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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
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 September 30, 1998
OR
[] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
Commission file number: 0-4408
RESOURCE AMERICA, INC.
(Exact name of registrant as specified in its charter)
DELAWARE 72-0654145
- - ------------------------------- -------------------
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
1521 Locust Street
Suite 400
Philadelphia, PA 19102
- - ---------------------------------------- ----------
(Address of principal executive offices) (Zip code)
Registrant's telephone number, including area code: (215) 546-5005
Securities registered pursuant to Section 12(b) of the Act: None
Securities registered pursuant to Section 12(g) of the Act:
Title of each class
Common Stock, par value $.01 per share
Name of each exchange on which registered: The Company's Common Stock trades on
the Nasdaq Stock Market under the symbol "REXI."
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. [X]
The aggregate market value of the voting stock held by nonaffiliates of the
registrant, based upon the closing price of such stock on December 9, 1998, was
approximately $232,358,000.
The number of outstanding shares of the registrant's Common Stock on December 9,
1998 was 21,859,924.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the Proxy Statement for registrant's Annual Meeting of Stockholders
to be held on March 16, 1999 are incorporated by reference in Part III of this
Form 10-K.
2
RESOURCE AMERICA, INC. AND SUBSIDIARIES
INDEX TO ANNUAL REPORT
ON FORM 10-K
PART I Page
Item 1: Business............................................... 4
Item 2: Properties............................................. 43
Item 3: Legal Proceedings...................................... 43
Item 4: Submission of Matters to a Vote of Security
Holders............................................ 44
PART II
Item 5: Market for Registrant's Common Equity and
Related Stockholder Matters........................ 44
Item 6: Selected Financial Data................................ 45
Item 7: Management's Discussion and Analysis of
Financial Condition and Results of
Operations......................................... 45
Item 7A: Quantitative and Qualitative Disclosures
About Market Risk.................................. 62
Item 8: Financial Statements and Supplementary Data............ 66
Item 9: Changes in and Disagreements with Accountants
on Accounting and Financial Disclosure............. 107
PART III
Item 10: Directors, Executive Officers, Promoters and
Control Persons of the Registrant.................. 107
Item 11: Executive Compensation................................. 107
Item 12: Security Ownership of Certain Beneficial Owners
and Management..................................... 107
Item 13: Certain Relationships and Related Transactions......... 107
PART IV
Item 14: Exhibits, Financial Statement Schedules and
Reports on Form 8-K................................ 107
SIGNATURES
3
PART I
ITEM 1 BUSINESS
General
The Company was organized as a Delaware corporation in 1966 and, until
1991, was principally involved in the energy industry. Since 1991, the Company
has expanded its business strategy to focus on locating and developing niche
finance businesses in which the Company can realize attractive returns by
targeting well-defined financial services markets and by developing specialized
skills to service those markets on a cost-effective basis. To date, the Company
has developed two finance businesses: real estate finance and equipment leasing.
Within its real estate finance business, the Company has developed a commercial
mortgage loan acquisition and resolution business and a residential mortgage
lending business. The Company has also sponsored Resource Asset Investment Trust
("RAIT"), a real estate investment trust, and currently owns 14% of RAIT's
common shares of beneficial interest. Within its equipment leasing business, the
Company focuses primarily on small ticket equipment lease financing, although it
also manages five publicly-owned equipment leasing partnerships and has a small
lease finance placement and advisory business. In its energy business, the
Company produces natural gas and oil. In September 1998, the Company acquired
The Atlas Group, Inc. ("Atlas"), a company primarily involved in energy finance
through the syndication of oil and gas properties.
Amounts of revenue, operating profit or loss and identifiable assets
attributable to each of the Company's industry segments for fiscal 1996 through
fiscal 1998 are shown in note 13 of the Consolidated Financial Statements.
During the past three fiscal years, the Company's revenues were distributed
across its industry segments as follows:
Year ended September 30,
------------------------
(Dollars in Thousands)
1998 1997 1996
---- ---- ----
Segment % $ % $ % $
- - ------- --- --- --- --- --- ---
Real estate finance 72 62,856 58 19,144 42 7,171
Equipment leasing 16 13,561 22 7,162 26 4,466
Energy 8 6,734 17 5,608 30 5,157
Real Estate Finance
Commercial Mortgage Loan Acquisition and Resolution Strategy
Identification and Acquisition of Commercial Mortgage Loans. The
Company believes that the success to date of its commercial mortgage loan
acquisition and resolution business has been due in large part to its ability to
identify and acquire, on favorable terms, commercial mortgage loans held by
large private sector financial institutions and other entities. Due to the
complexity of issues relating to these loans (including under-performance and
past or present defaults), their comparatively small size relative to a large
4
institution's total portfolio, their lack of conformity to an institution's then
existing lending criteria and/or other factors, the lender is often not able, or
willing, to devote the necessary managerial and other resources to the loans.
The Company, which offers to acquire a loan quickly and for immediate cash,
provides a convenient way for an institution to dispose of these loans.
Efficient Resolution of Loans. The Company believes that a further
aspect of its success to date has been its ability to resolve issues surrounding
loans it has identified for acquisition. The principal element of this strategy
is the cost-effective use of management and third-party resources to identify
and resolve any existing operational, financial or other issues at the property
or to manage the non-conforming aspects of the loan or its underlying property.
To implement this strategy, the Company has taken advantage of the background
and expertise of its management and has identified third-party subcontractors
(such as property managers and legal counsel) familiar with the types of issues
to which commercial properties may be subject and who have, in the past,
provided effective services to the Company.
Refinancings and Sales of Senior Lien Interests in Portfolio Loans. The
Company seeks to reduce its invested cash and enhance its returns from its
commercial loan portfolio through refinancing by borrowers of the properties
underlying its loans, financing by the Company of the loans held by it, or the
sale of senior lien interests or loan participations in loans held by it. In so
doing, the Company has in the past obtained, and in the future anticipates
obtaining, a return of a substantial portion of its invested cash (and in some
cases has obtained returns of amounts in excess of its invested cash), which it
will typically seek to reinvest in further loans, while maintaining a
significant continuing position in the original loan. See "Business - Real
Estate Finance - Commercial Mortgage Loan Acquisition and Resolution:
Refinancings and Sales of Senior Lien Interests in Portfolio Loans." In
addition, the Company has sold and anticipates further sales of whole loans,
senior lien interests and loan participations to RAIT (see "Business - Real
Estate Finance - Sponsorship of Real Estate Investment Trust").
