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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
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FORM 10-K
(MARK ONE)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT
OF 1934 FOR THE FISCAL YEAR ENDED DECEMBER 31, 1997 OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934 FOR THE TRANSITION PERIOD FROM TO
COMMISSION FILE NO. 0-14120
ADVANTA CORP.
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
DELAWARE 23-1462070
(STATE OR OTHER JURISDICTION OF ORGANIZATION) (I.R.S. EMPLOYER IDENTIFICATION NO.)
WELSH & MCKEAN ROADS, P. O. BOX 844,
SPRING HOUSE, PENNSYLVANIA 19477
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (ZIP CODE)
REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (215) 657-4000
SECURITIES REGISTERED PURSUANT TO SECTION 12 (b) OF THE ACT:
TITLE OF EACH CLASS NAME OF EACH EXCHANGE ON WHICH REGISTERED
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NONE N/A
SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT:
CLASS A COMMON STOCK, $.01 PAR VALUE
CLASS B COMMON STOCK, $.01 PAR VALUE
6 3/4% CONVERTIBLE CLASS B PREFERRED STOCK, SERIES 1995
(STOCK APPRECIATION INCOME LINKED SECURITIES (SAILS)(SM))
CLASS A RIGHT
CLASS B RIGHT
(TITLE OF EACH CLASS)
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 if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K [ ].
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State the aggregate market value of the voting stock held by non-affiliates
of the registrant. The aggregate market value shall be computed by reference to
the price at which the stock was sold, or the average bid and asked prices of
such stock, as of a specified date within 60 days prior to the date of filing.
(See definition of affiliate in Rule 405.)
$184,643,718 as of March 13, 1998 which amount excludes the value of all
shares beneficially owned (as defined in Rule 13d-3 under the Securities
Exchange Act of 1934) by officers and directors of the Company (however, this
does not constitute a representation or acknowledgment that any of such
individuals is an affiliate of the Registrant).
(APPLICABLE ONLY TO CORPORATE REGISTRANTS)
Indicate the number of shares outstanding of each of the registrant's
classes of common stock, as of the latest practicable date.
As of March 13, 1998 there were 10,367,772 shares of the Registrant's Class
A Common Stock, $.01 par value, outstanding and 14,639,344 shares of the
Registrant's Class B Common Stock, $.01 par value, outstanding.
DOCUMENTS INCORPORATED BY REFERENCE
List hereunder the following documents if incorporated by reference and the
Part of the Form 10-K (e.g., Part I, Part II, etc.) into which the document is
incorporated: (1) Any annual report to security holders; (2) Any proxy or
information statement; and (3) Any prospectus filed pursuant to Rule 424(b) or
(e) under the Securities Act of 1933. The listed documents should be clearly
described for identification purposes (e.g., annual report to security holders
for fiscal year ended December 24, 1980).
DOCUMENT FORM 10-K REFERENCE
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Definitive Proxy Statement relating to the Registrant's 1998 Part III, Items 10-13
Annual Meeting of Stockholders, to be filed pursuant to
Regulation 14A not later than 120 days following the end of
the Registrant's last fiscal year, and referred to herein as
the "Proxy Statement".
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PART I
ITEM 1. BUSINESS.
OVERVIEW
Advanta Corp. (the "Company," the "Registrant" or "Advanta") serves consumers
and small businesses through innovative products and services via direct and
indirect, cost effective delivery systems. In 1997, the Company primarily
originated and serviced credit cards, mortgages, small-ticket equipment leases,
auto loans, credit insurance and deposit products. The Company utilizes customer
information attributes including credit assessments, usage patterns, and other
characteristics enhanced by proprietary information to match customer profiles
with appropriate products. At year-end 1997 managed assets totaled $21.1 billion
and an additional $9.2 billion in assets were serviced for third parties.
On February 20, 1998, Advanta and certain of its direct and indirect
subsidiaries contributed substantially all of the assets of its consumer credit
card business to a newly formed Rhode Island limited liability company (the
"LLC") controlled by Fleet Financial Group, Inc. ("Fleet"). In the transaction
(the "Transaction"), completed under the terms of a Contribution Agreement
between Advanta and Fleet (the "Contribution Agreement") dated as of October 28,
1997, each of Advanta and certain of its direct and indirect subsidiaries and
Fleet and certain of its direct and indirect subsidiaries contributed
substantially all of the assets of their respective consumer credit card
businesses, subject to liabilities, to the LLC. Advanta acquired a minority
interest of 4.99% in the LLC. Following the Transaction, Advanta continues to
operate its mortgage, business services and insurance businesses, including its
depository institutions Advanta National Bank ("ANB") and Advanta Financial
Corp. ("AFC"). In addition, Advanta retained certain immaterial assets of its
consumer credit card business which are not required in the operation of such
business and certain liabilities related to its consumer credit card business,
including, among others, all reserves relating to its credit insurance business
and any liability or obligation relating to certain consumer credit card
accounts generated in specific programs which comprise a very small portion of
the Company's consumer credit card receivables. Subsequent to the consummation
of the Transaction, certain interim services are being provided by each of
Advanta and Fleet to the other in accordance with the terms of the Contribution
Agreement.
The Company was incorporated in Delaware in 1974 as Teachers Service
Organization, Inc., the successor to a business originally founded in 1951. In
January 1988, the Company's name was changed from TSO Financial Corp. to Advanta
Corp. The Company's principal executive office is located at Welsh & McKean
Roads, P. O. Box 844, Spring House, Pennsylvania 19477-0844. The Company's
telephone number at its principal executive office is (215) 657-4000. References
to the Company in this Report include its consolidated subsidiaries unless the
context otherwise requires.
ADVANTA PERSONAL FINANCE SERVICES
Advanta Personal Finance Services, a business unit of Advanta ("Advanta
Mortgage" or "personal finance"), capitalizes on numerous niche opportunities
primarily in the home equity industry by offering a broad range of services to
consumers, brokers and other originators of home equity loans throughout the
country. Advanta Mortgage originates, purchases, securitizes, and services
non-conforming credit first and second lien home equity loans, and home equity
lines of credit, directly through subsidiaries of Advanta, including ANB and
Advanta Mortgage Corp. USA. Loan production is generated through multiple
distribution channels. Home equity loans and home equity lines of credit are
originated directly from consumers using targeted direct mail and direct
response television techniques, and through a branch office system ("Advanta
Finance") of 56 branches throughout the country. First and second mortgage loans
are also originated through a broker network, correspondent relationships and
purchases from other financial institutions. In 1997, loans originated and
purchased by Advanta Mortgage amounted to $3.7 billion compared to $1.5 billion
in 1996.
In November 1996, Advanta Mortgage established its Corporate Finance
Services business to capitalize on new opportunities in the growing mortgage
industry. Corporate Finance Services solicits third-party originators who
believe it is more cost efficient to participate in securitizations sponsored by
Advanta Mortgage and such third-party originators receive an interest in the
Company sponsored securitizations. The
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Corporate Finance Services business has experienced significant growth in 1997.
Purchases of loans by this business, which totaled $40 million in 1996, totaled
$1.1 billion in 1997.
In addition to servicing and managing the loans it originates, Advanta
Mortgage contracts with third parties to service their home equity loans on a
sub-servicing basis. Advanta Mortgage's portfolio of third party loans serviced
for a fee totaled $9.2 billion at year-end 1997, an increase of $5.5 billion
from year-end 1996. The Company has experienced significant growth in this
portfolio over the past two years as a result of its favorable reputation in the
nonconforming mortgage market and anticipates continued expansion of its market
presence. The Company bears no credit risk on this portfolio. Subserviced loans
are not included in the Company's managed portfolio.
Advanta Mortgage generally funds the loans it originates and purchases
through sales or securitizations which have been structured to qualify as real
estate mortgage investment conduits ("REMICs") under the Internal Revenue Code.
In a securitization, Advanta Mortgage typically sells receivables to a trust for
cash while retaining an interest in the loans securitized. The cash purchase
price is generated through an offering of pass-through certificates by the
trust. The purchasers of the pass-through certificates are generally entitled to
the principal and a portion of the interest collected on the underlying loans
while Advanta Mortgage retains the servicing and an interest-only strip. The
retained interest-only strip represents the remaining interest collected from
the borrowers on the underlying loans after the payment of pass-through interest
to the certificate holders and the payment of a servicing fee to the Company in
its role as servicer and is partially offset by the estimated fair value of the
Company's recourse obligation for anticipated charge-offs. During 1997, Advanta
Mortgage securitized $3.4 billion of loans compared to $1.4 billion in 1996.
The cash flows from the interest-only strips are received over the life of
the loans. However, in accordance with generally accepted accounting principles
("GAAP"), Advanta Mortgage recognizes a gain at the time of the sale equal to
the excess of the fair value of the assets obtained, principally cash, over the
allocated cost of the assets sold and transaction costs. Other basic sources of
income to Advanta Mortgage are net interest income on loans outstanding pending
their sale and loan servicing income, including subservicing of loans which are
never owned by the Company. (See Note 1 to Consolidated Financial Statements.)
Advanta Mortgage's managed portfolio of receivables includes owned loans
(generally held for sale) and the loans it services in which it retains an
interest-only strip. At December 31, 1997, owned personal finance loans
receivable totaled $478 million while total managed receivables were $5.3
billion. In contrast to the subserviced loans described above, the performance
of the managed portfolio, including loans sold by the Company, can materially
impact ongoing income from personal finance activities. See Note 1 to
Consolidated Financial Statements. At December 31, 1997, the total serviced
portfolio, including the "subserviced" portfolio, was $14.5 billion compared to
$6.4 billion at December 31, 1996.
Approximately 92% of the managed portfolio is secured by first lien
position loans and the balance is secured by second lien position loans.
Approximately 63% of the managed portfolio is comprised of fixed rate loans
while the remainder represents adjustable rate loans and intermediate rate loans
which bear interest at a fixed rate for a period of two to three years and an
adjustable rate thereafter. At December 31, 1997, total
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personal finance loans managed, and the nonperforming loans included in these
totals, are concentrated in the following five states:
PERCENT OF
PERSONAL PERCENT OF PERCENT OF NONPERFORMING
FINANCE TOTAL PORTFOLIO BY NONPERFORMING TO TOTAL
LOANS NONPERFORMING STATE BY STATE LOANS
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(DOLLARS IN MILLIONS)
California $ 739.1 $ 26.3 13.9% 14.6% 0.5%
New York 383.4 15.3 7.2 8.5 0.3
Maryland 326.6 10.2 6.2 5.6 0.2
New Jersey 326.4 12.6 6.2 7.0 0.2
Pennsylvania 292.5 12.2 5.5 6.8 0.2
Other 3,240.8 103.7 61.0 57.5 2.0
-------- ------ ----- ----- ---
TOTAL $5,308.8 $180.3 100.0% 100.0% 3.4%
======== ====== ===== ===== ===
Geographic concentration carries a risk of increased delinquency and/or
loss if a specific area suffers an economic downturn. Advanta Mortgage monitors
economic conditions in those regions through market and trend analyses. A Credit
Policy Committee meets throughout the year to update lending policies based on
the results of analyses, which may include abandoning lending activities in
economically unstable areas of the country. The Company believes that the
concentrations of nonperforming loans reflected in the preceding table are not
necessarily reflective of general economic conditions in each region, but rather
reflect the credit risk inherent in the different grades of loans originated in
each area. The interest rate charged and the maximum loan-to-value ratio
permitted with respect to each grade of loans are adjusted to compensate for the
credit risk inherent in the loan grade.
Advanta Mortgage also engages in the indirect financing of automotive
purchases by consumers in the near-prime market, which are those consumers who
have experienced credit problems, are attempting to re-establish credit, may not
yet have sufficient credit history or do not wish to deal with traditional
sources of financing. Auto finance contracts are purchased from correspondent
originators on a flow basis or in bulk purchases. In 1996 and 1997, auto loans
purchased amounted to $104 million and $195 million, respectively.
In 1997, approximately 21% of the Company's total revenues net of credit
losses were derived from Advanta Mortgage.
ADVANTA BUSINESS SERVICES
Advanta Business Services, a business unit of Advanta ("ABS" or "business loans
and leases"), offers flexible lease financing programs on small-ticket equipment
and corporate credit cards to small businesses. ABS is one of the nation's
leading providers of these products to small businesses.
The commercial equipment leasing business is generated primarily through
third party referrals from manufacturers or distributors of equipment as well as
independent brokers. Most contact with these referral sources is made from the
Company's ABS headquarters in Voorhees, New Jersey, using extensive direct
marketing operations. These operations include a staff of telephone sales
representatives who are assigned to specific industries, and are backed by the
Company's direct mail marketing program. Additional business is also generated
from direct contact with customers through these same channels.
The primary markets of the leasing business include office machinery,
security systems and computers. ABS has also expanded its presence into
additional market segments. The most significant of these are leasing programs
for certain industrial and agricultural equipment and programs for leasing
equipment to agencies of state and local governments. Additionally, ABS has
expanded its National Accounts program which seeks referral business from larger
distributors and manufacturers. Managed lease receivables at December 31, 1997
totaled approximately $595 million, an increase of approximately $75 million
from year end 1996.
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The business-purpose credit card operation grew from approximately 79,000
accounts with balances of $306 million in 1996 to approximately 170,000 accounts
with balances of $663 million as of December 31, 1997. Direct marketing
techniques, primarily direct mail to prospective customers, are the source of
new accounts. This marketing program is the result of extensive and ongoing
testing of various campaigns, with success of each campaign measured by both the
cost of acquisition of new business, and the credit performance of the resulting
business. The "Advanta Business Card" is marketed by ABS and issued by its
affiliate, AFC (see "Government Regulation -- Advanta Financial Corp.").
ADVANTA INSURANCE COMPANIES
Advanta's insurance subsidiaries ("Advanta Insurance") make available, through
unaffiliated insurance carriers, specialty credit related insurance products and
services to Advanta's existing customer base. The focus of these products is on
the customers' ability to repay their debt in the event of certain
circumstances. These products include a combined credit life, disability and
unemployment program, an accidental death program and equipment insurance.
Enrollment in these programs is achieved through Advanta's direct mail or
telemarketing distribution channels. In consideration, the lending subsidiary of
Advanta that extends the loan to Advanta's customers receives as an expense
reimbursement, a percentage of insurance premiums collected by the unaffiliated
insurance carriers.
In addition, ANB (and its predecessors by merger) makes available to the
consumer credit card customers of APPS in certain states the option to purchase
debt cancellation products called Credit Protection Plus(R) and Credit
Protector(R). ANB (and its predecessors by merger) has purchased from Advanta
Insurance insurance protection against excess losses, as defined, incurred from
providing these services.
In certain circumstances, Advanta Insurance reinsures all or a portion of
certain risks associated with these products or services. Advanta Insurance's
reinsurance agreements provide for a proportional quota share of 100% of these
risks from the insurance carriers. In consideration for assumption of these
risks, the Advanta Insurance receives reinsurance premiums equal to 100% of the
net premiums collected by the insurance carriers, less a ceding fee as defined
by the reinsurance treaties, and all acquisition expenses, premium taxes and
loss payments made by the carriers on these risks. Under the terms of certain
reinsurance agreements Advanta Insurance is either obligated to maintain in
trust for the benefit of an insurance carrier an amount equal to 100% of the
unearned premiums and all statutory reserves for future incurred loss payments.
Advanta Insurance has entered into an aggregate excess of loss reinsurance
treaty for its accidental death risks with an unaffiliated insurance carrier.
Under the terms of the treaty, losses in excess of a specified percentage of
earned premium levels will be reimbursed by the insurance carrier. In addition,
the treaty provides for certain experience refunds.
In connection with the contribution of Advanta's consumer credit card
business to the LLC, all of ANB's credit card customer relationships underlying
the insurance risks reinsured by Advanta Insurance were transferred to Fleet or
its subsidiaries. Following the closing under the Contribution Agreement on
February 20, 1998, Advanta Insurance no longer reinsures these insurance risks
and will not recognize any reinsurance revenues as provided under the
reinsurance agreements. Advanta Insurance is, however, responsible to reimburse
the unaffiliated insurance carriers for losses paid and maintain loss reserves
on losses incurred on risks assumed on or prior to February 20, 1998.
Additionally, following the Transaction with Fleet, ANB is responsible for
customers who request activation of their debt cancellation agreements for
events covered under these agreements occurring on or prior to February 20,
1998. ANB is responsible for all reserves for expenses related to these future
activations. Following the contribution of Advanta's consumer credit card
business to the LLC, Advanta Insurance continues to make its insurance products
available to the Company's personal finance and business loan and leasing
customers. However, a significant portion of Advanta Insurance's total revenues
in 1997 were derived from the sale of its combined insurance product and
services to consumer credit card customers of APPS.
Pursuant to a strategic alliance formed in 1996 with Progressive Casualty
Insurance Company ("Progressive"), Advanta Insurance is direct marketing
Progressive's automobile insurance policies nationwide. Advanta Insurance and
Progressive also entered into a quota share reinsurance agreement that provides
that
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Advanta's insurance subsidiary assumes 50% of all risks on automobile policies
written by Progressive under the insurance programs being jointly marketed.
Generally, automobile policies underwritten by Progressive provide for
automobile liability protection up to $500,000 and automobile physical damage
protection up to $100,000 as defined under specific policy and customer
requirements.
ADVANTA PARTNERS
Advanta Partners LP ("Advanta Partners") is a private venture capital equity
investment firm formed in 1994. The firm focuses primarily on growth capital
financings, restructurings and management buyouts in the financial services and
information services industries. The investment objective of Advanta Partners is
to earn attractive returns by building the long-term values of the businesses in
which it invests. Advanta Partners combines transaction expertise, management
skills and a broad contact base with strong industry-specific knowledge which is
further enhanced by its relationship with the Company.
ADVANTA PERSONAL PAYMENT SERVICES
Prior to the contribution of substantially all of the assets of the Company's
consumer credit card business to the LLC, the Company offered consumer credit
cards through Advanta Personal Payment Services, a business unit of Advanta
("APPS" or "consumer credit cards"). The Company, which had been in the credit
card business since 1983, issued gold (i.e., premium) and standard
MasterCard(R)* and VISA(R)* credit cards nationwide. APPS had built a
substantial cardholder base which, as of December 31, 1997, totaled 5.9 million
accounts and $11.2 billion in managed receivables. The primary method of account
acquisition was direct mail solicitation and APPS generally used credit scoring
by independent third parties and proprietary market segmentation and targeting
models to target its mailings to profitable segments of the market.
In 1982, the Company acquired Colonial National Bank USA, the name of which
was changed to Advanta National Bank USA ("AUS") in May 1996. In 1995, the
Company chartered Advanta National Bank ("Old ANB") to complement the credit
card activities of AUS. Old ANB was a limited purpose national bank known as a
"credit card bank" and its lending activities were limited to consumer credit
card lending. See "Government Regulation -- Advanta National Bank." Effective
June 30, 1997, Old ANB was merged into AUS and AUS was renamed Advanta National
Bank (previously defined herein as ANB). As national banks, AUS and Old ANB, and
now ANB, have had the ability to make loans to consumers without many of the
restrictions found in various state usury and licensing laws, to negotiate
variable rate loans, to generate funds economically in the form of deposits
insured by the Federal Deposit Insurance Corporation ("FDIC"), and to include in
their product mix both MasterCard and VISA credit card programs.
MasterCard and VISA license banks, such as ANB and other financial
institutions, to issue credit cards using their trademarks and to utilize their
interchange networks. Cardholders may use their cards to make purchases at
participating merchants or to obtain cash advances at participating financial
institutions. Cardholders may also use special credit line drafts issued by the
banks to draw against their Visa or MasterCard credit lines for cash, purchases
or balance transfers. Each credit card transaction is submitted to a merchant
bank which remits to the merchant the purchase amount less a merchant discount
fee, and submits the purchase to the card issuing bank for payment through the
appropriate settlement system. The card issuing bank receives an interchange fee
as compensation for the funding and credit and fraud risk that it takes when its
customers use its credit card. MasterCard or VISA sets the interchange fee as a
percentage of each card transaction (averaging approximately 1.4% in 1997).
APPS generated interest and other income from its credit card business
through finance charges assessed on outstanding loans, interchange income, cash
advance and other credit card fees, and securitization income as described
below. Credit card income also included fees paid by credit card customers for
product enhancements they selected, and revenues paid to ANB (and its
predecessors by merger) by third parties for the right to market their products
to the APPS credit card customers.
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* MasterCard(R) is a federally registered servicemark of MasterCard
International, Inc.; VISA(R) is a federally registered servicemark of VISA,
U.S.A., Inc.
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Most of such MasterCard and VISA credit cards carried no annual fee, and
those credit cards which included an annual fee generally had lower fees than
those charged by many of APPS' competitors. The interest rates on the majority
of APPS' credit card receivables were variable, tied either to the prime rate or
the London interbank offered rate ("LIBOR"). This variable rate structure helped
APPS maintain net interest margins in both rising and declining interest rate
environments.
The following table shows the geographic distribution by state of total
managed consumer credit card receivables among the top five states, together
with the impaired credit card receivables in those states as of December 31,
1997:
CONSUMER PERCENT OF PERCENT OF PERCENT OF
CREDIT TOTAL TOTAL IMPAIRED
CARD TOTAL PORTFOLIO IMPAIRED TO TOTAL
RECEIVABLES IMPAIRED BY STATE BY STATE RECEIVABLES
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(DOLLARS IN MILLIONS)
California $ 1,633.3 $ 56.3 14.5% 18.5% 0.5%
New York 924.2 27.2 8.2 8.9 0.3
Texas 842.7 25.7 7.5 8.5 0.2
Florida 676.1 24.1 6.0 7.9 0.2
Illinois 451.8 10.6 4.0 3.5 0.1
Other 6,716.5 160.5 59.8 52.7 1.4
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TOTAL $11,244.6 $304.4 100.0% 100.0% 2.7%
========= ====== ===== ===== ===
Since 1988, APPS, through ANB (and its predecessors by merger), has been
active in the consumer credit card securitization market. Through 1997 and up to
the closing of the Transaction with Fleet, the Company recognized income on a
monthly basis from the securitized receivables. See "Management's Discussion and
Analysis of Financial Condition and Results of Operations" and Notes 1 and 3 to
Consolidated Financial Statements.
On February 20, 1998, in connection with the contribution of the Company's
consumer credit card business to the LLC, the assets and liabilities relating to
ANB's consumer credit card securitizations and servicing capabilities and
obligations were transferred to the LLC.
Prior to the contribution of the consumer credit card business to the LLC,
the consumer credit card securitization program provided a number of benefits:
diversifying the funding base; providing liquidity; reducing regulatory capital
requirements; lowering the cost of funds; and providing a source of
variable-rate funding to complement the variable-rate credit card portfolio.
Additionally, until September 30, 1996, securitization was important in helping
to limit the on-balance sheet growth of AUS to less than 7% per annum. See
"Government Regulation -- the Company."
A credit card securitization involves the transfer of the receivables
generated by a pool of credit card accounts to a securitization trust.
Certificates issued by the trust and sold to investors represent undivided
ownership interests in receivables transferred to the trust. Accordingly, the
credit card securitizations resulted in removal of the related credit card
receivables from the Company's balance sheet for financial and regulatory
accounting purposes. For tax purposes, the investor certificates were
characterized as a collateralized debt financing of the Company.
In a credit card securitization, the trust receives finance and other
charges paid by the credit card customers and pays a rate of return on a monthly
or quarterly basis to the certificate holders. While in most cases the rate of
return paid to investors in the securitization trusts was variable in order to
match the pricing dynamics of the underlying receivables, the Company also used
fixed rate securitizations in certain circumstances. See "Management's
Discussion and Analysis of Financial Condition and Results of
Operations -- Asset/Liability Management." APPS serviced the accounts for a fee
of approximately 2.0% of the securitized receivables. ANB (and its predecessors
by merger) retained an interest-only strip representing the remaining interest
and fees collected from credit card customers after the payment of pass-through
interest to the certificate holders and the payment of a servicing fee to ANB
(and its predecessors by merger) in its role
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as servicer and is partially offset by the estimated fair value of the ANB's
recourse obligation for anticipated charge-offs. Cash flows from the
interest-only strip were first retained in the securitization trusts to build up
a reserve fund to a certain level, after which amounts were remitted to ANB.
APPS' relationship with its credit card customers was not affected by its
securitizations.
Investors in the securitization trusts received payments only of interest
during the first three to eight and one-half years of the trust. Thereafter, an
amortization period (generally between six and ten months) commenced, during
which the certificate holders are entitled to payment of principal and interest.
Under the terms of ANB's credit card securitizations, the acceleration of the
commencement of the amortization period (which could occur in limited
circumstances) on a securitization would accelerate ANB's funding requirement.
Upon full repayment of principal to the certificate holders, whether as a result
of normal or accelerated amortization, the trust's lien on the accounts would
terminate and all related receivables and funds held in the trust, including the
reserve fund, would be transferred to ANB. On February 20, 1998, in connection
with the Transaction with Fleet, Fleet and its subsidiaries assumed ANB's
obligations as seller and servicer with respect to each of the credit card
securitization trusts.
In 1997, approximately 59% of the Company's total revenues net of credit
losses were derived from APPS.
DEPOSIT, SAVINGS AND INVESTMENT PRODUCTS
The Company offers a range of insured deposit products as well as uninsured bank
notes through ANB (and previously through its predecessors by merger) and offers
uninsured investment products of Advanta through both direct and underwritten
sales of debt securities. In December 1996, Advanta Capital Trust I, a statutory
business trust established by the Company, issued $100,000,000 of 8.99% Capital
Securities, maturing in December 2026 (the "Capital Securities"). The Capital
Securities represent a preferred beneficial interest in the assets of the trust.
The proceeds of that offering were lent to the Company for general corporate
purposes (See Note 7 to Consolidated Financial Statements). In October 1995, the
Company ceased selling subordinated retail investment notes, and instead began
offering senior retail investment notes which (like the previous subordinated
notes) are marketed by print advertising and direct mail solicitations to
existing and prospective individual investors. In addition to the senior retail
investment note program, in July 1996 the Company filed a senior debt shelf
registration with the Securities and Exchange Commission covering $1.6 billion
of securities. As of December 31, 1997, $1.0 billion of debt securities had been
issued under this shelf. The Company also filed a "universal shelf" registration
statement in June 1995 for $500 million of debt and/or equity securities. In
July 1995, $92.5 million of 6 3/4% Convertible Class B Preferred Stock was
issued under that shelf.
Bank deposit products include demand deposits, money market savings,
statement savings accounts, retail certificates of deposit; and large
denomination certificates of deposit (certificates of $100,000 or more).
Consumer deposit business is generated from repeat sales to existing depositors
and from new depositors attracted by newspaper advertising and direct mail
solicitations.
In addition to the funding diversity provided by the debt issuance capacity
of the Company and the debt and deposit raising capabilities of ANB, AFC has
been taking deposits in the form of certificates of deposit since January 1992.
AFC is an FDIC-insured industrial loan corporation organized under the laws of
the State of Utah. As of December 31, 1997, funding provided by AFC was not
material to the Company.
GOVERNMENT REGULATION
THE COMPANY
The Company is not required to register as a bank holding company under the Bank
Holding Company Act of 1956, as amended (the "BHCA"). The Company indirectly
owns ANB, which is a "bank" as defined under the BHCA as amended by the
Competitive Equality Banking Act of 1987 ("CEBA"). However, under certain
grandfathering provisions of CEBA, the Company is not required to register as a
bank holding company under the BHCA because ANB, which takes demand deposits but
does not make commercial loans,
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did not come within the BHCA's definition of the term "bank" prior to the
enactment of CEBA and it complies with certain restrictions set forth in CEBA,
such as limiting its activities to those in which it was engaged prior to March
5, 1987 and, prior to September 30, 1996, limiting its growth rate to not more
than 7% per annum.
Prior to June 30, 1997, the Company owned two banks, AUS and Old ANB. The
elimination of the growth cap of 7% under CEBA by amendment of the BHCA in
September 1996 created substantial new flexibility with respect to
asset/liability management for the Company's banks. Effective June 30, 1997, the
Company merged Old ANB into AUS. The new bank was then renamed Advanta National
Bank (previously defined herein as ANB). See "Management's Discussion and
Analysis of Financial Condition and Results of Operations -- Asset/Liability
Management -- Liquidity and Capital Resources."
Continuing CEBA restrictions also prohibit ANB from cross-marketing
products or services of an affiliate that are not permissible for bank holding
companies under the BHCA. In addition, the Company complies with certain other
restrictions set forth in CEBA, such as not acquiring control of more than 5% of
the stock or assets of an additional "bank" or "savings association" as defined
for these purposes under the BHCA. Consequently, the Company is not subject to
examination by the Federal Reserve Board (other than for purposes of assuring
continued compliance with the CEBA restrictions referenced in this section).
Should the Company or ANB cease complying with the restrictions set forth in
CEBA, registration as a bank holding company under the BHCA would be required.
Registration as a bank holding company is not automatic. The Federal
Reserve Board may deny an application if it determines that control of a bank by
a particular company will cause undue interference with competition or that such
company lacks the financial or managerial resources to serve as a source of
strength to its subsidiary bank. While the Company believes that it meets the
Federal Reserve Board's managerial standards and that its ownership of ANB has
improved the bank's competitiveness, should the Company be required to apply to
become a bank holding company the outcome of any such application cannot be
certain.
Registration as a bank holding company would subject the Company and its
subsidiaries to inspection and regulation by the Federal Reserve Board. Although
the Company has no plans to register as a bank holding company at this time, the
Company believes that registration would not restrict, curtail, or eliminate any
of its activities at current levels, except that some portions of the current
business operations of the Company's insurance subsidiaries would have to be
discontinued, the effects of which would not be material. However, the Company
is actively exploring additional lines of business, some of which the Company
would not be able to pursue as a registered bank holding company under the BHCA.
Under CEBA, AFC is not considered a "bank" for purposes of the BHCA, and so
the Company's ownership of it does not impact the Company's exempt status under
the BHCA.
ADVANTA NATIONAL BANK
The Company acquired AUS in 1982, organized Old ANB in 1995, and merged the two
banks effective June 30, 1997. After the merger, the surviving entity ANB is a
national banking association organized under the laws of the United States of
America. The headquarters and sole branch of ANB are currently located in
Wilmington, Delaware. The Company conducts a large portion of its mortgage
lending business and it conducted a large portion of its consumer credit card
lending business through ANB (and its predecessors by merger). ANB is subject
primarily to regulation and periodic examination by the Office of the
Comptroller of the Currency (the "Comptroller"). Such regulation relates to the
maintenance of reserves for certain types of deposits, the maintenance of
certain financial ratios, transactions with affiliates and a broad range of
other banking practices. As a national bank, ANB is subject to provisions of
federal law which restrict its ability to extend credit to its affiliates or pay
dividends to its parent company. See "Dividends and Transfers of Funds."
ANB is subject to capital adequacy guidelines issued by the Comptroller.
These guidelines make regulatory capital requirements more sensitive to
differences in risk profiles among banking organizations and consider
off-balance sheet exposures in determining capital adequacy. Under the rules and
regulations of the Comptroller, at least half of the total capital is to be
comprised of common equity, retained earnings and a
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limited amount of non-cumulative perpetual preferred stock ("Tier I capital").
The remainder may consist of other preferred stock, certain hybrid debt/equity
instruments, a limited amount of term subordinated debt or a limited amount of
the reserve for possible credit losses ("Tier II capital"). The Comptroller has
also adopted minimum leverage ratios (Tier I capital divided by total average
assets) for national banks. Recognizing that the risk-based capital standards
address only credit risk (and not interest rate, liquidity, operational or other
risks), many national banks are expected to maintain capital in excess of the
minimum standards.
In addition, pursuant to certain provisions of the FDIC Improvement Act of
1991 ("FDICIA") and regulations promulgated thereunder with respect to prompt
corrective action, FDIC-insured institutions such as ANB may only accept
brokered deposits without FDIC permission if they meet certain capital
standards, and are subject to restrictions with respect to the interest they may
pay on deposits unless they are "well-capitalized." To be "well-capitalized," a
bank must have a ratio of total capital (combined Tier I and Tier II capital) to
risk-weighted assets of not less than 10%, Tier I capital to risk-weighted
assets of not less than 6%, and a Tier I leverage ratio of not less than 5%.
As of December 31, 1997, ANB's Tier I capital ratio was 12.93%, its
combined Tier I and Tier II capital ratio was 16.39%, and its leverage ratio was
14.07%, each of which meets the requirements of the Comptroller and makes ANB
well-capitalized under the regulatory framework described above.
ADVANTA FINANCIAL CORP.
In January 1992, AFC opened for business and began accepting deposits. AFC is an
FDIC-insured industrial loan corporation organized under the laws of the State
of Utah and is subject to examination and regulation by both the FDIC and the
Utah Department of Financial Institutions. At December 31, 1997, AFC had
deposits of $195 million and total assets of $236 million. Currently, AFC's
principal activities consist of small ticket equipment lease financing and
issuance of the "Advanta Business Card" credit card marketed by ABS. The Company
anticipates that AFC's managed receivables base of Advanta Business Card loans
will continue to grow in 1998.
LENDING AND LEASING ACTIVITIES
The Company's activities as a lender are also subject to regulation under
various federal and state laws including the Truth-in-Lending Act, the Equal
Credit Opportunity Act, the Home Mortgage Disclosure Act, the Community
Reinvestment Act, the Electronic Funds Transfer Act, the Real Estate Settlement
Practices Act and the Fair Credit Reporting Act. Provisions of those statutes,
and related regulations, among other matters, require disclosure to borrowers of
finance charges in terms of an annual percentage rate, prohibit certain
discriminatory practices in extending credit, require the Company's FDIC-insured
depository institutions to serve the banking needs of their local communities
and regulate the dissemination and use of information relating to a borrower's
creditworthiness. Certain of these statutes and regulations also apply to the
Company's leasing activities. In addition, Advanta Mortgage, Advanta Finance and
their respective subsidiaries are subject to licensure and regulation in various
states as mortgage bankers, mortgage brokers, and originators, sellers and
servicers of mortgage loans.
DIVIDENDS AND TRANSFERS OF FUNDS
There are various legal limitations on the extent to which ANB or AFC can
finance or otherwise supply funds through dividends, loans or other means to the
Company and its affiliates. The prior approval of the Comptroller is required if
the total of all dividends declared by ANB in any calendar year exceeds that
institution's net profits (as defined) for that year combined with its retained
net profits for the preceding two years, less any required transfers to surplus
accounts. In addition, ANB is not permitted to pay a dividend in an amount
greater than its undivided profits then on hand after deducting its losses and
bad debts. The Comptroller also has authority under the Financial Institutions
Supervisory Act to prohibit a national bank from engaging in any unsafe or
unsound practice in conducting its business. It is possible, depending upon the
financial condition of the bank in question and other factors, that the
Comptroller could claim that a dividend payment might under some circumstances
be an unsafe or unsound practice.
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ANB and AFC are also subject to restrictions under Sections 23A and 23B of
the Federal Reserve Act. These restrictions limit the transfer of funds by the
depository institution to the Company and certain other affiliates, as defined
in that Act, in the form of loans, extensions of credit, investments or
purchases of assets, and they require generally that the depository
institution's transactions with its affiliates be on terms no less favorable to
the bank than comparable transactions with unrelated third parties. These
transfers by any one institution to the Company or any single affiliate are
limited in amount to 10% of the depository institution's capital and surplus and
transfers to all affiliates are limited in the aggregate to 20% of the
depository institution's capital and surplus. Furthermore, such loans and
extensions of credit are also subject to various collateral requirements. In
addition, in order for the Company to maintain its grandfathered exemption under
CEBA, ANB is not permitted to make any loans to the Company or any of its
subsidiaries.
