The convertible debentures, issued by
the Company, are rated "BBB" by Fitch with a positive outlook. The
Company's access to capital markets at competitive rates is partly
dependent on these investment grade credit ratings.
15
The subsidiary's debt agreements contain restrictive covenants
including limitations on indebtedness, encumbrances, investments, dividends
and other distributions to the Company, sales of assets, mergers and other
business combinations, capital expenditures, interest coverage and net
worth. None of the debt agreements contain a material adverse change
clause.
Total debt increased by 3% ($33.0 million) to $1.075 billion at April
30, 2004 from $1.042 billion at July 31, 2003 and stockholders' equity
decreased by 7% ($21.8 million) to $294.6 million at April 30, 2004 from
$316.4 million at July 31, 2003 due to the repurchase of $50.0 million of
common stock in April 2004. As a result, leverage (debt-to-equity ratio)
increased to 3.7 at April 30, 2004 from 3.3 at July 31, 2003.
Debt comprised the following ($ in millions):
===========================================================================================
April 30, 2004 July 31, 2003
----------------------------------------------
Amount Percent Amount Percent
===========================================================================================
Term notes $ 520.0 48% $ 597.0 57%
Asset securitization financings 286.0 27 325.0 31
Convertible debentures 175.0 16 - -
Commercial paper 80.9 8 111.6 11
Borrowings under bank credit facilities 16.0 1 11.4 1
-------------------------------------------------------------------------------------------
Total principal amount 1,077.9 100% 1,045.0 100%
Fair value adjustment of hedged debt (2.6) (2.7)
-------------------------------------------------------------------------------------------
Total debt $1,075.3 $1,042.3
===========================================================================================
Term Notes
In August 2003 and April 2004, the Company repaid the following fixed
rate term notes at maturity: $17.0 million with an 8.89% rate and $65.0
million with a 7.05% rate, respectively. In September 2003, the Company
issued a $5.0 million floating rate term note to a bank maturing in
December 2004. In April 2004, the Company canceled its $200.0 million
medium term note program established in fiscal 2000 after the last
outstanding note issued under the program was repaid. $97.0 million of the
program was not used.
At April 30, 2004, the $520.0 million of term notes comprised $475.0
million of private placements and medium term notes issued to insurance
companies and $45.0 million of bank term loans.
Asset Securitization Financings
The Company has a $325.0 million asset securitization facility. The
facility has a one-year term and expires in April 2005 subject to renewal.
The facility has been renewed three times since it was established in July
2001. Borrowings under the securitization facility are limited to a
minimum level of securitized receivables. If borrowings exceed the minimum
level, the Company must repay the excess or securitize more receivables.
The Company can securitize more receivables during the term of the
facility. Upon expiration and non-renewal of the facility, the Company
must repay borrowings outstanding or convert them into term debt. The term
debt would be repaid monthly in amounts equal to collections of securitized
receivables. Currently, the Company would exercise the conversion option
upon non-renewal. Based on the contractual payments of the $388.1 million
of securitized receivables at April 30, 2004, the term debt would be fully
repaid by July 2006.
The unsecured debt agreements of the Company's major operating
subsidiary limit securitized receivables to 40% of its finance receivables
outstanding, approximately $566.0 million at April 30, 2004. Therefore,
the Company could securitize an additional $178.0 million of finance
receivables at April 30, 2004. Borrowings are limited to 94% of
securitized receivables. In April 2004, the Company repaid $39.0 million
of securitization borrowings with proceeds from the convertible debentures.
16
Commercial Paper
The Company issues commercial paper directly and through a $350.0
million program. Commercial paper is unsecured and matures within 270
days. The Company has not obtained commitments from any purchaser of its
commercial paper for additional or future purchases. Increases in
commercial paper are generally offset by decreases in bank and other
borrowings, and vice versa. The Company is required (as a condition of its
credit rating) to maintain committed revolving credit facilities from banks
so that the aggregate amount available thereunder exceeds commercial paper
outstanding. Therefore, at April 30, 2004, the combined amount of
commercial paper and bank borrowings outstanding was limited to $310.0
million ($96.9 was outstanding at April 30, 2004).
Bank Credit Facilities
At April 30, 2004, the Company had $310.0 million of committed
unsecured revolving credit facilities from seven banks (a $75.0 million
decrease from July 31, 2003). This includes $157.5 million of facilities
with original terms ranging from two to five years and $152.5 million of
facilities with an original term of one year.
These facilities provide the Company with a dependable, low-cost
source of funds and support for its commercial paper program. The Company
can borrow the full amount under each facility. None of the facilities are
for commercial paper back-up only. These facilities may or may not be
renewed upon expiration.