Disposition of Loans. In the event a borrower does not repay a loan
when due, or upon expiration of applicable forbearance periods (See "Business -
Real Estate Finance - Commercial Mortgage Loan Acquisition and Resolution:
Forbearance Agreements"), the Company will seek to foreclose upon and sell the
underlying property or otherwise liquidate the loan. In appropriate cases and
for appropriate consideration, the Company may agree to forbear (or further
forbear) from the exercise of remedies available to it.
Market for Commercial Mortgage Loan Acquisition and Resolution Services
Loans acquired by the Company are, at the time of acquisition, secured
by commercial properties (generally multi-family housing, office buildings,
hotels or single-user retail properties) which, while income producing, are
typically unable fully to meet the debt service requirements of the original
loan terms or otherwise do not conform to the holder's then-established lending
criteria. The loans are usually acquired from banks, insurance companies,
investment banks, mortgage banks, pension funds or other similar financial
organizations.
The market for commercial mortgage loan acquisition and resolution
services of the type provided by the Company is, the Company believes,
relatively new. A major impetus to the creation of this market was the sale of
packages of under-performing and non-performing loans by government agencies,
5
which has declined in recent years. The Company believes, however, that a
permanent market for these services has emerged in the private sector as
financial institutions and other entities realize that outside specialists may
be able to address issues surrounding under-performing, defaulted,
non-conforming or similar loans more cost-efficiently than their internal staff.
Additionally, the Company believes that Japanese banks are continuing to dispose
of non-performing, under-performing and non-conforming commercial mortgages
secured by properties located in the United States in response to Japanese
domestic market and banking conditions. The sale of loans provides selling
institutions with a means of disposing of these assets, thereby obtaining
liquidity and improving their balance sheets. The trend has been reinforced,
management believes, by consolidation within the banking industry and by the
standardization of financing criteria by real estate conduits and other
"securitization" outlets.
Acquisition and Administration Procedures for Commercial Mortgage Loan
Acquisition and Resolution Operations
Prior to acquiring any commercial mortgage loan, the Company conducts
an acquisition review. This review includes an evaluation of the adequacy of the
loan documentation (for example, the existence and adequacy of notes, mortgages,
collateral assignments of rents and leases, and title policies ensuring first or
other lien positions) and other available information (such as credit and
collateral files). The value of the property securing the loan is estimated by
the Company based upon a recent independent appraisal obtained by the borrower
or seller of the loan, an independent appraisal obtained by the Company, or upon
valuation information obtained by the Company and thereafter confirmed by an
independent appraisal. One or more members of the Company's management makes an
on-site inspection of the property and, where appropriate, the Company will
require further inspections by engineers, architects or property management
consultants. The Company may also retain environmental consultants to review
potential environmental issues. The Company obtains and reviews available
rental, expense, maintenance and other operational information regarding the
property, prepares cash flow and debt service analyses and reviews all pertinent
information relating to any legal or other disputes to which the property is
subject. The amount of the Company's purchase offer for any loan is based upon
the foregoing evaluations and analyses.
The Company has established the following guidelines in connection with
its loan acquisitions: (i) cash flow from the property securing the loan should
be sufficient to yield an initial cash return on the Company's cash investment
of not less than 10% per annum; (ii) the ratio of the Company's initial
investment to the appraised value of the property underlying the loan (generally
utilizing an appraisal dated within one year of acquisition) should be less than
80%; (iii) there is the possibility of either prompt refinancing of the loan by
the borrower after acquisition, refinancing of the loan by the Company or sale
by the Company of a senior lien interest, that will result in an enhanced yield
to the Company on its (reduced) funds still outstanding; and (iv) there is the
possibility of a substantial increase in the value of the property underlying
the loan over its appraised value, increasing the potential amount of the loan
discount recoverable by the Company at loan termination. The Company is not,
however, bound by these guidelines and will acquire a loan that does not meet
one or more of the criteria specified above if, in the Company's judgment, other
factors make the loan an appropriate investment opportunity. While the Company
has met the initial cash return on net investment guideline in acquiring its
loans, as of September 30, 1998, the Company had in its portfolio 10 loans (57%
of the Company's commercial loan portfolio by book value, including four loans
acquired in 1998 constituting 47% of the Company's commercial loan portfolio by
book value) in which the ratio of the cost of investment to the appraised value
of the underlying property (both at the time of acquisition and at the date of
6
the most recent appraisal) exceeded 80%. While the Company has historically
acquired loans in the $1.0 million to $15.0 million range, it has expanded its
focus to also include larger loans which meet its investment objectives. The
Company currently has seven loans in its portfolio which had initial acquisition
costs in excess of $15.0 million. After borrower refinancings or sales of senior
lien interests in six of these loans, the Company had an investment in two loans
that exceeded $15.0 million, one of which has not been refinanced. The Company
is not limited by regulation or contractual obligation as to the types of
properties that secure the loans it may seek to acquire or the nature or
priority of any lien or other encumbrance it may accept with respect to a
property. The Company also does not have restrictions regarding whether, after
sale of a senior lien interest or a refinancing, its interest in a particular
loan must continue to be secured (although the Company will typically retain a
subordinated lien position), or as to the amount it may invest in any one loan,
the ratio of initial investment cost-to-appraised value of the underlying
property or the cash yield on the Company's remaining investment. See "Business
- - - Real Estate Finance - Commercial Mortgage Loan Acquisition and Resolution:
Sale of Senior Lien Interests and Refinancings" and "Management's Discussion and
Analysis of Financial Condition and Results of Operations - Results of
Operations: Real Estate Finance."
As part of the acquisition process, the Company typically resolves
existing issues relating to the loans or the underlying properties. Through
negotiations with the borrower and, as appropriate or necessary, with other
creditors or parties in interest, the Company seeks to arrive at arrangements
that reflect more closely the current operating conditions of the property and
the present strategic position of the various interested parties. Where
appropriate, the Company will offer concessions to assure that the Company's
future control of the property's cash flow is free from dispute. These
arrangements are normally reflected in an agreement (a "Forbearance Agreement")
pursuant to which foreclosure or other action on the mortgage is deferred so
long as the arrangements reflected in the Forbearance Agreement are met. With
respect to non-conforming loans or their related properties, or where a property
underlying a loan has operational problems, the Company will typically require
appointment of a property manager acceptable to it (see "Business - Real Estate
Finance - Commercial Mortgage Loan Acquisition and Resolution: Forbearance
Agreements") and may advance funds for purposes of paying property improvement
costs, unpaid taxes and similar items. Prior to loan acquisition, the Company
includes in its pre-acquisition analysis of loan costs and yields an estimate of
such advances.