REGULATION OF INSURANCE
The Company's insurance subsidiaries are subject to the laws and regulations of,
and supervision by, the states in which they are domiciled or have obtained
authority to transact insurance business. These states have adopted laws and
regulations which govern all marketing, licensing, administration and financial
operations of an insurance company, including dividend payments and financial
solvency. In addition, the insurance subsidiaries have registered as an Arizona
Holding Company which requires an annual registration and the approval of
certain transactions between all affiliated entities.
The maximum dividend that any of the insurance subsidiaries can distribute
to its parent in any twelve month period without prior approval of the State of
Arizona Department of Insurance is the lesser of 10% of the subsidiary's
statutory surplus or for any given twelve-month period, its net income (if a
life insurance company) or net investment income (if a property and casualty
insurance company). In 1997, one of the Company's insurance subsidiaries applied
and received approval for an extraordinary dividend in the amount of $40.6
million payable to the Company, mainly consisting of common stock of another
insurance subsidiary as part of an ownership restructuring.
The State of Arizona has adopted minimum risk-based capital standards as
developed by the National Association of Insurance Commissioners. Risk-based
capital is the quantification of an insurer's investment, underwriting, reserve
and business risks in relation to its total adjusted capital and surplus. The
ratio of an insurer's total adjusted capital and surplus, as defined, is
compared to various levels of risk-based capital to determine what intervention,
if any, is required by either the insurance company or an insurance department.
The Company's insurance subsidiaries meet all risk-based capital standards and
require no action by any party.
The Company's insurance subsidiaries reinsure risks pursuant to
underwriting insurance practices and rates which are regulated in part or fully
by state insurance departments. These rates are continually being reviewed and
modified by the state insurance departments based on prior historical
experience. Any modifications may impact the future profitability of the
Company's insurance subsidiaries.
GENERAL
Because the banking and finance businesses in general are the subject of such
extensive regulation at both the state and federal levels, and because numerous
legislative and regulatory proposals are advanced each year which, if adopted,
could affect the Company's profitability or the manner in which the Company
conducts its activities, the Company cannot now predict the extent of the impact
of any such new laws or regulations.
Various legislative proposals have been or will be introduced in Congress,
including, among others, proposals relating to permitting affiliations between
banks and commercial or securities firms and statutory changes to the Real
Estate Settlement Practices Act and the Truth in Lending Act. It is impossible
to determine whether any of these proposals will become law and, if so, what
impact they will have on the Company.
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COMPETITION
As a marketer of credit products, the Company faces intense competition from
numerous providers of financial services. Many of these companies are
substantially larger and have more capital and other resources than the Company.
Competition among lenders can take many forms including convenience in obtaining
a loan, customer service, size of loans, interest rates and other types of
finance or service charges, duration of loans, the nature of the risk which the
lender is willing to assume and the type of security, if any, required by the
lender. Although the Company believes it is generally competitive in most of the
geographic areas in which it offers its services, there can be no assurance that
its ability to market its services successfully or to obtain an adequate yield
on its loans will not be impacted by the nature of the competition that now
exists or may develop.
Prior to the contribution of its consumer credit card business to the LLC,
in both domestic and international VISA and MasterCard markets, the Company
competed with national, regional, and local issuers. American Express and the
Discover Card represented additional competition in the general purpose credit
card markets in the United States. In recent years, a large segment of customers
have been attracted to credit card issuers largely on the basis of product
features, including price and credit limit; as such, customer loyalty may have
been limited. As a result, account and balance attrition have been significant
factors in the credit card industry.
In seeking investment funds from the public, the Company faces competition
from banks, savings institutions, money market funds, credit unions and a wide
variety of private and public entities which sell debt securities, some of which
are publicly traded. Many of the competitors are larger and have more capital
and other resources than the Company. Competition relates to such matters as
rate of return, collateral, insurance or guarantees applicable to the investment
(if any), the amount required to be invested, convenience and the cost to and
conditions imposed upon the investor in investing and liquidating his investment
(including any commissions which must be paid or interest forfeited on funds
withdrawn), customer service, service charges, if any, and the taxability of
interest.
EMPLOYEES
As of December 31, 1997, the Company had 4,498 employees, up from 3,541
employees at the end of 1996. On February 20, 1998, 2,204 employees of the
Company were transferred to the LLC in connection with the Transaction with
Fleet. The Company believes that it has good relationships with its employees.
None of its employees are represented by a collective bargaining unit.
CAUTIONARY STATEMENTS
Information or statements provided by the Company from time to time may contain
certain "forward-looking information" including information relating to
anticipated earnings per share, anticipated returns on equity, anticipated
growth in loans outstanding and credit card accounts, anticipated net interest
margins, anticipated operations costs and employment growth, anticipated
prepayment rates of outstanding loans, anticipated marketing expense or
anticipated delinquencies and charge-offs. The cautionary statements provided
below are being made pursuant to the provisions of the Private Securities
Litigation Reform Act of 1995 (the "Act") and with the intention of obtaining
the benefits of the "safe harbor" provisions of the Act for any such
forward-looking information. Many of the following important factors discussed
below as well as other factors have also been discussed in the Company's prior
public filings.
The Company cautions readers that any forward-looking information provided
by the Company is not a guarantee of future performance and that actual results
may differ materially from those in the forward-looking information as a result
of various factors, including but not limited to:
-- Increased credit losses (including increases due to a worsening of
general economic conditions), increased collection costs associated with
rising delinquency levels, costs associated with an increase in the
number of customers seeking protection under the bankruptcy laws,
resulting in accounts being charged off as uncollectible, and costs and
other effects of fraud by third parties or customers.
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-- Intense and increasing competition from numerous providers of financial
services who may employ various competitive strategies. The Company
faces competition from national, regional and local originators of
non-conforming mortgages and business equipment leases, some of which
have greater resources than the Company.
-- The effects of increased competition and changes in economic conditions
including interest rate fluctuations resulting in higher than
anticipated prepayments of outstanding loans.
-- The effects of interest rate fluctuations on the Company's net interest
margin and the value of its assets and liabilities; the continued legal
or commercial availability of techniques (including interest rate swaps
and similar financial instruments, loan repricing, hedging and other
techniques) used by the Company to manage the risk of such fluctuations
and the continuing operational viability of those techniques and the
accounting and regulatory treatment of such instruments.
-- Difficulties or delays in the securitization of the Company's
receivables and the resulting impact on the cost and availability of
such funding. Such difficulties and delays may result from changes in
the availability of credit enhancement in securitizations, the current
legal, regulatory, accounting and tax environment and adverse change in
the performance of the securitized assets.
-- Changes in the Company's aggregate accounts or loan balances and the
growth rate thereof, including changes resulting from factors such as
shifting product mix, amount of actual marketing investment made by the
Company, prepayment of loan balances and general economic conditions and
other factors beyond the control of the Company.
-- The impact of "seasoning" (the average age of a lender's portfolio) on
the Company's level of delinquencies and losses which may require a
higher allowance for loan losses for on-balance sheet assets, and may
adversely impact personal finance and business loan and lease
securitization income. The addition of account originations or balances
and the attrition of such accounts or balances could significantly
impact the seasoning of the overall portfolio.
-- The amount, and rate of growth in, the Company's expenses (including
employee and marketing expenses) as the Company's business develops or
changes and the Company expands into new market areas; the acquisition
of assets (interest-earning, fixed or other); the effects of changes
within the Company's organization or in its compensation and benefit
plans; and the impact of unusual items resulting from the Company's
ongoing evaluation of its business strategies, asset valuations and
organizational structures.
-- The amount, type and cost of financing available to the Company, and any
changes to that financing including any impact from changes in the
Company's debt ratings; and the activities of parties with which the
Company has agreements or understandings, including any activities
affecting any investment.
-- Difficulties or delays in the development, production, testing and
marketing of products or services, including, but not limited to, a
failure to implement new product or service programs when anticipated,
the failure of customers to accept these products or services when
planned, losses associated with the testing of new products or services
or financial, legal or other difficulties as may arise in the course of
such implementation.
-- The effects of, and changes in, monetary and fiscal policies, laws and
regulations (financial, consumer, regulatory or otherwise), other
activities of governments, agencies and similar organizations, and
social and economic conditions, such as inflation, and changes in
taxation of the Company's earnings.
-- The costs and other effects of legal and administrative cases and
proceedings, settlements and investigations, claims and changes in those
items, developments or assertions by or against the Company or its
subsidiaries; adoptions of new, or changes in existing, accounting
policies and practices and the application of such policies and
practices.
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-- The impact of the Company's costs to comply with requirements of the
Year 2000 Issue described herein as well as the effects of the
compliance or lack thereof by the Company's customers, suppliers and
partners.
ITEM 2. PROPERTIES.
In 1997, the Company owned four buildings totaling 308,278 square feet and
leased an additional 302,453 square feet in eight buildings in the Pennsylvania
suburbs of Philadelphia. This includes the Company's principal executive offices
located in Spring House, Pennsylvania. In the adjoining states of New Jersey,
Delaware and New York the Company owned two buildings totaling 177,196 square
feet and leased 62,352 square feet in three buildings. The Company leased seven
offices located in Utah, California and Colorado totaling 374,305 square feet.
In summary, the Company occupied 1,224,584 square feet of leased and owned space
in 24 buildings located in seven states. In addition, the Company leased office
space which averaged approximately 1,100 square feet per branch for each of its
56 Advanta Finance branches.
In connection with the contribution of the Company's consumer credit card
business to the LLC, the Company contributed three owned buildings totaling
218,278 square feet and leases on four buildings totaling 129,387 square feet in
the Pennsylvania suburbs of Philadelphia. In addition, the Company contributed
to the LLC one owned building totaling 121,000 square feet in Delaware and a
lease on one building totaling 155,655 square feet in Colorado.
ITEM 3. LEGAL PROCEEDINGS.
On June 30, 1997, purported shareholders of the Company who are represented by a
group of law firms filed a putative class action complaint against the Company
and several of its current and former officers and directors in the United
States District Court for the Eastern Division of Pennsylvania. A second,
similar complaint was filed in the same court a few days later by a different
group of law firms. Both complaints allege that the Company made
misrepresentations in certain of its public filings and statements in violation
of the Securities Exchange Act of 1934. The complaints seek damages of an
unspecified amount. Pursuant to stipulation, the complaints have been
consolidated into one action. The Company believes that the complaints are
without merit and will vigorously defend itself against the actions.
On August 25, 1997, a purported consumer credit cardholder of the Company
instituted a putative class action complaint against the Company and certain of
its subsidiaries in Delaware Superior Court for New Castle County. Subsequently,
on September 8, 10, and 12, October 2, 1997, November 7 and 12, 1997, and
December 2, 10, 15, and 18 (2 cases), similar actions were filed in Orange
County California Superior Court, the United States District Court for the
Eastern Division of Tennessee, Delaware Superior Court, the Circuit Court of
Covington County, Alabama, the United States District Court for the Northern
District of California, the United States District Court for the Central
District of California, the United States District Court for the Eastern
District of Pennsylvania, the District Court of Bexar County, Texas, the United
States District Court for the Northern District of Texas, the United States
District Court for the District of New Jersey and the Circuit Court of the Ninth
Judicial Circuit in and for Orange County, Florida, respectively. The complaints
allege that consumer credit cardholder accounts in a specific program were
improperly repriced to a higher percentage rate of interest. The complaints
assert various violations of federal and state law with regard to such
repricings, and each seeks damages of an unspecified amount. The program at
issue comprised a very small portion of the Company's consumer credit card
receivables. The Company believes that the complaints are without merit and will
vigorously defend itself against the actions.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
Not applicable.
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EXECUTIVE OFFICERS OF THE REGISTRANT
Each of the executive officers of the Company and its subsidiaries listed
below was elected by the applicable Board of Directors, to serve at the pleasure
of the Board in the capacities indicated.
NAME AGE OFFICE DATE ELECTED
---- --- ------ ------------
Dennis Alter 55 Chairman of the Board and Chief 1972
Executive Officer
William A. Rosoff 53 Vice Chairman and Director 1996
Olaf Olafsson 35 President and Director 1998 and 1997
Jeffrey D. Beck 49 Vice President and Treasurer 1992
John J. Calamari 43 Vice President, Finance 1988
Charles H. Podowski 51 Chief Executive Officer, President 1997 and 1995
and Director, Advanta Business
Services and President and
Director, Advanta Insurance
Companies
Milton Riseman 61 President and Director, Advanta 1994
Mortgage Corp. USA and
Subsidiaries
Mr. Alter became Executive Vice President and a Director of the Company's
predecessor organization in 1967. He was elected President and Chief Executive
Officer in 1972, and Chairman of the Board of Directors in August 1985. Mr.
Alter has remained as Chairman of the Board since August 1985. In February 1986,
he relinquished the title of President, and in August 1995 he relinquished the
title of Chief Executive Officer. In October 1997, Mr. Alter resumed the title
of Chief Executive Officer.
Mr. Rosoff joined the Company in January 1996 as a Director and Vice Chairman.
Prior to joining the Company, Mr. Rosoff was a long time partner of the law firm
of Wolf, Block, Schorr and Solis-Cohen LLP, the Company's outside counsel, where
he advised the Company for over 20 years. While at Wolf, Block, Schorr and
Solis-Cohen LLP he served as Chairman of its Executive Committee and,
immediately before joining the Company, as a member of its Executive Committee
and Chairman of its Tax Department. Mr. Rosoff is a Trustee of Atlantic Realty
Trust, a publicly held real estate investment trust, and Chairman of the Board
of RMH Teleservices, Inc. a publicly held company that is a leading provider of
telemarketing services, on an outsourced basis, to Fortune 500 companies.
Mr. Olafsson joined the Company in September 1996 as Vice Chairman of Advanta
Information Services, Inc. ("AIS") and was elected as a Director of AIS in
October 1996. In December 1997, Mr. Olafsson became a Director of the Company
and in March 1998 he was elected as President of the Company. Prior to joining
the Company, he was president and chief executive officer of Sony Interactive
Entertainment, Inc., a business unit of Sony Corporation, which he founded in
1991.
Mr. Beck joined the Company in 1986 as Senior Vice President of Advanta National
Bank (formerly, Advanta National Bank USA) and was elected Vice President and
Treasurer of the Company in 1992. Prior to joining the Company, he was Vice
President at Fidelity Bank, N.A., responsible for asset/liability planning, as
well as for managing a portfolio of investment securities held at the bank. From
1970 through 1980, he served in various treasury and planning capacities for
Wilmington Trust Company.
Mr. Calamari joined the Company as Vice President, Finance in May 1988. From May
1985 through April 1988, Mr. Calamari served in various capacities in the
accounting departments of Chase Manhattan Bank, N.A. and its subsidiaries,
culminating in the position of Chief Financial Officer of Chase Manhattan of
Maryland. From 1976 until May 1985, Mr. Calamari was an accountant with the
public accounting firm of Peat, Marwick, Mitchell in New York.
Mr. Podowski was elected President of the Advanta Insurance Companies in April
1995 and Chief Executive Officer and President of Advanta Business Services in
September 1997. Prior to joining the Company, Mr. Podowski served CIGNA
Corporation in various capacities for seventeen years, most recently as Senior
Vice President in their International Division, with responsibility for CIGNA's
life insurance subsidiaries in Asia,
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Australia and New Zealand. Prior to joining CIGNA, Mr. Podowski worked for The
Chase Manhattan Bank, N.A.
Mr. Riseman came to the Company in June 1992 as Senior Vice President,
Administration. In February 1994, Mr. Riseman became President and Director of
Advanta Mortgage Corp. USA and its subsidiaries. Prior to joining the Company,
Mr. Riseman had 27 years of experience with Citicorp, most recently as Director
of Training and Development. Prior to that he held Citicorp positions as
Business Manager for the Long Island Region, Head of Policy and Administration
for New York's Retail Bank, and Chairman of Citicorp Acceptance Co. which was
involved in the financing and leasing of autos and financing of mobile homes.
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PART II
ITEM 5. MARKET FOR THE REGISTRANT'S COMMON STOCK AND RELATED STOCKHOLDER
MATTERS.
COMMON STOCK PRICE RANGES AND DIVIDENDS
The Company's common stock is traded on the National Market System of The
Nasdaq Stock Market, Inc. under the symbols ADVNB (Class B non-voting common
stock) and ADVNA (Class A voting common stock).
Following are the high, low and closing sale prices and cash dividends
declared for the last two years as they apply to each class of stock:
CASH
DIVIDENDS
QUARTER ENDED: HIGH LOW CLOSE DECLARED
-------------- ---- --- ----- ---------
CLASS B:
- ----------------------------------------------------------------------------------------------
March 1996 $ 49.25 $ 33.75 $ 47.50 $.108
June 1996 52.50 43.50 45.25 .108
September 1996 48.25 39.75 42.75 .108
December 1996 48.50 38.25 40.88 .132
March 1997 $ 53.63 $ 25.50 $ 25.88 $.132
June 1997 36.25 18.88 35.69 .132
September 1997 36.50 24.75 27.25 .132
December 1997 37.63 23.38 25.38 .132
CLASS A:
- ----------------------------------------------------------------------------------------------
March 1996 $ 53.50 $ 34.75 $ 52.00 $.090
June 1996 58.25 46.50 51.00 .090
September 1996 53.00 41.00 46.00 .090
December 1996 50.00 40.00 42.75 .110
March 1997 $ 53.25 $ 26.63 $ 26.88 $.110
June 1997 36.25 20.00 35.69 .110
September 1997 37.50 26.19 29.13 .110
December 1997 38.75 24.25 26.25 .110
At December 31, 1997, the Company had approximately 1,100 and 430 holders
of record of Class B and Class A common stock, respectively.
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ITEM 6. SELECTED FINANCIAL DATA.
FINANCIAL HIGHLIGHTS
YEAR ENDED DECEMBER 31,
(IN THOUSANDS, EXCEPT -----------------------------------------------------------------
PER SHARE AMOUNTS) 1997 1996 1995 1994 1993
- ----------------------------------------------------------------------------------------------------------------------------
SUMMARY OF OPERATIONS
Net operating revenues(1) $ 938,197 $ 850,977 $ 615,914 $ 447,837 $ 334,224
Net interest income 93,060 78,265 72,900 70,381 78,644
Noninterest revenues 845,137 806,532 543,014 395,808 255,580
Provision for credit losses 210,826 96,862 53,326 34,198 29,802
Operating expenses 630,841 523,174 350,685 266,784 181,167
Income before income taxes and extraordinary items 96,530 264,761 211,903 165,207 123,255
Income before extraordinary items 71,625 175,657 136,677 106,063 77,920
Net income 71,625 175,657 136,677 106,063 76,647
- ----------------------------------------------------------------------------------------------------------------------------
PER COMMON SHARE DATA
Net income(2)(3)
Basic
Combined(4) $ 1.52 $ 4.15 $ 3.38 $ 2.72 $ 2.06
A 1.45 4.08 3.34 2.70 2.04
B 1.57 4.19 3.42 2.75 2.08
Dilutive
Combined(4) $ 1.50 $ 3.89 $ 3.20 $ 2.58 $ 1.92
A 1.43 3.86 3.18 2.56 1.90
B 1.54 3.91 3.22 2.60 1.94
Cash dividends declared
Class A .440 .380 .290 .217 .167
Class B .528 .456 .348 .260 .200
Book value 19.01 18.06 14.35 11.12 8.82
Closing stock price
Class A 26.25 42.75 38.25 26.25 33.25
Class B 25.38 40.88 36.38 25.25 29.00
- ----------------------------------------------------------------------------------------------------------------------------
FINANCIAL CONDITION -- YEAR END
Investments and money market instruments(5) $ 2,092,292 $ 1,653,384 $ 1,089,317 $ 671,661 $ 542,222
Gross receivables
Owned 3,398,090 2,656,641 2,762,927 1,964,444 1,277,305
Securitized 14,460,114 13,632,552 9,452,428 6,190,793 3,968,856
----------- ----------- ----------- ---------- ----------
Managed 17,858,204 16,289,193 12,215,355 8,155,237 5,246,161
Total serviced receivables(6) 27,039,669 19,981,285 12,838,272 8,155,237 5,246,161
Total assets
Owned 6,686,132 5,583,959 4,524,259 3,113,048 2,140,195
Managed 21,146,246 19,216,511 13,976,687 9,303,841 6,109,051
Deposits 3,017,611 1,860,058 1,906,601 1,159,358 1,254,881
Long-term debt 1,438,358 1,393,095 587,877 666,033 368,372
Stockholders' equity 926,950 852,036 672,964 441,690 342,741
Capital securities(7) 100,000 100,000 0 0 0
Stockholders, equity, long-term debt and capital
securities 2,465,308 2,345,131 1,260,841 1,107,723 711,113
- ----------------------------------------------------------------------------------------------------------------------------
SELECTED FINANCIAL RATIOS
Return on average assets 1.09% 3.16% 4.06% 4.47% 3.91%
Return on average common equity 8.47 25.31 26.15 26.97 27.50
Return on average total equity(8) 8.12 22.07 24.75 26.97 27.50
Equity/managed assets(8) 4.86 4.95 4.81 4.75 5.61
Equity/owned assets(8) 15.36 17.05 14.87 14.19 16.01
Dividend payout 33.34 10.75 9.97 9.24 9.56
Managed net interest margin(9) 7.79 6.32 5.87 6.72 7.77
18
20
FINANCIAL HIGHLIGHTS (CONTINUED)
YEAR ENDED DECEMBER 31,
(IN THOUSANDS, EXCEPT -----------------------------------------------------------------
PER SHARE AMOUNTS) 1997 1996 1995 1994 1993
- ----------------------------------------------------------------------------------------------------------------------------
As a percentage of managed receivables:
Total loans 30 days or more delinquent(10) 6.0 5.4 3.3 2.7 3.6
Net charge-offs(10) 5.3 3.2 2.2 2.3 2.9
Other operating expenses 3.4 2.9 2.9 3.7 4.1
- ----------------------------------------------------------------------------------------------------------------------------
(1) Excludes gains on sales of credit card relationships in 1996 and 1994.
(2) All periods reflect adoption of FASB 128 (see Notes 1 and 22 to
Consolidated Financial Statements).
(3) Earnings per share before extraordinary items were the same for all years
except 1993. Basic earnings per share before extraordinary items for 1993
were $2.09, $2.07 and $2.11 for Combined, A and B, respectively. Dilutive
earnings per share before extraordinary items for 1993 were $1.95, $1.94
and $1.97 for Combined, A and B, respectively. (See Note 1 to Consolidated
Financial Statements.)
(4) Combined represents a weighted average of Class A and Class B (see Note 1
to Consolidated Financial Statements)
(5) Includes restricted interest-bearing deposits.
(6) Represents total managed receivables plus mortgage contract servicing
receivables.
(7) Represents Company-obligated mandatorily redeemable preferred securities
of subsidiary trust holding solely subordinated debentures of the Company.
(8) In 1997 and 1996, return on average total equity, equity/managed assets
and equity/owned assets include capital securities as equity. The ratios
without capital securities for 1997 were 8.33%, 4.38%, and 13.86%,
respectively and for 1996 were 22.31%, 4.43% and 15.26%, respectively.
(9) Combination of owned interest-earning assets/interest-bearing liabilities
and securitized credit card assets/liabilities.
(10) The 1997 and 1996 figures reflect the adoption of a new charge-off
methodology in August 1996 relating to credit card bankruptcies (see
"Management's Discussion and Analysis -- Asset Quality").
* Not meaningful.
19
21
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS
RESULTS OF OPERATIONS
OVERVIEW
For the year ended December 31, 1997, the Company reported net income of $71.6
million or $1.50 per combined common share, assuming dilution, compared to
$175.7 million or $3.89 per combined diluted common share for the full year of
1996. (See Note 1 to Consolidated Financial Statements.)
The earnings reported for the full year of 1997 reflect an increase in
provision for credit losses of $114 million, primarily as a result of higher
credit losses in the consumer credit card portfolio. This portfolio was
subsequently transferred to the LLC in connection with the Transaction during
the first quarter of 1998 (see Note 11 to Consolidated Financial Statements). In
addition, 1996 earnings reflected a $33.8 million gain on the sale of credit
card relationships.
During 1997, net interest income and the owned net interest margin
increased $14.8 million and 7 basis points, respectively. These increases are
primarily a result of the substantial growth in the personal finance and
business loan and lease portfolios along with an increase in investments and
interest bearing deposits, offset by a reduction in the higher yielding credit
card portfolio. The owned personal finance portfolio grew from an average of
$242.9 million in 1996 to $586.2 million in 1997, a 141% increase. The business
loan and lease portfolio also showed strong growth, rising to an average of
$333.1 million during 1997 from $200.1 million during 1996. Noninterest revenues
excluding the $33.8 million gain on the sale of credit card relationships in
1996 increased $72.4 million to $845.1 million from $772.7 million in 1996. The
increase in other noninterest revenues for 1997 is a result of significant
increases in personal finance, business loan and lease noninterest revenues and
in other revenues. Personal finance noninterest revenues increased by almost 56%
to $170 million primarily as a result of the substantial increase in receivables
securitized. In 1997 the Company securitized $3.4 billion of personal finance
loans compared to $1.4 billion in 1996. The increase in business loan and lease
noninterest revenues also reflects an increase in securitization activity.
Business loan and lease receivables securitized in 1997 totalled $563 million
compared to $363 million in 1996. "Other" other noninterest revenues increased
almost $14.2 million due to an increase in other credit card revenues.
The increases in net interest income and noninterest revenues were offset
by increases in the provision for loan losses as previously mentioned, as well
as operating expenses. The provision for credit losses rose to $210.8 million in
1997 from $96.9 million in 1996. The increase in the provision for credit losses
experienced in 1997 resulted from a higher level of charge-offs and
delinquencies primarily in the consumer credit card portfolio, as well as
management's decision to increase the ratio of the loan loss allowance to
receivables to 4.1% at December 31, 1997 from 3.4% at the end of 1996. The
charge-off rate in the owned portfolio rose to 5.6% in 1997 from 2.3% in 1996.
The 30-day delinquency rate rose to 5.9% in 1997 from 5.5% in 1996. Operating
expenses increased to $630.8 million in 1997 from $523.2 million in 1996. The
1997 operating expense ratio increased to 3.4% from 2.9% in 1996. This increase
primarily reflects the addition of employees required to support increased
collection efforts related to the credit card portfolio and an increase in the
employees needed to support the growth in personal finance activities. Other
operating expenses also increased as a result of increased marketing and the
resources required to support current and future growth in the portfolios.
Net income for 1996 of $175.7 million was 29% higher than the $136.7
million reported for 1995. On a per combined share basis, assuming dilution, net
income was $3.89 compared to $3.20 for 1995. The growth in earnings in 1996 was
attributable primarily to a 49% increase in noninterest revenues to $806.5
million from $543.0 in 1995. The growth in noninterest revenues was a result of
substantial growth in average managed receivables which increased to $14.9
billion in 1996 from $9.5 billion in 1995. Noninterest revenues for 1996 also
reflect a $33.8 million gain on the sale of consumer credit card customer
relationships. Credit card securitization activities were affected by the
adoption in the third quarter of 1996 of a new charge-off methodology relating
to bankruptcies (see "Asset Quality"), the upward repricing of interest rates
and fees, increases in charge-offs and the related impact on the allowance for
loan losses, all of which had an approximate $50 million impact (earnings
increase) in 1996, as well as a 57% increase in average securitized receivables.
The increase in noninterest revenues was partially offset by increases in the
provision for credit
20
22
losses reflecting an increase in the charge-off and delinquency rates in 1996 to
3.2% and 5.4% respectively from the 1995 levels of 2.2% and 3.3%, respectively.
The operating expense ratio was flat at 2.9% for both 1996 and 1995.
On February 20, 1998 the Company announced that it had completed the
Transaction with Fleet whereby the Company and certain of its subsidiaries and
Fleet and certain of its subsidiaries contributed substantially all of their
respective consumer credit card businesses, subject to liabilities, to the LLC.
Advanta has retained a minority membership interest in the LLC, which at the
closing date of the Transaction was valued at $20 million. The Transaction was
submitted to a vote of stockholders and was approved on February 20, 1998, the
closing date for the Transaction. (See Note 11 to Consolidated Financial
Statements). The Company realized an after tax gain of approximately $530
million which was recorded in the first quarter of 1998. Concurrently with the
Transaction, the Company purchased 7,882,750 shares of its Class A Common Stock
and 12,482,850 of its Class B Common Stock at $40 per share net, and 1,078,930
of its depositary shares each representing one one-hundredth interest in a share
of 6 3/4% Convertible Class B Preferred Stock, Series 1995 (Stock Appreciated
Income Linked Securities (SAILS)) at $32.80 per share net, through an issuer
tender offer. (See Notes 8 and 11 to Consolidated Financial Statements).
Associated with the Transaction, the Company intends to substantially
reduce corporate expenses and expenses associated with business and product
development which are not directly associated with its mortgage and business
services companies.
Going forward, the Company will focus on providing innovative financial
products and services to consumers and small businesses through its rapidly
growing mortgage and business services companies.
NET INTEREST INCOME
Net interest income represents the excess of income generated from
interest-earning assets, including on balance-sheet receivables, investments and
money market instruments over the interest paid on interest-bearing liabilities,
primarily deposits and debt.
Net interest income of $93.1 million for 1997 increased $14.8 million or
18.9% from 1996 as a result of a $682.2 million or 15.3% increase in average
interest-earning assets and an increase in the owned net interest margin, which
rose to 1.91% in 1997 from 1.84% in 1996, partially offset by higher levels of
interest-bearing liabilities which increased 16.7% in 1997. The higher owned net
interest margin resulted from a 33 basis point increase in the yield on average
interest-earning assets primarily as a result of the repricing of the consumer
credit card portfolio. The increase in the owned net interest margin was
negatively impacted by the mix of earning assets reflecting the Company's
decision to maintain a conservative position in cash and cash equivalents on the
balance sheet. In 1997 the investment portfolio, which earned an average yield
of 5.73% represented 47.8% of total interest-earning assets, while the higher
yielding receivable balances represented only 52.2% of total owned
interest-earning assets. In 1996 investments earned a similar average yield of
5.72% but represented only 31.5% of total owned interest-earning assets;
receivable balances with an average yield of 8.90% represented 68.5% of total
owned interest-earning assets.
Net interest income of $78.3 million for 1996 increased $5.4 million or 7%
from 1995 as a result of a $1.7 billion or 63% increase in average owned
interest-earning assets, largely offset by a lower owned net interest margin,
which fell to 1.84% in 1996 from 2.80% in 1995. The lower owned net interest
margin primarily resulted from a 99 basis point decrease in the yield on average
interest-earning assets as a significant portion of consumer credit card
receivables on the balance sheet were at introductory rates, partially offset by
a 34 basis point decrease in the cost of funds.
Credit card, mortgage and other personal finance and business loan and
lease receivable securitization activity shifts revenues from interest income to
noninterest revenues. This ongoing securitization activity reduces the level of
higher-yielding receivables on the balance sheet while proportionately
increasing the balance sheet levels of new lower-yielding receivables and money
market assets. Net interest income on securitized credit card balances is
reflected in credit card securitization income. Net interest income on
securitized mortgage and other personal finance loans is reflected in income
from personal finance activities,
21
23
and net interest income on securitized business loans and leases is reflected in
business loan and lease other revenues. All securitization income is included in
noninterest revenues. (See Note 1 to Consolidated Financial Statements).
Average managed credit card receivables of $11.4 billion for 1997 decreased
$0.8 billion or 6.7% from 1996. In 1997, average owned credit card receivables
were $1.7 billion compared to $2.6 billion in 1996. This decrease is
attributable to a number of factors including increased competition in the
credit card industry, changes in consumer cardholder behavior and changes in
marketing strategy.
Average managed personal finance loans increased 83.7% to $3.9 billion in
1997, from $2.1 billion in 1996. The average balance of owned personal finance
loans increased to $586 million in 1997 from $243 million in 1996. Personal
finance loan originations of $3.7 billion in 1997 were up $2.2 billion or 144.4%
from 1996. Personal finance loans securitized in 1997 totalled $3.4 billion
compared to $1.4 billion in 1996. Yields on owned personal finance loans
decreased to 10.01% in 1997 from 10.62% in 1996 as a result of a different mix
of loans in the owned inventory from which the yield calculation is based.
Average managed business loans and leases of $1.1 billion increased $459
million or 76.1% from 1996. Average owned balances of business loans and leases
increased $133 million or 66.5% during 1997 primarily due to the success of the
business credit card, as those originations increased 107.1% from $519 million
in 1996 to $1.1 billion in 1997. Total business loan and lease originations were
$1.4 billion in 1997 compared to $856 million in 1996. Additionally, during
1997, the Company securitized $563 million of business loan and lease
receivables. Yields on owned business loans and leases increased to 12.26% in
1997 from 11.97% in 1996.
The owned average cost of funds increased to 6.31% in 1997 from 6.12% in
1996. The Company has utilized derivatives to manage interest rate risk (see
discussion under "Derivatives Activities").
The following table provides an analysis of both owned and managed interest
income and expense data, average balance sheet data, net interest spread (the
difference between the yield on interest-earning assets and the average rate
paid on interest-bearing liabilities), and net interest margin (the difference
between the yield on interest-earning assets and the average rate paid to fund
interest-earning assets) for 1995 through 1997. Average owned loan and lease
receivables and the related interest revenues include certain loan fees.