Stockholders' Equity
In fiscal 2004, the Company acquired 1.66 million shares of its common
stock for $55.5 million. At April 30, 2004, $13.2 million remained
available under the Company's common stock repurchase program.
MARKET INTEREST RATE RISK AND SENSITIVITY
The Company's earnings are sensitive to fluctuations in market
interest rates (includes LIBOR, rates on U.S. Treasury securities, money
market rates and the prime rate). Changes in these rates affect the
Company's finance income and interest expense. Based on the Company's
current mix of fixed rate and floating rate finance receivables and debt,
increases in rates would reduce earnings and decreases in rates would
increase earnings because floating rate and short-term debt significantly
exceeds floating rate finance receivables. Therefore, when market interest
rates rise, the resulting increase in interest expense would significantly
exceed the resulting increase in finance income. Conversely, when market
interest rates decline, the resulting decrease in interest expense would
significantly exceed the resulting decrease in finance income. These
effects would diminish over time. In addition, since the Company's
interest earning assets exceed its interest bearing liabilities,
eventually, lower market interest rates would reduce earnings (this is
occurring currently) and higher rates would increase earnings. These broad
statements do not take into account the effects of economic and other
conditions that could accompany interest rate fluctuations.
The Company's earnings are subject to the risk of rising interest
rates at April 30, 2004 because of its high ratios of fixed rate
receivables and floating rate debt (floating rate debt exceeded floating
rate receivables by $650.5 as shown in the table below). This risk is
mitigated by the terms and prepayment experience of the Company's
receivables. Finance receivables provide for monthly payments for terms
ranging from two to five years and are accelerated by prepayments. At
April 30, 2004, $490.0 million (36%) of fixed rate finance receivables are
scheduled to be collected within one year and the weighted average
remaining maturity of fixed rate finance receivables is under two years.
The Company does not match the maturities of its debt to its finance
receivables.
========================================================================================
Fixed Rate Floating Rate
-------------------------------------------
Amount Percent Amount Percent Total
========================================================================================
Finance receivables $1,365.2 95% $ 68.6 5% $1,433.8
========================================================================================
Debt $ 356.2 33% $719.1 67% $1,075.3
Stockholders' equity 294.6 100 - - 294.6
----------------------------------------------------------------------------------------
Total debt and equity $ 650.8 48% $719.1 52% $1,369.9
========================================================================================
Management quantifies interest rate risk by calculating the effect on
net earnings of a hypothetical, immediate 100 basis point (1.0%) rise in
market interest rates. At April 30, 2004, such a hypothetical adverse
change in rates would reduce quarterly net earnings by approximately
$500,000. Actual future changes in market interest rates and the effect on
net earnings may differ materially due to changes in finance receivable and
debt repricing structures. In addition, other factors that may accompany
an actual immediate 100 basis point increase in market interest rates were
not considered in the calculation.
The Company monitors and manages its exposure to market interest rate
fluctuations through risk management procedures that include using certain
derivative financial instruments and changing the proportion of its fixed
rate term debt versus its floating rate and short term debt. The Company
may use derivatives to hedge its exposure to interest rate risk on certain
debt obligations. The Company does not speculate with nor trade
derivatives.
In fiscal 2004, the Company entered into two interest rate swap
agreements with a total notional amount of $55.8 million. The Company
designated them as fair value hedges of $24.5 million of 4.37% fixed rate
notes due in April 2008 and $31.3 million of 6.23% fixed rate notes due in
17
August 2007. The swaps expire on the notes' maturity dates. The swaps
effectively converted the fixed rate notes to floating rates. At April 30,
2004, fixed rate notes swapped to floating rates totaled $143.3 million and
the weighted average receive rate (4.9%) exceeded the current weighted
average pay rate (2.8%) by 210 basis points (2.1%).
The net yield of finance receivables less the weighted average cost of
borrowed funds represents the net interest spread, an important measure of
a finance company's profitability. The net interest spread for the third
quarter and first nine months of fiscal 2004 and 2003 follow:
==============================================================================
Three months ended Nine months ended
April 30, April 30,
--------------------------------------
2004 2003 2004 2003
==============================================================================
Net yield of finance receivables 8.3% 8.9% 8.4% 9.3%
Weighted average cost of borrowed funds 3.3 3.9 3.3 4.2
------------------------------------------------------------------------------
Net interest spread 5.0% 5.0% 5.1% 5.1%
==============================================================================
The net yield of finance receivables continues to decline since yields
obtained on new receivables are lower than yields on receivables collected.