Upon acquisition of a loan, the Company typically requires that all
revenues from the property underlying the loan be paid into an operating account
which the Company or its managing agent control. All expenditures with respect
to a property (including debt service, taxes, operational expenses and
maintenance costs) are paid from the Company's account and are reviewed and
approved by a senior officer of the Company prior to payment. The Company
further requires that its approval be obtained before any material contract or
commercial lease with respect to the property is executed. To assist it in
monitoring the loan, the Company requires that the borrower prepare a budget for
the property not less than 60 days prior to the beginning of a year, which must
be reviewed and approved by the Company, and submit both a monthly cash flow
statement and a monthly occupancy report. The Company analyzes these reports in
comparison with each other and with account activity in the operating account.
The Company may alter the foregoing procedures in appropriate
circumstances. Where a borrower has refinanced a loan held by the Company (or
where the Company has acquired a loan subject to existing senior debt), the
7
Company may agree that the revenues be paid to an account controlled by the
senior lienor, with the excess over amounts payable to the senior lienor being
paid directly to the Company. As of September 30, 1998, revenues were being paid
directly to senior lienholders with respect to two loans (loans 7 and 40). Where
the property is being managed by Brandywine Construction & Management, Inc.
("BCMI"), a property manager affiliated with the Company (see "Business - Real
Estate Finance - Commercial Mortgage Loan Acquisition and Resolution:
Forbearance Agreements"), the Company may direct that property revenues be paid
to BCMI, as the Company's managing agent. As of September 30, 1998, revenues are
being paid to BCMI with respect to two loans (loans 25 and 30). Where the
Company believes that operating problems with respect to an underlying property
have been substantially resolved, the Company may permit the borrower to retain
revenues and pay property expenses directly. As of September 30, 1998, the
Company permitted borrowers with respect to six loans (loans 24, 27, 31, 32, 37
and 41) to do so.
Commercial Mortgage Loan Acquisition and Resolution: Refinancings
and Sales of Senior Lien Interests
In evaluating a potential commercial mortgage loan, the Company places
significant emphasis on the likelihood of its being able to finance its interest
or sell a senior lien interest on favorable terms after the acquisition and/or
the borrower's likely ability, with or without the Company's assistance, to
secure favorable refinancing. When a loan is refinanced, or a senior lien
interest sold, the Company will obtain net sale or refinance proceeds in an
amount representing a major portion of (and sometimes exceeding) the amount of
its investment in the loan. After refinancing or sale of a senior lien interest,
the Company will typically retain an interest in the loan, which is subordinated
to the interest of the refinance lender or senior lienholder.
Where a refinancing is effectuated, the Company reduces the amount
outstanding on its loan by the amount of net refinancing proceeds received by it
and either converts the outstanding balance of the original note (both principal
and accrued interest, as well as accrued penalties) into the stated principal
amount of an amended note on the same terms as the original note, or retains the
original loan obligation as paid down by the amount of refinance proceeds
received by the Company. As with senior lien interests, the interest rate on the
refinancing is typically less than the interest rate on the Company's retained
interest.
Where a senior lien interest is sold, the outstanding balance of the
Company's loan at the time of sale remains outstanding, including as a part of
that balance the amount of the senior lien interest. Thus, the Company's
remaining interest effectively "wraps around" the senior lien interest.
Typically, the interest rate on the senior lien interest is less than the stated
rate on the Company's loan.
As of September 30, 1998, senior lien interests with an aggregate
balance of $12.0 million relating to seven of the Company's loans obligate the
Company, in the event of a default on a loan, to replace such loan with a
performing loan. These senior lien interests become due upon the expiration of
their respective Forbearance Agreements (one in 1999, five in 2000 and one in
2001). Five other senior lien interests obligate the Company, upon their
respective maturities (all in fiscal 2003), to repurchase the senior lien
interest (if not theretofore paid off) at a price equal to the outstanding
balance of the senior lien interest plus accrued interest (which will aggregate
$2.1 million, $11.9 million, $2.5 million, $10.7 million and $2.8 million,
8
respectively, assuming all debt service payments have been made). See "Business
- - - Real Estate Finance - Commercial Mortgage Loan Acquisition and Resolution:
Loan Status."
After sale of a senior lien interest or a refinancing, the Company's
retained interest will usually be secured by a subordinate lien on the property.
In certain situations, however, (including two loans aggregating $2.8 million
and constituting 1.5%, by book value, of the Company's loans as of September 30,
1998), the Company's retained interest may not be formally secured by a mortgage
because of conditions imposed by the senior lender, although it may be protected
by a judgment lien, an unrecorded deed-in-lieu of foreclosure, the borrower's
covenant not to further encumber the property without the Company's consent, a
pledge of the borrower's equity and/or a similar device.
Commercial Mortgage Loan Acquisition and Resolution: Forbearance Agreements
Commercial mortgage loans acquired by the Company that are in default
typically are subject to Forbearance Agreements with borrowers pursuant to which
the holder of the loan (the Company, upon loan acquisition) (i) agrees, subject
to receipt of specified minimum monthly payments, to defer the exercise of
existing rights to proceed on the defaulted loan (including the right to
foreclose), (ii) receives the rents from the underlying property (either
directly or through a managing agent approved by the Company, subject to certain
exceptions; see "Business - Real Estate Finance - Acquisition and Administration
Procedures for Commercial Loan Acquisition and Resolution Operations") and (iii)
requires the borrower to retain a property management firm acceptable to the
holder. The Forbearance Agreements also provide that any cash flow from the
property (after payment of Company-approved expenses and debt service on senior
lien interests) above the minimum payments will be retained by the Company and
applied to accrued but unpaid debt service on the loan. As a result of provision
(iii), BCMI has assumed responsibility for supervisory and, in many cases,
day-to-day management of the underlying properties with respect to substantially
all of the loans owned by the Company as of September 30, 1998. In eight
instances, the President of BCMI (or an entity affiliated with him) has also
acted as the general partner, president or trustee of the borrower. The minimum
payments required under a Forbearance Agreement (generally related to
anticipated cash flow from the property after operating expenses) are normally
materially less than the debt service payments called for by the original terms
of the loan. The difference between the minimum required payments under the
Forbearance Agreement and the payments called for by the original loan terms
continues to accrue, but (except for amounts recognized as an accretion of
discount; see "Business - Real Estate Finance - Commercial Mortgage Loan
Acquisition and Resolution: Accounting for Discounted Loans") are not recognized
as revenue to the Company until actually paid.