22
24
INTEREST RATE ANALYSIS
YEAR ENDED DECEMBER 31,
($ IN THOUSANDS) -----------------------------------------------------------------------
1997 1996
---------------------------------- ----------------------------------
AVERAGE AVERAGE AVERAGE AVERAGE
BALANCE INTEREST RATE BALANCE INTEREST RATE
- --------------------------------------------------------------------------------------------------
ON-BALANCE SHEET
- -------------------------
Interest-earning assets:
Receivables:
Credit cards $ 1,728,039 $ 179,732 10.40% $ 2,594,997 $ 220,547 8.50%
Personal finance
loans(1) 586,228 58,704 10.01 242,946 25,812 10.62
Business loans and
leases(2) 333,080 40,851 12.26 200,052 23,951 11.97
Other loans 31,810 2,639 8.30 12,270 1,045 8.52
----------- ---------- ----------- ----------
Total receivables 2,679,157 281,926 10.52 3,050,265 271,355 8.90
Federal funds sold 345,404 18,659 5.40 166,454 8,853 5.32
Interest-bearing
deposits 893,773 55,116 6.17 524,505 34,154 6.51
Tax-free securities(3) 3,926 307 7.82 8,052 502 6.23
Taxable investments 1,213,897 66,663 5.49 704,641 36,808 5.22
----------- ---------- ----------- ----------
Total interest-earning
assets(4) $ 5,136,157 $ 422,671 8.23% $ 4,453,917 $ 351,672 7.90%
=========== ========== ===== =========== ========== =====
Interest-bearing
liabilities:
Deposits
Savings $ 402,893 $ 22,850 5.67% $ 302,125 $ 15,728 5.21%
Time deposits under
$100,000 1,018,163 63,473 6.23 582,887 34,430 5.91
Time deposits of
$100,000 or more 1,035,366 63,841 6.17 999,613 60,721 6.07
----------- ---------- ----------- ----------
Total deposits 2,456,422 150,164 6.11 1,884,625 110,879 5.88
Debt 2,127,241 136,497 6.42 1,856,034 118,612 6.39
Other borrowings 557,745 37,897 6.79 664,529 40,209 6.05
----------- ---------- ----------- ----------
Total interest-bearing
liabilities 5,141,408 324,558 6.31 4,405,188 269,700 6.12
Net noninterest-bearing
liabilities (5,251) 48,729
----------- -----------
Sources to fund interest-
earning assets $ 5,136,157 $ 324,558 6.32% $ 4,453,917 $ 269,700 6.06%
=========== ========== ===== =========== ========== =====
Net interest spread 1.92% 1.78%
===== =====
Net interest margin 1.91% 1.84%
===== =====
OFF-BALANCE SHEET
- -------------------------
Average balance on
securitized:
Credit cards $ 9,628,905 $ 9,574,549
Personal finance
loans(1) 3,332,012 1,890,101
Business loans and
leases(2) 729,976 403,745
----------- -----------
Total average securitized
receivables $13,690,893 $11,868,395
=========== ===========
Total average managed
receivables $16,370,050 $14,918,660
=========== ===========
MANAGED NET INTEREST
ANALYSIS(5)
- -------------------------
Interest-earning assets $14,965,531 $2,069,040 13.83% $14,028,466 $1,712,557 12.21%
Interest-bearing
liabilities $14,970,782 $ 902,704 6.03% $13,979,737 $ 826,379 5.91%
Net interest spread 7.80% 6.30%
Net interest margin 7.79% 6.32%
YEAR ENDED DECEMBER 31,
($ IN THOUSANDS) ---------------------------------
1995
---------------------------------
AVERAGE AVERAGE
BALANCE INTEREST RATE
- ------------------------- ---------------------------------
ON-BALANCE SHEET
- -------------------------
Interest-earning assets:
Receivables:
Credit cards $1,580,352 $ 163,637 10.35%
Personal finance
loans(1) 184,855 17,334 9.38
Business loans and
leases(2) 84,216 10,603 12.59
Other loans 5,979 446 7.46
---------- ----------
Total receivables 1,855,402 192,020 10.35
Federal funds sold 141,031 8,210 5.82
Interest-bearing
deposits 371,826 22,243 5.98
Tax-free securities(3) 60,412 3,654 6.05
Taxable investments 296,700 16,121 5.43
---------- ----------
Total interest-earning
assets(4) $2,725,371 $ 242,248 8.89%
========== ========== =====
Interest-bearing
liabilities:
Deposits
Savings $ 270,550 $ 17,728 6.55%
Time deposits under
$100,000 547,710 31,618 5.77
Time deposits of
$100,000 or more 380,918 23,466 6.16
---------- ----------
Total deposits 1,199,178 72,812 6.07
Debt 981,816 67,908 6.92
Other borrowings 388,340 25,312 6.52
---------- ----------
Total interest-bearing
liabilities 2,569,334 166,032 6.46
Net noninterest-bearing
liabilities 156,037
----------
Sources to fund interest-
earning assets $2,725,371 $ 166,032 6.09%
========== ========== =====
Net interest spread 2.43%
=====
Net interest margin 2.80%
=====
OFF-BALANCE SHEET
- -------------------------
Average balance on
securitized:
Credit cards $6,105,575
Personal finance
loans(1) 1,355,383
Business loans and
leases(2) 230,696
----------
Total average securitized
receivables $7,691,654
==========
Total average managed
receivables $9,547,056
==========
MANAGED NET INTEREST
ANALYSIS(5)
- -------------------------
Interest-earning assets $8,830,946 $1,081,779 12.25%
Interest-bearing
liabilities $8,674,909 $ 563,385 6.49%
Net interest spread 5.76%
Net interest margin 5.87%
- --------------------------------------------------------------------------------
(1) Includes mortgages and home equity loans for all years presented and auto
loans beginning in 1996.
(2) Includes leases for all years presented and business cards beginning in
1996.
(3) Interest and average rate computed on a tax equivalent basis using a
statutory rate of 35%.
(4) Includes assets held and available for sale, and nonaccrual loans and
leases.
(5) Combination of owned interest-earning assets/owned interest-bearing
liabilities and securitized credit card assets/liabilities.
23
25
INTEREST VARIANCE ANALYSIS: ON-BALANCE SHEET
The following table presents the effects of changes in average volume and
interest rates on individual financial statement line items on a tax equivalent
basis and including certain loan fees. Changes not solely due to volume or rate
have been allocated on a pro rata basis between volume and rate. The effects on
individual financial statement line items are not necessarily indicative of the
overall effect on net interest income.
1997 VS. 1996 1996 VS. 1995
($ IN THOUSANDS) ----------------------------- ------------------------------
INCREASE (DECREASE) DUE TO INCREASE (DECREASE) DUE TO
----------------------------- ------------------------------
VOLUME RATE TOTAL VOLUME RATE TOTAL
- -------------------------------------------------------------------------------------------------------------
Interest income from:
Loan and lease receivables:
Credit cards $(83,534) $42,719 $(40,815) $ 78,867 $(21,957) $ 56,910
Personal finance loans(1) 34,455 (1,563) 32,892 5,968 2,510 8,478
Business loans and leases(2) 16,306 594 16,900 13,843 (495) 13,348
Other loans 1,622 (28) 1,594 528 71 599
Federal funds sold 9,671 135 9,806 1,227 (584) 643
Interest-bearing deposits 22,835 (1,873) 20,962 9,796 2,115 11,911
Tax-free securities (301) 106 (195) (3,264) 112 (3,152)
Taxable investments 27,860 1,995 29,855 21,286 (599) 20,687
-------- ------- -------- -------- -------- --------
Total interest income(3) 28,914 42,085 70,999 128,251 (18,827) 109,424
-------- ------- -------- -------- -------- --------
Interest expense on:
Deposits:
Savings 5,631 1,491 7,122 2,656 (4,656) (2,000)
Time deposits under $100,000 27,080 1,963 29,043 2,041 771 2,812
Time deposits of $100,000 or more 2,136 984 3,120 37,593 (338) 37,255
Debt 17,328 557 17,885 55,476 (4,772) 50,704
Other borrowings (6,897) 4,585 (2,312) 16,577 (1,680) 14,897
-------- ------- -------- -------- -------- --------
Total interest expense 45,278 9,580 54,858 114,343 (10,675) 103,668
-------- ------- -------- -------- -------- --------
Net interest income $(16,364) $32,505 $ 16,141 $ 13,908 $ (8,152) $ 5,756
- --------------------------------------------------------------------------------
(1) Includes mortgages and home equity loans for all years presented and auto
loans beginning in 1996.
(2) Includes leases for all years presented and business cards beginning in
1996.
(3) Includes income from assets held and available for sale.
24
26
MANAGED PORTFOLIO DATA
The Company analyzes its financial results on a managed basis and also analyzes
data as reported under generally accepted accounting principles. The following
table provides selected information on a managed basis, as well as a Managed
Income Statement including the effects of credit card securitizations on
selected line items of the Company's Consolidated Income Statements for the past
three years.
($ IN THOUSANDS) YEAR ENDED DECEMBER 31,
- -----------------------------------------------------------------------------------------------
1997 1996 1995
- -----------------------------------------------------------------------------------------------
BALANCE SHEET DATA:
Average managed receivables $16,370,050 $14,918,660 $ 9,547,056
Managed receivables 17,858,204 16,289,193 12,215,355
Total managed assets 21,146,246 19,216,511 13,976,687
Managed net interest margin (on a fully tax
equivalent basis) 7.79% 6.32% 5.87%
As a percentage of gross managed receivables:
Total loans 30 days or more delinquent:
New methodology (see Asset Quality) 6.0% 5.4%
Prior methodology (pro forma) 5.2% 3.3%
Net charge-offs:
New methodology (see Asset Quality) 5.3% 3.2%
Prior methodology (pro forma) 3.5% 2.2%
MANAGED INCOME STATEMENT:
Net interest income $ 1,164,284 $ 882,471 $ 515,078
Provision for credit losses 869,737 483,581 211,061
Noninterest revenues 432,824 389,045 258,571
Operating expenses 630,841 523,174 350,685
- -----------------------------------------------------------------------------------------------
Income before income taxes $ 96,530 $ 264,761 $ 211,903
- -----------------------------------------------------------------------------------------------
With respect to the Managed Income Statement, the individual line items are
stated as if the securitized credit card assets were still owned by the Company
and remained on the balance sheet. Net interest income includes the amount of
net interest income which has been reported as noninterest revenues. In
addition, the provision for credit losses includes the amount by which the
provision for credit losses would have been higher had the securitized
receivables remained as owned and the provision for credit losses been equal to
actual reported charge-offs (see "Asset Quality"). Noninterest revenues on the
managed income statement exclude the net interest income and credit losses
associated with the securitized credit card assets.
PROVISION FOR CREDIT LOSSES
The provision for credit losses of $210.8 million in 1997 increased $114.0
million or 117.7% from $96.9 million in 1996. The increase was due to higher
charge-offs on owned receivables, which increased 114.3% from $70.6 million in
1996 to $151.2 million in 1997 and higher levels of delinquencies which
continued to increase throughout the year. Consistent with this experience,
management's estimate of possible losses inherent in the loan portfolio at year
end increased, resulting in an increase in the ratio of the loss allowance to
receivables to 4.1% at the end of 1997 from 3.4% at year end 1996.
The provision for credit losses of $96.9 million in 1996 increased $43.5
million or 82% from $53.3 million in 1995. The increase was primarily due to an
increase in the desired level of the allowance given the increase in charge-offs
and impaired assets during 1996.
A description of the credit performance of the loan portfolio is set forth
under the section entitled "Credit Risk Management."
25
27
NONINTEREST REVENUES
($ IN THOUSANDS)
- --------------------------------------------------------------------------------
1997 1996 1995
- ---------------------------------------------------------------------------------------------
Gain on sale of credit cards $ 0 $ 33,820 $ 0
Other noninterest revenues:
Credit card securitization income 252,631 258,066 183,360
Credit card servicing income 176,061 176,567 117,369
Income from personal finance activities 169,973 109,167 50,541
Credit card interchange income 85,208 102,804 92,439
Business loan and lease other revenues 70,943 61,622 41,050
Credit card overlimit fees 46,447 16,465 4,755
Insurance revenues, net 37,816 38,175 30,146
Equity securities (losses) gains (11,426) 6,522 15,386
Other 17,484 3,324 7,968
- ---------------------------------------------------------------------------------------------
Total other noninterest revenues $845,137 $772,712 $543,014
- ---------------------------------------------------------------------------------------------
Total noninterest revenues $845,137 $806,532 $543,014
- ---------------------------------------------------------------------------------------------
Noninterest revenues increased in 1997 to $845.1 million from $806.5
million in 1996. The 1996 figure includes a gain on the sale of credit card
customer relationships of $33.8 million. Excluding this gain, noninterest
revenues increased by $72.4 million or 9.4% in 1997. This increase was primarily
the result of income derived from increased securitization activity in the
personal finance and business loan and lease portfolios, as described below.
There were no new credit card securitization transactions in 1997 due to the
decrease in average managed credit card receivables during the period.
Due to prior period securitizations of credit card receivables, activity
from securitized account balances, which otherwise would be reported as net
interest income and charge-offs, is reported in securitization income and
servicing income, both of which are included in noninterest revenues. Credit
card securitization income was affected by the adoption in the third quarter of
1996 of a new charge-off methodology relating to bankruptcies (see "Asset
Quality"), the upward repricing of interest rates and fees, increases in
charge-offs and the related impact on the allowance for loan losses all of which
had an approximate $50 million impact (earnings increase) in 1996, as well as a
57% increase in average securitized receivables. See Note 1 to Consolidated
Financial Statements for further description of securitization income.
The Company adopted Statement of Financial Accounting Standards No. 125,
"Accounting for Transfers and Servicing of Financial Assets and Extinguishments
of Liabilities" ("SFAS 125"), effective January 1, 1997. (See Note 1 to
Consolidated Financial Statements.) The adoption of SFAS 125 did not have a
material effect on the Company's financial statements.
Credit card servicing income, which represents fees paid to the Company for
continuing to service accounts which have been securitized, remained unchanged
in 1997 at $176.1 million compared to $176.6 million in 1996. Such fees
generally approximate 2% of securitized receivables and are consistent with the
$9.6 billion of average securitized receivables in both 1997 and 1996.
Interchange income represents fees that are payable by merchants to the
credit card issuer for sale transactions. Total interchange income, which
represents approximately 1.4% of credit card purchases, decreased to $85.2
million in 1997 from $102.8 million in 1996 reflecting the lower volume of
transactions experienced in 1997.
During 1997, the Company securitized $3.4 billion of mortgage and home
equity loans compared to $1.4 billion in 1996. As a result, income from personal
finance activities of $170.0 million for 1997 increased 55.7% from $109.2
million in 1996. The 1997 income reflects the use of higher prepayment
assumptions as well as a change in the mix of the loans securitized. See Note 1
to Consolidated Financial Statements for a description of income from personal
finance loans.
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Business loan and lease other revenues increased $9.3 million to $70.9
million in 1997 primarily due to an 80.8% growth in average securitized business
loans and leases from 1996. Credit card overlimit fees on the managed portfolio
increased significantly in 1997 as a result of the Company's risk based pricing
strategies. Insurance revenues, net, were $37.8 million in 1997, down slightly
from the $38.2 million reported in 1996. The decline is attributable to lower
receivable balances in the credit card portfolio.
Equity securities (losses) gains in 1997 reflect a decrease in carrying
value of portfolio investments in the Company's venture capital unit. "Other"
other noninterest revenues increased by $14.2 million due to an increase in
other credit card revenues.
Noninterest revenues of $806.5 million in 1996 increased $263.5 million or
49% from $543.0 million in 1995, primarily due to increases in credit card
securitization, servicing and interchange income, as well as higher personal
finance and business loan and lease revenues. Noninterest revenues for 1996 also
included a $33.8 million gain on the sale of credit card customer relationships.
OPERATING EXPENSES
($ IN THOUSANDS)
- ---------------------------------------------------------------------------------------------
1997 1996 1995
- ---------------------------------------------------------------------------------------------
Amortization of credit card deferred origination costs, net $ 69,344 $ 88,517 $ 72,258
Other operating expenses:
Salaries and employee benefits 247,287 182,666 116,681
Marketing 53,039 31,975 25,374
External processing 43,256 42,814 28,407
Professional/consulting fees 38,600 40,247 14,937
Equipment expense 37,712 22,752 12,751
Postage 29,039 25,700 18,518
Occupancy expense 23,097 14,827 9,254
Credit card fraud losses 22,287 23,611 20,029
Telephone expense 21,262 16,116 11,959
Credit and collection expense 20,017 13,784 9,039
Other 25,901 20,165 11,478
- ---------------------------------------------------------------------------------------------
Total other operating expenses $561,497 $434,657 $278,427
- ---------------------------------------------------------------------------------------------
Total operating expenses $630,841 $523,174 $350,685
- ---------------------------------------------------------------------------------------------
At year end:
Number of accounts managed (000's) 6,342 5,984 5,031
Number of employees 4,498 3,541 2,409
For the year:
Other operating expenses as a percentage of average
managed receivables 3.4% 2.9% 2.9%
- ---------------------------------------------------------------------------------------------
The amortization of credit card deferred origination costs, net, decreased
to $69.3 million in 1997 from $88.5 million in 1996. This decrease reflects the
lower level of credit card originations in 1997 (see Note 1 to Consolidated
Financial Statements).
Total other operating expenses of $561.5 million for 1997 were up $126.8
million or 29.2% from $434.7 million in 1996. The increase in total other
operating expenses is attributable, in part, to a $64.6 million or 35.4%
increase in salaries and employee benefits as a result of an increase in the
number of employees from 3,541 at year-end 1996 to 4,498 at year-end 1997,
including the addition of staff in the consumer credit card collection area and
additions to staff to support the growth in loan production and serviced
receivables in personal finance. Other factors affecting the increase in other
operating expenses were a $21.1 million or 65.9% increase in marketing expenses
relating to new business advertising for the personal finance and business loan
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products and increased advertising related to account retention initiatives for
the consumer credit card portfolio. External processing fees for 1997 reflect a
$10 million cash rebate related to prior periods' credit card processing
performance. Without the rebate, external processing costs would have increased
by $10.4 million or 24.4% over the $42.8 million reported in 1996. This increase
is primarily the result of customer retention and relationship management
programs in the credit card area. Other operating expenses, including equipment
and occupancy expenses reflected increases consistent with the current and
projected increase in employees and serviced customer accounts and the addition
of space and new technology required to support this growth. "Other" other
operating expenses increased by $5.7 million or 28.4% primarily as a result of a
full year of expenses associated with the mandatorily redeemable preferred
securities.
The amortization of credit card deferred origination costs increased by
$16.2 million to $88.5 million in 1996 from $72.3 million in 1995. The increase
reflects the growth in credit card originations experienced during the last half
of 1995 and in 1996.
Total other operating expenses increased by $156.3 million or 56% to $434.7
million in 1996 from $278.4 million in 1995. Part of the increase in total other
operating expenses resulted from a $66 million or 57% increase in salaries and
employee benefits. In addition, professional and other consulting fees increased
$25.3 million from $14.9 million in 1995 to $40.2 million in 1996.
INCOME TAXES
The Company's consolidated income tax expense was $24.9 million for 1997, or an
effective tax rate of 26% compared to tax expense of $89.1 million in 1996, or
an effective tax rate of 34%, and tax expense of $75.2 million in 1995, or an
effective rate of 36%. The decrease in the effective tax rate from 1996 to 1997
resulted from a higher level of insurance-related activities, and tax credits
from investments in combination with a lower level of pretax income.
ASSET/LIABILITY MANAGEMENT
The financial condition of Advanta Corp. is managed with a focus on maintaining
high credit quality standards, disciplined management of market risks and
prudent levels of leverage and liquidity.
MARKET RISK SENSITIVITY
Market risk is the potential for loss or diminished financial performance
arising from adverse changes in market forces such as interest rates and market
prices. Market risk sensitivity is the degree to which a financial instrument,
or a company that owns financial instruments is exposed to market forces. The
Company regularly evaluates its market risk profile and attempts to minimize the
impact of market risks on net interest income and net income.
The Company's exposure to foreign currency exchange rate risk, commodity
price risk, and equity price risk is immaterial relative to expected overall
financial performance. The Company's financial performance can, however, be
affected by fluctuations in interest rates, changes in economic conditions,
shifts in customer behavior, and other factors. Changes in economic conditions
and shifts in customer behavior are difficult to predict, and the financial
performance of the Company generally cannot be insulated from such forces.
Financial performance variability as a result of fluctuations in interest
rates is commonly called interest rate risk. Interest rate risk generally
evolves from mismatches in the timing of asset and liability repricing (gap
risk) and from differences between the repricing indices of assets and
liabilities (basis risk).
The Company attempts to analyze the impact of interest rate risk by
regularly evaluating the perceived risks inherent in its asset and liability
structure, including securitized instruments and off-balance sheet instruments.
Risk exposure levels vary continuously, as changes occur in the Company's
asset/liability mix, market interest rates, prepayment trends, and other factors
affecting the timing and magnitude of cash flows. Computer simulations are used
to generate expected financial performance in a variety of interest rate
environments. Those results are analyzed to determine if actions need to be
taken to mitigate the Company's interest rate risk.
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In managing interest rate risk exposure, the Company periodically
securitizes receivables, sells and purchases assets, alters the mix and term
structure of its funding base, changes its investment portfolio and uses
derivative financial instruments. Derivative instruments, by policy, are not
used for speculative purposes (see discussion under "Derivative Activities").
The Company has measured its interest rate risk using a rising rate
scenario and a declining rate scenario. Net interest income is estimated using a
third party software model that uses standard income modeling techniques. The
Company estimates that its net interest income over a twelve month period would
neither materially increase or decrease if interest rates were to rise or fall
by 200 basis points or less. Both increasing and decreasing rate scenarios
assume an instantaneous shift in rates and measure the corresponding change in
expected net interest income over one year. The scenario results reflect the
completed Transaction with Fleet (see Note 11 to Consolidated Financial
Statements). As a result of the Transaction with Fleet, the Company's interest
rate risk profile has changed; however, the sensitivity to changes in interest
rate is not material.
The above estimates of net interest income sensitivity alone do not provide
a comprehensive view of the Company's exposure to interest rate risk. The
quantitative risk information is limited by the parameters and assumptions
utilized in generating the results. Such analyses are useful only when viewed
within the context of the parameters and assumptions used. The above rate
scenarios in no way reflect management's expectation regarding the future
direction of interest rates, and they depict only two possibilities out of a
large set of possible scenarios.
In addition to interest rate risk, the Company has other financial
instruments, namely capitalized servicing rights and interest only strips, that
are subject to prepayment risk. Prepayments are principal payments in excess of
scheduled principal payments. Prepayments generally result from entire loan
payoffs due largely to refinancing a loan or selling a home. Actual or
anticipated prepayment rates are expressed in terms of a constant prepayment
rate ("CPR"), which represents the annual percentage of beginning loan balances
that prepay. To a degree, prepayment rates are related to market interest rates
and changes in those interest rates. The precise relationship between them,
however, is not known at this time. Accordingly, the Company believes it is
prudent to disclose the fair value sensitivity of these instruments based on
changes in prepayment rate assumptions rather that based on changes in interest
rates.
The Company's capitalized servicing rights and interest only strips derive
from both fixed and variable rate loans, the majority of which are fixed. Fixed
and variable rate loans are currently prepaying at different rates and are
expected to continue this behavior in the future. The Company has estimated the
fair value impact of prepayment changes of 2.5% CPR for fixed rate loans and 3%
CPR for variable rate loans. These key changes in prepayment assumptions could
result in an $18 million change in fair value. In addition, changes in the
interest rate environment generally affect the level of loan originations.
Prepayment assumptions are not the only assumptions in the fair value
calculation, but they are the most influential. Other key assumptions are not
directly impacted by market forces as defined earlier. The above prepayment
scenarios do not reflect management's expectation regarding the future direction
of prepayments, and they depict only two possibilities out of a large set of
possible scenarios.
LIQUIDITY AND CAPITAL RESOURCES
The Company's goal is to maintain an adequate level of liquidity, for both long-
and short-term needs, through active management of both assets and liabilities.
During 1997, the Company, through its subsidiaries, securitized $3.4 billion of
personal finance loans and $0.6 billion of business loan and lease receivables.
In addition, funds totalling approximately $996 million were raised during this
same period through the issuance of unsecured notes, other borrowings and an
increase in deposits at ANB (and its predecessors by merger). Cash generated
from these transactions was temporarily invested in short-term, high quality
investments at money market rates awaiting redeployment to pay down borrowings
and to fund future credit card, personal finance and business loan receivable
growth. Cash and equivalents exceeded amounts normally held to provide liquidity
protection subsequent to the Company's March 17, 1997 announcement relating to a
decrease in expected 1997 financial results. At December 31, 1997, the Company
had approximately $1.5 billion of loan
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and lease receivables and $1.3 billion of investments available for sale which
could be sold to generate additional liquidity.
The Company's funding strategy for 1998 relies heavily on the cash, cash
equivalents and investments released by the Transaction with Fleet as well as
deposit gathering activity at both ANB and AFC. As a result of the Transaction
with Fleet, approximately $1.3 billion in cash, cash equivalents and investments
which had previously been held by the Company in connection with its consumer
credit card business was no longer required in such business and became
available for general corporate purposes. The Company used approximately $850
million of such amount (before taking into account the exercise price of
options) to purchase 7,882,750 shares of its Class A Common Stock, 12,482,850 of
its Class B Common Stock, and 1,078,930 of its SAILS Depositary Shares through
an issuer tender offer which was completed on February 20, 1998 (see Notes 8 and
11 to the Consolidated Financial Statements). Following the completion of the
Transaction with Fleet and the Company's tender offer, the Company expects to
benefit from a substantial cash position. However, the external sources
described below will remain in place both for contingency funding and for
continued future utilization.
Funding diversification has been an essential component of the Company's
liquidity and capital management. The Company and ANB have utilized both retail
and institutional on balance sheet funding sources issuing a variety of debt and
deposit products. The Company and ANB also have utilized a secured revolving
credit facility and off balance sheet securitization funding (described below).
The debt securities of Advanta and ANB (and its predecessors by merger) had
investment-grade ratings from all of the nationally recognized statistical
rating agencies throughout 1996. Beginning March 1997 through early 1998, the
various rating agencies lowered their ratings on the debt securities of each of
Advanta and its banking subsidiaries. As of March 1998, senior debt of Advanta
was rated investment grade by one agency and below investment grade by the other
four agencies; and debt of ANB was rated investment grade by two agencies and
below investment grade by the other three agencies.
On May 1, 1997, Advanta Mortgage Corp. USA and its subsidiaries entered
into a $500 million secured revolving credit facility, $250 million of which is
committed. Also, deposit sources proved readily expandable in 1997 as
demonstrated in the growth noted above. In addition, notwithstanding the
Company's current liquidity, efforts continue to develop new sources of funding,
both through previously untapped customer segments and through development of
new financing structures.
In December 1996, Advanta Capital Trust I, a newly formed statutory
business trust established by and wholly-owned by the Company (the "Trust"),
issued in a private offering $100 million of capital securities, representing
preferred beneficial interests in the assets of the Trust (the "Capital
Securities"). The Company used the proceeds from the sale for general corporate
purposes. The sole assets of the Trust consist of $100 million of 8.99% junior
subordinated debentures issued by the Company due December 17, 2026 (the "Junior
Subordinated Debentures"). The Capital Securities will be subject to mandatory
redemption under certain circumstances, including at any time on or after
December 17, 2006 upon the optional prepayment by the Company of the Junior
Subordinated Debentures. The obligations of the Company with respect to the
Junior Subordinated Debentures, when considered together with the obligations of
the Company under the Indenture relating to the Junior Subordinated Debentures,
the Amended and Restated Declaration of Trust relating to the Capital Securities
and the Capital Securities Guarantee issued by the Company with respect to the
Capital Securities will provide, in the aggregate, a full and unconditional
guarantee of payments of distributions and other amounts due on the Capital
Securities. In July, 1997, the Company and the Trust exchanged the outstanding
Capital Securities and Junior Subordinated Debentures for substantially
identical securities which were registered under the Securities Act of 1933, as
amended (the "Act"). The Company also exchanged the Capital Securities Guarantee
for a substantially identical guarantee which was also registered under the Act.
The Trust has no operations or assets separate from its investment in the Junior
Subordinated Debentures. Separate financial statements of the Trust are not
presented because management has determined that they would not be meaningful to
investors.
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In August 1995, in a public offering, the Company sold 2,500,000 depositary
shares each representing a one-hundredth interest in a share of Stock
Appreciation Income Linked Securities (SAILS). The SAILS constitute a series of
the Company's Class B Preferred Stock, designated as 6 3/4% Convertible Class B
Preferred Stock, Series 1995 (SAILS). On September 15, 1999, unless either
previously redeemed by the Company or converted at the option of the holder,
each share of the SAILS will automatically convert into 100 shares of Class B
Common Stock. Proceeds from the offering, net of underwriting discount, were
approximately $90 million. The Company used the proceeds of the offering for
general corporate purposes, including financing the growth of its subsidiaries.
As of February 20, 1998, after giving effect to the purchase of shares through
an issuer tender offer made following the Transaction with Fleet, 1,421,070
shares of Class B Preferred Stock remain outstanding.
The Company also filed a shelf registration statement in 1996 with the
Securities and Exchange Commission which provides for the Company to sell up to
$1.6 billion of debt securities. The Company has issued approximately $1.0
billion of debt securities under this shelf.
In September 1995, ANB (and its predecessors by merger) established a $2.25
billion bank note program. Under this program, ANB may issue an aggregate of
$2.0 billion of senior bank notes and $250 million of subordinated bank notes.
These notes may have maturities ranging from seven days to fifteen years from
the date of issuance. In connection with the Transaction with Fleet, a
significant portion of bank notes issued under this program was transferred to
the LLC.
As of December 31, 1997, the Company and ANB had a $1 billion unsecured
revolving credit facility. Following the closing of the Transaction with Fleet
in 1998, the facility was terminated by the Company and ANB.
The following tables detail the composition of the deposit base and the
composition of debt and other borrowings at year end for each of the past five
years.
COMPOSITION OF DEPOSIT BASE
($ IN MILLIONS) AS OF DECEMBER 31,
- ----------------------------------------------------------------------------------------------------------------
1997 1996 1995 1994 1993
-------------- -------------- -------------- -------------- --------------
AMOUNT % AMOUNT % AMOUNT % AMOUNT % AMOUNT %
- ----------------------------------------------------------------------------------------------------------------
Demand deposits $ 41.6 1% $ 28.3 1% $ 91.7 5% $ 64.5 5% $ 33.4 3%
Money market savings 506.8 17 329.7 18 277.5 14 301.7 26 220.7 17
Time deposits of $100,000 or
less 2,163.0 72 978.6 53 965.5 51 691.0 60 961.4 77
Time deposits of more than
$100,000 306.2 10 523.5 28 571.9 30 102.2 9 39.4 3
- ----------------------------------------------------------------------------------------------------------------
Total deposits $3,017.6 100% $1,860.1 100% $1,906.6 100% $1,159.4 100% $1,254.9 100%
- ----------------------------------------------------------------------------------------------------------------
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COMPOSITION OF DEBT AND OTHER BORROWINGS
($ IN MILLIONS) AS OF DECEMBER 31,
- ----------------------------------------------------------------------------------------------------------------
1997 1996 1995 1994 1993
-------------- -------------- -------------- -------------- --------------
AMOUNT % AMOUNT % AMOUNT % AMOUNT % AMOUNT %
- ----------------------------------------------------------------------------------------------------------------
Subordinated notes and
certificates $ 55.5 2% $ 71.1 3% $ 76.2 4% $ 282.1 20% $ 301.3 63%
Senior notes and
certificates 151.0 7 208.3 8 200.6 11 0 0 0 0
Short-term bank notes 242.0 11 309.3 13 25.0 1 85.0 6 0 0
Medium-term bank notes 669.5 29 835.6 34 322.7 18 0 0 0 0
5 1/8% notes, due 1996 0 0 0 0 150.0 8 149.9 11 149.9 32
Medium-term notes 1,099.5 48 880.8 36 504.7 28 359.7 25 15.0 3
Value notes 30.7 1 0 0 0 0 0 0 0 0
Term fed funds 0 0 10.0 0 443.0 25 309.0 22 0 0
Securities sold under
agreements to repurchase 0 0 0 0 0 0 86.5 6 0 0
Lines of credit and term
funding arrangements 3.9 0 40.0 0 0 0 50.0 4 7.5 2
Other borrowings 48.9 2 107.0 6 81.8 5 80.9 6 0 0
- ----------------------------------------------------------------------------------------------------------------
Total debt and other
borrowings $2,301.0 100% $2,462.1 100% $1,804.0 100% $1,403.1 100% $ 473.7 100%
- ----------------------------------------------------------------------------------------------------------------
Previously, as a grandfathered institution under the Competitive Equality
Banking Act of 1987 ("CEBA"), the Company had to limit AUS's average on-balance
sheet asset growth to 7% per annum. For the fiscal CEBA year ended September 30,
1996, AUS's average assets did not exceed the allowable amount and, accordingly,
AUS was in full compliance with CEBA growth limits. The timing and size of
securitizations, on-balance sheet liability structure and rapid changes in
balance sheet structure had frequently been due to the management of AUS's
balance sheet within this growth constraint. However, on September 30, 1996 this
growth rate provision of CEBA was repealed which has created substantial new
flexibility with respect to asset/liability management for AUS (and now ANB) and
ultimately the Company.
As of December 31, 1997 ANB's total deposits were $2.8 billion, and AFC, a
Utah state-chartered, FDIC-insured industrial loan corporation had total
deposits of $195.4 million. A significant portion of ANB's deposits were
contributed to the LLC in connection with the Transaction with Fleet.
ANB's combined Tier I and Tier II capital ratio at December 31, 1997 was
16.39%. At December 31, 1996, the combined Tier I and Tier II capital ratio was
15.84% for AUS and 17.20% for Old ANB. In each case, ANB, AUS and Old ANB met
the requirements of the Comptroller and qualified each of ANB, AUS and Old ANB
as well-capitalized.
In addition, the Company's insurance subsidiaries are subject to certain
capital, deposit and dividend rules and regulations as prescribed by state
jurisdictions in which they are authorized to operate. At December 31, 1997 and
1996 the insurance subsidiaries were in compliance with such rules and
regulations.
CAPITAL EXPENDITURES
The Company spent $83.4 million for capital expenditures in 1997, primarily for
the construction of buildings in Pennsylvania for the mortgage division and a
new office building in Delaware, leasehold improvements, additional space in
existing buildings, office and voice communication equipment and furniture and
fixtures. This compared to $78.4 million for capital expenditures in 1996 and
$20.6 million in 1995.
In 1998, the Company anticipates capital expenditures to be lower than in
1997 as a result of the decreased need of capital expenditures to support the
consumer credit card business contributed to the LLC.
YEAR 2000 ISSUE
Many existing computer programs use only two digits to identify a year in the
date field. These programs were designed and developed without considering the
impact of the upcoming change in the century. If not
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corrected, many computer applications could fail or create erroneous results by
or at the Year 2000. In connection with this issue (the "Year 2000 Issue"), the
Company has initiated a comprehensive assessment of its computer systems and
applications, managed by a team led by two senior information technology
managers and organized as a separate Year 2000 Project Office (the "Project
Office"). The Project Office has developed standards for its work based on work
of leading consultants in the field. The Project Office has developed a review
process featuring a "Year 2000 Score Card" that will be used to measure the
degree to which each of the Company's computer applications are impacted by the
Year 2000 Issue.
The Company has also initiated communications with all of its significant
outside service providers and some of its larger clients to determine the extent
to which the Company is vulnerable to those third parties' failure to remediate
their own Year 2000 Issue. There can be no assurance that the systems used by
outside service providers or other third parties upon which the Company's
systems rely will be timely converted, or that a failure to convert by another
company, or a conversion that is incompatible with the Company's systems, would
not have a material adverse effect on the Company.
The Company expects that its on-going evaluation of its systems and
applications and testing for the implementation of any modifications of existing
computer programs or conversions to new programs, to the extent necessary to
address the Year 2000 Issue, will be substantially completed by the end of 1998,
consistent with the Year 2000 guidelines issued by the Comptroller. The Company,
therefore, believes that the Year 2000 Issue will not pose significant
operational problems for the Company. The Company, however, has not completed
its evaluation of the costs of addressing the issue. While management does not
expect that the costs of evaluating and reprogramming these systems will be
significant, the Company cannot yet estimate the actual costs of the necessary
remediation program. Moreover, the Company notes that GAAP requires that the
costs of becoming Year 2000 compliant, including without limitation modifying
computer software or converting to new programs, be charged to expense as they
are incurred. The Company believes that the Year 2000 Issue will not have a
material adverse effect on the Company's future financial condition, liquidity
or results of operations during 1998 and in future periods.
DERIVATIVES ACTIVITIES
The Company utilizes derivative financial instruments for the purpose of
managing its exposure to interest rate and foreign currency risks. The Company
has a number of mechanisms in place that enable it to monitor and control both
market and credit risk from these derivatives activities. At the broader level,
all derivatives strategies are managed under a hedging policy approved by the
Board of Directors that details the use of such derivatives and the individuals
authorized to execute derivatives transactions. All derivatives strategies must
be approved by the Company's senior management.
As part of this approval process, a market risk analysis is completed to
determine the potential impact on the Company from severe negative (stressed)
movements in market rates. By policy, derivatives transactions may only be used
to manage the Company's exposure to interest rate and foreign currency risks or
for cost reduction and may not be used for speculative purposes. As such, the
impact of any derivatives transaction is calculated using the Company's
asset/liability model to determine its suitability.
The Company's Investment Committee (a management committee) has a
counterparty credit policy. This policy details the maximum credit exposure,
transaction limit and transaction term for counterparties based on an internally
assigned Investment Committee credit rating. Internal counterparty credit
ratings reflect the credit ratings from nationally recognized rating agencies,
as well as other significant credit factors where appropriate. Each
counterparty's credit quality is reviewed as new information becomes available,
and, in any case, at least quarterly. Activities with counterparties will be
suspended if there is reason to believe that their credit quality is below the
Company's set standards.