This is the result of an extended period of low interest rates and is
expected to continue until market interest rates rise. The decline in
yield was offset by the decline in the cost of funds in fiscal 2004. The
cost of funds declined due to (i) the effects of $143.3 million of fixed
rate notes swapped to significantly lower floating rates, (ii) $165.0
million of term notes bearing high fixed interest rates repaid at maturity
during the last twelve months and (iii) the reduction of short-term
borrowing costs resulting from lower market interest rates. The cost of
funds is expected to decline further, only as term notes with high fixed
interest rates mature, until market interest rates rise.
NEW ACCOUNTING STANDARDS
In December 2003, the Financial Accounting Standards Board issued
Interpretation ("FIN") No. 46R, "Consolidation of Variable Interest
Entities--an interpretation of ARB No. 51." FIN No. 46R replaced FIN No.
46 issued in January 2003. FIN No. 46R requires variable interest entities
to be consolidated by the primary beneficiary (the entity at risk for a
majority of the expected losses or receiving a majority of the expected
residual returns of the variable interest entity). The Company adopted FIN
No. 46R on January 31, 2004. Prior to the adoption of FIN No. 46R, the
Company consolidated fully one variable interest entity (a special purpose
entity that it established for its asset securitization facility). The
consolidation of this entity was not affected by the adoption of FIN No.
46R. The adoption of FIN No. 46R did not have a material impact on the
Company's results of operations or financial position.
FORWARD-LOOKING STATEMENTS
Certain statements in this document may include the words or phrases
"can be," "expects," "plans," "may," "may affect," "may depend," "believe,"
"estimate," "intend," "could," "should," "would," "if" and similar words
and phrases that constitute "forward-looking statements" within the meaning
of Section 27A of the Securities Act of 1933 and Section 21E of the
Securities Exchange Act of 1934. Forward-looking statements are subject to
various known and unknown risks and uncertainties and the Company cautions
that any forward-looking information provided by or on its behalf is not a
guarantee of future performance. The Company's actual results could differ
materially from those anticipated by such forward-looking statements due to
a number of factors, some beyond the Company's control, including, without
limitation, (i) the ability to obtain funding on acceptable terms, (ii)
changes in the risks inherent in the Company's receivables portfolio and
the adequacy of the Company's reserves, (iii) changes in market interest
rates, (iv) changes in economic, financial and market conditions, (v)
changes in competitive conditions and (vi) the loss of key executives or
personnel. Forward-looking statements apply only as of the date made and
the Company is not required to update forward-looking statements for
subsequent or unanticipated events or circumstances.
Item 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
See the Market Interest Rate Risk and Sensitivity section in Item 2
18
Item 4. CONTROLS AND PROCEDURES
a. Evaluation of disclosure controls and procedures. The Company's Chief
Executive Officer and Chief Financial Officer have conducted an
evaluation of the Company's disclosure controls and procedures (as
defined in Rules 13a-15(e) and 15d-15(e) of the Securities Exchange
Act of 1934) as of the end of the period covered by this report and
each has concluded that such disclosure controls and procedures were
effective as of such date to ensure that information required to be
disclosed in the Company's reports filed under the Securities Exchange
Act of 1934 is recorded, processed, summarized and reported within the
time periods specified in Securities and Exchange Commission rules and
forms.
b. Changes in internal controls. There were no changes in the Company's
internal controls over financial reporting that occurred during the
last fiscal quarter that has materially affected, or is reasonably
likely to materially affect, the Company's internal controls over
financial reporting.