When a loan is refinanced by the Company or the borrower, or the
Company sells a senior lien interest in the loan, the Forbearance Agreement
typically will remain in effect, subject to such modifications as may be
required by the refinance lender or senior lien holder.
At the end of the term of a Forbearance Agreement, the borrower is
required to pay the loan in full. The borrower's ability to do so, however, will
depend upon a number of factors, including prevailing conditions at the
underlying property, the state of real estate and financial markets (generally
and as regards the particular property), and general economic conditions. In the
event the borrower does not or cannot do so, the Company anticipates that it
9
will seek to sell the property underlying the loan or otherwise liquidate the
loan. Alternatively, the Company anticipates that it might, in appropriate
cases, and for appropriate additional consideration, agree to further
forbearance.
Commercial Mortgage Loan Acquisition and Resolution: Loan Status
At September 30, 1998, the Company's loan portfolio consisted of 41
loans of which 32 loans were acquired as first mortgage liens and nine loans
were acquired as junior lien obligations. The Company's strategy has been to
acquire loans in anticipation of financing the loan by the Company, selling a
senior lien interest in the loan or in anticipation of the borrower's
refinancing of the loan. As of September 30, 1998, the Company had sold senior
lien interests in 21 loans in its portfolio (including senior interests in five
loans initially acquired by the Company as junior lien loans) and borrowers with
respect to 10 of the Company's loans had obtained refinancing. After such sales
and refinancings, the Company held subordinated interests in 35 loans of which
two interests, constituting approximately 1.5% of the book value of the
Company's loan portfolio, are not collateralized by recorded mortgages (see
"Business - Real Estate Finance - Commercial Mortgage Loan Acquisition and
Resolution: Sale of Senior Lien Interests and Refinancings").
The following table sets forth certain information relating to the
Company's investments in commercial mortgage loans, grouped by the type of
property underlying the loans, as of September 30, 1998. Loans 2, 4, 6, 8, 9,
10, 12, 19, 23, and 38 are not included in the table because they were sold to
RAIT during the 1998 fiscal year.
Loan Outstanding
Loan Type of Acquired Loan
Number Property Location Seller/Originator (Fiscal Year) Receivable(1)
- - ------ -------- -------- ----------------- ------------- -------------
005 Office Pennsylvania Shawmut Bank(10) 1993 $ 6,871,095
011(32) Office Washington, D.C. First Union Bank(10) 1995 1,496,017
014 Office Washington, D.C. Nomura/Cargill/Eastdil Realty(13) 1995 16,981,029
020 Office New Jersey Cargill/Eastdil Realty(13) 1996 7,537,780
026(32) Office Pennsylvania FirsTrust FSB/The Metropolitan Fund 1997 8,900,194
027(22) Office Pennsylvania Lehman Brothers Holdings, Inc. 1997 57,103,389
029(24)(32) Office Pennsylvania Castine Associates, L.P. 1997 7,655,240
035(26) Office Pennsylvania Jefferson Bank 1997 2,434,553
036 Office North Carolina Union Labor Life Insurance Co. 1997 4,626,269
044(31) Office Washington, DC Dai-Ichi Kangyo Bank 1998 100,725,247
046 Office Pennsylvania CoreStates Bank, N.A. 1998 6,014,713
048(33) Office Pennsylvania Institutional Property Assets 1998 65,665,695
049(37) Office Maryland BRE/Maryland 1998 98,856,915
------------
Office Totals $384,868,136
------------
001 Multifamily Pennsylvania Alpha Petroleum Pension Fund 1991 $ 8,852,591
003 Multifamily New Jersey RAM Enterprises/Glenn Industries 1993 2,860,838
Pension Plan
015 Condo/ North Carolina First Bank/South Trust Bank(14) 1995/1997 3,564,318
Multifamily
021(18) Multifamily Pennsylvania Bruin Holdings/Berkeley Federal 1996/1997 9,821,038
Savings Bank
022 Multifamily Pennsylvania FirsTrust FSB 1996 5,257,097
024 Multifamily Pennsylvania U.S. Dept. of Housing & Urban
Development 1996 3,404,809
028 Condo/ North Carolina First Bank/SouthTrust Bank(23) 1997 1,724,363
Multifamily
031 Multifamily Connecticut John Hancock Mutual Life 1997 10,121,734
Insurance Company
032 Multifamily New Jersey John Hancock Mutual Life 1997 12,532,447
Insurance Company
034(25) Multifamily Pennsylvania Resource America, Inc. 1997 404,537
[TABLE RESTUBBED FROM ABOVE]
Value of
Property
Loan Securing Cost of
Number Loan(2) Investment(3)
- - ------ ---------- -------------
005 $ 1,700,000 $ 1,246,629
011(32) 1,500,000 1,187,419
014 14,000,000 11,995,336
020 4,600,000 3,358,762
026(32) 5,000,000 2,485,078
027(22) 34,000,000 19,252,051
029(24)(32) 4,025,000 3,057,928
035(26) 2,550,000 1,695,498
036 4,150,000 3,077,343
044(31) 98,000,000 79,192,515
046 5,300,000 3,737,114
048(33) 65,000,000 58,657,176
049(37) 99,000,000 88,511,074
----------- -----------
Office Totals $338,825,000 $277,453,923
----------- -----------
001 $ 5,300,000 $ 4,742,767
003 1,350,000 1,334,167
015 3,702,000 2,792,309
021(18) 4,222,000 2,498,065
022 4,110,000 2,461,114
024
3,250,000 2,740,159
028 1,773,000 1,028,143
031 7,500,000 4,777,959
032 13,278,000 7,397,888
034(25) 450,000 401,500
11
(Continued)
Loan Outstanding
Loan Type of Acquired Loan
Number Property Location Seller/Originator (Fiscal Year) Receivable(1)
- - ------ -------- -------- ----------------- ------------- -------------
037 Multifamily Florida Howe, Soloman & Hall 1997 $ 7,421,526
Financial, Inc.