For each counterparty, credit exposure amounts are calculated in a stress
environment and represent the maximum aggregate credit exposure from derivatives
and other capital market transactions the Company is willing to accept from an
individually approved counterparty. To manage counterparty exposure, the Company
also uses negotiated agreements that establish threshold exposure amounts for
each counterparty above which the Company has the right to call for and receive
collateral for the amount of such excess, thereby limiting its
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exposure to the threshold amount. The threshold levels can be fixed or may
change as the credit rating of the counterparty changes, and in all cases, the
threshold levels are well below the maximum allowable exposure amounts described
above.
Counterparty master agreements and any collateral agreements, by policy,
must be signed prior to the execution of any derivatives transactions with a
counterparty. To date, substantially all master agreements with counterparties
have included bilateral collateral agreements. As such, the potential exposure
from a particular counterparty is limited to the maximum threshold level for
that counterparty.
The Company has a treasury middle office that is independent of the trading
function, which measures, monitors, and reports on credit, market, and liquidity
risk exposures from capital markets, hedging and derivative product activities.
It is the responsibility of this department to ensure compliance with respect to
the hedging policy, including the counterparty transaction limits, transaction
terms and trader authorizations. In addition, this department marks each
derivatives position to market on a weekly basis using both internal and
external models. These models have been benchmarked against a sample of
derivatives dealers' valuation models for accuracy. Position and counterparty
exposure reports are generated and used to manage collateral requirements of the
counterparty and the Company.
All of these procedures and processes are designed to provide reasonable
assurance that prior to and after the execution of any derivatives strategy,
market, credit and liquidity risks are fully analyzed and incorporated into the
Company's asset/liability and risk measurement models and the proper accounting
treatment for the transaction is identified and executed.
During 1996, the FASB issued its exposure draft for accounting for hedging
and derivatives. This draft, an attempt to standardize accounting treatment for
derivatives and hedging, would alter the accounting treatment for the use of
such instruments in the reduction of interest rate risk. The FASB is currently
reviewing comments on the exposure draft. The Company is unable to predict the
outcome of these deliberations at this time.
CREDIT RISK MANAGEMENT
Management regularly reviews the loan and lease portfolio in order to evaluate
the adequacy of the allowance for credit losses. The evaluation includes such
factors as the inherent credit quality of the loan portfolio, past experience,
current economic conditions and changes in the composition of the loan
portfolio. The allowance for credit losses is maintained for on-balance sheet
receivables. The on-balance sheet allowance is intended to cover all credit
losses inherent in the owned loan portfolio. With regard to securitized assets,
anticipated losses and related recourse liabilities are reflected in the
calculations of Securitization Income, Amounts due from Credit Card
Securitizations and Other Assets. Recourse liabilities are intended to cover all
probable credit losses over the life of the securitized receivables. Management
evaluates both its on-balance sheet and recourse requirements and, as
appropriate, effects additions to these accounts.
The allowance for credit losses on a consolidated basis was $137.8 million,
or 4.1% of owned receivables, at December 31, 1997, compared to $89.2 million,
or 3.4% of owned receivables, at December 31, 1996. The allowance for credit
losses on a consolidated basis was $53.5 million, or 1.9% of owned receivables,
in 1995.
ASSET QUALITY
Impaired assets include both nonperforming assets (personal finance loans and
business loans and leases past due 90 days or more, real estate owned, bankrupt,
decedent and fraudulent credit card accounts, and off-lease equipment) and
accruing loans past due 90 days or more on credit cards and leases. The carrying
value for real estate owned is based on fair value and costs of disposition and
is reflected in other assets.
Gross interest income that would have been recorded in 1997 and 1996 for
owned nonperforming assets, had interest been accrued throughout the year in
accordance with the assets' original terms, was approximately $2.1 million and
$3.7 million, respectively. The amount of interest on nonperforming assets
included in income for 1997 and 1996 was $0.4 million and $0.7 million,
respectively.
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In the third quarter of 1996, the Company adopted a new charge-off
methodology related to bankrupt credit card accounts, providing for up to a
90-day (rather than up to a 30-day) investigative period following notification
of the bankruptcy petition, prior to charge-off. This new methodology is
consistent with others in the credit card industry. The 1997 and 1996 credit
statistics set forth in the following tables reflect this change in methodology.
The 1997 asset quality information reflects generally higher charge-off and
delinquency rates primarily in the credit card business which was consistent
with industry trends.
The total managed charge-off rate for 1997 was 5.3% for 1997 compared to
3.2% in 1996. The charge-off rate on managed credit cards increased from 3.7% in
1996 to 7.0% in 1997. The charge-off rate for managed personal finance loans
showed a slight increase, rising to 0.8% in 1997 from 0.7% in 1996. For 1997,
the charge-off rate for business loans and leases was 3.2% compared to 2.3% for
the prior year.
On the total owned portfolio the charge-off rate was 5.6% in 1997 compared
to 2.3% for 1996. The charge-off rate on the owned credit card portfolio rose to
7.9% from 2.5% one year earlier. The charge-off rate on owned personal finance
loans decreased from 1.3% in 1996 to 1.0% in 1997. The 1997 charge-off rate on
business loans and leases was 2.5% compared to 1.5% in 1996.
Nonperforming assets in the total managed portfolio rose to $328.8 million
or 1.8% of receivables in 1997 compared to $191.7 million or 1.2% at the end of
1996. In the managed credit card portfolio, nonperforming assets increased to
$101.3 million or 0.9% of receivables from $89.1 million or 0.7% in 1996. The
nonperforming assets in the managed personal finance portfolio totalled $200.6
million or 3.8% of receivables at the end of 1997, up from $93.1 million or 3.4%
at the end of 1996. In the managed business loan and lease portfolio,
nonperforming assets totalled $26.8 million or 2.1% of receivables in 1997
compared to $9.5 million or 1.2% at the end of 1996.
In the owned portfolio, nonperforming assets totalled $51.1 million or 1.5%
of receivables at the end of 1997 compared to $29.8 million or 1.1% of
receivables at the end of 1996. Nonperforming assets in the owned credit card
portfolio rose to $21.1 million or 0.8% of receivables compared to $13.9 million
or 0.7% at the end of 1996. In the owned personal finance portfolio,
nonperforming assets increased to $23.2 million or 4.9% of loans at year end
1997, up from $13.0 million or 3.5% at the end of 1996. Nonperforming assets
totalled $6.7 million or 2.2% of receivables in the business loan and lease
portfolio, at the end of 1997, up from $2.9 million or 1.4% at the end of 1996.
Loans delinquent 30 days or more in the total managed portfolio were $1.1
billion or 6.0% of receivables at year end 1997, up from $886.7 million or 5.4%
of receivables at December 31, 1996. In the managed credit card portfolio loans
delinquent 30 days or more totalled $594.4 million or 5.29% of receivables in
1997, compared to $632.1 million or 5.0% of receivables at year end 1996. In the
managed personal finance loan portfolio at year end 1997, loans 30 days or more
delinquent totalled $391.9 million or 7.4% of receivables, up from $194.4
million or 7.1% of receivables at December 31, 1996. Loans 30 days or more
delinquent in the managed business loan and lease portfolio were $81.7 million
or 6.5% of receivables at year end 1997 compared to $59.9 million or 7.3% at
year end 1996.
In the owned portfolio, loans delinquent 30 days or more at year end 1997
totalled $201.9 million or 5.9% of receivables, up from $145.6 million or 5.5%
at year end 1996. Loans 30 days or more delinquent in the owned credit card
portfolio totalled $141 million or 5.5% of loans at year end 1997, up from
$107.3 million or 5.2% at the end of 1996. At the end of 1997 loans delinquent
30 days or more in the owned personal finance portfolio totalled $42.9 million
or 9.0% of receivables compared to $28.5 million or 7.6% at the end of 1996.
Owned business loans and leases delinquent more than 30 days at year end 1997
totalled $17.8 million or 6.0% of receivables compared to $9.5 million or 4.4%
at the end of 1996.
Impaired assets in the total managed portfolio were $532 million at
December 31, 1997 or 3.0% of receivables compared to $420.5 million or 2.6% at
year end 1996. In the managed credit card portfolio, impaired assets totalled
$304.4 million or 2.7% of receivables at the end of 1997 compared to the 1996
level of $317.9 million or 2.5% of receivables. In the owned portfolio, total
impaired assets were $100.6 million or 3.0% of receivables in 1997, up from
$70.4 million or 2.7% at the end of 1996. In the owned credit card portfolio,
35
37
impaired assets rose to $70.5 million or 2.7% of receivables in 1997 compared to
$54.5 million or 2.7% at the end of 1996.
Past due loans represent accruing loans that are past due 90 days or more
as to collection of principal and interest. Credit card receivables, except
those on bankrupt, decedent and fraudulent accounts, continue to accrue interest
until the time they are charged off at 186 days contractual delinquency. In
contrast, all personal finance loans and most business loans and leases are put
on nonaccrual status when they become 90 days past due.
During 1994, the Company implemented a new policy for the charge-off of
mortgage loans. Under this policy, when a nonperforming mortgage loan becomes
twelve months delinquent, the Company writes down the loan to its net realizable
value, regardless of anticipated collectibility. Consequently, in 1994, all
mortgage loans that had been twelve or more months delinquent, as well as any
mortgages that became twelve months delinquent during the year were written down
(through a recorded charge-off) to their net realizable value.
36
38
The following tables provide a summary of impaired assets, delinquencies
and charge-offs for the past five years:
($ IN THOUSANDS) DECEMBER 31,
- ---------------------------------------------------------------------------------------------------------
1997 1996 1995 1994 1993
- ---------------------------------------------------------------------------------------------------------
CONSOLIDATED-MANAGED
Nonperforming assets $ 328,835 $191,668 $ 82,171 $ 61,587 $ 63,589
Accruing loans past due 90 days or more 203,117 228,845 84,892 40,837 31,514
Impaired assets 531,952 420,513 167,063 102,424 95,103
Total loans 30 days or more delinquent 1,068,183 886,717 404,072 220,390 186,297
As a percentage of gross receivables:
Nonperforming assets 1.8% 1.2% .7% .8% 1.2%
Accruing loans past due 90 days or more 1.1 1.4 .7 .5 .6
Impaired assets 3.0 2.6 1.4 1.3 1.8
Total loans 30 days or more delinquent:
New methodology(1) 6.0 5.4
Prior methodology 5.2(2) 3.3 2.7 3.6
Net charge-offs:
Amount $ 860,098 $479,992 $212,865 $139,676 $122,715
As a percentage of gross receivables:
New methodology(1) 5.3% 3.2%
Prior methodology 3.5(2) 2.2% 2.3% 2.9%
- ---------------------------------------------------------------------------------------------------------
CREDIT CARDS-MANAGED
Nonperforming assets $ 101,298 $ 89,064 $ 20,516 $ 14,227 $ 10,881
Accruing loans past due 90 days or more 203,069 228,822 84,878 40,721 31,489
Impaired assets 304,367 317,886 105,394 54,948 42,370
Total loans 30 days or more delinquent 594,403 632,083 262,299 133,121 94,035
As a percentage of gross receivables:
Nonperforming assets .9% .7% .2% .2% .3%
Accruing loans past due 90 days or more 1.8 1.8 .8 .6 .8
Impaired assets 2.7 2.5 1.1 .8 1.1
Total loans 30 days or more delinquent:
New methodology(1) 5.3 5.0
Prior methodology 4.6(2) 2.6 2.0 2.4
Net charge-offs:
Amount $ 795,928 $451,239 $193,160 $115,218 $105,966
As a percentage of gross receivables:
New methodology(1) 7.0% 3.7%
Prior methodology 4.1(2) 2.5% 2.5% 3.5%
- ---------------------------------------------------------------------------------------------------------
PERSONAL FINANCE LOANS-MANAGED(3)(4)
Nonperforming assets $ 200,600 $ 93,101 $ 56,743 $ 44,678 $ 50,418
Total loans 30 days or more delinquent 391,929 194,412 106,223 65,966 75,747
As a percentage of gross receivables:
Nonperforming assets 3.8% 3.4% 3.2% 3.3% 4.4%
Total loans 30 days or more delinquent 7.4 7.1 5.9 4.9 6.6
Net charge-offs:
Amount $ 30,165 $ 14,981 $ 13,836 $ 20,709 $ 13,991
As a percentage of gross receivables .8% .7% .9% 1.7% 1.3%
- ---------------------------------------------------------------------------------------------------------
BUSINESS LOANS AND LEASES-MANAGED(5)
Nonperforming assets $ 26,782 $ 9,503 $ 4,912 $ 2,682 $ 2,290
Impaired assets 26,817 9,503 4,912 2,682 2,290
Total loans 30 days or more delinquent 81,675 59,880 35,274 20,972 16,476
As a percentage of receivables:
Nonperforming assets 2.1% 1.2% 1.3% 1.0% 1.3%
Impaired assets 2.1 1.2 1.3 1.0 1.3
Total loans 30 days or more delinquent 6.5 7.3 9.3 7.9 9.7
Net charge-offs:
Amount $ 34,002 $ 13,777 $ 5,846 $ 3,747 $ 2,759
As a percentage of receivables 3.2% 2.3% 1.9% 1.9% 1.9%
- ---------------------------------------------------------------------------------------------------------
(1) The 1997 and 1996 figures reflect the adoption of a new charge-off
methodology in August 1996 relating to credit card bankruptcies (see Asset
Quality).
(2) Pro forma calculation reflecting charge-off of all credit card bankruptcies
within 30 days of notification.
(3) In 1994, the Company implemented a new mortgage loan charge-off policy (see
Asset Quality).
(4) Includes mortgage and home equity loans for all years presented and auto
loans beginning in 1996.
(5) Includes leases for all years presented and business cards beginning in
1996.
37
39
The following tables provide a summary of allowances, impaired assets,
delinquencies and charge-offs for the past five years:
($ IN THOUSANDS) DECEMBER 31,
- ---------------------------------------------------------------------------------------------------------------------
1997 1996 1995 1994 1993
- ---------------------------------------------------------------------------------------------------------------------
CONSOLIDATED-OWNED
Allowance for credit losses $137,773 $ 89,184 $53,494 $41,617 $31,227
Nonperforming assets 51,149 29,822 21,856 31,949 11,487
Accruing loans past due 90 days or more 49,458 40,597 17,399 11,354 11,038
Impaired assets 100,607 70,419 39,255 43,303 22,525
Total loans 30 days or more delinquent 201,891 145,613 76,859 67,904 43,616
As a percentage of gross receivables:
Allowance for credit losses 4.1% 3.4% 1.9% 2.1% 2.4%
Nonperforming assets 1.5 1.1 0.8 1.6 0.9
Accruing loans past due 90 days or more 1.5 1.5 0.6 0.6 0.9
Impaired assets 3.0 2.7 1.4 2.2 1.8
Total loans 30 days or more delinquent:
New methodology(1) 5.9 5.5
Prior methodology 5.3(2) 2.8 3.5 3.4
Net charge-offs:
Amount $151,222 $ 70,576 $42,549 $35,293 $26,776
As a percentage of gross receivables:
New methodology(1) 5.6% 2.3%
Prior methodology 2.5(2) 2.3% 2.6% 2.4%
- ---------------------------------------------------------------------------------------------------------------------
CREDIT CARDS-OWNED
Allowance for credit losses $118,420 $ 76,084 $36,289 $27,486 $25,859
Nonperforming assets 21,055 13,890 2,466 3,502 3,062
Accruing loans past due 90 days or more 49,410 40,574 17,385 11,238 11,013
Impaired assets 70,465 54,464 19,851 14,740 14,075
Total loans 30 days or more delinquent 141,000 107,263 50,651 35,156 31,106
As a percentage of gross receivables:
Allowance for credit losses 4.6% 3.7% 1.6% 1.6% 2.3%
Nonperforming assets 0.8 0.7 0.1 0.2 0.3
Accruing loans past due 90 days or more 1.9 2.0 0.7 0.6 1.0
Impaired assets 2.7 2.7 0.8 0.9 1.2
Total loans 30 days or more delinquent:
New methodology(1) 5.5 5.2
Prior methodology 5.0(2) 2.2 2.0 2.7
Net charge-offs:
Amount $137,017 $ 64,521 $35,425 $22,688 $23,623
As a percentage of gross receivables:
New methodology(1) 7.9% 2.5%
Prior methodology 2.7(2) 2.2% 1.9% 2.6%
- ---------------------------------------------------------------------------------------------------------------------
PERSONAL FINANCE LOANS-OWNED(3)(4)
Allowance for credit losses $ 5,822 $ 8,785 $ 3,360 $ 5,164 $ 2,706
Nonperforming assets 23,234 13,005 18,676 27,379 7,090
Total loans 30 days or more delinquent 42,916 28,546 20,348 23,958 6,744
As a percentage of gross receivables:
Allowance for credit losses 1.2% 2.3% 1.0% 3.6% 3.0%
Nonperforming assets 4.9 3.5 5.8 19.2 7.8
Total loans 30 days or more delinquent 9.0 7.6 6.3 16.8 7.4
Net charge-offs:
Amount $ 5,834 $ 3,059 $ 5,962 $11,689 $ 2,207
As a percentage of gross receivables 1.0% 1.3% 3.2% 9.7% 1.4%
- ---------------------------------------------------------------------------------------------------------------------
BUSINESS LOANS AND LEASES-OWNED(5)
Allowance for credit losses $ 9,798 $ 4,241 $ 1,577 $ 1,076 $ 1,826
Nonperforming assets 6,705 2,927 714 1,068 1,335
Impaired assets 6,740 2,927 714 1,068 1,335
Total loans 30 days or more delinquent 17,799 9,462 4,350 8,459 5,727
As a percentage of receivables:
Allowance for credit losses 3.3% 2.0% 1.7% 1.3% 3.6%
38
40
($ IN THOUSANDS) DECEMBER 31,
- ---------------------------------------------------------------------------------------------------------------------
1997 1996 1995 1994 1993
- ---------------------------------------------------------------------------------------------------------------------
Nonperforming assets 2.2 1.4 0.8 1.2 2.6
Impaired assets 2.3 1.4 0.8 1.2 2.6
Total loans 30 days or more delinquent 6.0 4.4 4.6 9.8 11.2
Net charge-offs:
Amount $ 8,368 $ 3,002 $ 1,139 $ 914 $ 947
As a percentage of receivables 2.5% 1.5% 1.4% 1.5% 1.6%
- ---------------------------------------------------------------------------------------------------------------------
(1) The 1997 and 1996 figures reflect the adoption of a new charge-off
methodology in August 1996 relating to credit card bankruptcies (see Asset
Quality).
(2) Pro forma calculation reflecting charge-off of all credit card bankruptcies
within 30 days of notification.
(3) In 1994, the Company implemented a new mortgage loan charge-off policy (see
Asset Quality).
(4) Includes mortgage and home equity loans for all years presented and auto
loans beginning in 1996.
(5) Includes leases for all years presented and business cards beginning in
1996.
39
41
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
CONSOLIDATED BALANCE SHEETS
($ IN THOUSANDS) DECEMBER 31,
- --------------------------------------------------------------------------------------
1997 1996
- --------------------------------------------------------------------------------------
ASSETS
Cash $ 57,953 $ 165,875
Federal funds sold 156,500 338,926
Restricted interest-bearing deposits 666,583 546,783
Investments available for sale 1,269,209 767,675
Loan and lease receivables, net:
Available for sale 1,452,560 1,476,146
Other loan and lease receivables, net 1,923,986 1,136,857
---------- ----------
Total loan and lease receivables, net 3,376,546 2,613,003
Premises and equipment (at cost, less accumulated
depreciation of $83,746 in 1997 and $53,979 in 1996) 152,215 108,130
Amounts due from credit card securitizations 208,330 399,359
Other assets 798,796 644,208
- --------------------------------------------------------------------------------------
TOTAL ASSETS $6,686,132 $5,583,959
- --------------------------------------------------------------------------------------
LIABILITIES
Deposits:
Noninterest-bearing $ 41,595 $ 28,302
Interest-bearing 2,976,016 1,831,756
---------- ----------
Total deposits 3,017,611 1,860,058
Long-term debt 1,438,358 1,393,095
Other borrowings 862,588 1,068,989
Other liabilities 340,625 309,781
- --------------------------------------------------------------------------------------
TOTAL LIABILITIES 5,659,182 4,631,923
- --------------------------------------------------------------------------------------
Company-obligated mandatorily redeemable preferred
securities of subsidiary trust holding solely subordinated
debentures of the Company 100,000 100,000
STOCKHOLDERS' EQUITY (See Note 8)
Class A preferred stock, $1,000 par value:
Authorized, issued and outstanding -- 1,010 shares in 1997
and 1996 1,010 1,010
Class B preferred stock, $.01 par value:
Authorized -- 1,000,000 shares;
Issued -- 25,000 shares in 1997 and 1996 0 0
Class A common stock, $.01 par value;
Authorized -- 214,500,000 shares;
Issued -18,193,885 shares in 1997 and 17,945,471 shares in
1996 182 179
Class B common stock, $.01 par value;
Authorized -- 230,000,000 shares;
Issued -- 26,564,546 shares in 1997 and 25,592,764 shares
in 1996 266 256
Additional paid-in capital, net 354,190 309,250
Retained earnings, net 585,709 541,383
Less: Treasury stock at cost, 418,286 Class B common
shares in 1997 and 1,231 Class B common shares in 1996 (14,407) (42)
- --------------------------------------------------------------------------------------
TOTAL STOCKHOLDERS' EQUITY 926,950 852,036
- --------------------------------------------------------------------------------------
TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $6,686,132 $5,583,959
- --------------------------------------------------------------------------------------
See Notes to Consolidated Financial Statements.
40
42
CONSOLIDATED INCOME STATEMENTS
(IN THOUSANDS, EXCEPT PER SHARE DATA) YEAR ENDED DECEMBER 31,
- ---------------------------------------------------------------------------------------------
1997 1996 1995
- ---------------------------------------------------------------------------------------------
Interest income:
Loans and leases $ 276,982 $ 267,823 $189,983
Investments:
Taxable 140,436 79,640 46,574
Exempt from federal income tax 200 502 2,375
----------------------------------
Total investments 140,636 80,142 48,949
----------------------------------
Total interest income 417,618 347,965 238,932
----------------------------------
Interest expense:
Deposits 150,164 110,879 72,812
Debt 136,497 118,612 67,908
Other borrowings 37,897 40,209 25,312
----------------------------------
Total interest expense 324,558 269,700 166,032
----------------------------------
Net interest income 93,060 78,265 72,900
Provision for credit losses 210,826 96,862 53,326
----------------------------------
Net interest income after provision for credit losses (117,766) (18,597) 19,574
Noninterest revenues:
Gain on sale of credit cards 0 33,820 0
Other noninterest revenues 845,137 772,712 543,014
----------------------------------
Total noninterest revenues 845,137 806,532 543,014
----------------------------------
Operating expenses:
Amortization of credit card deferred origination costs,
net 69,344 88,517 72,258
Other operating expenses 561,497 434,657 278,427
----------------------------------
Total operating expenses 630,841 523,174 350,685
----------------------------------
Income before income taxes 96,530 264,761 211,903
Provision for income taxes 24,905 89,104 75,226
----------------------------------
Net income $ 71,625 $ 175,657 $136,677
- ---------------------------------------------------------------------------------------------
Basic earnings per common share (see Note 1)
- ---------------------------------------------------------------------------------------------
Class A $ 1.45 $ 4.08 $ 3.34
Class B $ 1.57 $ 4.19 $ 3.42
Combined $ 1.52 $ 4.15 $ 3.38
Diluted earnings per share (see Note 1)
- ---------------------------------------------------------------------------------------------
Class A $ 1.43 $ 3.86 $ 3.18
Class B $ 1.54 $ 3.91 $ 3.22
Combined $ 1.50 $ 3.89 $ 3.20
Basic weighted average common shares outstanding
- ---------------------------------------------------------------------------------------------
Class A 18,172 17,621 17,255
Class B 24,635 23,174 22,468
Combined 42,807 40,795 39,723
Weighted average common shares-assuming dilution
- ---------------------------------------------------------------------------------------------
Class A 18,235 18,031 17,867
Class B 25,266 27,042 24,803
Combined 43,501 45,073 42,670
See Notes to Consolidated Financial Statements.
41
43
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
($ IN THOUSANDS)
- ------------------------------------------------------------------------------------------------------------------------------
UNREALIZED
CLASS A CLASS B CLASS A CLASS B ADDITIONAL INVESTMENT
PREFERRED PREFERRED COMMON COMMON PAID-IN DEFERRED HOLDING GAINS RETAINED
STOCK STOCK STOCK STOCK CAPITAL COMPENSATION (LOSSES) EARNINGS
- ------------------------------------------------------------------------------------------------------------------------------
Balance at Dec. 31, 1994 $1,010 $0 $173 $231 $190,678 $(14,213) $(6,538) $270,349
Change in unrealized
appreciation of
investments, net 6,258
Preferred and common cash
dividends declared (15,501)
Exercise of stock options 2 3 2,049
Issuance of stock:
Public offering 88,927
Benefit plans 6 18,360 (16,523)
Amortization of deferred
compensation 7,661
Termination/tax benefit --
benefit plans 1,917 1,438
Net Income 136,677
- ------------------------------------------------------------------------------------------------------------------------------
Balance at Dec. 31, 1995 $1,010 $0 $175 $240 $301,931 $(21,637) $ (280) $391,525
Change in unrealized
appreciation of
investments, net (338)
Preferred and common cash
dividends declared (24,588)
Exercise of stock options 4 7 7,503
Issuance of stock:
Benefit plans 9 36,000 (33,815)
Amortization of deferred
compensation 11,960
Termination/tax benefit --
benefit plans 5,045 2,263
Foreign currency translation
adjustment (593)
Net Income 175,657
- ------------------------------------------------------------------------------------------------------------------------------
Balance at Dec. 31, 1996 $1,010 $0 $179 $256 $350,479 $(41,229) $ (618) $542,001
Change in unrealized
appreciation of
investments, net 466
Preferred and common cash
dividends declared (28,301)
Exercise of stock options 3 6 8,468
Issuance of stock:
Dividend reinvestment 857
Benefit plans 4 14,524 (11,159)
Amortization of deferred
compensation 11,343
Termination/tax benefit --
benefit plans 5,215 15,692
Foreign currency translation
adjustment 536
Net Income 71,625
- ------------------------------------------------------------------------------------------------------------------------------
Balance at Dec. 31, 1997 $1,010 $0 $182 $266 $379,543 $(25,353) $ (152) $585,861
- ------------------------------------------------------------------------------------------------------------------------------
- ---------------------------- ------------------------
TOTAL
TREASURY STOCKHOLDERS'
STOCK EQUITY
- ---------------------------- ------------------------
Balance at Dec. 31, 1994 $ 0 $441,690
Change in unrealized
appreciation of
investments, net 6,258
Preferred and common cash
dividends declared (15,501)
Exercise of stock options 59 2,113
Issuance of stock:
Public offering 88,927
Benefit plans 1,296 3,139
Amortization of deferred
compensation 7,661
Termination/tax benefit --
benefit plans (1,355) 2,000
Net Income 136,677
- ---------------------------------------------------
Balance at Dec. 31, 1995 $ 0 $672,964
Change in unrealized
appreciation of
investments, net (338)
Preferred and common cash
dividends declared (24,588)
Exercise of stock options 7,514
Issuance of stock:
Benefit plans 2,228 4,422
Amortization of deferred
compensation 11,960
Termination/tax benefit --
benefit plans (2,270) 5,038
Foreign currency translation
adjustment (593)
Net Income 175,657
- ---------------------------------------------------
Balance at Dec. 31, 1996 $ (42) $852,036
Change in unrealized
appreciation of
investments, net 466
Preferred and common cash
dividends declared (28,301)
Exercise of stock options 8,477
Issuance of stock:
Dividend reinvestment 857
Benefit plans 1,297 4,666
Amortization of deferred
compensation 11,343
Termination/tax benefit --
benefit plans (15,662) 5,245
Foreign currency translation
adjustment 536
Net Income 71,625
- ---------------------------------------------------------------------------------------------------
Balance at Dec. 31, 1997 $(14,407) $926,950
- ------------------------------------------------------------------------------------------------------------------
See Notes to Consolidated Financial Statements.
42
44
CONSOLIDATED STATEMENTS OF CASH FLOWS
($ IN THOUSANDS) YEAR ENDED DECEMBER 31,
- --------------------------------------------------------------------------------------------------------
1997 1996 1995
- --------------------------------------------------------------------------------------------------------
OPERATING ACTIVITIES
Net income $ 71,625 $ 175,657 $ 136,677
Adjustments to reconcile net income to net cash provided by
operating activities:
Equity securities losses/(gains) 11,426 (6,522) (15,386)
Depreciation and amortization of intangibles 35,280 19,335 10,802
Provision for credit losses 210,826 96,862 53,326
Change in other assets and amounts due from
securitizations (9,765) (302,608) (127,931)
Change in other liabilities 47,717 147,276 51,757
Gain on securitization of mortgages and leases (88,204) (75,033) (35,652)
- --------------------------------------------------------------------------------------------------------
Net cash provided by operating activities 278,905 54,967 73,593
INVESTING ACTIVITIES
Purchase of investments available for sale (46,510,251) (30,770,841) (3,313,555)
Proceeds from sale of investments available for sale 1,736,050 1,121,679 1,692,544
Proceeds from maturing investments available for sale 44,263,776 29,388,538 1,430,276
Change in federal funds sold and interest-bearing
deposits 4,541 (303,435) (202,262)
Change in credit card receivables, excluding sales (628,015) (3,329,603) (4,179,735)
Proceeds from sales/securitizations of receivables 4,303,710 5,385,055 4,331,739
Purchase of personal finance loan/lease portfolios (141,687) (288,753) (214,094)
Principal collected on personal finance loans 84,423 60,544 30,945
Personal finance loans made to customers (3,559,875) (1,267,073) (608,064)
Purchase of premises and equipment (79,230) (84,167) (20,652)
Proceeds from sale of premises and equipment 227 574 20
Excess of cash collections over income recognized on
direct financing leases 37,476 78,282 38,910
Equipment purchased for direct financing lease contracts (319,543) (325,729) (235,773)
Change in business card receivables, excluding sales (598,486) (262,064) (43,684)
Net change in other loans (20,143) (11,553) (4,062)
- --------------------------------------------------------------------------------------------------------
Net cash used by investing activities (1,427,027) (608,546) (1,297,447)
FINANCING ACTIVITIES
Change in demand and savings deposits 190,493 (11,277) 3,023
Proceeds from deposits sold 0 0 30,018
Proceeds from sales of time deposits 1,934,081 1,481,557 1,322,388
Payments for maturing time deposits (967,021) (1,516,823) (608,186)
Change in repurchase agreements and term federal funds (10,000) (433,000) 47,545
Proceeds from issuance of subordinated/senior debt 24,787 41,076 59,256
Payments on redemption of subordinated/senior debt (97,609) (38,541) (64,642)
Proceeds from issuance of medium-term notes 511,217 720,545 165,052
Payments on maturity of medium-term notes (261,835) (494,400) (20,000)
Change in notes payable (269,612) 837,210 212,730
Proceeds from issuance of capital securities 0 100,000 0
Proceeds from issuance of stock 14,000 11,974 94,179
Cash dividends paid (28,301) (24,581) (15,501)
- --------------------------------------------------------------------------------------------------------
Net cash provided by financing activities 1,040,200 673,740 1,225,862
- --------------------------------------------------------------------------------------------------------
Net (decrease)/increase in cash (107,922) 120,161 2,008
Cash at beginning of year 165,875 45,714 43,706
Cash at end of year $ 57,953 $ 165,875 $ 45,714
- --------------------------------------------------------------------------------------------------------
See Notes to Consolidated Financial Statements.
43
45
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
($ IN THOUSANDS, UNLESS OTHERWISE NOTED, EXCEPT PER SHARE DATA)
NOTE 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
NATURE OF OPERATIONS
Advanta Corp. (the "Company"), a Delaware corporation, is a financial services
company which provides a variety of products to consumers and small businesses.
The Company services approximately 6.3 million customers and manages receivables
in excess of $17.8 billion. The Company issues credit cards primarily through
its wholly owned subsidiary Advanta National Bank ("ANB"). References to ANB in
these Notes to Consolidated Financial Statements include, to the extent
applicable, ANB's predecessors by merger (see Note 18). Substantially all of the
Company's credit card processing is performed by a single outside third party
processor. Total managed credit card receivables at December 31, 1997 totaled
$11.2 billion. The Company also operates through other wholly owned subsidiaries
including: Advanta Mortgage Corp. USA ("AMC") which originates mortgage loans
secured by first or junior liens and automobile loans, Advanta Business Services
Corp. ("ABS") which provides small ticket equipment leases and markets credit
cards to businesses, and Advanta Life Insurance Company which reinsures or
writes various credit insurance products available to the Company's customers.
Managed receivables for AMC and ABS totaled approximately $5.3 billion and $1.3
billion, respectively, at December 31, 1997. On February 20, 1998 the Company
completed a transaction with Fleet Financial Group, Inc. ("Fleet") to contribute
substantially all of its consumer credit card receivables, subject to
liabilities, to a limited liability company controlled by Fleet (see Note 11).
PRINCIPLES OF CONSOLIDATION
The consolidated financial statements have been prepared in accordance with
generally accepted accounting principles and include the accounts of the Company
and its subsidiaries. All significant intercompany balances and transactions
have been eliminated in consolidation.
BASIS OF PRESENTATION
The preparation of financial statements in accordance with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and disclosure of
contingent assets and liabilities at the date of the financial statements and
the reported amounts of revenues and expenses during the reporting period. The
ultimate results could differ from those estimates.
Certain prior-period amounts have been reclassified to conform with
current-year classifications.
CREDIT CARD ORIGINATION COSTS, SECURITIZATION INCOME AND FEES
Credit Card Origination Costs
The Company accounts for credit card origination costs under Statement of
Financial Accounting Standards No. 91, "Accounting for Nonrefundable Fees and
Costs Associated with Originating or Acquiring Loans and Initial Direct Costs of
Leases" ("SFAS 91"). This accounting standard requires certain loan and lease
origination fees and costs to be deferred and amortized over the life of a loan
or lease. Origination costs are defined under this standard to include costs of
loan origination associated with transactions with independent third parties and
certain costs relating to underwriting activities and preparing and processing
loan documents. The Company engages third parties to solicit and originate
credit card account relationships. Amounts deferred under these arrangements
approximated $89.2 million in 1997, $54.6 million in 1996 and $71.9 million in
1995.
The Company amortizes deferred credit card origination costs following the
consensus reached at the May 20, 1993 meeting of the Emerging Issues Task Force
("EITF") of the Financial Accounting Standards Board ("FASB") regarding the
acquisition of individual credit card accounts from independent third parties
(EITF Issue 93-1). Under this consensus amounts paid to third parties are
deferred and amortized on a straight-line basis over one year. Costs incurred
for originations which were initiated prior to May 20, 1993
44
46
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
continue to be amortized over a 60 month period as was the Company's practice
prior to the EITF Issue 93-1 consensus.
CREDIT CARD SECURITIZATION INCOME
The Company adopted Statement of Financial Accounting Standards No. 125,
"Accounting for Transfers and Servicing of Financial Assets and Extinguishments
of Liabilities" ("SFAS 125"), effective January 1, 1997. Under SFAS 125, a
transfer of financial assets in which the transferor surrenders control over
those assets is accounted for as a sale to the extent that consideration other
than beneficial interests in the transferred assets is received in exchange.