PART II
Item 2. CHANGES IN SECURITIES
See the Significant Events section in Part 1, Item 2
ISSUER PURCHASES OF EQUITY SECURITIES
For the Quarter Ended April 30, 2004
================================================================================================
Period (a) Total (b) Average (c) Total Number of (d) Maximum Number
Number Price Paid Shares Purchased (or Approximate Dollar
of Shares per Share as Part of Publicly Value) of Shares that May
Announced Plans or Yet Be Purchased Under
Programs the Plans or Programs
================================================================================================
March 2004 20,744 $33.29 20,744 $13,195,000
April 2004 1,502,400 33.28 1,502,400 13,195,000
- -------------------------------------------------------------------
Total 1,523,144 $33.28 1,523,144
================================================================================================
Item 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
Exhibit No. Description of Exhibit
- -------------------------------------------------------------------------------
3.1 (a) Articles of Incorporation of the Registrant
3.2 (a) By-laws of the Registrant
3.3 (a) Form of Restated and Amended By-laws of the Registrant
3.4 (f) Certificate of Amendment of Articles of Incorporation dated
December 9, 1998
3.5 (f) Restated By-laws of the Registrant as amended through
December 30, 1998
3.6 (g) Restated By-laws of the Registrant as amended through
March 7, 2000
4.8 (c) Indenture dated January 14, 1998 for Financial Federal
Credit Inc.'s ("Credit's") Rule 144A Medium Term Note Program
4.12 (d) Specimen Common Stock Certificate
4.14 (l) Purchase Agreement, dated April 5, 2004, between Registrant
and Banc of America Securities LLC and J.P. Morgan Securities
Inc. for Registrant's $150 million 2.0% Convertible Senior
Debentures due 2034
4.15 (l) Indenture, dated as of April 12, 2004, between Registrant and
Deutsche Bank Trust Company Americas for Registrant's $175
million 2.0% Convertible Senior Debentures due 2034
19
4.16 (l) Registration Rights Agreement, dated April 12, 2004, between
Registrant and Banc of America Securities LLC and J.P. Morgan
Securities Inc. for Registrant's $150 million 2.0% Convertible
Senior Debentures due 2034
4.17 (l) Specimen 2.0% Convertible Senior Debenture due 2034
10.8 (a) Form of Commercial Paper Note issued by the Registrant
10.9 (a) Form of Commercial Paper Note issued by Credit
10.10 (a) Stock Option Plan of the Registrant and forms of related
stock option agreements
10.21 (b) Form of Commercial Paper Dealer Agreement of Credit
10.22 (b) Form of Deferred Compensation Agreement with certain officers
as filed under the Top Hat Plan with the Department of Labor
10.25 (e) Amended and Restated 1998 Stock Option/Restricted Stock Plan
of the Registrant
10.26 (g) Deferred Compensation Agreement dated March 7, 2000 between
the Registrant and Clarence Y. Palitz, Jr.
10.27 (h) 2001 Management Incentive Plan for the Chief Executive Officer
("CEO") of the Registrant
10.28 (h) Form of Restricted Stock Agreement dated February 27, 2001
between the Registrant and its CEO
10.29 (h) Form of Restricted Stock Agreement dated February 27, 2001
between the Registrant and certain senior officers
10.30 (i) Form of Restricted Stock Agreement dated March 1, 2002 between
the Registrant and its CEO
10.31 (i) Form of Restricted Stock Agreement between the Registrant and
certain senior officers
10.32 (j) Supplemental Retirement Benefit dated June 4, 2002 between the
Registrant and its CEO
10.33 (k) Agreement to Defer Restricted Stock dated February 26, 2004
between the Registrant and its CEO
10.34 (k) Agreement to Defer Restricted Stock dated February 26, 2004
between the Registrant and its CEO
31.1 * Rule 13a-14(a)/15d-14(a) Certification of Chief Executive Officer
31.2 * Rule 13a-14(a)/15d-14(a) Certification of Chief Financial Officer
32.1 * Section 1350 Certification of Chief Executive Officer
32.2 * Section 1350 Certification of Chief Financial Officer
Previously filed with the Securities and Exchange Commission as an exhibit to
the Company's:
(a) Registration Statement on Form S-1 (Registration No. 33-46662).
(b) Form 10-K for the fiscal year ended July 31, 1996.
(c) Form 10-Q for the quarter ended January 31, 1998.
(d) Registration Statement on Form S-3 (Registration No. 333-56651).
(e) Registration Statement on Form S-8 (Registration No. 333-50962).
(f) Form 10-Q for the quarter ended January 31, 1999.
(g) Form 10-Q for the quarter ended January 31, 2000.
(h) Form 10-Q for the quarter ended April 30, 2001.
(i) Form 10-Q for the quarter ended April 30, 2002.
(j) Form 10-K for the fiscal year ended July 31, 2002.
(k) Form 10-Q for the quarter ended January 31, 2003.
(l) Form 8-K dated April 19, 2004.
* Filed herewith.
(b) Reports on Form 8-K
The Company filed a report on Form 8-K dated April 19, 2004 reporting,
under Item 5, details of its $175.0 million senior convertible debentures
offering.
The Company filed a report on Form 8-K dated April 5, 2004 reporting,
under Item 5, its intention to offer and the pricing of $150.0 million of
senior convertible debentures.
The Company filed a report on Form 8-K dated March 8, 2003 reporting,
under Item 12, the announcement of earnings for the quarter ended January
31, 2004.
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SIGNATURES
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.
FINANCIAL FEDERAL CORPORATION
-----------------------------
(Registrant)
By: /s/ Steven F. Groth
---------------------------------
Senior Vice President and
Chief Financial Officer
(Principal Financial Officer)
By: /s/ David H. Hamm
---------------------------------
Vice President and Controller
(Principal Accounting Officer)
June 8, 2004
- ------------
(Date)
21