041 Multifamily Connecticut J.E. Roberts Companies 1998 26,767,078
042 Multifamily Pennsylvania Fannie Mae(28) 1998 5,540,485
043(29) Multifamily Pennsylvania Downingtown National Bank 1998 2,049,150
045(16) Multifamily Maryland Lennar Partners 1998 19,900,000
047(32) Multifamily New Jersey Credit Suisse First Boston
Mortgage Capital, Inc. 1998 3,336,500
050 Multifamily Illinois J.E. Roberts Companies 1998 47,144,118
051 Multifamily Illinois J.E. Roberts Companies 1998 24,987,898
----------
Multifamily Totals $195,690,527
-----------
007 Single User Minnesota Prudential Insurance, Alpha 1993 $ 5,363,557
(Retail) Petroleum Pension Fund
013(32)(36) Single User California California Federal Bank, FSB 1994 2,929,469
(Commercial)
016 Single User California Mass Mutual/Alpha Petroleum 1995/1996 7,226,604
(Retail) Pension Fund
017(15)(32) Single User West Virginia Triester Investments(10) 1996 1,506,191
(Retail)
018 Single User California Emigrant Savings Bank/Walter 1996 2,933,741
(Retail) R. Samuels and Jay Furman(17)
033 Single User Virginia Brambilla, Ltd. 1997 4,191,328
(Retail)
040 Retail Virginia Lehman Brothers Holdings 1998 45,365,832
----------
Commercial Retail Totals $ 69,516,722
----------
025 Hotel/Commercial Georgia Bankers Trust Co. 1997 $ 6,304,855
030 Hotel Nebraska CNA Insurance 1997 7,940,171
039(25)(27) Hotel Georgia Resource America, Inc. 1997 1,476,527
-----------
Hotel Totals $ 15,721,553
-----------
Balance as of September 30, 1998 $665,796,938
============
[TABLE RESTUBBED FROM ABOVE]
Appraised
Value of
Property
Loan Securing Cost of
Number Loan(2) Investment(3)
- - ------ --------- -------------
037 $ 3,500,000 $ 2,760,380
041 21,000,000 14,724,961
042 5,740,000 4,234,556
043(30) 2,275,000 1,563,215
045(16) 19,500,000 1,300,000
047(32)
3,375,000 2,515,513
050 23,400,000 18,114,910
051 21,000,000 17,320,143
---------- ----------
Multifamily Totals $144,725,000 $92,707,749
----------- ----------
007 $ 2,515,000 $ 1,356,507
013(32)(36) 2,600,000 1,701,049
016 3,000,000 2,157,238
017(15)(32) 1,900,000 895,334
018 4,555,000 2,267,232
033 2,650,000 2,108,028
040 47,000,000 43,156,561
---------- ----------
Commercial Retail Totals $ 64,220,000 $53,641,949
---------- ----------
025 $ 8,500,000 $ 5,945,373
030 5,100,000 3,872,589
039(25)(27) 4,100,000 1,438,146
------------ -----------
Hotel Totals $ 17,700,000 $11,256,108
------------ -----------
$565,470,000 $435,059,729
============ ============
12
(Continued)
Proceeds from Company's Net Maturity of Loan/
Ratio of Cost Refinancing or Interest In Expiration of
Loan of Investment to Sale of Senior Net Book Value Outstanding Loan Forbearance
Number Appraised Value Lien Interests Investment(4) of Investment(5) Receivables(6) Agreement(7)
- - ------ ---------------- -------------- ------------- ---------------- ----------------- -----------------
005 73% $ 940,000(12) $ 306,629 $ 817,001 $ 6,031,095 02/07/01
011 79% 660,000(12) 527,419 748,554 811,017 06/01/00
014 86% 6,487,000 5,508,336 6,888,741 10,432,874 11/30/98(34)
020 73% 2,562,000 796,762 2,243,582 5,150,563 02/07/01
026 50% 2,231,693 253,385 1,312,215 6,687,291 09/30/03
027 57% 17,900,000(9)(21) 1,352,051 13,576,057 39,318,931 01/01/02
029 76% 2,625,000(20) 432,928 1,299,182 5,044,263 07/01/02
035 66% 1,750,000(38) (54,502) 570,282 684,553 09/25/02
036 74% 1,750,000(38) 1,327,343 1,800,246 2,876,269 12/31/11
044 81% 71,500,000(9) 7,692,515 20,040,925 19,342,588(31) 08/01/08
046 71% 0 3,737,114 3,753,934 6,014,713 09/30/14
048 90% 44,000,000 14,657,176 16,378,129 21,740,202 08/01/08
049 89% 60,000,000 28,511,074 35,081,713 38,856,915 10/01/03
---------- ---------- ---------- ----------
Office Totals $212,405,923 $65,048,230 $ 104,510,561 $162,991,274
----------- ---------- ----------- -----------
001 89% $ 2,570,000(8) $ 2,172,767 $ 2,632,828 $ 6,282,591 12/31/02
003 99% 627,000 707,167 735,102 2,235,969 01/01/03
015 75% 2,558,000(8) 234,309 3,564,320 1,303,246 08/25/00
021 59% 2,860,000(12)(38) (361,935) 1,081,033 6,961,038 07/01/16
022 60% 3,125,000(19)(20) (663,886) 981,399 2,144,117 10/31/98(35)
024 84% 2,318,750 421,409 809,139 926,349 11/01/22
028 58% 0 1,028,143 1,724,363 1,724,363 03/31/02
031 64% 1,800,000(38) 2,977,959 3,917,915 8,321,734 09/01/05
032 56% 6,000,000(9) 1,397,888 4,499,371 6,570,245 09/01/05
034 89% 0 401,500 402,414 404,537 10/01/02
13
(Continued)
Proceeds from Company's Net Maturity of Loan/
Ratio of Cost Refinancing or Interest In Expiration of
Loan of Investment to Sale of Senior Net Book Value Outstanding Loan Forbearance
Number Appraised Value Lien Interests Investment(4) of Investment(5) Receivables(6) Agreement(7)
- - ------ ---------------- -------------- ------------- ---------------- ----------------- -----------------
037 79% $ 2,096,000(11)(12) $ 664,380 $ 1,213,994 $ 5,325,526 07/01/00
041 70% 12,000,000(21) 2,724,961 6,600,194 14,825,089 07/01/03
042 74% 3,000,000(20) 1,234,556 1,760,228 2,543,278 12/31/02
043 69% 1,000,000(30) 563,215 879,702 1,049,150 07/01/02
045 7% 0 1,300,000 1,374,064 3,900,000 06/30/08
047 75% 1,800,000(38) 715,513 1,200,136 1,536,500 10/31/08
050 77% 10,000,000(9) 8,114,910 10,579,556 37,144,118 04/30/03
051 82% 0 17,320,143 17,333,232 24,987,898 09/30/02
---------- ---------- ---------- ------------
Multifamily Totals $ 51,754,750 $ 40,952,999 $ 61,288,990 $128,185,748
---------- ---------- ---------- -----------
007 54% $ 2,099,000 $ (742,493) $ 602,472 $ 3,275,960 12/31/14
013 65% 1,975,000(12) (273,951) 338,112 929,469 05/01/01
016 72% 2,375,000(12) (217,762) 538,238 4,826,604 12/31/00
017 47% 1,000,000(38) (104,666) 488,382 512,399 12/31/16
018 50% 1,969,000(12) 298,232 942,374 964,741 12/01/00
033 80% 1,383,705(8) 724,323 670,556 2,778,697 02/01/21
040 92% 35,250,000(8) $ 7,906,561 8,358,238 10,405,563 12/01/02
---------- --------- ---------- ----------
Commercial Retail Totals $ 46,051,705 $ 7,590,244 $ 11,938,372 $ 23,693,433
------------ ------------- ----------- -----------
025 70% $ 0 $ 5,945,373 $ 6,283,987 $ 6,304,855 12/31/15
030 76% 0 3,872,589 4,082,083 7,940,171 09/30/02
039 35% 0 1,438,146 1,452,527 1,476,527 11/01/02
------------ ------------- ----------- -----------
Hotel Totals $ 0 $ 11,256,108 $ 11,818,597 $ 15,721,553
------------ ------------- ----------- -----------
Balance as of September 30, 1998 $310,212,148 $124,847,581 $189,556,520 $330,592,008
============ ============ ============ ============
14
(1) Consists of the original stated or face value of the obligation plus
accrued interest and the amount of the senior secured interest at
September 30, 1998.