SFAS 125 requires that liabilities and derivatives incurred or obtained by
transferors as part of a transfer of financial assets be initially measured at
fair value, if practicable. It also requires that servicing assets and other
retained interests in the transferred assets be measured by allocating the
previous carrying amount between the assets sold, if any, and retained
interests, if any, based on their relative fair values at the date of the
transfer. The adoption of SFAS 125 did not have a material effect on the
Company's financial statements.
Under SFAS 125, the Company allocates the previous carrying amount of the
credit card receivables securitized between the assets sold, and the retained
interests, principally an interest in the receivables and an interest-only strip
net of a recourse obligation, based on their relative estimated fair values at
the date of sale. A gain is recognized at the time of the sale equal to the
excess of the fair value of the assets obtained, principally cash, over the
allocated cost of the assets sold. Servicing assets associated with credit card
securitization transactions are immaterial as the benefits of servicing are not
expected to be more or less than adequate compensation (as defined below) to the
Company for performing the servicing. As all estimates used are influenced by
factors outside the Company's control, there is uncertainty inherent in these
estimates, making it reasonably possible that they could change in the near
term. During the "revolving period" of each trust, securitization income is
recorded representing gains on the sale of new receivables that are sold to the
trusts on a continuous basis to replenish the investors' interest in trust
receivables that have been repaid by the credit cardholders. As directed by SFAS
125, the retained interests in the receivables are measured in accordance with
the provisions of SFAS 115 as available-for-sale securities. At December 31,
1997, the carrying value of the retained interests in the credit card
receivables securitized approximated the market value.
Prior to January 1, 1997 the Company recorded excess servicing income on
credit card securitizations representing additional cash flow from the
receivables initially sold based on estimates of the repayment term, including
prepayments. As the estimates used to record excess servicing income were
influenced by factors outside the Company's control, there was uncertainty
inherent in these estimates, making it reasonably possible that they could
change in the near term. Excess servicing income recorded at the time of each
transaction was substantially offset by the establishment of a recourse
liability for anticipated charge-offs. During the "revolving period" of each
trust, income was recorded based on additional cash flows from the new
receivables which were sold to the trusts on a continual basis to replenish the
investors' interest in trust receivables which had been repaid by the credit
cardholders. Credit card securitization activities were affected by the adoption
in the third quarter of 1996 of a new charge-off methodology relating to
bankruptcies (see Credit Losses below), the upward repricing of interest rates
and fees, increases in charge-offs and the related impact on allowances, all of
which had in the aggregate an approximate $50 million impact (earnings increase)
in 1996, as well as a 57% increase in average securitized receivables.
INTEREST INCOME
The Company recognizes interest income using a method which approximates the
level yield method. Personal finance loans and business loans discontinue the
accrual of interest when the related receivable is 90 days or more past due.
Interest income is subsequently recognized only to the extent cash payments are
received. Credit card receivables, except bankrupt, decedent and fraudulent
accounts, continue to accrue interest until the time they charge-off at 186 days
contractually delinquent.
45
47
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
MORTGAGE LOAN ORIGINATION FEES
The Company generally charges origination fees ("points") for mortgage loans
where permitted under state law. Origination fees, net of direct origination
costs, are deferred and amortized over the contractual life of the loan as an
adjustment to yield (interest income). However, upon the sale or securitization
of the loans, the unamortized portion of such fees is included in the
computation of the gain on sale.
LOAN AND LEASE RECEIVABLES AVAILABLE FOR SALE
Loan and lease receivables available for sale represent receivables currently on
the balance sheet that the Company generally intends to sell or securitize
within the next six months. These assets are reported at the lower of aggregate
cost or fair market value.
INVESTMENTS AVAILABLE FOR SALE
Investments available for sale include securities that the Company sells from
time to time to provide liquidity and in response to changes in the market. Debt
and equity securities classified as Available for Sale are reported at market
value under Statement of Financial Accounting Standards No. 115, "Accounting for
Certain Investments in Debt and Equity Securities" ("SFAS 115"). Under SFAS 115,
unrealized gains and losses on these securities (except those held by the
Company's venture capital unit, Advanta Partners LP) are recorded as adjustments
to stockholders' equity, net of income taxes.
Changes in the fair value of Advanta Partners LP investments are reported
in noninterest revenues as equity securities gains or losses. The fair value of
publicly traded investments takes into account their quoted market prices with
adjustments made for liquidity or sale restrictions. For investments that are
not publicly traded, estimates of fair value have been made by management that
consider several factors including the investees' financial results, conditions
and prospects, and the values of comparable public companies. Because of the
nature of these investments, the equity method of accounting is not used in
situations where the Company has a greater than 20 percent ownership interest.
DERIVATIVE FINANCIAL INSTRUMENTS
The Company uses various derivative financial instruments ("derivatives") such
as interest rate swaps and caps, forward contracts, options on securities, and
financial futures as part of its risk management strategy to reduce interest
rate and foreign currency exposures, and where appropriate, to synthetically
lower its cost of funds. Derivatives are classified as hedges or synthetic
alterations of specific on-balance sheet items, off-balance sheet items or
anticipated transactions. In order for derivatives to qualify for hedge
accounting treatment the following conditions must be met: 1) the underlying
item being hedged by derivatives exposes the Company to interest rate or foreign
currency risks, 2) the derivative used serves to reduce the Company's
sensitivity to interest rate or foreign currency risks, and 3) the derivative
used is designated and deemed effective in hedging the Company's exposure to
interest rate or foreign currency risks. In addition to meeting these
conditions, anticipatory hedges must demonstrate that the anticipated
transaction being hedged is probable to occur and the expected terms of the
transaction are identifiable.
For derivatives designated as hedges of interest rate exposure, gains or
losses are deferred and included in the carrying amounts of the related item
exposing the Company to interest rate risk and ultimately recognized in income
as part of those carrying amounts. For derivatives designated as hedges of
foreign currency exposure, gains or losses are reported in stockholders' equity.
Accrual accounting is applied for derivatives designated as synthetic
alterations with income and expense recorded in the same category as the related
underlying on-balance sheet or off-balance sheet item synthetically altered.
Gains or losses resulting from early terminations of derivatives are deferred
and amortized over the remaining term of the underlying balance sheet item or
the remaining term of the derivative, as appropriate.
46
48
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Derivatives not qualifying for hedge or synthetic accounting treatment
would be carried at market value with realized and unrealized gains and losses
included in noninterest revenues. At December 31, 1997, 1996 and 1995, all the
Company's derivatives qualified as hedges or synthetic alterations.
INCOME FROM PERSONAL FINANCE LOANS
The Company, through its subsidiaries, sells mortgage, home equity and auto
loans through secondary market securitizations, typically with servicing
retained. Under SFAS 125, the Company allocates the previous carrying amount of
the receivables securitized between the assets sold and the retained interests,
principally servicing and an interest-only strip net of a recourse obligation,
based on their relative estimated fair values at the date of sale. A gain is
recognized at the time of the sale equal to the excess of the fair value of the
assets obtained, principally cash, over the allocated cost of the assets sold
and transaction costs. The retained interest-only strip represents the remaining
interest collected from the borrowers on the underlying loans after the payment
of pass-through interest to the certificate holders and the payment of a
servicing fee to the Company in its role as servicer and is partially offset by
the estimated fair value of the Company's recourse obligation for anticipated
charge-offs. SFAS 125 directs that the retained interest-only strips should be
subsequently classified and measured in accordance with the provisions of SFAS
115. The Company classifies the retained interest-only strips from the
securitization of mortgage and home equity loans as trading securities. These
assets are subsequently recorded at estimated fair value and the resulting
unrealized gain or loss from the valuation of the receivable is recorded in the
results of operations for the period. The Company estimates the fair value based
on a discounted cash flow analysis. The cash flows are estimated as the excess
of the weighted average coupon on each pool of the loans sold over the sum of
the pass-through interest rate plus the servicing fee, a trustee fee, credit
enhancement costs and an estimate of future credit losses over the life of the
loans. Management believes these cash flows are projected over the life of the
loans using prepayment, default, and interest rate assumptions that market
participants would use for similar financial instruments subject to prepayment,
credit and interest rate risk. Management also believes that the cash flows are
discounted using an interest rate that a purchaser unrelated to the seller of
such a financial instrument would demand. As all estimates used are influenced
by factors outside the Company's control, there is uncertainty inherent in these
estimates, making it reasonably possible that they could change in the near
term.
Prior to January 1, 1997, the Company recorded a gain on the securitization
of personal finance loans at the time of sale, approximately equal to the
present value, using a risk adjusted discount rate, of the excess of the
anticipated future interest and fees paid by borrowers on the underlying loans
over the sum of the pass through rate of interest payable to the certificate
holders, a loan servicing fee which is paid to the Company in its role as
servicer, estimated credit losses and certain transaction related costs. The
Company recorded a corresponding excess spread asset at the time of sale equal
to the gain recognized. The excess spread asset was amortized, as a charge to
servicing fees and other income, in proportion to cash flows received over the
estimated lives of the underlying loans. The asset was carried at the lower of
amortized cost or net realizable value. The carrying value was evaluated
quarterly by the Company on a disaggregated basis to determine whether
prepayment and loan loss experience had impaired this carrying value. Reductions
in the value of the excess spread that are due to adverse prepayment and loan
loss experience were recognized as a charge to earnings, while increases were
not recognized. As all estimates used were influenced by factors outside the
Company's control, there was uncertainty inherent in these estimates, making it
reasonably possible that they could change in the near term. In addition to the
excess spread, the gain also included premiums on loans sold, nonrefundable fees
and gains or losses on hedging transactions structured to minimize the risk of
interest rate fluctuations (See Notes 3 and 16).
Income from personal finance loans also includes negotiated loan servicing
fees on mortgage loan portfolios which were never owned by the Company
("contract servicing").
47
49
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
INCOME FROM BUSINESS LOAN AND LEASE SECURITIZATIONS
The Company, through its subsidiaries, sells business loans and leases through
secondary market securitizations. Under SFAS 125, the Company allocates the
previous carrying amount of the lease receivables securitized between the assets
sold and the retained interests, principally an interest in the receivables and
an interest-only strip net of a recourse obligation, based on their relative
estimated fair values at the date of sale. A gain is recognized at the time of
the sale equal to the excess of the fair value of the assets obtained,
principally cash, over the allocated cost of the assets sold. The Company
estimates the fair value based on a discounted cash flow analysis. The cash
flows are estimated as the excess of the weighted average yield on each pool of
the leases sold over the sum of the pass-through interest rate plus the
servicing fee and an estimate of future credit losses over the life of the
leases. Management believes that these cash flows are projected over the life of
the leases using prepayment, default, and interest rate assumptions that market
participants would use for similar financial instruments subject to prepayment,
credit and interest rate risk. Management also believes that the cash flows are
discounted using an interest rate that a purchaser unrelated to the seller of
such a financial instrument would demand. As all estimates used are influenced
by factors outside the Company's control, there is uncertainty inherent in these
estimates, making it reasonably possible that they could change in the near
term. As directed by SFAS 125, the retained interests in the receivables are
measured in accordance with the provisions of SFAS 115 as available-for-sale
securities. At December 31, 1997, unrecognized gains and losses on the retained
interests in the credit card receivables securitized was not material.
Prior to January 1, 1997, the Company recorded excess servicing income on
lease securitizations approximately equal to the present value of the
anticipated future cash flows, assuming an estimated prepayment rate, net of
anticipated charge-offs, partially offset by deferred initial direct costs,
transaction expenses, servicing fees, pass-through interest rate and estimated
credit losses under certain recourse requirements of the transactions. As these
estimates were influenced by factors outside the Company's control, there was
uncertainty inherent in these estimates, making it reasonably possible that they
could change in the near term. Also included in income was the difference
between the net sales proceeds and the carrying amount of the receivables sold.
Subsequent to the initial sale, securitization income was recorded in proportion
to the actual cash flows received from the trusts.
At December 31, 1997 and 1996, the Company's accounting for the
securitization of business card receivables was substantially the same as the
accounting for the securitization of credit card receivables discussed above.
(See Notes 3 and 16).
Servicing assets associated with business loan and lease securitization
transactions are immaterial as the benefits of servicing are not expected to be
more or less than adequate compensation (as defined below) to the Company for
performing the servicing.
INSURANCE
Reinsurance premiums, net of commissions on credit life, disability and
unemployment policies on credit cards, are earned monthly based upon the
outstanding balance of the underlying receivables. Insurance premiums are earned
ratably over the period of insurance coverage provided. The cost of acquiring
new reinsurance is deferred and amortized over the respective periods in order
to match the expense with the anticipated revenue. Insurance loss reserves are
based on estimated settlement amounts for both reported losses and incurred but
not reported losses.
CREDIT LOSSES
The Company's charge-off policy, as it relates to consumer and business credit
card accounts, is to charge-off a receivable, if not paid, at 186 days
contractually delinquent. Accounts suspected of being fraudulent are written off
after a 90 day investigation period, unless the investigation shows no evidence
of fraud.
48
50
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
In the third quarter of 1996, the Company adopted a new charge-off
methodology related to bankrupt credit card accounts, providing for up to a
90-day (rather than up to a 30-day) investigative period following notification
of the bankruptcy petition, prior to charge-off. This new methodology is
consistent with others in the credit card industry.
The Company charges-off expected losses on all non-performing personal
finance loans generally no later than when they have become twelve months
delinquent. Lease receivables are generally written-off when at 120 days
contractually delinquent.
PREMISES AND EQUIPMENT
Premises, equipment, computers and software are stated at cost less accumulated
depreciation and amortization. Depreciation is calculated using the
straight-line method over the estimated useful lives of the assets. Repairs and
maintenance are charged to expense as incurred.
CONTRACTUAL MORTGAGE SERVICING RIGHTS
Effective January 1, 1995, the Company adopted Statement of Financial Accounting
Standards No. 122, "Accounting for Mortgage Servicing Rights" ("SFAS 122") which
requires the Company to recognize rights to service mortgage loans for others
based on their relative fair value as separate assets. Effective January 1,
1997, SFAS 125 superceded SFAS 122. Under SFAS 125, the Company capitalizes the
right to service mortgage loans based on the relative fair value of the
receivables that are sold. Management has estimated the fair value of
contractual mortgage servicing rights based on a discounted cash flow analysis.
The cash flows are estimated as the excess of the benefits of servicing,
principally revenues from contractually specified servicing fees, late charges,
and other ancillary sources, over adequate compensation. SFAS 125 defines
adequate compensation as the amount of benefits of servicing that would fairly
compensate a substitute servicer should one be required, which includes the
profit that would be demanded in the marketplace. The cost allocated to the
contractual mortgage servicing rights is amortized in proportion to, and over
the period of estimated net future servicing fee income.
JOINT VENTURE
In 1995, the Company formed a joint venture with The Royal Bank of Scotland, RBS
Advanta, to market, issue and service bankcards in the United Kingdom. As of
December 31, 1997 the Company owned 49% of the RBS Advanta joint venture, the
investment in which is accounted for under the equity method. In connection with
the Transaction described in Note 11, the Company contributed its economic
interest in the RBS Advanta joint venture to the Fleet LLC.
GOODWILL
Goodwill, representing the cost of investments in subsidiaries and affiliated
companies in excess of net assets acquired at acquisition, is amortized on a
straight-line basis for a period of up to 25 years.
STOCK-BASED COMPENSATION
The Company has elected to account for stock-based compensation following
Accounting Principles Board Opinion No. 25 "Accounting for Stock Issued to
Employees" ("APB 25") as permitted by SFAS No. 123, "Accounting for Stock Based
Compensation" ("SFAS 123"). The Company has adopted the disclosure only
provision of SFAS 123.
INCOME TAXES
The Company accounts for income taxes under the provisions of Statement of
Financial Accounting Standards No. 109, "Accounting for Income Taxes" ("SFAS
109"). SFAS 109 utilizes the liability method
49
51
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
and deferred taxes are determined based on the estimated future tax effects of
differences between the financial statement and tax basis of assets and
liabilities given the provisions of the enacted tax laws.
EARNINGS PER SHARE
Earnings per share are calculated under the provisions of SFAS No. 128,
"Earnings Per Share" ("SFAS 128"). SFAS 128 requires the presentation and
disclosure of Basic Earnings Per Share and Diluted Earnings Per Share. Basic
Earnings Per Share is computed by dividing income available to common
stockholders by the weighted-average number of common shares outstanding during
the period. Income available to common stockholders is computed by deducting
Class A and Class B preferred stock dividends from net income. Diluted Earnings
Per Share is computed by dividing income available to common stockholders,
increased by dividends on dilutive Class B preferred stock for the period,
divided by the sum of average common shares outstanding plus dilutive common
shares for the period. Potentially dilutive common shares include stock options,
restricted stock issued under incentive plans and Class B preferred stock. Since
the cash dividends declared on the Company's Class B Common Stock were higher
than the dividends declared on the Class A Common Stock, Basic and Dilutive
Earnings Per Share have been calculated using the "two-class" method. The
two-class method is an earnings allocation formula that determines earnings per
share for each class of common stock according to dividends declared and
participation rights in undistributed earnings. The Company has also presented
"Combined Earnings Per Share," which represents a weighted average of Class A
Earnings Per Share and Class B Earnings Per Share. As required by SFAS 128, all
prior period earnings per share data presented have been restated.
CASH FLOW REPORTING
For purposes of reporting cash flows, cash includes cash on hand and amounts due
from banks. Cash paid during 1997, 1996 and 1995 for interest was $304.0
million, $241.1 million and $147.2 million, respectively. Cash paid or (refunds
received) for taxes during these periods was $(6.1) million, $45.1 million and
$43.9 million, respectively.
RECENT ACCOUNTING PRONOUNCEMENTS
The FASB has issued the following Statements of Financial Accounting Standards:
Statement of Financial Accounting Standards ("SFAS") No. 130, "Reporting
Comprehensive Income" was issued in July 1997. SFAS No. 130 establishes
standards for the reporting and display of comprehensive income and its
components. The main objective of the statement is to report a measure of all
changes in equity that result from transactions and other economic events of the
period other than transactions with owners. The Company adopted SFAS No. 130 on
January 1, 1998.
SFAS No. 131 "Disclosures about Segments of an Enterprise and Related
Information" was issued in June 1997, and is effective for periods beginning
after December 15, 1997. SFAS No. 131 introduces a new model for segment
reporting, called the "management approach." The management approach is based on
the way the chief operating decision maker organizes segments within a company
for making operating decisions and assessing performance. Reportable segments
are based on product and services, geography, legal structure, management
structure -- any manner in which management desegregates a company. The
management approach replaces the notion of industry and geographic segments in
current FASB standards. The Company intends to report information on two
segments as a result of the adoption of SFAS No. 131, Advanta Personal Finance
Services and Advanta Business Services.
50
52
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
NOTE 2. LOAN AND LEASE RECEIVABLES
Loan and lease receivables consisted of the following:
DECEMBER 31,
- --------------------------------------------------------------------------------------
1997 1996
- --------------------------------------------------------------------------------------
Credit cards(A) $2,579,890 $2,045,219
Personal finance loans(B) 478,433 376,260
Business loans and leases(C) 298,789 214,327
Other loans 40,978 20,835
- --------------------------------------------------------------------------------------
Gross loan and lease receivables 3,398,090 2,656,641
- --------------------------------------------------------------------------------------
Add: Deferred origination costs, net of deferred fees(D) 116,229 45,546
Less: Allowance for credit losses:
Credit cards (118,420) (76,084)
Personal finance loans (5,822) (8,785)
Business loans and leases (9,798) (4,241)
Other (3,733) (74)
- --------------------------------------------------------------------------------------
Total allowance (137,773) (89,184)
- --------------------------------------------------------------------------------------
Net loan and lease receivables $3,376,546 $2,613,003
- --------------------------------------------------------------------------------------
(A) Includes credit card receivables available for sale of $1.0 billion and $1.1
billion in 1997 and 1996, respectively.
(B) Includes personal finance loan receivables available for sale of $394.1
million and $337.3 million in 1997 and 1996, respectively and is net of
unearned income of $3.1 million in 1997.
(C) Includes business loans and leases available for sale of $43.8 million and
$71.9 million in 1997 and 1996, respectively, and is net of unearned income
of $20.7 million and $20.9 million in 1997 and 1996, respectively. Also
includes residual interest for both years.
(D) Includes approximately $7.0 million and $4.0 million in 1997 and 1996,
respectively, related to loan and lease receivables available for sale.
51
53
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Receivables serviced for others consisted of the following items:
DECEMBER 31,
- ----------------------------------------------------------------------------------------
1997 1996
- ----------------------------------------------------------------------------------------
Credit cards $ 8,664,711 $10,646,177
Personal finance loans(A) 4,830,403 2,377,430
Business loans and leases 965,000 608,945
- ----------------------------------------------------------------------------------------
Total $14,460,114 $13,632,552
- ----------------------------------------------------------------------------------------
(A) Excludes mortgage loans which were not originated by the Company, but which
the Company services for a fee ("contract servicing"). Contract servicing
receivables were $9.2 billion and $3.7 billion at December 31, 1997 and
1996, respectively.
The geographic concentration of managed receivables was as follows:
DECEMBER 31,
- -----------------------------------------------------------------------------------------------
1997 1996
-------------------- --------------------
RECEIVABLES % RECEIVABLES %
- -----------------------------------------------------------------------------------------------
California $ 2,545,282 14.3% $ 2,559,128 15.7%
New York 1,349,654 7.6 1,283,895 7.9
Florida 1,037,763 5.8 902,692 5.5
Texas 1,026,350 5.7 1,003,641 6.2
New Jersey 823,897 4.6 731,055 4.5
All other 11,075,258 62.0 9,808,782 60.2
- -----------------------------------------------------------------------------------------------
Total managed receivables $17,858,204 100.0% $16,289,193 100.0%
- -----------------------------------------------------------------------------------------------
In the normal course of business, the Company makes commitments to extend
credit to its credit card customers. Commitments to extend credit are agreements
to lend to a customer subject to certain conditions established in the contract.
The Company does not require collateral to support this financial commitment. At
December 31, 1997 and 1996, the Company had $54.2 billion and $41.2 billion,
respectively, of commitments to extend credit outstanding for which there is
potential credit risk. The Company believes that its customers' utilization of
these lines of credit will continue to be substantially less than the amount of
the commitments, as has been the Company's experience to date. At December 31,
1997 and 1996, outstanding managed consumer and business credit card receivables
represented 22% and 32%, respectively, of outstanding commitments.
NOTE 3. CREDIT CARD, PERSONAL FINANCE AND BUSINESS LOAN AND LEASE
SECURITIZATIONS
ANB had securitized credit card receivables outstanding of $8.7 billion at
December 31, 1997. In each securitization transaction, credit card receivables
were transferred to a trust which issued certificates representing ownership
interests in the trust primarily to institutional investors. ANB retained a
participation interest in the trusts, reflecting the excess of the total amount
of receivables transferred to the trust over the portion represented by
certificates sold to investors. The retained participation interests in the
credit card trusts were $1.6 billion and $0.9 billion at December 31, 1997 and
1996, respectively. Although ANB continues to service the underlying credit card
accounts and maintain the customer relationships, these transactions are treated
as sales for financial reporting purposes to the extent of the investors'
interests in the trusts. Accordingly, the associated receivables are not
reflected on the balance sheet.
ANB is subject to certain recourse obligations in connection with these
securitizations. At December 31, 1997 and 1996, ANB had liabilities of $338.3
million and $334.6 million, respectively, related to these recourse obligations.
These liabilities are netted against the amounts due from credit card
securitizations.
At December 31, 1997, ANB had amounts receivable from credit card
securitizations, including related interest-bearing deposits, of $647.2 million,
$438.8 million of which constitutes amounts which are subject to liens by the
providers of the credit enhancement facilities for the individual
securitizations and is inclusive of
52
54
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
amounts awaiting distributions to investors. At December 31, 1996, the amounts
receivable were $733.3 million and amounts subject to lien (inclusive of amounts
due to investors) were $333.9 million.
At December 31, 1997, the Company had $4.8 billion of securitized personal
finance loan receivables outstanding which are subject to certain recourse
obligations. The Company had liabilities of $120.0 million and $64.4 million at
year end 1997 and 1996, respectively, related to these recourse obligations
which are netted against the retained interest-only strips (see Note 16). At
December 31, 1997, the Company had amounts receivable from mortgage loan sales
and securitizations of $402.6 million, $146.8 million of which was subject to
liens. At December 31, 1996, the amounts receivable and amounts subject to lien
were $260.2 million and $96.5 million, respectively.
At December 31, 1997, the Company had $965 million of securitized business
loans and leases outstanding which are subject to certain recourse obligations.
There were liabilities of $28.2 million and $22.2 million at year end 1997 and
1996, respectively, related to these recourse obligations which are netted
against the retained interest-only strips from business loan and lease
securitizations (see Note 16). The Company had amounts receivable from business
loan and lease securitizations of $6.3 million at year end 1997, none of which
was subject to liens and $27.6 million at year end 1996, of which $8.1 million
was subject to liens by providers of the credit enhancement facilities (see Note
16). Total interest in equipment residuals for lease assets sold was $42.7
million and $32.1 million at December 31, 1997 and 1996, respectively, and is
also subject to recourse obligations.
As indicated in Note 1, recourse liabilities are established at the time of
the securitization transactions based on anticipated future cash flows,
prepayment rates and charge-offs. As these estimates are influenced by factors
outside of the Company's control, there is uncertainty inherent in these
estimates, making it reasonably possible that they could change in the near
term.
NOTE 4. ALLOWANCE FOR CREDIT LOSSES
The allowance for credit losses for lending and leasing transactions is
established to reflect losses anticipated from delinquencies that have already
occurred. In estimating the allowance, management relies on historical
experience by loan type adjusted for any known trends in the portfolio. As these
estimates are influenced by factors outside of the Company's control, there is
uncertainty inherent in these estimates, making it reasonably possible that they
could change in the near term.
Any adjustments to the allowance (net of transfers between on-and
off-balance sheet recourse liabilities) are reported in the Consolidated Income
Statements in the periods they become known.
53
55
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The following table displays five years of allowance history:
ALLOWANCE FOR CREDIT LOSSES YEAR ENDED DECEMBER 31,
- ----------------------------------------------------------------------------------------------
1997 1996 1995 1994 1993
- ----------------------------------------------------------------------------------------------
Balance at January 1 $ 89,184 $ 53,494 $ 41,617 $ 31,227 $ 40,228
Provision for credit losses 210,826 96,862 53,326 34,198 29,802
Transfers from/(to) recourse
liabilities 0 3,000 1,100 11,485 (12,027)
Allowances on receivables
(sold)/purchased (11,015) 6,404 0 0 0
Gross credit losses:
Credit cards (155,528) (73,466) (41,779) (28,646) (33,805)
Personal finance loans (6,825) (3,473) (6,038) (11,731) (2,247)
Business loans and leases (9,583) (3,444) (1,413) (1,053) (1,376)
Other loans (4) (13) (38) (44) (93)
- ----------------------------------------------------------------------------------------------
Total credit losses (171,940) (80,396) (49,268) (41,474) (37,521)
Recoveries:
Credit cards 18,511 8,945 6,354 5,958 10,182
Personal finance loans 991 414 76 42 40
Business loans and leases 1,215 442 274 139 429
Other loans 1 19 15 42 94
- ----------------------------------------------------------------------------------------------
Total recoveries 20,718 9,820 6,719 6,181 10,745
- ----------------------------------------------------------------------------------------------
Net credit losses (151,222) (70,576) (42,549) (35,293) (26,776)
Balance at December 31 $ 137,773 $ 89,184 $ 53,494 $ 41,617 $ 31,227
- ----------------------------------------------------------------------------------------------
NOTE 5. INVESTMENTS AVAILABLE FOR SALE
Investments available for sale consisted of the following:
DECEMBER 31,
- -------------------------------------------------------------------------------------------------------------------------
1997 1996
------------------------------------------------- ----------------------------------------------
GROSS GROSS GROSS GROSS
AMORTIZED UNREALIZED UNREALIZED MARKET AMORTIZED UNREALIZED UNREALIZED MARKET
COST GAINS LOSSES VALUE COST GAINS LOSSES VALUE
- -------------------------------------------------------------------------------------------------------------------------
U. S. Treasury &
other U.S.
Government
securities $1,083,848 $ 82 $(184) $1,083,746 $645,113 $ 21 $ (677) $644,457
State and municipal
securities 5,195 123 0 5,318 3,640 38 0 3,678
Collateralized
mortgage obligations 15,639 0 (151) 15,488 7,624 9 (108) 7,525
Asset-backed
securities 94,324 150 0 94,474 41,493 45 (464) 41,074
Equity securities(1) 69,092 0 (250) 68,842 69,830 440 (250) 70,020
Other 1,344 0 (3) 1,341 925 0 (4) 921
- -------------------------------------------------------------------------------------------------------------------------
Total $1,269,442 $355 $(588) $1,269,209 $768,625 $553 $(1,503) $767,675
- -------------------------------------------------------------------------------------------------------------------------
DECEMBER 31,
- --------------------- ----------------------------------------------
1995
----------------------------------------------
GROSS GROSS
AMORTIZED UNREALIZED UNREALIZED MARKET
COST GAINS LOSSES VALUE
- --------------------- ----------------------------------------------
U. S. Treasury &
other U.S.
Government
securities $405,614 $ 70 $(286) $405,398
State and municipal
securities 24,239 52 0 24,291
Collateralized
mortgage obligations 8,066 0 (101) 7,965
Asset-backed
securities 36,599 0 (103) 36,496
Equity securities(1) 41,971 196 (250) 41,917
Other 16,167 0 (1) 16,166
- ---------------------------------------------------------------------
Total $532,656 $318 $(741) $532,233
- ---------------------------------------------------------------------
(1) Includes investments of Advanta Partners LP.
At December 31, 1997 and 1996, investment securities with a book value of
$2,016 and $2,916, respectively, were pledged at the Federal Reserve Bank. At
December 31, 1997, 1996 and 1995, investment securities with a book value of
$5,370, $6,395 and $6,281, respectively, were deposited with insurance
regulatory authorities to meet statutory requirements or held by a trustee for
the benefit of primary insurance carriers. At December 31, 1997, $233 of net
unrealized losses on securities was included in investments available for sale.
During 1997, the net change in unrealized gains/losses on available for sale
securities included as a separate component of stockholders' equity was an
increase of $466.
54
56
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Maturity of investments available for sale at December 31, 1997 was as
follows:
AMORTIZED MARKET
COST VALUE
- --------------------------------------------------------------------------------------
Due in 1 year $1,035,095 $1,035,051
Due after 1 but within 5 years 51,128 51,112
Due after 5 but within 10 years 2,135 2,208
Due after 10 years 685 693
- --------------------------------------------------------------------------------------
Subtotal 1,089,043 1,089,064
Collateralized mortgage obligations 15,639 15,488
Asset-backed securities 94,324 94,474
Equity and other securities 70,436 70,183
- --------------------------------------------------------------------------------------
Total investments $1,269,442 $1,269,209
- --------------------------------------------------------------------------------------
During 1997, proceeds from sales of available for sale securities were
$1,736,050. Gross gains of $3,867 and losses of $181 were realized on these
sales. Of the gross gains, $3,471 relates to investments held by the Company's
venture capital unit. Proceeds during 1996 were $1,121,679. Gross gains of
$2,492 and losses of $110 were realized on these sales. Of the gross gains,
$2,448 related to an investment held by the Company's venture capital unit.
Proceeds during 1995 were $1,692,544. Gross gains of $8,666 and losses of $320
were realized on these sales. Of the gross gains, $8,610 related to investments
held by the Company's venture capital unit. The specific identification method
was the basis used to determine the amortized cost in computing realized gains
and losses.
55
57
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
NOTE 6. DEBT
Debt consisted of the following:
DECEMBER 31,
- --------------------------------------------------------------------------------------
1997 1996
- --------------------------------------------------------------------------------------
SENIOR DEBT
RediReserve certificates (4.17%) $ 3,611 $ 4,952
6 month senior notes (6.16%-6.53%) 3,523 4,857
12 month senior notes (6.06%-6.86%) 51,537 66,955
18 month senior notes (6.11%-6.95%) 6,795 7,855
24 month senior notes (5.87%-7.14%) 33,517 41,911
30 month senior notes (5.92%-7.56%) 14,441 13,599
48 month senior notes (5.60%-7.56%) 8,061 10,440
60 month senior notes (5.83%-9.00%) 21,999 48,108
Value notes, fixed (6.85%-7.85%) 30,755 0
Medium-term notes, fixed (6.38%-8.36%) 861,462 627,835
Medium-term notes, floating 238,000 253,000
Short-term bank notes, fixed (5.98%) 99,986 162,954
Short-term bank notes, floating 141,974 146,395
Medium-term bank notes, fixed (5.59%-7.18%) 408,651 530,086
Medium-term bank notes, floating 260,837 305,481
Other senior notes (5.97%-11.34%) 7,491 9,639
- --------------------------------------------------------------------------------------
Total senior debt 2,192,640 2,234,067
SUBORDINATED DEBT
Subordinated notes (5.60%-11.34%) 5,754 21,275
7% subordinated bank notes due 2003 49,778 49,739
- --------------------------------------------------------------------------------------
Total subordinated debt 55,532 71,014
- --------------------------------------------------------------------------------------
Total debt 2,248,172 2,305,081
Less short-term debt & certificates (809,814) (911,986)
- --------------------------------------------------------------------------------------
Long-term debt $1,438,358 $1,393,095
- --------------------------------------------------------------------------------------
The Company's senior floating rate notes were priced based on a factor of
LIBOR. At December 31, 1997 the rates on these notes varied from 5.89% to 6.46%.
At December 31, 1997 and 1996, the Company used derivative financial instruments
to effectively convert certain fixed rate debt to a LIBOR based variable rate.
See Note 23.
The annual maturities of long-term debt at December 31, 1997 for the years
ending December 31 are as follows: $407.8 million in 1999; $425.0 million in
2000; $448.0 million in 2001; $91.6 million in 2002; and $66.0 million
thereafter. The average interest cost of the Company's debt during 1997, 1996
and 1995 was 6.42%, 6.39%, and 6.92%, respectively.
NOTE 7. MANDATORILY REDEEMABLE PREFERRED SECURITIES
In December 1996, Advanta Capital Trust I, a newly formed statutory business
trust established by and wholly-owned by the Company (the "Trust"), issued in a
private offering $100 million of capital securities, representing preferred
beneficial interests in the assets of the Trust (the "Capital Securities"). The
Company used the proceeds from the sale for general corporate purposes. The sole
assets of the Trust consist of $100 million of 8.99% junior subordinated
debentures issued by the Company due December 17, 2026 (the "Junior Subordinated
Debentures"). The Capital Securities will be subject to mandatory redemption
under certain
56
58
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
circumstances, including at any time on or after December 17, 2006 upon the
optional prepayment by the Company of the Junior Subordinated Debentures at an
amount per Capital Security equal to 104.495% of the principal amount (declining
ratably on each December 17 thereafter to 100% on December 17, 2016), plus
accrued and unpaid distributions thereon. The obligations of the Company with
respect to the Junior Subordinated Debentures, when considered together with the
obligations of the Company under the Indenture relating to the Junior
Subordinated Debentures, the Amended and Restated Declaration of Trust relating
to the Capital Securities and the Capital Securities Guarantee issued by the
Company with respect to the Capital Securities will provide, in the aggregate, a
full and unconditional guarantee of payments of distributions and other amounts
due on the Capital Securities. In July, 1997, the Company and the Trust
exchanged the outstanding Capital Securities and Junior Subordinated Debentures
for substantially identical securities which were registered under the
Securities Act of 1933, as amended (the "Act"). The Company also exchanged the
Capital Securities Guarantee for a substantially identical guarantee which was
also registered under the Act. Dividends on the Capital Securities are
cumulative, payable semi-annually in arrears, and are deferrable at the
Company's option for up to ten consecutive semi-annual periods. The Company
cannot pay dividends on its preferred or common stocks during such deferments.
Dividends on the Capital Securities have been classified as a component of
noninterest expense in the Consolidated Income Statements. The Trust has no
operations or assets separate from its investment in the Junior Subordinated
Debentures. Separate financial statements of the Trust are not presented because
management has determined that they would not be meaningful to investors.
NOTE 8. CAPITAL STOCK
The number of shares of capital stock was as follows:
ISSUED AND OUTSTANDING
DECEMBER 31,
- ------------------------------------------------------------------------------------
1997 1996
- ------------------------------------------------------------------------------------
(IN THOUSANDS)
Class A preferred -- $1,000 par value; Authorized, 1,010 1 1
- ------------------------------------------------------------------------------------
Class B preferred -- $.01 par value; Authorized, 1,000,000 25 25
- ------------------------------------------------------------------------------------
Class A voting common stock -- $.01 par value;
Authorized, 214,500,000 18,194 17,945
Class B non-voting common stock -- $.01 par value;
Authorized, 230,000,000 26,564 25,593
Less treasury stock:
Class B 418 1
- ------------------------------------------------------------------------------------
Total common stock 44,340 43,537
- ------------------------------------------------------------------------------------
The Class A Preferred Stock is entitled to 1/2 vote per share and a
non-cumulative dividend of $140 per share per year, which must be paid prior to
any dividend on the common stock. Dividends were declared on the Class A
Preferred Stock for the first time in 1989 and have continued through 1997 as
the Company paid dividends on its common stock. The redemption price of the
Class A Preferred Stock is equivalent to the par value.
In 1995, the Company sold 2,500,000 depositary shares each representing a
one-hundredth interest in a share of Stock Appreciation Income Linked Securities
("SAILS"). The SAILS constitute a series of the Company's Class B Preferred
Stock, designated as 6 3/4% Convertible Class B Preferred Stock, Series 1995
(SAILS). The SAILS (and thereby the related depositary shares) are not
redeemable by the Company before September 15, 1998. The call price of each of
the depositary shares will be $37.6244 declining periodically to $37.00 at
September 15, 1999 (the mandatory conversion date). On September 15, 1999,
unless either previously redeemed by the Company or converted at the option of
the holder, each share of the SAILS will automatically convert into 100 shares
of Class B Common Stock. The SAILS pay an annual dividend of $249.75 per share
and must be paid prior to any dividend on the common stock. Proceeds from the
57
59
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
offering, net of underwriting discount, were approximately $90 million. The
Company used the proceeds of the offering for general corporate purposes,
including financing the growth of its subsidiaries.
On February 20, 1998, the Company purchased 7,882,750 shares of its Class A
Common Stock, 12,482,850 of its Class B Common Stock at $40 per share net, and
1,078,930 of its depositary shares each representing one one-hundredth interest
in a share of SAILS at $32.80 per share net through an issuer tender offer.
NOTE 9. INCOME TAXES
Income tax expense (benefit) consisted of the following components:
YEAR ENDED DECEMBER 31,
- -------------------------------------------------------------------------------------------
1997 1996 1995
- -------------------------------------------------------------------------------------------
Current:
Federal $ 5,953 $78,037 $55,184
State (651) 5,346 4,943
- -------------------------------------------------------------------------------------------
5,302 83,383 60,127
- -------------------------------------------------------------------------------------------
Deferred:
Federal 16,950 5,800 14,316
State 2,653 (79) 783
- -------------------------------------------------------------------------------------------
19,603 5,721 15,099
- -------------------------------------------------------------------------------------------
Total tax expense $24,905 $89,104 $75,226
- -------------------------------------------------------------------------------------------
The reconciliation of the statutory federal income tax to the consolidated
tax expense is as follows:
YEAR ENDED DECEMBER 31,
- -------------------------------------------------------------------------------------------
1997 1996 1995
- -------------------------------------------------------------------------------------------
Statutory federal income tax $33,786 $92,740 $74,166
State income taxes, net of federal income tax benefit 1,302 3,423 3,722
Nontaxable investment income (560) (443) (984)
Insurance income (8,707) (4,492) 0
Tax credits (5,271) (1,231) 0
Other 4,355 (893) (1,678)
- -------------------------------------------------------------------------------------------
Consolidated tax expense $24,905 $89,104 $75,226
- -------------------------------------------------------------------------------------------
Deferred taxes are determined based on the estimated future tax effects of
the differences between the financial statement and tax basis of assets and
liabilities given the provisions of the enacted tax laws. The net deferred tax
asset/(liability) is comprised of the following:
DECEMBER 31,
- -----------------------------------------------------------------------------------
1997 1996
- -----------------------------------------------------------------------------------
Deferred taxes:
Gross assets $ 84,676 $112,861
Gross liabilities (118,655) (83,226)
- -----------------------------------------------------------------------------------
Total deferred taxes $ (33,979) $ 29,635
- -----------------------------------------------------------------------------------
The Company concluded that a valuation allowance against deferred tax
assets at December 31, 1997 and 1996 was not necessary. Realization of the
deferred tax asset is dependent on generating sufficient future taxable income.
Although realization is not assured, management believes it is more likely than
not that all of the deferred tax asset will be realized.
58
60
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The tax effect of significant temporary differences representing deferred
tax assets and liabilities is as follows:
DECEMBER 31,
- ----------------------------------------------------------------------------------
1997 1996
- ----------------------------------------------------------------------------------
SFAS 91 $(24,655) $(17,870)
Loan losses 45,224 26,851
Mortgage banking income (4,176) 6,623
Securitization income (34,367) (35,415)
Leasing income (10,772) 56,447
Other (5,233) (7,001)
- ----------------------------------------------------------------------------------
Net deferred tax (liability)/assets $(33,979) $ 29,635
- ----------------------------------------------------------------------------------
NOTE 10. BENEFIT PLANS
The Company has adopted several management incentive plans designed to provide
incentives to participating employees to remain in the employ of the Company and
devote themselves to its success. Under these plans, eligible employees were
given the opportunity to elect to take portions of their anticipated or "target"
bonus payments for future years in the form of restricted shares of common stock
(with each plan covering three performance years). To the extent that such
elections were made (or, for executive officers, were required by the terms of
such plans), restricted shares were issued to employees, with the number of
shares granted to employees determined by dividing the amount of future bonus
payments the employee had elected to receive in stock by the market price as
determined under the incentive plans. The restricted shares are subject to
forfeiture should the employee terminate employment with the Company prior to
vesting. Restricted shares vest 10 years from the date of grant, but with
respect to the restricted shares issued under each plan, vesting was and will be
accelerated annually with respect to one-third of the shares, to the extent that
the employee and the Company met or meet their respective performance goals for
a given plan performance year. When newly eligible employees elect to
participate in a plan, the number of shares issued to them with respect to their
"target" bonus payments for the relevant plan performance years is determined
based on the average market price of the stock for the 90 days prior to
eligibility.
The following table summarizes the Company's incentive plans:
RESTRICTED
PLAN PERFORMANCE ORIGINAL SHARES
PLAN YEARS COVERED STOCK PRICE OUTSTANDING
- -----------------------------------------------------------------------------------------------------
AMIPWISE III 1996-1998 $17.00 488,800
AMIPWISE IV 1999-2001 $25.00 706,137
- -----------------------------------------------------------------------------------------------------
The weighted average fair value of shares issued on or after January 1,
1995 are: $35 for 77,517 AMIPWISE III shares and $26 for 450,321 AMIPWISE IV
shares issued in 1995, $42 for both 277,219 AMIPWISE III shares and 281,931
AMIPWISE IV shares issued in 1996, and $39 for 99,494 AMIPWISE III shares and
$38 for 158,958 AMIPWISE IV shares in 1997.
At December 31, 1997, a total of 1,334,434 shares issued under these and
the predecessor plans to AMIPWISE III were subject to restrictions and were
included in the number of shares outstanding.
At December 31, 1997 the Company had two stock option plans and accounts
for these plans under APB 25, under which no compensation expense has been
recognized.
59
61
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Had compensation cost for these plans been determined consistent with SFAS
123, the Company's net income and earnings per share would have been reduced to
the following pro forma amounts:
1997 1996 1995
- ---------------------------------------------------------------------------------------------
Net Income
As reported $71,625 $175,657 $136,677
Pro forma 58,576 168,193 119,718
Basic Earnings per share (See Note 1.)
As reported
Combined $ 1.52 $ 4.15 $ 3.38
A 1.45 4.08 3.34
B 1.57 4.19 3.42
Pro forma
Combined $ 1.22 $ 3.97 $ 2.95
A 1.15 3.90 2.91
B 1.27 4.01 2.98
Dilutive Earnings per share
As reported
Combined $ 1.50 $ 3.89 $ 3.20
A 1.43 3.86 3.18
B 1.54 3.91 3.22
Pro forma
Combined $ 1.20 $ 3.73 $ 2.80
A 1.14 3.70 2.77
B 1.24 3.75 2.82
- ---------------------------------------------------------------------------------------------
Because SFAS 123 has not been applied to options granted prior to January
1, 1995, the resulting pro forma compensation cost may not be representative of
that to be expected in future years. During 1997, the Company changed the
exercise price of certain options granted during 1996 and 1997 to the current
market price on the date of the modification. No other modifications were made
to these awards, and this modification would not have resulted in additional
compensation expense under the accounting prescribed by SFAS 123.
The Company's two stock option plans together authorize the grant to
employees and directors of options to purchase an aggregate of 10.2 million
shares of common stock. The Company presently intends only to issue options to
purchase Class B common stock. Options generally vest over a four-year period
and expire 10 years after the date of grant.
60
62
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
Shares available for future grant were approximately 2.8 million at
December 31, 1997, and 3.2 million at December 31, 1996. Transactions under the
plans for the three years ended December 31, 1997, were as follows:
1997 1996 1995
---------------------------- ---------------------------- ----------------------------
NUMBER OF WEIGHTED AVERAGE NUMBER OF WEIGHTED AVERAGE NUMBER OF WEIGHTED AVERAGE
SHARES EXERCISE PRICE SHARES EXERCISE PRICE SHARES EXERCISE PRICE
(SHARES IN THOUSANDS) ------------------------------------------------------------------------------------------
Outstanding at beginning
of year 4,109 $25 4,381 $21 3,415 $14
Granted 967 27 578 39 1,363 34
Exercised (774) 11 (699) 9 (300) 6
Terminated (368) 33 (151) 30 (97) 27
- ---------------------------------------------------------------------------------------------------------------------
Outstanding at end of
year 3,934 27 4,109 25 4,381 21
- ---------------------------------------------------------------------------------------------------------------------
Options exercisable at
year-end 2,003 2,138 2,015
- ---------------------------------------------------------------------------------------------------------------------
Weighted average fair
value of options
granted during the year $22.90 $19.87 $19.34
- ---------------------------------------------------------------------------------------------------------------------
The following table summarizes information about stock options outstanding
at December 31,1997:
(SHARES IN THOUSANDS) OPTIONS OUTSTANDING OPTIONS EXERCISABLE
------------------------------------------------- ------------------------------
NUMBER WEIGHTED AVERAGE NUMBER
RANGE OF OUTSTANDING REMAINING WEIGHTED AVERAGE EXERCISABLE WEIGHTED AVERAGE
EXERCISE PRICES AT 12/31/97 CONTRACTUAL LIFE EXERCISE PRICE AT 12/31/97 EXERCISE PRICE
------------------------------------------------- ------------------------------
1 to 10 162 2.5 years $ 3 162 $ 3
11 to 20 515 4.1 12 515 12
21 to 30 1,814 7.5 26 737 26
31 to 40 1,287 6.1 35 531 35
40 to 52 156 8.1 43 58 43
- ----------------------------------------------------------------------------------------------------
3,934 6.4 27 2,003 23
- ----------------------------------------------------------------------------------------------------
The fair value of each option grant is estimated on the date of grant using
the Black-Scholes option pricing model with the following weighted-average
assumptions used: risk-free interest rates of 6.7%, 6.0% and 6.7% for 1997, 1996
and 1995, respectively; expected dividend yields of 1 percent; expected lives of
10 years; expected volatility of 40% for 1997 and 41% for 1996 and 1995.
The Company also has outstanding options to purchase 25 thousand shares of
common stock at a price of $4.75 per share, which were not issued pursuant to
either of the stock option plans. All of these shares were issued prior to
January 1, 1995 and were vested at December 31, 1997.
The Company has an Employee Stock Purchase Plan which allows employees and
directors to purchase Class B common stock at a 15% discount from the market
price without paying brokerage fees. The Company reports this 15% discount as
compensation expense and incurred expense of $339, $248 and $145 in 1997, 1996
and 1995, respectively. During 1996, shares were issued under the plan from
unissued stock or from treasury stock at the average market price on the day of
purchase.
The Company has a tax-deferred employee savings plan which provides
employees savings and investment opportunities, including the ability to invest
in the Company's Class B common stock. The employee savings plan provides for
discretionary Company contributions equal to a portion of the first 5% of an
employee's compensation contributed to the plan. For the three years ended
December 31, 1997, 1996 and 1995, the Company contributions equaled 100% of the
first 5% of participating employees' compensation contributed to the plan. The
expense for this plan totaled $3,494, $2,546 and $2,027 in 1997, 1996, and 1995,
respectively. All shares purchased by the plan for the three years ended
December 31, 1997, 1996 and 1995
61
63
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
were acquired from the Company at the market price on each purchase date or were
purchased on the open market.
The Company offers an elective, nonqualified deferred compensation plan to
qualified executives and nonemployee directors, which allows them to defer a
portion of their cash compensation on a pretax basis. The plan contains
provisions related to minimum contribution levels and deferral periods with
respect to any individual's participation. The plan participant makes
irrevocable elections at the date of deferral as to deferral period and date of
distribution. Interest is credited to the participant's account at the rate of
125% of the 10 Year Rolling Average Interest Rate on 10-Year U.S. Treasury
Notes. Distribution from the plan may be either at retirement or at an earlier
date, and can be either in a lump sum or in installment payments. The Company
has purchased life insurance contracts with a face value of $53.4 million to
fund this plan.
NOTE 11. DISPOSITION OF CREDIT CARD ASSETS (UNAUDITED)
Pursuant to the terms of a contribution agreement, dated as of October 28, 1997,
as amended February 20, 1998, by and between the Company and Fleet Financial
Group, Inc. ("Fleet"), the Company and certain of its subsidiaries and Fleet and
certain of its subsidiaries each contributed certain assets and liabilities of
their respective consumer credit card businesses in exchange for an ownership
interest in the LLC (the "Transaction"). The Transaction was consummated on
February 20, 1998. Concurrent with the Transaction the Company purchased
7,882,750 shares of its Class A Common Stock, 12,482,850 of its Class B Common
Stock at $40 per share net, and 1,078,930 of its depositary shares each
representing one one-hundredth interest in a share of SAILS at $32.80 per share
net through an issuer tender offer (the "Offer") which was completed on February
20, 1998.
The following pro forma unaudited consolidated financial information is
based on historical information which has been adjusted to reflect the
Transaction and the purchase pursuant to the Offer. The pro forma consolidated
income statements were prepared assuming that the Transaction and purchase
pursuant to the Offer had occurred January 1, 1997 and January 1, 1996 for the
years ended December 31, 1997 and 1996 respectively. The pro forma consolidated
balance sheets were prepared assuming that the Transaction and purchase pursuant
to the Offer had occurred on December 31, 1997 and 1996.
The pro forma unaudited consolidated financial information presented below
does not purport to represent what the results of operations or financial
position would actually have been if the Transaction and purchase pursuant to
the Offer had occurred on the dates referred to above. Also, the pro forma
unaudited consolidated financial information is not indicative of the future
results of operations or financial position of Advanta to be expected in future
periods. A substantial portion of corporate expenses incurred in the past have
been to support the operations contributed. Also, Advanta has incurred
expenditures in the past for new businesses and product development. Associated
with the Transaction, Advanta intends to substantially reduce corporate expenses
and expenses associated with business and product development not directly
associated with its mortgage and business service companies. No pro forma
adjustments have been reflected associated with Advanta's plans to reduce these
expenses. Further, the Pro Forma Adjustments do not reflect a restructuring
charge or similar charges related to the planned reduction in corporate expenses
or transaction expenses associated with the Transaction and purchase pursuant to
the Offer. The restructuring charge or similar charges and transaction expenses
will be incurred during the first quarter of 1998. The Pro Forma Adjustments are
based upon available information and certain assumptions that the Company
believes are reasonable.
62
64
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
ADVANTA CORP. AND SUBSIDIARIES
PRO FORMA UNAUDITED CONSOLIDATED INCOME STATEMENT
YEAR ENDED DECEMBER 31, 1997
($ IN THOUSANDS, EXCEPT PER SHARE DATA)
- ------------------------------------------------------------------------------------------------------------
ADVANTA CORP. TRANSACTION TENDER OFFER ADVANTA CORP.
AND SUBSIDIARIES PRO FORMA PRO FORMA AND SUBSIDIARIES
HISTORICAL ADJUSTMENTS ADJUSTMENTS PRO FORMA
- ------------------------------------------------------------------------------------------------------------
Interest income:
Loans and leases $276,982 $(179,732)[A] $ -- $ 97,250
Investments 140,636 (28,363)[A] (50,584)[E] 61,689
-------- --------- -------- --------
Total interest income 417,618 (208,095) (50,584) 158,939
-------- --------- -------- --------
Total interest expense 324,558 (191,431)[B] -- 133,127
-------- --------- -------- --------
NET INTEREST INCOME 93,060 (16,664) (50,584) 25,812
-------- --------- -------- --------
Provision for credit losses 210,826 (185,379)[A] -- 25,447
-------- --------- -------- --------
NET INTEREST INCOME (LOSS) AFTER
PROVISION FOR CREDIT LOSSES (117,766) 168,715 (50,584) 365
-------- --------- -------- --------
Noninterest revenues:
Gain on sale of credit cards -- --[A] -- --
Other noninterest revenues 845,137 (622,242)[A] -- 222,895
-------- --------- -------- --------
Total noninterest revenues 845,137 (622,242) -- 222,895
-------- --------- -------- --------
Operating expenses:
Amortization of credit card deferred
origination costs, net 69,344 (64,566)[A] -- 4,778
Other operating expenses 561,497 (284,856)[C] 19,318[E] 295,959
-------- --------- -------- --------
Total operating expenses 630,841 (349,422) 19,318 300,737
-------- --------- -------- --------
INCOME (LOSS) BEFORE INCOME TAXES 96,530 (104,105) (69,902) (77,477)
-------- --------- -------- --------
Provision (benefit) for income taxes 24,905 (36,437)[D] (24,466)[D] (35,998)
-------- --------- -------- --------
NET INCOME (LOSS) $ 71,625 $ (67,668) $(45,436) $(41,479)
- ------------------------------------------------------------------------------------------------------------
Basic earnings per common share
combined (see Note 1) $ 1.52 $ (1.89)[F]
Dilutive earnings per common share
combined (see Note 1) $ 1.50 $ (1.89)[F]
Basic average common shares
outstanding 42,807 (19,128) 23,679
Dilutive average common shares
outstanding 43,501 (19,822) 23,679
Ratio of earnings to fixed charges 1.29x --[G]
- ------------------------------------------------------------------------------------------------------------
63
65
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
NOTES TO PRO FORMA UNAUDITED CONSOLIDATED INCOME STATEMENT
[A] The pro forma consolidated income statement reflects the elimination of
income and expense related to the results of operations of the Advanta
consumer credit card business (the "Business") as if the Transaction had
occurred for the periods presented.
[B] The pro forma consolidated income statement reflects (1) interest expense of
the Business, and (2) an adjustment of approximately $75.7 million to
reflect approximately $1.3 billion of additional interest bearing
liabilities to be transferred in the Transaction above the amount of
interest bearing liabilities of the Business. The $1.3 billion of additional
interest bearing liabilities will be transferred from Advanta National Bank
(ANB), where a large portion of the credit card operations are conducted and
were incurred in the ordinary course of ANB's business.
[C] The pro forma consolidated income statement reflects the reduction in other
operating expenses related to (1) the results of operations of the Business
had the Transaction occurred for the periods presented (2) $532 thousand of
additional depreciation expense for fixed assets to be transferred to Fleet
LLC that were not dedicated to the Business and (3) $4.6 million of
operating expenses for an Advanta Corp. support group whose operations will
be transferred to Fleet LLC.
[D] The pro forma consolidated income statement reflects the net effects of the
Pro Forma Adjustments at the statutory federal tax rate of 35% for the
period presented.
[E] The pro forma consolidated income statement reflects the purchase of
approximately $850 million of shares of Advanta's outstanding capital stock
through the Offer as if the purchase had occurred for the periods presented.
The pro forma consolidated income statement reflects (1) the reduction of
interest income by approximately $50.6 million to reflect the sale of $820
million of investments to purchase shares of Advanta Class A Common Stock,
Class B Common Stock (together with the Class A Common Stock, the "Common
Shares") and depositary shares each representing one one-hundredth interest
in a share of SAILS (the "SAILS Depositary Shares") and (2) the increase in
compensation expense related to the tender of Common Shares underlying
options granted under the Advanta's stock option plans. The $820 million of
investments sold reflects $850 million of shares at the applicable purchase
price per share primarily net of the difference between $40 per share and
the option exercise price of options anticipated to be exercised in
connection with the Offer.
[F] Pro forma earnings per share (1) includes a $3.1 million increase to net
income for the excess of the carrying value of the SAILS Depositary Shares
redeemed over the amount paid upon redemption and (2) reflects $6.4 million
of preferred stock dividends.
[G] For the year ended December 31, 1997, pro forma earnings were inadequate to
cover pro forma fixed charges. The deficiency was approximately $77.5
million.
64
66
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
ADVANTA CORP. AND SUBSIDIARIES
PRO FORMA UNAUDITED CONSOLIDATED INCOME STATEMENT
YEAR ENDED DECEMBER 31, 1996
($ IN THOUSANDS, EXCEPT PER SHARE DATA)
- ----------------------------------------------------------------------------------------------------------------
ADVANTA CORP. TRANSACTION TENDER OFFER ADVANTA CORP.
AND SUBSIDIARIES PRO FORMA PRO FORMA AND SUBSIDIARIES
HISTORICAL ADJUSTMENTS ADJUSTMENTS PRO FORMA
- ----------------------------------------------------------------------------------------------------------------
Interest income:
Loans and leases $ 267,823 $ (220,745)[A] $ -- $ 47,078
Investments 80,142 (14,657)[A] (46,557)[E] 18,928
---------- ----------- --------- ----------
Total interest income 347,965 (235,402) (46,557) 66,006
Total interest expense 269,700 (230,642)[B] -- 39,058
----------------------------------------------------------------------
NET INTEREST INCOME 78,265 (4,760) (46,557) 26,948
----------------------------------------------------------------------
Provision for credit losses 96,862 (104,128)[A] -- (7,266)
----------------------------------------------------------------------
NET INTEREST INCOME (LOSS) AFTER
PROVISION FOR CREDIT LOSSES (18,597) 99,368 (46,557) 34,214
Noninterest revenues:
Gain on sale of credit cards 33,820 (33,820)[A] -- --
Other noninterest revenues 772,712 (605,000)[A] -- 167,712
---------- ----------- --------- ----------
Total noninterest revenues 806,532 (638,820) -- 167,712
---------- ----------- --------- ----------
Operating expenses:
Amortization of credit card
deferred origination costs, net 88,517 (86,088)[A] -- 2,429
Other operating expenses 434,657 (246,467)[C] 27,703[E] 215,893
---------- ----------- --------- ----------
Total operating expenses 523,174 (332,555) 27,703 218,322
----------------------------------------------------------------------
INCOME BEFORE INCOME TAXES 264,761 (206,897) (74,260) (16,396)
- ----------------------------------------------------------------------------------------------------------------
Provision for income taxes 89,104 (72,414)[D] (25,991)[D] (9,301)
----------------------------------------------------------------------
NET INCOME $ 175,657 $ (134,483) $ (48,269) $ (7,095)
- ----------------------------------------------------------------------------------------------------------------
Basic earnings per common share
combined (see Note 1) $ 4.15 $ (0.30)[F]
Dilutive earnings per common share
combined (see Note 1) 3.89 $ (0.30)[F]
Basic average common shares
outstanding 40,794 (17,358) 23,436
Dilutive average common shares
outstanding 45,073 (21,637) 23,436
Ratio of earnings to fixed charges 1.97x --[G]
65
67
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
NOTES TO PRO FORMA UNAUDITED CONSOLIDATED INCOME STATEMENT
[A] The pro forma consolidated income statement reflects the elimination of
income and expense related to the results of operations of the Advanta
consumer credit card business (the "Business") as if the Transaction had
occurred for the periods presented.
[B] The pro forma consolidated income statement reflects (1) interest expense
of the Business, and (2) an adjustment of approximately $67.4 million to
reflect approximately $1.3 billion of additional interest bearing
liabilities to be transferred in the Transaction above the amount of
interest bearing liabilities of the Business. The $1.3 billion of
additional interest bearing liabilities will be transferred from Advanta
National Bank (ANB), where a large portion of the credit card operations
are conducted and were incurred in the ordinary course of ANB's business.
[C] The pro forma consolidated income statement reflects the reduction in other
operating expenses related to (1) the results of operations of the Business
had the Transaction occurred for the periods presented (2) $302 thousand of
additional depreciation expense for fixed assets to be transferred to Fleet
LLC that were not dedicated to the Business and (3) $3.9 million of
operating expenses for an Advanta Corp. support group whose operations will
be transferred to Fleet LLC.
[D] The pro forma consolidated income statement reflects the net effects of the
Pro Forma Adjustments at the statutory federal tax rate of 35% for the
period presented.
[E] The pro forma consolidated income statement reflects the purchase of
approximately $850 million of shares of Advanta's outstanding capital stock
through the Offer as if the purchase had occurred for the periods
presented. The pro forma consolidated income statement reflects (1) the
reduction of interest income by approximately $46.6 million to reflect the
sale of $813 million of federal funds sold, interest-bearing deposits and
investments to purchase shares of Advanta Class A Common Stock, Class B
Common Stock (together with the Class A Common Stock, the "Common Shares")
and depositary shares each representing one one-hundredth interest in a
share of SAILS (the "SAILS Depositary Shares") and (2) the increase in
compensation expense related to the tender of Common Shares underlying
options granted under the Advanta's stock option plans. The $813 million of
federal funds sold, interest-bearing deposits and investments sold reflects
$850 million of shares at the applicable purchase price per share primarily
net of the difference between $40 per share and the option exercise price
of options anticipated to be exercised in connection with the Offer.
[F] Pro forma earnings per share (1) includes a $3.9 million increase to net
income for the excess of the carrying value of the SAILS Depositary Shares
redeemed over the amount paid upon redemption and (2) reflects $3.8 million
of preferred stock dividends.
[G] For the year ended December 31, 1996, pro forma earnings were inadequate to
cover pro forma fixed charges. The deficiency was approximately $16.4
million.
66
68
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
ADVANTA CORP. AND SUBSIDIARIES
PRO FORMA UNAUDITED CONSOLIDATED BALANCE SHEET
AS OF DECEMBER 31, 1997
($ IN THOUSANDS, EXCEPT PER SHARE DATA)
- -----------------------------------------------------------------------------------------------------------
ADVANTA CORP. TRANSACTION TENDER OFFER ADVANTA CORP.
AND SUBSIDIARIES PRO FORMA PRO FORMA AND SUBSIDIARIES
HISTORICAL ADJUSTMENTS ADJUSTMENTS PRO FORMA
- -----------------------------------------------------------------------------------------------------------
ASSETS
Cash $ 57,953 $ (55,943)[B] $ -- $ 2,010
Federal funds sold and
interest-bearing deposits with banks 823,083 (464,838)[B] -- 358,245
Investments available for sale 1,269,209 (819,844)[I] 449,365
Loan and lease receivables, net:
Available for sale 1,452,560 (874,637)[C] -- 577,923
Other loan and lease receivables,
net 1,923,986 (1,541,322)[A] -- 382,664
-----------------------------------------------------------------
Total loan and lease receivables, net 3,376,546 (2,415,959) -- 960,587
Premises and equipment, net 152,215 (84,243)[D] -- 67,972
Amounts due from credit card
securitizations 208,330 (208,330)[A] -- --
Other assets 798,796 (238,099)[E] -- 560,697
- -----------------------------------------------------------------------------------------------------------
Total assets $6,686,132 $(3,467,412) $(819,844) $2,398,876
- -----------------------------------------------------------------------------------------------------------
LIABILITIES
Deposits $3,017,611 $(2,893,258)[F] $ -- $ 124,353
Debt and other borrowings 2,300,946 (1,056,072)[F] -- 1,244,874
Other liabilities 340,625 (48,082)[G] (6,761)[I] 285,782
- -----------------------------------------------------------------------------------------------------------
Total liabilities 5,659,182 (3,997,412) (6,761) 1,655,009
- -----------------------------------------------------------------------------------------------------------
Company-obligated mandatorily
redeemable preferred securities of
subsidiary trust holding solely
subordinated debentures of the
Company 100,000 -- -- 100,000
STOCKHOLDERS' EQUITY
Class A preferred stock 1,010 -- -- 1,010
Class B preferred stock -- -- -- --
Class A common stock 182 -- (79)[J] 103
Class B common stock 266 -- (113)[J] 153
Additional paid-in capital, net 354,190 -- (160,716)[J] 193,474
Retained earnings, net 585,709 530,000[H] (652,175)[J] 463,534
Less: Treasury stock at cost, (14,407) -- -- (14,407)
- -----------------------------------------------------------------------------------------------------------
Total stockholders' equity 926,950 530,000 (813,083) 643,867
- -----------------------------------------------------------------------------------------------------------
Total liabilities and
stockholders' equity $6,686,132 $(3,467,412) $(819,844) $2,398,876
- -----------------------------------------------------------------------------------------------------------
Common shares outstanding at end of
period 44,038 24,910
Book value per common share 19.01 23.78
67
69
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
ADVANTA CORP. AND SUBSIDIARIES
NOTES TO PRO FORMA UNAUDITED CONSOLIDATED BALANCE SHEET
[A] Represents the contribution to Fleet LLC of assets and liabilities of
Advanta consumer credit card business (the "Business") had the Transaction
occurred at the balance sheet date.
[B] Represents (1) the contribution to Fleet LLC of cash, federal funds sold
and interest bearing deposits dedicated to the Business and (2) a $10
million redemption of federal funds sold that were not dedicated to the
Business.
[C] Represents the contribution to Fleet LLC of loans available for sale
dedicated to the Business except for a very small portion of consumer credit
card receivables generated in a specific program that will not initially be
contributed to Fleet LLC.
[D] Represents (1) the contribution to Fleet LLC of property and equipment
dedicated to the Business and (2) approximately $8 million of fixed assets
to be contributed to Fleet LLC that were not dedicated to the Business.
[E] Represents (1) the contribution to Fleet LLC of other assets dedicated to
the Business except for $8.8 million of Credit Insurance Business related
assets that will not be contributed to Fleet LLC and (2) Advanta's
membership interest in Fleet LLC valued at $20 million.
[F] Represents the contribution to Fleet LLC of deposits, debt and other
borrowings by an amount equaling total assets of the Business plus,
approximately, an additional $510 million of liabilities representing a
portion of the premium received by Advanta, less other liabilities
contributed to Fleet LLC in accordance with the Contribution Agreement.
[G] Represents the contribution to Fleet LLC of (1) other liabilities related to
the Business had the Transaction occurred at the balance sheet date and (2)
$29.1 million of accrued interest payable on the deposits, debt and other
borrowings discussed in [E] above, net of (3) $16.4 million of Credit
Insurance Business related liabilities that will not be contributed to Fleet
LLC.
[H] Represents the increase in retained earnings resulting from the gain on the
Transaction of approximately $530 million, consisting of liabilities in
excess of assets contributed of approximately $510 million and Advanta's
membership interest in Fleet LLC valued at $20 million.
[I] Represents the sale of $820 million of investments to purchase the Common
Shares, the SAILS Depositary Shares and options to purchase Common Shares,
and the tax benefit related to the tender of Common Shares underlying
options granted under the Advanta's stock option plans. The $820 million of
investments sold reflects $850 million of shares at the applicable purchase
price per share primarily net of the difference between $40 per share and
the option exercise price of options anticipated to be exercised in
connection with the Offer.
[J] Represents (1) the purchase of approximately 7.9 million Class A Common
Stock and approximately 11.3 million Class B Common Stock at $40 per share;
(2) the purchase of approximately 1.1 million SAILS Depositary Shares at
$32.80 per share and (3) the tender of approximately 1.2 million of Common
Shares underlying options at a cost to the Company of the amount by which
$40 per share exceeds the option exercise price.
68
70
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
ADVANTA CORP. AND SUBSIDIARIES
PRO FORMA UNAUDITED CONSOLIDATED BALANCE SHEET
AS OF DECEMBER 31, 1996
($ IN THOUSANDS, EXCEPT PER SHARE DATA)
- ---------------------------------------------------------------------------------------------------------
ADVANTA CORP. TRANSACTION TENDER OFFER ADVANTA CORP.
AND SUBSIDIARIES PRO FORMA PRO FORMA AND SUBSIDIARIES
HISTORICAL ADJUSTMENTS ADJUSTMENTS PRO FORMA
- ---------------------------------------------------------------------------------------------------------
ASSETS
Cash $ 165,875 $ (161,982)[B] $ -- $ 3,893
Federal funds sold and
interest-bearing deposits with
banks 885,709 (338,923)[B] (338,317)[H] 208,469
Investments available for sale 767,675 -- (474,990)[H] 292,685
Loan and lease receivables, net:
Available for sale 1,476,146 (1,062,930)[A] -- 413,216
Other loan and lease receivables,
net 1,136,857 (941,157)[A] -- 195,700
--------------------------------------------------------------------
Total loan and lease receivables,
net 2,613,003 (2,004,087) -- 608,916
Premises and equipment, net 108,130 (73,022)[C] -- 35,108
Amounts due from credit card
securitizations 399,359 (399,359)[A] -- --
Other assets 644,208 (185,382)[D] -- 458,826
- ---------------------------------------------------------------------------------------------------------
Total assets $5,583,959 $(3,162,755) $(813,307) $1,607,897
- ---------------------------------------------------------------------------------------------------------
LIABILITIES
Deposits $1,860,058 $(1,809,337)[E] $ -- $ 50,721
Debt and other borrowings 2,462,084 (1,804,598)[E] -- 657,486
Other liabilities 309,781 (78,820)[F] (9,696)[H] 221,265
- ---------------------------------------------------------------------------------------------------------
Total liabilities 4,631,923 (3,692,755) (9,696) 929,472
- ---------------------------------------------------------------------------------------------------------
Company-obligated mandatorily
redeemable preferred securities
of subsidiary trust holding
solely subordinated debentures of
the Company 100,000 -- -- 100,000
STOCKHOLDERS' EQUITY
Class A preferred stock 1,010 -- -- 1,010
Class B preferred stock -- -- -- --
Class A common stock 179 -- (77)[I] 102
Class B common stock 256 -- (110)[I] 146
Additional paid-in capital, net 309,250 -- (147,288)[I] 161,962
Retained earnings, net 541,383 530,000[G] (656,136)[I] 415,247
Less: Treasury stock at cost, (42) -- -- (42)
- ---------------------------------------------------------------------------------------------------------
Total stockholders' equity 852,036 530,000 (803,611) 578,425
- ---------------------------------------------------------------------------------------------------------
Total liabilities and
stockholders' equity $5,583,959 $(3,162,755) $(813,307) $1,607,897
- ---------------------------------------------------------------------------------------------------------
Common shares outstanding at end of
period 42,198 22,027
Book value per common share 18.06 23.92
69
71
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
ADVANTA CORP. AND SUBSIDIARIES
NOTES TO PRO FORMA UNAUDITED CONSOLIDATED BALANCE SHEET
[A] Represents the contribution to Fleet LLC of assets and liabilities of
Advanta consumer credit card business (the "Business") had the Transaction
occurred at the balance sheet date.