(2) The Company generally obtains appraisals on each of its properties at
least once every three years. Accordingly, appraisal dates range from
1995 to 1998.
(3) Consists of the original cost of the investment to the Company (including
acquisition costs and the amount of any senior lien obligation to which
the property remained subject) plus subsequent advances, but excludes the
proceeds to the Company from the sale of senior lien interests or
borrower refinancings.
(4) Represents the unrecovered costs of the Company's investment, calculated
as the cash investment made in acquiring the loan plus subsequent
advances less cash received from sale of a senior lien interest in or
borrower refinancing of the loan. Negative amounts represent the receipt
by the Company of proceeds from the sale of senior lien interests or
borrower refinancings in excess of the Company's investment.
(5) Represents the cost of the investment carried on the books of the Company
after accretion of discount and allocation of gains from the sale of a
senior lien interest in, or borrower refinancing of, the loan but
excludes an allowance for possible losses of $905,000. For a discussion
of accretion on discount and allocation of gains, see "- Commercial
Mortgage Loan Acquisition and Resolution: Accounting for Discounted
Loans."
(6) Consists of the amount set forth in the column "Outstanding Loan
Receivable" less senior lien interests at September 30, 1998 (excluding
one senior lien interest of $2.3 million which is included in the cost of
investment carried on the books of the Company relating to loan 15).
(7) With respect to loans 7, 14, 17, 25, 27, 30, 31, 32, 34, 39,40,42,44, 45,
46, 47,48 and 49, the date given is for the maturity of the Company's
interest in the loan. For loan 43, the date given is the expiration date
of the Forbearance Agreement with respect to the loan in the original
principal amount of $404,026 (see note (29) below). For the remaining
loans, the date given is the expiration date of the related Forbearance
Agreement.
(8) Represents the amount of the senior lien interest in place on the date of
acquisition, except that, with respect to loan 40, it represents the
amount of a refinancing of the loan by the Company contemporaneously with
the Company's investment.
(9) A senior lien interest was sold to RAIT. See "Business - Real Estate
Finance - Sponsorship of Real Estate Investment Trust."
(10) Successor by merger to the seller.
(11) Senior lien interests in sold loans 2, 4 and 10 were transferred to loan
37.
(12) Senior lien interest sold subject to the right of the holder (Citation
Insurance Company, a subsidiary of Physicians Insurance Company of Ohio),
upon default, to require the Company to substitute a performing loan.
(13) Seller was a partnership of these entities.
(14) Original lending institutions. In March 1997, as a result of agreements
among the borrower, the Company and a third party, Concord Investment,
L.P. ("Concord"), the borrower's partnership interests were transferred
to the Company which resold them to Concord for a mortgage note (which
wrapped around certain senior indebtedness) and cash.
(15) The loan acquired consists of a series of notes becoming due yearly
through December 31, 2016.
(16) The Company's interest is subordinate to a $4,000,000 senior lien held by
RAIT and a $12,000,000 senior lien held by an unaffiliated third party.
15
(17) Amounts advanced by the Company were used in part to directly repay the
loan of Emigrant Savings Bank; the balance was applied to purchase a note
held by Messrs. Samuels and Furman.
(18) The loan acquired consists of 31 separate mortgage loans on 49 individual
condominium units in a single building. Nine of such loans are due July
1, 2016, 18 are due January 1, 2015, one is due October 1, 2007, one is
due March 1, 2001 and two are due October 9, 2001. The president of BCMI
and his wife own general and limited partnership interests in the
borrowers of some of these loans. The borrower with respect to other
loans is a trust, the trustee of which is the president of BCMI and the
beneficiary of which is a limited partnership for which a director of the
Company is general partner.
(19) Includes a junior lien interest sold to Crafts House Apartments Partners,
L.P., a limited partnership in which the Chairman and Vice Chairman of
the Company beneficially own a 21.3% interest.
(20) Three senior lien interests sold to Crusader Bank, Philadelphia,
Pennsylvania. At the time of sale the Company paid off the original
senior lien interests pertaining to two of these loans. The Company has
the obligation to repurchase these senior lien interests, at Crusader's
option, on or after March 31, 2003 (loans 22 and 29) and June 25, 2003
(loan 42).
(21) Two senior lien interests were sold to Commerce Bank, N.A. ("Commerce"),
Philadelphia, Pennsylvania. The Company has the obligation to repurchase
the senior lien interest associated with loan 27, at Commerce's option,
on or after March 5, 2003, if the senior lien interest is not repaid in
accordance with its terms by the borrower.
(22) The property securing the loan is owned by two partnerships, the
"Building Partnership" and the "Garage Partnership." Pursuant to a loan
restructuring agreement which pre-dates the Company's interest in the
loan, an affiliate of the holder of the loan is required to hold the
general partnership interests in both the Building Partnership and the
Garage Partnership as additional security for the loan. The partnership
interest in the Building Partnership was assigned to a limited
partnership for which a subsidiary of the Company is general partner and
RPI Partnership, an entity for which the Vice Chairman of the Company is
the general partner and the Chairman and President of the Company are
limited partners, is a limited partner. Similarly, the Garage Partnership
interest was assigned to a limited partnership for which a subsidiary of
the Company is general partner and RPI Partnership is a limited partner.