[B] Represents (1) the contribution to Fleet LLC of cash, federal funds sold
and interest bearing deposits dedicated to the Business and (2) a $5
million redemption of federal funds sold that were not dedicated to the
Business.
[C] Represents (1) the contribution to Fleet LLC of property and equipment
dedicated to the Business and (2) approximately $8 million of fixed assets
to be contributed to Fleet LLC that were not dedicated to the Business.
[D] Represents (1) the contribution to Fleet LLC of other assets dedicated to
the Business except for $10.2 million of Credit Insurance Business related
assets that will not be contributed to Fleet LLC and (2) Advanta's
membership interest in Fleet LLC valued at $20 million.
[E] Represents the contribution to Fleet LLC of deposits, debt and other
borrowings by an amount equaling total assets of the Business plus,
approximately, an additional $510 million of liabilities representing a
portion of the premium received by Advanta, less other liabilities
contributed to Fleet LLC in accordance with the Contribution Agreement.
[F] Represents the contribution to Fleet LLC of (1) other liabilities related
to the Business had the Transaction occurred at the balance sheet date and
(2) $34.7 million of accrued interest payable on the deposits, debt and
other borrowings discussed in [E] above, net of (3) $11.1 million of Credit
Insurance Business related liabilities that will not be contributed to
Fleet LLC.
[G] Represents the increase in retained earnings resulting from the gain on the
Transaction of approximately $530 million, consisting of liabilities in
excess of assets contributed of approximately $510 million and Advanta's
membership interest in Fleet LLC valued at $20 million.
[H] Represents the sale of $813 million of federal funds sold, interest-bearing
deposits and investments to purchase the Common Shares, the SAILS Depositary
Shares and options to purchase Common Shares, and the tax benefit related to
the tender of Common Shares underlying options granted under the Advanta's
stock option plans. The $813 million of investments sold reflects $850
million of shares at the applicable purchase price per share primarily net
of the difference between $40 per share and the option exercise price of
options anticipated to be exercised in connection with the Offer.
[I] Represents: (1) the purchase of approximately 7.7 million Class A Common
Stock and approximately 11.0 million Class B Common Stock at $40 per share;
(2) the purchase of approximately 1.1 million SAILS Depositary Shares at
$32.80 per share and (3) the tender of approximately 1.4 million of Common
Shares underlying options at a cost to the Company of the amount by which
$40 per share exceeds the option exercise price.
70
72
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
NOTE 12. CREDIT CARD SALES
In June 1996, the Company, through its subsidiary ANB (and its predecessors by
merger), sold certain consumer credit card customer relationships and the
related receivables balance to a domestic bank. The receivables associated with
these relationships represented less than 2% of the Company's managed credit
card portfolio as of June 30, 1996. The Company recorded a $33.8 million net
gain related to this transaction.
NOTE 13. COMMITMENTS AND CONTINGENCIES
In May 1997, the Company's Board of Directors approved the Office of the
Chairman Supplemental Compensation Program. Under the program, each of the
Chairman and Vice Chairman received $5 million as a result of the Transaction
described in Note 11. In addition, the restrictions on 50,000 shares of Class B
Common Stock previously granted to the Vice Chairman under his employment
agreement were removed and certain previously agreed to benefits related to
these shares were accelerated as a result of the Transaction described in Note
11. These amounts were recognized in connection with the Transaction in the
first quarter of 1998.
On June 30, 1997 and July 8, 1997 the Company and several of its current
and former officers and directors were named as defendants in lawsuits brought
by shareholders claiming to represent shareholders that purchased shares of the
Company's common stock during the periods between August 13, 1996 and March 17,
1997, and October 17, 1996 and March 17, 1997, respectively. In December 1997,
these lawsuits were consolidated in an action styled In Re Advanta Corp.
Securities Litigation pending in federal court in Pennsylvania. The class action
complaints allege that the Company made misrepresentations in certain of its
public filings and statements in violation of the Securities Exchange Act of
1934 and seek damages of an unspecified amount although management believes that
the allegations are without merit. In the opinion of management, the ultimate
resolution of these complaints is not expected to have a material adverse effect
on the financial position or future operating results of the Company.
Between August 25, 1997 and December 18, 1997, the Company and certain
other subsidiaries were named as defendants in lawsuits by cardholders claiming
to represent cardholders in a specific program. The class action complaints
allege that cardholder accounts in the specific program were improperly repriced
to a higher percentage rate of interest. The complaints assert various
violations of federal and state law with regard to such repricings, and each
seeks damages of an unspecified amount although management believes that the
allegations are without merit. In the opinion of management, the ultimate
resolution of these complaints is not expected to have a material adverse effect
on the financial position or future operating results of the Company.
Prior to the closing of the Transaction described in Note 11, certain
holders of the Company's Medium Term Notes (the "Holders") questioned whether
the Transaction would require their consent. At the request of such Holders, the
trustee under the indenture and under the indenture for the Company's Junior
Subordinated Debentures and the related declaration of trust for the Capital
Securities called a meeting of holders of the Company's Medium Term Notes, Value
Notes, and Capital Securities for January 15, 1998, and formally notified all
holders of the Company's Senior Investment Notes and RediReserve Certificates of
the Transaction and the question raised by such Holders. No action was taken at
the meeting and, to date, no holders of such instruments have commenced any
legal action. While there is no assurance that the holders of such instruments
will not pursue legal remedies, including seeking a determination that the
maturity of such instruments should be accelerated upon consummation of the
Transaction, Advanta believes that the Transaction did not require the consent
of the holders of such instruments, and further believes that the holders would
not be successful in the pursuit of such remedies.
The Company leases office space in several states under leases accounted
for as operating leases. Total rent expense for all of the Company's locations
for the years ended December 31, 1997, 1996 and 1995 was
71
73
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
$11.3 million, $8.5 million and $4.9 million, respectively. The future minimum
lease payments of all non-cancelable operating leases are as follows:
Year Ended December 31,
1998 $ 9,327
1999 6,024
2000 5,351
2001 3,994
2002 3,447
Thereafter 11,922
NOTE 14. OTHER BORROWINGS
Certain of the Company's personal finance subsidiaries had a line of credit of
$500 million at December 31, 1997. There is no facility fee related to this line
of credit. At December 31, 1997, there was $3.9 million of outstanding borrowing
on this line of credit. The Company is subject to various loan covenants,
including the maintenance of certain profit levels at the borrowing
subsidiaries, limitations on mergers and acquisitions, and limitations on liens
on property and other assets. This line of credit expires on May 1, 1998.
Management expects to obtain a new line of credit under substantially similar
terms and conditions. Through May 1997, the Company had money market bid lines
of $265 million under which the Company had borrowed $40 million at December 31,
1996. Through February 20, 1998, the Company had a revolving credit facility of
$1.0 billion. There was a quarterly facility fee of up to 35 basis points on the
total amount of the revolving credit facility. There were no borrowings
outstanding under this facility at December 31, 1997 and 1996. Following the
closing of the Transaction described in Note 11, the Company terminated this
facility.
The composition of other borrowings was as follows:
DECEMBER 31,
- ------------------------------------------------------------------------------------
1997 1996
- ------------------------------------------------------------------------------------
Term fed funds $ 0 $ 10,000
Short-term debt 809,814 911,986
Lines of credit 3,857 40,000
Other borrowings 48,917 107,003
- ------------------------------------------------------------------------------------
Total $862,588 $1,068,989
- ------------------------------------------------------------------------------------
The following table displays information related to selected types of
short-term borrowings:
1997 1996 1995
- --------------------------------------------------------------------------------------------------
AMOUNT RATE AMOUNT RATE AMOUNT RATE
- --------------------------------------------------------------------------------------------------
At year end:
Securities sold under repurchase
agreements $ 0 0% $ 0 0% $ 0 0%
Term fed funds 0 0 10,000 5.42 443,000 5.83
- --------------------------------------------------------------------------------------------------
Total $ 0 0% $ 10,000 5.42% $443,000 5.83%
- --------------------------------------------------------------------------------------------------
Average for the year:
Securities sold under repurchase
agreements $ 9,796 5.66% $ 149,791 5.31% $ 25,008 5.97%
Term fed funds and fed funds purchased 11,925 5.71 100,793 5.71 199,166 6.10
- --------------------------------------------------------------------------------------------------
Total $ 21,721 5.69% $ 250,584 5.47% $224,174 6.09%
- --------------------------------------------------------------------------------------------------
Maximum month-end balance:
Securities sold under repurchase
agreements $149,130 $1,027,695 $ 29,813
Term fed funds and fed funds purchased 65,000 263,000 455,250
- --------------------------------------------------------------------------------------------------
72
74
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The weighted average interest rates were calculated by dividing the
interest expense for the period for such borrowings by the average amount of
short-term borrowings outstanding during the period.
NOTE 15. SELECTED INCOME STATEMENT INFORMATION
NONINTEREST REVENUES YEAR ENDED DECEMBER 31,
- ---------------------------------------------------------------------------------------------
1997 1996 1995
- ---------------------------------------------------------------------------------------------
Gain on sale of credit cards $ 0 $ 33,820 $ 0
Other noninterest revenues:
Credit card securitization income 252,631 258,066 183,360
Credit card servicing income 176,061 176,567 117,369
Income from personal finance activities 169,973 109,167 50,541
Credit card interchange income 85,208 102,804 92,439
Business loan and lease other revenues 70,943 61,622 41,050
Credit card overlimit fees 46,447 16,465 4,755
Insurance revenues, net 37,816 38,175 30,146
Equity securities (losses)/gains (11,426) 6,522 15,386
Other 17,484 3,324 7,968
- ---------------------------------------------------------------------------------------------
Total other noninterest revenues $845,137 $772,712 $543,014
- ---------------------------------------------------------------------------------------------
Total noninterest revenues $845,137 $806,532 $543,014
- ---------------------------------------------------------------------------------------------
OPERATING EXPENSES YEAR ENDED DECEMBER 31,
- ---------------------------------------------------------------------------------------------
1997 1996 1995
- ---------------------------------------------------------------------------------------------
Amortization of credit card deferred origination costs, net $ 69,344 $ 88,517 $ 72,258
Other operating expenses:
Salaries and employee benefits 247,287 182,666 116,681
Marketing 53,039 31,975 25,374
External processing 43,256 42,814 28,407
Professional/consulting fees 38,600 40,247 14,937
Equipment expense 37,712 22,752 12,751
Postage 29,039 25,700 18,518
Occupancy expense 23,097 14,827 9,254
Credit card fraud losses 22,287 23,611 20,029
Telephone expense 21,262 16,116 11,959
Credit and collection expense 20,017 13,784 9,039
Other 25,901 20,165 11,478
- ---------------------------------------------------------------------------------------------
Total other operating expenses $561,497 $434,657 $278,427
- ---------------------------------------------------------------------------------------------
Total operating expenses $630,841 $523,174 $350,685
- ---------------------------------------------------------------------------------------------
73
75
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
NOTE 16. SELECTED BALANCE SHEET INFORMATION
INTEREST-BEARING DEPOSITS DECEMBER 31,
- ----------------------------------------------------------------------------------
1997 1996
- ----------------------------------------------------------------------------------
Amounts due from credit card trusts(A) $438,838 $333,923
Amounts due from mortgage trusts(A) 146,772 96,460
Amounts due from business loan and leasing trusts(A) 0 8,099
Other interest-bearing deposits 80,973 108,301
- ----------------------------------------------------------------------------------
Total interest-bearing deposits $666,583 $546,783
- ----------------------------------------------------------------------------------
(A) Represents initial deposits and subsequent excess collections up to the
required amount on each of the credit card, mortgage and business loan and
lease securitizations. Also includes amounts to be distributed to investors.
OTHER ASSETS DECEMBER 31,
- ----------------------------------------------------------------------------------
1997 1996
- ----------------------------------------------------------------------------------
Retained interest-only strip, net -- personal finance loans $205,868 $138,265
Prepaid assets 131,305 117,934
Accrued interest receivable 99,167 101,021
Deferred costs 48,332 42,252
Due from trustees -- mortgage 25,383 14,298
Investments in operating leases 12,432 17,276
Due from trustees -- business loans and leasing 6,736 5,326
Goodwill 5,134 5,795
Other real estate(A) 689 2,513
Current and deferred federal income taxes 0 28,169
Other 263,750 171,359
- ----------------------------------------------------------------------------------
Total other assets $798,796 $644,208
- ----------------------------------------------------------------------------------
(A) Carried at the lower of cost or fair market value less selling costs.
At December 31, 1997 and 1996, the Company had $208.3 million and $399.4
million, respectively, of amounts due from credit card securitizations. These
amounts include retained interest-only strips, net of recourse liabilities,
accrued interest receivable and other amounts related to these securitizations.
OTHER LIABILITIES DECEMBER 31,
- ----------------------------------------------------------------------------------
1997 1996
- ----------------------------------------------------------------------------------
Accounts payable and accrued expenses $100,380 $ 59,432
Accrued interest payable 73,103 55,320
Current and deferred federal and state income taxes 40,461 10,300
Deferred fees and other reserves 28,050 86,877
Other 98,631 97,852
- ----------------------------------------------------------------------------------
Total other liabilities $340,625 $309,781
- ----------------------------------------------------------------------------------
74
76
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
NOTE 17. CONTRACTUAL MORTGAGE SERVICING RIGHTS
The activity in the contractual mortgage servicing rights asset is as follows:
YEAR ENDED DECEMBER 31,
- ------------------------------------------------------------------------------------------
1997 1996 1995
- ------------------------------------------------------------------------------------------
Balance, beginning of year $11,153 $ 4,075 $ --
Servicing rights acquired 17,461 8,485 4,367
Amortization (4,068) (1,407) (292)
- ------------------------------------------------------------------------------------------
Balance, end of year $24,546 $11,153 $4,075
- ------------------------------------------------------------------------------------------
The Company periodically evaluates the potential impairment of contractual
mortgage servicing rights. The Company stratifies these rights based on two of
the predominant risk characteristics of the underlying loans, such as the year
of origination and the type of loan (i.e., fixed or adjustable rate loan).
Impairment is recognized through a valuation allowance for each individual
stratum. The amount of impairment recognized is the amount by which the
contractual mortgage servicing rights for a stratum exceed their estimated fair
value.
NOTE 18. CASH, DIVIDEND AND LOAN RESTRICTIONS
In the normal course of business, the Company and its subsidiaries enter into
agreements, or are subject to regulatory requirements, that result in cash, debt
and dividend restrictions.
Effective June 30, 1997 the Company's credit card bank, Advanta National
Bank ("Old ANB"), was merged with Advanta National Bank USA ("AUS") and AUS was
renamed Advanta National Bank ("ANB"). The combined bank is subject to the
following restrictions. FDIC-insured banks are subject to certain provisions of
the Federal Reserve Act which impose various legal limitations on the extent to
which such banks can finance or otherwise supply funds to certain of their
affiliates. In particular, ANB is subject to certain restrictions on any
extensions of credit to, or other covered transactions, such as certain
purchases of assets, with the Company or its affiliates. Such restrictions
prevent ANB from lending to the Company and its affiliates unless such
extensions of credit are secured by U.S. Government obligations or other
specified collateral. Further, such secured extensions of credit by ANB are
limited in amount: (a) as to the Company or any such affiliate, to 10 percent of
the bank's capital and surplus, and (b) as to the Company and all such
affiliates in the aggregate, to 20 percent of the bank's capital and surplus.
Under certain grandfathering provisions of the Competitive Equality Banking
Act of 1987, the Company is not required to register as a bank holding company
under the Bank Holding Company Act of 1956, as amended (the "BHCA"), so long as
the Company and ANB continue to comply with certain restrictions on their
activities. These restrictions include limiting the scope of its activities to
those in which it was engaged prior to March 5, 1987. Since ANB was not making
commercial loans at that time, it must continue to refrain from making
commercial loans -- which would include any loans to the Company or any of its
subsidiaries -- in order for the Company to maintain its grandfathered exemption
under the BHCA. The Company has no present plans to register as a bank holding
company under the BHCA. ANB is also subject to various legal limitations on the
amount of dividends that can be paid to its parent, the Company. ANB is eligible
to declare a dividend provided that it is not greater than the current year's
net profits plus net profits of the preceding two years, as defined. During
1997, ANB did not pay dividends to the Company, while $107 million of dividends
were paid during 1996. At December 31, 1997, total stockholders' equity of the
Company's banking and insurance affiliates approximated $828.5 million, of which
$59.5 million was available for payment of dividends under applicable regulatory
guidelines.
75
77
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
NOTE 19. PARENT COMPANY FINANCIAL STATEMENTS
ADVANTA CORP. (PARENT COMPANY ONLY)
CONDENSED BALANCE SHEETS
(IN THOUSANDS) DECEMBER 31,
- --------------------------------------------------------------------------------------
1997 1996
- --------------------------------------------------------------------------------------
ASSETS
Cash $ 94,887 $ 93,019
Investments available for sale 29,046 32,960
Other assets, principally investments in and advances to
wholly owned subsidiaries 2,314,852 2,023,559
- --------------------------------------------------------------------------------------
Total assets $2,438,785 $2,149,538
- --------------------------------------------------------------------------------------
LIABILITIES
Accrued expenses and other liabilities $ 121,797 $ 43,984
Subordinated debt and other borrowings 1,390,038 1,253,518
---------- ----------
Total liabilities 1,511,835 1,297,502
---------- ----------
STOCKHOLDERS' EQUITY
Preferred stock 1,010 1,010
Common stock 448 435
Other stockholders' equity 925,492 850,591
- --------------------------------------------------------------------------------------
Total stockholders' equity 926,950 852,036
- --------------------------------------------------------------------------------------
Total liabilities and stockholders' equity $2,438,785 $2,149,538
- --------------------------------------------------------------------------------------
76
78
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
ADVANTA CORP. (PARENT COMPANY ONLY)
CONDENSED STATEMENTS OF OPERATIONS
(IN THOUSANDS) YEAR ENDED DECEMBER 31,
- ---------------------------------------------------------------------------------------------
1997 1996 1995
- ---------------------------------------------------------------------------------------------
Income:
Dividends from subsidiaries $ 12,300 $135,006 $ 76,000
Interest 81,656 62,144 53,745
Other 39,044 40,107 27,130
--------------------------------
Total income 133,000 237,257 156,875
--------------------------------
Expenses:
General and administrative 74,405 86,425 59,129
Interest 97,067 72,219 69,105
--------------------------------
Total expenses 171,472 158,644 128,234
--------------------------------
(Loss)/income before income taxes and equity
in subsidiaries (38,472) 78,613 28,641
--------------------------------
Income tax benefit 20,677 24,784 20,469
--------------------------------
(Loss)/income before equity in undistributed net profit
of subsidiaries (17,795) 103,397 49,110
--------------------------------
Equity in undistributed net profit of subsidiaries 89,420 72,260 87,567
- ---------------------------------------------------------------------------------------------
Net income $ 71,625 $175,657 $136,677
- ---------------------------------------------------------------------------------------------
The Parent Company Only Statements of Changes in Stockholders' Equity is
the same as the Consolidated Statements of Changes in Stockholders' Equity (see
page 42).
77
79
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
ADVANTA CORP. (PARENT COMPANY ONLY)
STATEMENTS OF CASH FLOWS
(IN THOUSANDS) YEAR ENDED DECEMBER 31,
- ----------------------------------------------------------------------------------------------
1997 1996 1995
- ----------------------------------------------------------------------------------------------
OPERATING ACTIVITIES
Net Income $ 71,625 $ 175,657 $ 136,677
Adjustments to reconcile net income to net cash used by
operating activities:
Equity in net profit of subsidiaries (101,719) (207,266) (163,567)
Dividends received from subsidiaries 12,300 135,006 76,000
Depreciation and amortization of intangibles 5,083 1,375 964
Change in other assets (154,043) (265,658) (159,599)
Change in accrued liabilities 94,401 51,853 8,387
- ----------------------------------------------------------------------------------------------
Net cash (used)/provided by operating activities (72,353) (109,033) (101,138)
INVESTING ACTIVITIES
Net change in premises & equipment (8,793) (9,408) (1,901)
Purchase of investments available for sale (87,324) (3,754,047) (637,917)
Proceeds from sales of investments available for sale 49,946 77,404 340,177
Proceeds from maturing investments available for sale 25,000 3,771,981 373,410
- ----------------------------------------------------------------------------------------------
Net cash (used)/provided by investing activities (21,171) 85,930 73,769
FINANCING ACTIVITIES
Change in lines of credit (40,000) 40,000 (50,000)
Proceeds from issuance of subordinated/senior debt 24,747 41,036 147,200
Payments on redemption of subordinated/senior debt (97,609) (38,541) (152,626)
Change in repurchase agreements 0 0 (52,975)
Increase in affiliate borrowings (26,827) (324,341) (35,444)
Proceeds from issuance of medium-term notes 511,255 720,545 165,052
Payments on maturity of medium-term notes (261,873) (494,400) (20,000)
Proceeds from issuance of affiliate subordinated
debentures 0 103,093 0
Cash dividends paid (28,301) (24,581) (15,501)
Issuance of stock 14,000 11,974 94,179
- ----------------------------------------------------------------------------------------------
Net cash provided by financing activities 95,392 34,785 79,885
- ----------------------------------------------------------------------------------------------
Net increase in cash 1,868 11,682 52,516
Cash at beginning of year 93,019 81,337 28,821
Cash at end of year $ 94,887 $ 93,019 $ 81,337
- ----------------------------------------------------------------------------------------------
78
80
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
NOTE 20. CAPITAL RATIOS
ANB is, and the former Advanta National Bank ("Old ANB") and Advanta National
Bank USA ("AUS") were subject to various regulatory capital requirements
administered by the federal banking agencies. Failure to meet minimum capital
requirements can initiate certain mandatory -- and possibly additional
discretionary -- actions by regulators that, if undertaken, could have a direct
material effect on the institutions' financial statements. Under capital
adequacy guidelines and the regulatory framework for prompt corrective action,
the institution must meet specific capital guidelines that involve quantitative
measures of its assets, liabilities, and certain off-balance-sheet items as
calculated under regulatory accounting practices. The institution's capital
amounts and classification are also subject to qualitative judgments by the
regulators about components, risk weightings, and other factors.
Quantitative measures established by regulation to ensure capital adequacy
require the institution to maintain minimum amounts and ratios (set forth in the
table below) of total and Tier I capital (as defined in the regulations) to
risk-weighted assets (as defined), and of Tier I capital (as defined) to average
assets (as defined). Management believes that as of December 31, 1997, ANB meets
all capital adequacy requirements to which it is subject.
As of December 31, 1997 the Office of the Comptroller of the Currency
categorized ANB and as of December 31, 1996 categorized Old ANB and AUS, as well
capitalized under the regulatory framework for prompt corrective action. To be
categorized as well capitalized an institution must maintain minimum total
risk-based and Tier I risk-based capital and Tier I leverage ratios as set forth
in the following table. There are no conditions or events since those
notifications that management believes have changed such categorizations.
TO BE WELL
CAPITALIZED
UNDER PROMPT
FOR CAPITAL CORRECTIVE
ACTUAL ADEQUACY PURPOSES ACTION PROVISIONS
- ----------------------------------------------------------------------------------------------------
AMOUNT RATIO AMOUNT RATIO AMOUNT RATIO
- ----------------------------------------------------------------------------------------------------
AS OF DECEMBER 31, 1996
Total Capital (to Risk Weighted Assets)
AUS $179,649 15.84% $ 90,820 greater% $113,525 greater%
than or than or
equal to equal
8.0 to
10.0
Old ANB 241,534 17.20 112,359 greater 140,449 greater
than or than or
equal to equal
8.0 to
10.0
Tier I Capital (to Risk Weighted
Assets)
AUS 115,237 10.15 45,410 greater 68,115 greater
than or than or
equal to equal
4.0 to 6.0
Old ANB 156,287 11.13 112,359 greater(1) 112,359 greater(1)
than or than or
equal to equal
8.0 to 8.0
Tier I Capital (to Average Assets)
AUS 115,237 7.35 47,064 greater 78,440 greater
than or than or
equal to equal
3.0 to 5.0
Old ANB 156,287 7.15 65,578 greater 109,296 greater
than or than or
equal to equal
3.0 to 5.0
AS OF DECEMBER 31, 1997 FOR ANB
Total Capital (to Risk Weighted Assets) $824,801 16.39% $402,640 greater% $503,300 greater%
than or than or
equal to equal
8.0 to
10.0
Tier I Capital (to Risk Weighted
Assets) 650,911 12.93 201,320 greater 301,980 greater
than or than or
equal to equal
4.0 to 6.0
Tier I Capital (to Average Assets) 650,911 14.07 185,015 greater 231,269 greater
than or than or
equal to equal
4.0 to 5.0
- --------------------------------------------------------------------------------
(1) In connection with the formation of Old ANB, supplementary agreement with
the OCC required Old ANB to maintain a Tier I capital ratio of at least 8%
during its first three years of operation as well as a minimum Tier I
capital level of $50 million.
79
81
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
NOTE 21. FAIR VALUE OF FINANCIAL INSTRUMENTS
The estimated fair values of the Company's financial instruments are as follows:
1997 1996
------------------------ ------------------------
CARRYING FAIR CARRYING FAIR
AMOUNT VALUE AMOUNT VALUE
- ------------------------------------------------------------------------------------------------
Financial assets:
Cash $ 57,953 $ 57,953 $ 165,875 $ 165,875
Federal funds sold 156,500 156,500 338,926 338,926
Restricted interest-bearing deposits 666,583 666,583 546,783 546,783
Investments available for sale 1,269,209 1,269,209 767,675 767,675
Loans, net of allowance for credit
losses 3,376,546 3,412,823 2,613,003 2,629,797
Amounts due from credit card
securitizations 208,330 208,330 399,359 399,359
Retained interest-only strips-personal
finance loans 205,868 205,868 138,265 139,998
Contract mortgage servicing rights 24,546 24,546 11,153 11,153
Financial liabilities:
Demand and savings deposits $ 548,440 $ 549,333 $ 358,429 $ 358,469
Time deposits and debt 4,717,343 4,693,887 3,806,710 3,813,634
Other borrowings 52,774 53,411 157,003 156,984
Off-balance sheet financial instruments --
Asset/(Liability):
Interest rate swaps and swaptions $ 0 $ 8,323 $ 0 $ 9,788
Interest rate options:
Caps purchased 360 596 273 1,766
Caps written (1,350) (616) (2,111) (1,845)
Corridors/collars 0 0 831 (748)
Forward contracts 0 (522) 0 573
The above values do not necessarily reflect the premium or discount that
could result from offering for sale at one time the Company's entire holdings of
a particular instrument. In addition, these values, derived from the methods and
assumptions described below, do not consider the potential income taxes or other
expenses that would be incurred on an actual sale of an asset or settlement of a
liability. With respect to the fair value of liabilities, the above table is
prepared on the basis that the amounts necessary to discharge such liabilities
represent fair value. The Company's off-balance sheet financial instruments
relate to managing the interest rate sensitivity position as described in Note
23.
The following methods and assumptions were used to estimate the fair value
of each class of financial instruments for which it is practicable to estimate
that value.
CASH, FEDERAL FUNDS SOLD AND INTEREST-BEARING DEPOSITS
For these short-term instruments, the carrying amount is a reasonable estimate
of the fair value.
INVESTMENTS
For investment securities held to maturity and those available for sale, the
fair values are based on quoted market prices, dealer quotes or estimated using
quoted market prices for similar securities.
80
82
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
LOANS, NET OF ALLOWANCE FOR CREDIT LOSSES
For consumer credit card receivables, business card receivables and mortgage
loans, the fair value is estimated using quoted market prices for securities
backed by similar loans, adjusted for differences in loan characteristics. The
fair value for these loans also includes the estimated value of the portion of
the retained interest-only strip and, for mortgage loans, servicing, which are
not sold with the securities backed by these types of loans. The value of the
retained interest-only strips and, for mortgage loans, servicing is estimated
based on a discounted cash flow analysis. The cash flows are estimated as the
excess of the weighted average yield on each pool of the loans sold over the sum
of the pass-through interest rate plus the servicing fee and an estimate of
future credit losses over the life of the loans and other amounts as described
in Note 1. The value of direct finance lease receivables and other loans is
estimated based on the market prices of similar receivables with similar
characteristics.
AMOUNTS DUE FROM CREDIT CARD SECURITIZATIONS AND RETAINED
INTEREST-ONLY STRIPS-PERSONAL FINANCE LOANS
The fair values of the retained interest-only strips component of amounts due
from credit card securitizations and retained interest-only strips from personal
finance loan securitizations are estimated based on discounted flow analyses as
described in Note 1. For the other components of amounts due from credit card
securitizations, the carrying amount is a reasonable estimate of the fair value.
For purposes of estimating the fair value of the retained interest-only strip
from credit card securitizations, management has assumed a discount rate of 12%,
a principal payment rate of 10% and a loss rate of 7.8% for December 31, 1997
and assumed a discount rate of 12%, a principal payment rate of 10% and a loss
rate of 6.5% for December 31, 1996. For purposes of estimating the fair value of
the retained interest-only strip from personal finance loan securitizations,
management has assumed a discount rate of 14%, a prepayment rate of 24% CPR for
fixed rate loans and 29% for adjustable rate loans and a loss rate of 80 basis
points for December 31, 1997 and assumed a discount rate of 14%, a prepayment
rate of 21% CPR for fixed rate loans and 25% CPR for adjustable rate loans and a
loss rate of 80 basis points for December 31, 1996.
CONTRACT MORTGAGE SERVICING RIGHTS
The fair value of these rights is estimated by discounting future cash flows,
adjusted for prepayments, using rates available for instruments with similar
terms and remaining maturities.
DEMAND AND SAVINGS DEPOSITS
The fair value of demand deposits, savings accounts, and money market deposits
is the amount payable on demand at the reporting date. This fair value does not
include any benefit that may result from the low cost of funding provided by
these deposits compared to the cost of borrowing funds in the market.
TIME DEPOSITS AND DEBT
The fair value of fixed-maturity certificates of deposit and notes is estimated
using the rates currently offered for deposits and notes of similar remaining
maturities.
OTHER BORROWINGS
The other borrowings are all at variable interest rates and therefore the
carrying value approximates a reasonable estimate of the fair value.
INTEREST RATE SWAPS, OPTIONS AND FORWARD CONTRACTS
The fair value of interest rate swaps, options and forward contracts (used for
managing interest rate and foreign currency risks) is the estimated amount that
the Company would pay or receive to terminate the agreement at the reporting
date, taking into account current interest and foreign exchange rates and the
current creditworthiness of the counterparty.
81
83
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
COMMITMENTS TO EXTEND CREDIT
Although the Company had $42.1 billion of unused commitments to extend credit,
there is no market value associated with these commitments, as any fees charged
are consistent with the fees charged by other companies at the reporting date to
enter into similar agreements.
NOTE 22. CALCULATION OF EARNINGS PER COMMON SHARE
The following table shows the calculation of basic earnings per share and
diluted earnings per share for the years ended December 31, 1997, 1996 and 1995.
1997 1996 1995
- ---------------------------------------------------------------------------------------------
Net income $ 71,625 $175,657 $136,677
less: Preferred "A" dividends (141) (141) (141)
less: Preferred "B" dividends, net (6,409) (6,403) (2,065)
- ---------------------------------------------------------------------------------------------
Income available to common shareholders $ 65,075 $169,113 $134,471
less: Class A dividends declared (7,997) (6,703) (5,073)
less: Class B dividends declared (13,754) (11,334) (8,222)
- ---------------------------------------------------------------------------------------------
Undistributed Earnings $ 43,324 $151,076 $121,176
Basic Shares
A 18,172 17,621 17,255
B 24,635 23,174 22,468
Combined 42,807 40,795 39,723
Options A 63 410 507
Options B 532 1,293 1,148
AMIP B 99 507 551
Preferred B 0(1) 2,068 741
Dilutive Shares
A 18,235 18,031 17,867
B 25,266 27,042 24,803
Combined 43,501 45,073 42,670
Basic Earnings Per Share
A $ 1.45 $ 4.08 $ 3.34
B 1.57 4.19 3.42
Combined(2) 1.52 4.15 3.38
Dilutive Earnings Per Share
A $ 1.43 $ 3.86 $ 3.18
B 1.54 3.91 3.22
Combined(2) 1.50 3.89 3.20
- ---------------------------------------------------------------------------------------------
(1) 25,000 shares of the Company's Class B convertible preferred stock were
outstanding during 1997 but were not included in the computation of diluted
earnings per share for the year ended December 31, 1997 because they were
antidilutive for that period.
(2) Combined represents a weighted average of Class A and Class B. (See Note 1.)
NOTE 23. DERIVATIVE FINANCIAL INSTRUMENTS
In managing its interest rate sensitivity and foreign currency positions, the
Company may use derivative financial instruments. These instruments are used for
the express purpose of managing its interest rate and foreign currency exposures
and are not used for any trading or speculative activities. As of December 31,
1997
82
84
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
and 1996, all of the Company's derivatives were designated as hedges or
synthetic alterations and were accounted for as such.
The following table summarizes by notional amounts the Company's
derivatives instruments as of December 31, 1997 and 1996:
1997 1996
- --------------------------------------------------------------------------------------
Interest rate swaps $2,111,711 $1,560,444
Swaptions 0 153,000
Interest rate options:
Caps written 1,018,781 1,413,222
Caps purchased 328,781 365,000
Corridors/collars 0 500,000
Forward contracts 400,437 386,680
- --------------------------------------------------------------------------------------
$3,859,710 $4,378,346
- --------------------------------------------------------------------------------------
The notional amounts of derivatives do not represent amounts exchanged by
the counterparties and, thus, are not a measure of the Company's exposure
through its use of derivatives. The amounts exchanged are determined by
reference to the notional amounts and the other terms of the derivatives
contracts.
Credit risk associated with derivatives arises from the potential for a
counterparty to default on its obligations. The Company attempts to limit credit
risk by only transacting with highly creditworthy counterparties and requiring
master netting and collateral agreements for all interest rate swap and interest
rate option contracts. All derivative counterparties are associated with
organizations having securities rated as investment grade by independent rating
agencies. The list of eligible counterparties, setting of counterparty limits,
and monitoring of credit exposure is controlled by the Investment Committee, a
management committee. The Company's credit exposure to derivatives, with the
exception of caps written, is represented by contracts with a positive fair
value without giving consideration to the value of any collateral exchanged (see
Note 21). For caps written, credit exposure does not exist since the
counterparty has performed its obligation to pay the Company a premium payment.
Interest rate swap agreements generally involve the exchange of fixed and
floating rate interest payments without the exchange of the underlying notional
amount on which the interest payments are calculated. Based on its interest rate
sensitivity analyses, the Company enters into interest rate swaps to more
effectively manage the impact of fluctuating interest rates on its net interest
income and noninterest revenues. The Company has used interest rate swaps to
synthetically alter the cash flows on certain deposit, debt, and off-balance
sheet credit card and leasing securitizations.