RPI Partnership has agreed that any economic benefit distributed to it as
a result of its limited partnership interests described above will be
assigned and transferred to the Company.
(23) Original lending institutions. In connection with the transactions
referred to in note (14), Concord acquired other condominium units in the
same building. These units secured a loan in the original principal
amount of $910,000 held by the Company.
(24) From 1993 to October 1997, an officer of the Company served as the
general partner of the seller.
(25) Loan originated by the Company.
(26) The borrower is a limited partnership formed in 1991. The general partner
of the partnership is owned by the president of BCMI; the Chairman of the
Company and his wife beneficially own a 49% limited partnership interest
in the partnership and the Vice Chairman beneficially owns a 1% limited
partnership interest.
(27) Construction loan with a maximum borrowing of $3,625,000.
(28) Original lending institution.
(29) Consists of two related loans to one borrower secured by a single
property in the original principal amounts of $1,600,000 and $404,026,
(30) Senior lien interest sold to Washsquare Properties Partners, L.P., a
limited partnership in which the Chairman and Vice Chairman of the
Company beneficially own a 14.4% limited partnership interest.
16
(31) The Company and RAIT jointly purchased this loan, with RAIT contributing
$10,000,000 of the purchase price. Pursuant to an order of the United
States Bankruptcy Court for the District of Columbia that was in effect
at the time the Company acquired the loan, legal title to the underlying
property had to be transferred on or before June 30, 1998. In order to
comply with that order and to maintain the control of the property that
the Company deemed necessary to protect its loan interest, Evening Star
Associates took legal title on June 19, 1998. A subsidiary of the Company
is the general partner and owns a 1% interest in Evening Star Associates;
the Chairman, Vice Chairman and President of the Company own a 94%
limited partnership interest. The latter have agreed to list their
interests in Evening Star Associates for sale through a qualified real
estate broker until December 31, 1999. Any amounts received by the
limited partners for their interests in excess of their original capital
contributions plus a 6% return will be paid to Evening Star Associates.
If no such sale occurs by December 31, 1999, the limited partners may
retain their interests.
(32) With respect to loans 13, 17 and 26, the president of BCMI is the general
partner of the borrower; with respect to loan 29, he is the general
partner for the sole limited partner of the borrower; and with respect to
loan 11, he is the president of the borrower. With respect to loan 47,
the president of the borrower is an employee of BCMI.
(33) The borrower for this loan is a partnership of which BCMI owns an 11%
interest and RAIT owns a 89% interest.
(34) The Company is negotiating an extension of the forbearance agreement with
the borrower.
(35) The borrower is currently seeking to refinance the Company's loan. The
Company has not initiated any action with respect to the expiration of
the forbearance agreement.
(36) The Chairman of the Company and his wife beneficially own a 40% limited
partnership interest in the borrower.
(37) In connection with the acquisition of this loan, the Company acquired the
right to transfer the equity interest in the borrower. Currently, a
subsidiary of the Company is the general partner of the borrower. Pending
transfer of the limited partnership interests, the Vice Chairman of the
Company holds legal title to these interests.
(38) Senior lien interest sold to Peoples Thrift Savings Bank which has the
right, upon a default by borrower, to require the Company to substitute a
performing loan.
17
The following table sets forth certain information, grouped by the type
of property underlying the loans, with respect to average monthly cash flow from
the properties underlying the Company's commercial mortgage loans, average
monthly debt service payable to senior lienholders and refinance lenders,
average monthly payments with respect to the Company's retained interest and the
ratio of cash flow from the properties to debt service payable on senior lien
interests.
Average Average Monthly Debt Average Monthly
Monthly Cash Service on Refinancing Payment to
Loan Flow from or Senior Lien the Company's Cash Flow
Number Property(1)(2) Interests(3) Interest Coverage
- - ------ --------------- ---------------------- --------------- ---------
005 $ 9,841 $ 6,825 $ 3,016 1.44
011 7,813 5,566 2,247 1.40
014 92,620(4) 58,551 34,069 1.58
020 27,016 19,527 7,489 1.38
026 30,283 21,600 8,683 1.40
027 175,515 161,704 13,811 1.09
029 23,667 22,254 1,413 1.06
035 23,173 14,583 8,590 1.59
036 36,719 14,583 22,136 2.52
044 815,883 456,101 359,782 1.79
046 35,141 0 35,141 N/A
048(9) 425,000 288,314 136,686 1.47
049(9) 620,000(5) 450,000(6) 170,000 1.38
---------- ---------- ----------
Office Totals $2,322,671 $1,519,608 $ 803,063 1.53
---------- ---------- ----------
001 $ 39,197 $ 26,425 $ 12,772 1.48
003 8,052 6,058 1,994 1.33
015 & 028(7) 30,297 26,113 4,184 1.16
021 26,689 22,789 3,900 1.17
022 27,537 26,997 540 1.02
024 25,926 17,962 7,964 1.44
031 72,001 15,000 57,001 4.80
032 90,712 78,805 11,907 1.15
034 5,104 0 5,104 N/A
037 25,000 17,030 7,970 1.47
041 160,346 109,192 51,154 1.50
042 32,166 25,176 6,990 1.47
043 15,851 8,343 7,508 1.90
045 12,998 0 12,998 N/A
047 15,165 15,000(8) 165 1.01
050 92,773(5) 83,333(8) 9,440 1.11
051 67,731(5) 0 67,731 N/A
---------- ---------- ----------
Multifamily Totals $ 747,545 $ 478,223 $ 269,322 1.56
---------- ---------- ----------
007 $ 20,400 $ 20,400 $ 0 1.00
013 23,503 15,833 7,670 1.48
016 23,917 19,500 4,417 1.23
017 10,690 9,087 1,603 1.18
018 25,493(9) 15,998 9,495 1.59
033 21,940 14,985 6,955 1.46
040 375,000 249,497 125,503 1.50
---------- ---------- ----------
Commercial Retail
Totals $ 500,943 $ 345,300 $ 155,643 1.45
---------- ---------- ----------
025 $ 50,205 $ 0 $ 50,205 N/A
030 77,667 0 77,667 N/A
039 12,148(10) 0 12,148 N/A
---------- ---------- ---------- -----
Hotel Totals $ 140,020 $ 0 $ 140,020 N/A
---------- ---------- ----------
Total Properties $3,711,179 $2,343,131 $1,368,048 1.58
========== ========== ==========
18
(1) "Cash Flow" as used in this table is that amount equal to the operating
revenues from property operations less operating expenses, including real
estate and other taxes pertaining to the property and its operations, and
before depreciation, amortization and capital expenditures.