As of December 31, 1997, the Company used interest rate swaps for the
following purposes: $1.0 billion to effectively convert fixed rate debt to a
LIBOR based variable rate, and $1.1 billion to effectively convert certain
off-balance sheet variable pass-through rate home equity and leasing
securitizations to a fixed rate. In 1997, as part of its asset/liability risk
management process, the Company chose to effectively convert $598 million of
fixed rate off-balance sheet credit card securitizations to a LIBOR based
variable rate through the use of interest rate swaps. The Company elected to
terminate all of these interest rate swap positions after a 7 month period and
realized a gain of $16.3 million. Gains or losses resulting from these interest
rate swap terminations are deferred and amortized to other noninterest revenues
over the remaining life of the underlying fixed rate credit card securitization.
As of December 31, 1997, the unamortized gain amounted to $15.6 million with the
remaining amortization period of 4.2 years. As of December 31, 1996, the Company
used interest rate swaps and swaptions for the following purposes; $976.3
million to effectively convert fixed rate debt to a LIBOR based variable rate,
and $737.1 million to effectively convert certain off-balance sheet variable
pass-through rate home equity and leasing securitizations to a fixed rate.
83
85
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The following table summarizes by notional amounts the Company's interest
rate swap and swaption activity by major category for the periods presented:
RECEIVE PAY
FIXED RATE FIXED RATE TOTAL
- -----------------------------------------------------------------------------------------------
Balance at 1/1/95 $ 459,735 $ 0 $ 459,735
Additions 30,000 625,962 655,962
Net accretion 0 38,038 38,038
Terminations (285,900) 0 (285,900)
- -----------------------------------------------------------------------------------------------
Balance at 12/31/95 203,835 664,000 867,835
Additions 635,000 594,804 1,229,804
Net accretion 0 41,805 41,805
Maturities (26,000) (400,000) (426,000)
- -----------------------------------------------------------------------------------------------
Balance at 12/31/96 812,835 900,609 1,713,444
Additions 967,250 472,496 1,439,746
Net amortization 0 (142,894) (142,894)
Maturities (136,835) (10,500) (147,335)
Swaptions exercised 0 (153,000) (153,000)
Terminations (598,250) 0 (598,250)
- -----------------------------------------------------------------------------------------------
Balance at 12/31/97 $1,045,000 $1,066,711 $2,111,711
- -----------------------------------------------------------------------------------------------
Interest rate options are contracts that grant the purchaser, for a premium
payment, the right to either purchase or sell a financial instrument at a future
date for a specified price from the writer of the option. Interest rate caps and
floors are option-like contracts that require the seller (writer) to pay the
purchaser at specified future dates the amount by which a specified market
interest rate exceeds the cap rate or falls below the floor rate, multiplied
against a notional amount. A corridor is also an option-like contract which is
the simultaneous purchase and sale of separate interest rate caps where each cap
is referenced to a different interest rate index. A collar is an option-like
contract which is the simultaneous purchase of an interest rate cap and the sale
of an interest rate floor using the same reference interest rate index.
As part of managing its balance sheet and liquidity position, the Company
periodically securitizes and sells credit cards, business loans and leases. For
credit enhancement purposes, certain variable pass-through rate credit card and
business loan and lease securitizations were issued with embedded or purchased
interest rate caps. These rate caps, however, were not needed to satisfy
asset/liability management strategies. In order to achieve its desired interest
rate sensitivity structure and further reduce the effective pass-through rate of
the securitization, the Company has synthetically altered the interest rate
structure on certain off-balance sheet credit card, business loan and lease
securitizations by writing interest rate caps to offset the embedded and
purchased rate caps attached to them.
The premiums received or paid for writing or purchasing such cap contracts
with third parties are included in other assets and are amortized to noninterest
revenues over the life of the contract. Any obligations which may arise under
these contracts are recorded in noninterest revenues on an accrual basis. As of
December 31, 1997, unamortized premiums for caps written and purchased amounted
to $1.3 million and $360 thousand, respectively. The weighted average maturities
for caps written and purchased were 3.3 years and 4.6 years, respectively. As of
December 31, 1996, unamortized premiums for caps written and purchased amounted
to $2.1 million and $273 thousand, respectively. The weighted average maturities
for caps written and purchased were 2.7 years and 4.3 years, respectively.
When the Company periodically securitized and sold credit card receivables,
the receivables sold to the securitization trust carried rates which were
indexed to the prime rate, whereas the securitization certificates issued from
the trust may have been priced at a spread over LIBOR. The Company is exposed to
interest rate
84
86
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
risk to the extent that these two rate indices react differently to changes in
market interest rates. The Company may have chosen to hedge its credit card
interest-only strips from the risk of spread compression between the prime rate
and LIBOR by entering into corridor transactions which effectively fixed a
prime/ LIBOR spread. In addition, variable rate receivables sold to a variable
pass-through rate securitization trust may have contained introductory fixed
rates which expose the Company to interest rate risk during the receivables'
introductory period. The Company may have chosen to hedge the risk of interest
rate spread compression by entering into collar transactions which effectively
locked in a minimum interest rate spread in a changing interest rate
environment.
Premiums paid or received for entering into corridor and collar
transactions are included in other assets or other liabilities and are amortized
to noninterest revenues over the life of the contract. Any obligations which may
arise under these contracts are recorded to noninterest revenues on an accrual
basis. As of December 31, 1997, the Company had no corridor or collar
transactions outstanding. During 1997, substantially all of the Company's credit
cards were indexed to LIBOR eliminating the need to hedge credit card
interest-only strips from the risk of spread compression between the prime rate
and LIBOR. Accordingly, the Company chose to terminate $500 million of corridor
transactions and recorded a net gain of $429 thousand to income. As of December
31, 1996, unamortized premiums received for corridor and collar transactions
amounted to $831 thousand. As of December 31, 1996, the weighted average
maturities of corridor and collar transactions were 2.2 years.
Forward contracts are commitments to either purchase or sell a financial
instrument at a future date for a specified price and may be settled in cash or
through delivery of the underlying financial instrument. The Company regularly
securitizes and sells fixed rate mortgage, business loan and lease receivables.
The Company may choose to hedge the changes in the market value of its fixed
rate loans and commitments designated for anticipated securitizations by selling
U.S. Treasury securities for forward settlement. The maximum and average terms
of hedges of anticipated mortgage loan sales is four and two months,
respectively. Gains and losses from forward sales are deferred and included in
the measurement of the dollar basis of the loans sold. Realized gains of $4.2
million and $3.4 million were deferred as of December 31, 1997 and 1996,
respectively.
In addition, the Company periodically issues fixed pass-through rate credit
card securitizations, fixed rate bank notes and capital securities. The Company
is exposed to interest rate risk to the extent that rates rise before the
issuance of the anticipated fixed rate obligations. The Company may choose to
hedge the interest costs associated with anticipated obligations by selling
securities for forward settlement. Gains or losses resulting from these hedges
are deferred and amortized to interest expense over the life of the underlying
obligation. The maximum and average terms of these types of anticipatory hedges
is two months. As of December 31, 1997 and 1996, unamortized losses on hedges of
anticipated fixed interest rate obligations amounted to $1.2 million and $1.7
million, respectively and the remaining weighted average amortization period was
2.4 years and 3.3 years, respectively.
The Company also had foreign currency risk to the extent that its net
investment in the joint venture with the Royal Bank of Scotland is not funded
with local currency. The Company hedged its foreign exchange risk by selling
foreign currency for forward settlement. The maximum and average terms of hedges
of foreign currency exposure is thirty days. Gains/(losses) from foreign
currency forward contracts are included in stockholders' equity and amounted to
$1.2 million and $(2.3) million as of December 31, 1997 and December 31, 1996,
respectively.
85
87
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
The following table discloses the Company's interest rate swaps by major
category, notional value, weighted average interest rates, and annual maturities
for the periods presented.
BALANCES MATURING IN:
BALANCE AT ---------------------------------------------------------------
12/31/97 1998 1999 2000 2001 2002 2003
- -----------------------------------------------------------------------------------------------------------
Pay Fixed/Receive Variable:
Notional Value $1,066,711 $ 0 $ 82,893 $ 28,977 $223,603 $434,302 $ 74,248
Weighted Average Pay Rate 6.03% 0.00% 5.80% 5.72% 6.04% 5.98% 6.46%
Weighted Average Receive
Rate 5.90 0.00 5.86 5.86 5.89 5.90 5.87
Receive Fixed/Pay Variable:
Notional Value $1,045,000 $249,000 $141,000 $124,000 $406,000 $ 60,000 $ 50,000
Weighted Average Receive
Rate 6.47% 6.16% 6.46% 6.32% 6.62% 6.60% 6.90%
Weighted Average Pay Rate 5.78 5.80 5.82 5.78 5.77 5.85 5.69
Total Notional Value $2,111,711(A) $249,000 $223,893 $152,977 $629,603 $494,302 $124,248
Total Weighted Average Rates
on Swaps:
Pay Rate 5.91% 5.80% 5.81% 5.77% 5.86% 5.96% 6.15%
Receive Rate 6.18 6.16 6.24 6.23 6.36 5.98 6.28
- -----------------------------------------------------------------------------------------------------------
BALANCES MATURING IN:
--------------------------
2004 2005 2006
- -----------------------------------------------------------------------------------------------------------
Pay Fixed/Receive Variable:
Notional Value $ 0 $222,688 $ 0
Weighted Average Pay Rate 0.00% 6.12% 0.00%
Weighted Average Receive
Rate 0.00 5.97 0.00
Receive Fixed/Pay Variable:
Notional Value $ 0 $ 0 $15,000
Weighted Average Receive
Rate 0.00% 0.00% 6.71%
Weighted Average Pay Rate 0.00 0.00 5.72
Total Notional Value $ 0 $222,688 $15,000
Total Weighted Average Rates
on Swaps:
Pay Rate 0.00% 6.12% 5.72%
Receive Rate 0.00 5.97 6.71
- -----------------------------------------------------------------------------------------------------------
(A) A portion of the Company's interest rate swaps were contributed to the Fleet
LLC in connection with the Transaction described Note 11.
86
88
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To the Stockholders of Advanta Corp.:
We have audited the accompanying consolidated balance sheets of Advanta
Corp. (a Delaware corporation) and subsidiaries as of December 31, 1997 and
1996, and the related consolidated statements of income, stockholders' equity
and cash flows for each of the three years in the period ended December 31,
1997. These financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these financial
statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the financial position of Advanta
Corp. and subsidiaries as of December 31, 1997 and 1996, and the results of
their operations and their cash flows for each of the three years in the period
ended December 31, 1997, in conformity with generally accepted accounting
principles.
ARTHUR ANDERSEN LLP
Philadelphia, PA
February 27, 1998
REPORT OF MANAGEMENT ON RESPONSIBILITY FOR FINANCIAL REPORTING
To the Stockholders of Advanta Corp.:
The management of Advanta Corp. and its subsidiaries is responsible for the
preparation, content, integrity and objectivity of the financial statements
contained in this Annual Report. These financial statements have been prepared
in accordance with generally accepted accounting principles and as such must, by
necessity, include amounts based upon estimates and judgments made by
management. The other financial information in the Annual Report was also
prepared by management and is consistent with the financial statements.
Management maintains a system of internal controls that provides reasonable
assurance as to the integrity and reliability of the financial statements. This
control system includes: (l) organizational and budgetary arrangements which
provide reasonable assurance that errors or irregularities would be detected
promptly, (2) careful selection of personnel and communications programs aimed
at assuring that policies and standards are understood by employees, (3) a
program of internal audits, and (4) continuing review and evaluation of the
control program itself.
The financial statements in this Annual Report have been audited by Arthur
Andersen LLP, independent public accountants. Their audits were conducted in
accordance with generally accepted auditing standards and considered the
Company's system of internal controls to the extent they deemed necessary to
determine the nature, timing and extent of their audit tests. Their report is
printed herewith.
/s/ Dennis Alter /s/ William A. Rosoff /s/ John J. Calamari
- ---------------------------- ---------------------------- ----------------------------
Chairman of the Board Vice Chairman Vice President,
and Chief Executive Officer Finance
87
89
SUPPLEMENTAL SCHEDULES
MATURITY OF TIME DEPOSITS OF $100,000 OR MORE
DECEMBER 31,
(IN THOUSANDS) 1997
- ----------------------------------------------------------------------------
Maturity:
3 months or less $221,011
Over 3 months through 6 months 136,851
Over 6 months through 12 months 169,194
Over 12 months 184,022
- ----------------------------------------------------------------------------
Total $711,078
- ----------------------------------------------------------------------------
COMMON STOCK PRICE RANGES AND DIVIDENDS
The Company's common stock is traded on the National Market tier of The Nasdaq
Stock Market under the symbols ADVNB (Class B non-voting common stock) and ADVNA
(Class A voting common stock). Following are the high, low and closing sale
prices and cash dividends declared for the last two years as they apply to each
class of stock:
CASH
DIVIDENDS
QUARTER ENDED: HIGH LOW CLOSE DECLARED
- ------------------------------------------------------------------------------------------------
Class B:
- ------------------------------------------------------------------------------------------------
March 1996 $49.25 $33.75 $47.50 $.108
June 1996 52.50 43.50 45.25 .108
September 1996 48.25 39.75 42.75 .108
December 1996 48.50 38.25 40.88 .132
March 1997 $53.63 $25.50 $25.88 $.132
June 1997 36.25 18.88 35.69 .132
September 1997 36.50 24.75 27.25 .132
December 1997 37.63 23.38 25.38 .132
- ------------------------------------------------------------------------------------------------
Class A:
- ------------------------------------------------------------------------------------------------
March 1996 $53.50 $34.75 $52.00 $.090
June 1996 58.25 46.50 51.00 .090
September 1996 53.00 41.00 46.00 .090
December 1996 50.00 40.00 42.75 .110
March 1997 $53.25 $26.63 $26.88 $.110
June 1997 36.25 20.00 35.69 .110
September 1997 37.50 26.19 29.13 .110
December 1997 38.75 24.25 26.25 .110
- ------------------------------------------------------------------------------------------------
At December 31, 1997, the Company had approximately 1,100 and 430 holders
of record of Class B and Class A common stock, respectively.
88
90
QUARTERLY DATA
(IN THOUSANDS, EXCEPT PER SHARE DATA) 1997
- ----------------------------------------------------------------------------------------------------
DECEMBER 31, SEPTEMBER 30, JUNE 30, MARCH 31,
- ----------------------------------------------------------------------------------------------------
(UNAUDITED)
Interest income $ 86,034 $133,324 $101,194 $ 97,066
Interest expense 84,885 88,414 79,797 71,462
-------- -------- -------- --------
Net interest income 1,149 44,910 21,397 25,604
Provision for credit losses 51,940 48,243 50,279 60,364
-------- -------- -------- --------
Net interest income after provision for
credit losses (50,791) (3,333) (28,882) (34,760)
Noninterest revenues:
Gain on sale of credit cards 0 0 0 0
Other noninterest revenues 284,129 209,397 194,749 156,862
-------- -------- -------- --------
Total noninterest revenues 284,129 209,397 194,749 156,862
Operating expenses 174,562 148,904 158,564 148,811
-------- -------- -------- --------
Income (loss) before income taxes 58,776 57,160 7,303 (26,709)
- ----------------------------------------------------------------------------------------------------
Net income (loss) $ 43,612 $ 42,412 $ 5,419 $(19,818)
- ----------------------------------------------------------------------------------------------------
Basic earnings (loss) per share
A $ .96 $ .94 $ .07 $ (.52)
B .99 .96 .09 (.49)
Combined(1) .98 .95 .09 (.51)
- ----------------------------------------------------------------------------------------------------
Diluted earnings (loss) per share
A $ .94 $ .91 $ .07 $ (.52)
B .95 .92 .09 (.49)
Combined(1) .95 .92 .09 (.51)
- ----------------------------------------------------------------------------------------------------
Weighted average common shares outstanding
Basic
A 18,201 18,188 18,178 18,129
B 24,802 24,687 24,594 24,392
Combined(1) 43,003 42,875 42,772 42,521
- ----------------------------------------------------------------------------------------------------
Weighted average common shares -- assuming
dilution
Dilutive
A 18,250 18,245 18,239 18,129
B 27,775 27,870 24,969 24,392
Combined(1) 46,025 46,115 43,208 42,521
- ----------------------------------------------------------------------------------------------------
89
91
QUARTERLY DATA (CONTINUED)
(IN THOUSANDS, EXCEPT PER SHARE DATA) 1996
- ----------------------------------------------------------------------------------------------------
DECEMBER 31, SEPTEMBER 30, JUNE 30, MARCH 31,
- ----------------------------------------------------------------------------------------------------
(UNAUDITED)
Interest income $ 90,754 $101,118 $ 83,447 $ 72,646
Interest expense 68,736 77,697 67,332 55,935
-------- -------- -------- --------
Net interest income 22,018 23,421 16,115 16,711
Provision for credit losses 29,899 24,230 27,651 15,082
-------- -------- -------- --------
Net interest income after provision for
credit losses (7,881) (809) (11,536) 1,629
Noninterest revenues:
Gain on sale of credit cards 0 0 33,820 0
Other noninterest revenues 218,832 209,338 173,513 171,029
-------- -------- -------- --------
Total noninterest revenues 218,832 209,338 207,333 171,029
Operating expenses 143,925 141,309 127,445 110,495
-------- -------- -------- --------
Income before income taxes 67,026 67,220 68,352 62,163
- ----------------------------------------------------------------------------------------------------
Net income $ 45,151 $ 44,356 $ 45,120 $ 41,030
- ----------------------------------------------------------------------------------------------------
Basic earnings per share
A $ 1.04 $ 1.03 $ 1.05 $ .96
B 1.07 1.06 1.08 .98
Combined(1) 1.06 1.05 1.07 .97
- ----------------------------------------------------------------------------------------------------
Diluted earnings (loss) per share
A $ .99 $ .97 $ .99 $ .90
B 1.00 .99 1.00 .91
Combined(1) 1.00 .98 1.00 .91
- ----------------------------------------------------------------------------------------------------
Weighted average common shares outstanding
Basic
A 17,752 17,631 17,600 17,512
B 23,403 23,187 23,125 22,981
Combined(1) 41,155 40,818 40,725 40,493
- ----------------------------------------------------------------------------------------------------
Weighted average common shares -- assuming
dilution
Dilutive
A 18,084 18,014 18,027 17,988
B 27,161 27,167 27,212 26,887
Combined(1) 45,245 45,181 45,239 44,875
- ----------------------------------------------------------------------------------------------------
(1) See Note 1 to Consolidated Financial Statements.
90
92
SUPPLEMENTAL SCHEDULES
ALLOCATION OF ALLOWANCE FOR CREDIT LOSSES
($ IN THOUSANDS) DECEMBER 31,
- --------------------------------------------------------------------------------------------------------------------------
1997 1996 1995 1994 1993
-------------- ------------- ------------- ------------- -------------
AMOUNT % AMOUNT % AMOUNT % AMOUNT % AMOUNT %
- --------------------------------------------------------------------------------------------------------------------------
Credit cards $118,420 86% $76,084 85% $36,889 69% $27,486 66% $25,859 83%
Personal finance loans(1) 5,822 4 8,785 10 3,360 6 5,164 12 2,706 9
Business loans and leases(2) 9,798 7 4,241 5 977 2 1,076 3 1,826 6
Other 3,733 3 74 -- 12,268 23 7,891 19 836 2
- --------------------------------------------------------------------------------------------------------------------------
Total $137,773 100% $89,184 100% $53,494 100% $41,617 100% $31,227 100%
- --------------------------------------------------------------------------------------------------------------------------
COMPOSITION OF GROSS RECEIVABLES
($ IN THOUSANDS) DECEMBER 31,
- ----------------------------------------------------------------------------------------------------------------------------
1997 1996 1995 1994 1993
---------------- ---------------- ---------------- ---------------- ----------------
AMOUNT % AMOUNT % AMOUNT % AMOUNT % AMOUNT %
- ----------------------------------------------------------------------------------------------------------------------------
Credit cards $2,579,890 76% $2,045,219 77% $2,338,280 85% $1,730,176 88% $1,131,367 89%
Personal finance loans(1) 478,433 14 376,260 14 321,711 12 142,874 7 91,340 7
Business loans and
leases(2) 298,789 9 214,327 8 93,660 3 86,157 5 51,008 4
Other loans 40,978 1 20,835 1 9,276 -- 5,237 -- 3,590 --
- ----------------------------------------------------------------------------------------------------------------------------
Total $3,398,090 100% $2,656,641 100% $2,762,927 100% $1,964,444 100% $1,277,305 100%
- ----------------------------------------------------------------------------------------------------------------------------
(1) Includes mortgage and home equity loans for all years presented and auto
loans beginning in 1996.
(2) Includes leases for all years presented and business cards beginning in
1996.
91
93
YIELD AND MATURITY OF INVESTMENTS AVAILABLE FOR SALE AT DECEMBER 31, 1997
$ IN THOUSANDS MATURING
- -------------------------------------------------------------------------------------------------------------------------
AFTER ONE BUT AFTER FIVE BUT
WITHIN ONE YEAR WITHIN FIVE YEARS WITHIN TEN YEARS AFTER TEN YEARS
------------------- ----------------- ---------------- ----------------
AMOUNT YIELD AMOUNT YIELD AMOUNT YIELD AMOUNT YIELD
- -------------------------------------------------------------------------------------------------------------------------
U.S. Treasury and other U.S. Government
securities $1,034,735 5.83% $ 49,011 5.84% $ 0 0.00% $ 0 0.00%
State and municipal securities(A) 316 3.85 2,101 4.15 2,208 5.42 693 5.52
Other(B) 5 9.06 48,949 6.62 7,933 7.03 53,352 6.68
- -------------------------------------------------------------------------------------------------------------------------
Total $1,035,056 5.83% $100,061 6.19% $10,141 6.68% $54,045 6.67%
- -------------------------------------------------------------------------------------------------------------------------
(A) Yield computed on a taxable equivalent basis using a statutory rate of 35%.
(B) Equity investments and other securities without a stated maturity are
excluded from this table.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.
None.
92
94
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT.
The text of the Proxy Statement under the captions "Election of Directors" and
"Section 16(a) Beneficial Ownership Reporting Compliance" are hereby
incorporated by reference, as is the text in Part I of this Report under the
caption, "Executive Officers of the Registrant."
ITEM 11. EXECUTIVE COMPENSATION.
The text of the Proxy Statement under the captions "Executive Compensation,"
"Compensation Committee Report on Executive Compensation" and "Election of
Directors -- Committees, Meetings and Compensation of the Board of Directors",
"-- Compensation Committee Interlocks and Insider Participation in Compensation
Decisions" and "-- Other Matters" are hereby incorporated herein by reference.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.
The text of the Proxy Statement under the captions "Security Ownership of
Certain Beneficial Owners" and "Security Ownership of Management" are hereby
incorporated herein by reference.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
The text of the Proxy Statement under the captions "Election of
Directors -- Compensation Committee Interlocks and Insider Participation in
Compensation Decisions" and "-- Other Matters" are hereby incorporated herein by
reference.
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K.
The following Financial Statements, Schedules, and Other Information of the
Registrant and its subsidiaries are included in this Form 10-K:
(a)(1) Financial Statements.
1. Consolidated Balance Sheets at December 31, 1997 and 1996.
2. Consolidated Income Statements for each of the three years
in the period ended December 31, 1997.
3. Consolidated Statements of Changes in Stockholders' Equity
for each of the three years in the period ended December 31,
1997.
4. Consolidated Statements of Cash Flows for each of the three
years in the period ended December 31, 1997.
5. Notes to Consolidated Financial Statements.
(a)(2) Schedules.
1. Schedule I -- Condensed Financial Information of Registrant.
2. Schedule II -- Valuation and Qualifying Accounts.
3. Report of Independent Public Accountants on Supplemental
Schedules.
Other statements and schedules are not being presented
either because they are not required or the information
required by such statements and schedules is presented
elsewhere in the financial statements.
(a)(3) Exhibits
93
95
3-a Restated Certificate of Incorporation of Registrant
(incorporated by reference to Exhibit 4.1 to Pre-Effective
Amendment No. 1 to the Registrant's Registration Statement
on Form S-3 (File No. 33-53475), filed June 10, 1994) , as
amended by the Certificate of Designations, Preferences,
Rights and Limitations of the Registrant's 6 3/4%
Convertible Class B Preferred Stock, Series 1995 (Stock
Appreciation Income Linked Securities (SAILS)) (incorporated
by reference to Exhibit 4.3 to the Registrant's Current
Report on Form 8-K dated August 15, 1995, as further amended
by the Certificate of Designations, Preferences, Rights and
Limitations of the Registrant's Series A Junior
Participating Preferred Stock (incorporated by reference to
Exhibit 1 to the Registrant's Registration Statement on Form
8-A, dated March 17, 1997.
3-b By-laws of the Registrant, as amended (incorporated by
reference to Exhibit 3.1 to the Registrant's Current Report
on Form 8-K dated March 17, 1997).
3-c Rights Agreement, dated as of March 14, 1997, by and between
the Registrant and the Rights Agent, which includes as
Exhibit B thereto the Form of Rights Certificate
(incorporated by reference to Exhibit 1 to the Registrant's
Registration Statement on Form 8-A dated March 17, 1997).
4-a* Trust Indenture dated April 22, 1981 between Registrant and
Mellon Bank, N.A., (formerly, CoreStates Bank, N.A.), as
Trustee, including Form of Debenture.
4-b Specimen of Class A Common Stock Certificate and specimen of
Class B Common Stock Certificate (incorporated by reference
to Exhibit 1 of the Registrant's Amendment No. 1 to Form 8
and Exhibit 1 to Registrant's Form 8-A, respectively, both
dated April 22, 1992).
4-c Trust Indenture dated as of November 15, 1993 between the
Registrant and The Chase Manhattan Bank (National
Association), as Trustee (incorporated by reference to
Exhibit 4 to the Registrant's Registration Statement on Form
S-3 (No. 33-50883), filed November 2, 1993).
4-d Specimen of 6 3/4% Convertible Class B Preferred Stock,
Series 1995 (Stock Appreciation Income Linked Securities
(SAILS)) Certificate (incorporated by reference to Exhibit
4.2 to the Registrant's Current Report on Form 8-K dated
August 15, 1995, filed the same date).
4-e Deposit Agreement, dated as of August 15, 1995, among
Advanta Corp. and Mellon Securities Trust Company and the
Holders from Time to Time of the Depositary Receipts
Described Therein in Respect of the 6 3/4% Convertible Class
B Preferred Stock, Series 1995 (Stock Appreciation Income
Linked Securities (SAILS)) (with form of Depositary Receipt
as an exhibit thereto) (incorporated by reference to Exhibit
4.10 to the Company's Current Report on Form 8-K dated
August 15, 1995, filed the same date).
4-f Senior Trust Indenture, dated as of October 23, 1995,
between the Registrant and Mellon Bank, N.A., as Trustee
(incorporated by reference to Exhibit 4.1 to the
Registrant's Registration Statement on Form S-3 (File No.
33-62601), filed September 13, 1995).
4-g Indenture dated as of December 17, 1996 between Advanta
Corp. and The Chase Manhattan Bank, as trustee relating to
the Junior Subordinated Debentures. (incorporated by
reference to Exhibit 4-g to the Registrant's Annual Report
on Form 10-K for the year ended December 31, 1996).
4-h Declaration of Trust dated as of December 5, 1996 of Advanta
Capital Trust I. (incorporated by reference to Exhibit 4-h
to the Registrant's Annual Report on Form 10-K for the year
ended December 31, 1996).
4-i Amended and Restated Declaration of Trust dated as of
December 17, 1996 for Advanta Capital Trust I. (incorporated
by reference to Exhibit 4-I to the Registrant's Annual
Report on Form 10-K for the year ended December 31, 1996).
4-j Series A Capital Securities Guarantee Agreement dated as of
December 17, 1996. (incorporated by reference to Exhibit 4-j
to the Registrant's Annual Report on Form 10-K for the year
ended December 31, 1996).
9 Inapplicable.
10-a Registrant's Stock Option Plan, as amended (incorporated by
reference to Exhibit 10-b to the Registrant's Annual Report
on Form 10-K for the year ended December 31, 1989).+
10-b Amended and Restated Advanta Corp. 1992 Stock Option Plan
(incorporated by reference to Exhibit 10.3 to the
Registrant's Quarterly Report on Form 10-Q for the quarter
ended June 30, 1996).+
10-c Advanta Management Incentive Plan, as amended (incorporated
by reference to Exhibit 10-c to the Registrant's Annual
Report on Form 10-K for the year ended December 31, 1996).+
10-d* Application for membership in VISA(R) U.S.A. Inc. and
Membership Agreement executed by Colonial National Bank USA
on March 25, 1983.
94
96
10-e* Application for membership in MasterCard(R) International,
Inc. and Card Member License Agreement executed by Colonial
National Bank USA on March 25, 1983.
10-f* Indenture of Trust dated May 11, 1984 between Linda Alter,
as settlor, and Dennis Alter, as trustee.
10-f(i) Agreement dated October 20, 1992 among Dennis Alter, as
Trustee of the trust established by the Indenture of Trust
filed as Exhibit 10-g (the "Indenture"), Dennis Alter in his
individual capacity, Linda Alter, and Michael Stolper, which
Agreement modifies the Indenture (incorporated by reference
to Exhibit 10-g(i) to the Registrant's Registration
Statement on Form S-3 (File No. 33-58660), filed February
23, 1993).
10-g Agreement dated as of March 5, 1998 between the Registrant
and Olaf Olafsson (filed herewith).+
10-h Advanta Management Incentive Plan with Stock Election
(incorporated by reference to Exhibit 4-c to Amendment No. 1
to the Registrant's Registration Statement on Form S-8 (File
No. 33-33350), filed February 21, 1990).+
10-i Advanta Corp. Executive Deferral Plan (incorporated by
reference to the Exhibit 10-j to the Registrant's Annual
Report on Form 10-K for the year ended December 31, 1995).+
10-j Advanta Corp. Non-Employee Directors Deferral Plan
(incorporated by reference to Exhibit 10-K to the
Registrant's Annual Report on Form 10-K for the year ended
December 31, 1995).+
10-k Advanta Management Incentive Plan With Stock Election II
(incorporated by reference to Exhibit 10-o to the
Registrant's Registration Statement on Form S-2 (File No.
33-39343), filed March 8, 1991).+
10-l Advanta Management Incentive Plan With Stock Election III,
as amended (incorporated by reference to Exhibit 10.1 to the
Registrant's Quarterly Report on Form 10-Q for the quarter
ended June 30, 1996).+
10-m Life Insurance Benefit for Certain Key Executives and
Directors (filed herewith).+
10-n Advanta Management Incentive Plan With Stock Election IV, as
amended (incorporated by reference to Exhibit 10.2 to the
Registrant's Quarterly Report on Form 10-Q for the quarter
ended June 30, 1996).
10-o Amended and Restated Agreement of Limited Partnership of
Advanta Partners LP, dated as of October 1, 1996
(incorporated by reference to Exhibit 10-o to the
Registrant's Annual Report on Form 10-K for the year ended
December 31, 1996).
10-p Agreement dated as of January 15, 1996 between the
Registrant and William A. Rosoff (incorporated by reference
to Exhibit 10-u to the Registrant's Annual Report on Form
10-K for the year ended December 31, 1995).+
10-q Pooling and Servicing Agreement, dated as of June 1, 1996,
among Advanta Business Receivables Corp., Advanta Financial
Corp. and First National Bank of Chicago, as Trustee (filed
herewith).
10-r Master Loan and Security Agreement dated as of May 1, 1997
among Advanta Mortgage Holding Company and certain of its
subsidiaries and Morgan Stanley Mortgage Capital, Inc.
(incorporated by reference to Exhibit 10 to the Registrant's
Quarterly Report on Form 10-Q for the quarter ended June 30,
1997).
10-s Master Business Receivables Asset-Backed Financing Facility
Agreement, dated as of May 1, 1997, by and among Advanta
Business Service Corp., Advanta Leasing Receivables Corp.
III and The Chase Manhattan Bank (incorporated by reference
to Advanta Business Services Corp.'s Registration Statement
on Form S-1 (File No. 333-38575)).
11 Inapplicable.
12 Computation of Ratio of Earnings to Fixed Charges (filed
herewith).
13 Inapplicable.
16 Inapplicable.
18 Inapplicable.
21 Subsidiaries of the Registrant (filed herewith).
22 Inapplicable.
23 Consent of Independent Public Accountants (filed herewith).
95
97
24 Powers of Attorney (included on the signature page hereof).
27 Financial Data Schedule (filed herewith).
28 Inapplicable.
99 Inapplicable.
- ---------------
* Incorporated by reference to the Exhibit with corresponding number
constituting part of the Registrant's Registration Statement on Form S-2 (No.
33-00071), filed on September 4, 1985.
+ Management contract or compensatory plan or arrangement.
(b) Reports on Form 8-K
1. A Report on Form 8-K was filed by the Company on October 15, 1997
regarding consolidated earnings of the Company and its subsidiaries for
the fiscal quarter ended September 30, 1997. Summary earnings and
balance sheet information as of that date were filed with such report.
2. A Report on Form 8-K was filed by the Company on October 28, 1997
reporting certain announcements made by the Company that day.
3. A Report on Form 8-K was filed by the Company on December 3, 1997
regarding earnings guidance for the Company and its subsidiaries for the
1998 fiscal year.
96
98
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) 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.
ADVANTA CORP.
Dated: March 30, 1998 By: /s/ OLAF OLAFSSON
------------------------------------
Olaf Olafsson,
President and Director
KNOW ALL MEN BY THESE PRESENTS, that each of the undersigned does hereby
constitute and appoint Dennis Alter, William A. Rosoff, Olaf Olafsson, John J.
Calamari, Jeffrey D. Beck and Elizabeth H. Mai, or any of them (with full power
to each of them to act alone), his or her true and lawful attorney in-fact and
agent, with full power of substitution, for him or her and on his or her behalf
to sign, execute and file an Annual Report on Form 10-K under the Securities
Exchange Act of 1934, as amended, for the fiscal year ended December 31, 1997
relating to Advanta Corp. and any or all amendments thereto, with all exhibits
and any and all documents required to be filed with respect thereto, with the
Securities and Exchange Commission or any regulatory authority, granting unto
such attorneys-in-fact and agents, and each of them, full power and authority to
do and perform each and every act and thing requisite and necessary to be done
in and about the premises in order to effectuate the same as fully to all
intents and purposes as he or she might or could do if personally present,
hereby ratifying and confirming all that such attorneys-in-fact and agents, or
any of them, or their substitute or substitutes, may lawfully do or cause to be
done.
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed by the following persons on behalf of the Registrant and
in the capacities indicated on the 30th day of March, 1998.
NAME TITLE
---- -----
/s/ DENNIS ALTER Chief Executive Officer and Chairman of the Board
- ------------------------------------------
Dennis Alter
/s/ WILLIAM A. ROSOFF Vice Chairman and Director
- ------------------------------------------
William A. Rosoff
/s/ OLAF OLAFSSON President and Director
- ------------------------------------------
Olaf Olafsson
/s/ JEFFREY D. BECK Vice President and Treasurer
- ------------------------------------------
Jeffrey D. Beck
/s/ JOHN J. CALAMARI Vice President, Finance and Chief Accounting Officer
- ------------------------------------------
John J. Calamari
/s/ ARTHUR P. BELLIS Director
- ------------------------------------------
Arthur P. Bellis
/s/ MAX BOTEL Director
- ------------------------------------------
Max Botel
/s/ WILLIAM C. DUNKELBERG Director
- ------------------------------------------
William C. Dunkelberg
/s/ DANA BECKER DUNN Director
- ------------------------------------------
Dana Becker Dunn
97
99
NAME TITLE
---- -----
/s/ ROBERT C. HALL Director
- ------------------------------------------
Robert C. Hall
/s/ JAMES E. KSANSNAK Director
- ------------------------------------------
James E. Ksansnak
/s/ RONALD LUBNER Director
- ------------------------------------------
Ronald Lubner
98