(2) Except as set forth in notes (4) and (5), monthly cash flow from each of
the properties has been calculated as the average monthly amount during
the three month period ended September 30, 1998.
(3) Monthly debt service consists of required payments of principal, interest
and other regularly recurring charges payable to the holder of the
refinancing loan or participation.
(4) Average monthly cash flow from the property represents stabilized rents
for the two months ending December 31, 1998 for leases executed for which
total rental payments commence in November 1998.
(5) Estimate based on an historical analysis of the property's cash flow
prior to the Company's purchase of the loan.
(6) The Company sold a senior lien interest in the loan on September 25,
1998. The debt service is the monthly payment commencing November 1998.
(7) Loans 15 and 28 represent different condominium units in the same
property and are, accordingly, combined for cash flow purposes.
(8) The Company sold a senior lien interest in the loan on September 30,
1998. The debt service is the monthly payment commencing November 1998.
(9) Includes one-twelfth of an annual payment of $118,000 received in
December of each year.
(10) Loan 39 is a construction loan and, as such, loan payments are based upon
outstanding advances.
Commercial Mortgage Loan Acquisition and Resolution:
Accounting for Discounted Loans
The difference between the Company's cost basis in a commercial morgage
loan and the sum of projected cash flows therefrom is accreted into interest
income over the estimated life of the loan using a method which approximates the
level interest method. Projected cash flows, which include amounts realizable
from the underlying properties, are reviewed on a regular basis, as are property
appraisals. Changes to projected cash flows reduce or increase the amounts
accreted into interest income over the remaining life of the loan.
The Company records the investments in its commercial mortgage loan
portfolio at cost, which is significantly discounted from the face value of, and
accrued interest and penalties on, the loans. This discount to face value and
accrued interest and penalties (as adjusted to give effect to refinancings and
sales of senior lien interests) totaled $139.7 million, $86.3 million and $40.0
million at September 30, 1998, 1997 and 1996, respectively. The carrying value
in the various loans is periodically reviewed to determine that it is not
greater than the sum of the projected cash flows and the appraised value of the
underlying properties. If the carrying value were found to be greater, the
Company would provide, through a charge to operations, an appropriate allowance.
In establishing the Company's allowance for possible losses, the Company also
considers the historic performance of the Company's loan portfolio,
characteristics of the loans in the portfolio and the properties underlying
those loans, industry statistics and experience regarding losses in similar
loans, payment history on specific loans as well as general economic conditions
in the United States, in the borrower's geographic area or in the borrower's (or
its tenant's) specific industries.
19
For the year ended September 30, 1998, the Company recorded a provision
for possible losses of $505,000 to reflect the increase in size of its
commercial mortgage loan portfolio, thereby increasing its allowance for
possible losses to $905,000.
Gains on the sale of a senior lien interest in a loan (or gains, if
any, from the refinancing of a loan) are allocated between the portion of the
loan sold or refinanced and the portion retained based upon the fair value of
those respective portions on the date of such sale or refinancing. Any gain
recognized on a sale of a senior lien interest or a refinancing is brought into
income on the date of such sale or refinancing.
Commercial Mortgage Loan Acquisition and Resolution: Competition
The commercial mortgage loan acquisition and resolution business is
competitive in virtually all of its aspects. There are a substantial number of
competitors (including investment partnerships, financial institutions,
investment companies, public and private mortgage funds and other entities),
many of which possess far greater financial resources than the Company. This
competition has in the past caused, and may in the future cause, the Company's
loan acquisition costs to increase, thus reducing both the amount of loan
discount the Company can obtain and the yield of the investment to the Company.
In addition, the Company's ability to add to its loan portfolio will depend on
its success in obtaining funding for the acquisition of additional mortgages.
Subject to general market conditions and investor receptivity to the investment
potential of specialty finance companies in general and real estate and
equipment leasing companies in particular, the Company will have to compete for
capital based largely on the Company's overall financial performance and, more
specifically, the performance of the Company's loan portfolio. See "Management's
Discussion and Analysis of Financial Condition and Results of Operations -
Liquidity and Capital Resources."
Residential Mortgage Loans
During fiscal 1998, the Company's residential mortgage lending business
emphasized providing first and second mortgage loans on one-to-four family
residences to borrowers who typically do not conform to guidelines established
by the Federal Home Loan Mortgage Corporation ("Freddie Mac") because of past
credit impairment or other reasons. The Company originated approximately $74.8
million of such loans in fiscal 1998. Subsequent to the fiscal year end, and as
a result of conditions in the capital markets (which affected the Company's
ability to obtain warehouse lines of credit and to resell residential mortgage
loans it originated), the Company determined to focus more heavily on
establishing private label programs for institutions. Under these programs the
Company operates the residential lending function of an institution for its
account, under its name and funded by the institution. No private label programs
had been established at September 30, 1998. In addition, with respect to loans
originated for its own account for resale, the Company has determined to place
more emphasis on originating conforming loans and has become a Freddie Mac
qualified lender. During fiscal 1998, approximately 7% of the Company's
residential mortgage loans conformed to Freddie Mac guidelines. The Company
currently is licensed as a residential mortgage lender in 25 states and is
originating loans in 18 states.
The Company originates residential mortgage loans with a targeted
average loan size of approximately $50,000. As of September 30, 1998, the
average loan size was approximately $44,000. Depending upon the credit
qualification of a borrower, the Company may originate loans for its portfolio
20
with a loan-to-value ratio of up to 60% (for the least qualified borrowers) to
90% (for the most qualified borrowers). During fiscal 1998, the Company also had
a program for originating "125 loans" (that is, loans with a cumulative
loan-to-value ratio of up to 125%). Approximately 29% of the Company's
residential mortgage loans originated in fiscal 1998 were 125 loans. Subsequent
to fiscal year end, the Company terminated its 125 loan program due to
conditions in the capital markets and the consequent withdrawal of entities to
whom the Company sold its 125 loans. As of September 30, 1998, the Company held
$3.9 million of 125 loans, all of which are held for sale.
During fiscal 1998, the Company utilized two warehouse lines of credit,
which have since expired, to fund its residential lending operations. The
Company is currently in the process of obtaining a new warehouse line of credit;
pending the establishment of a new line of credit, lending operations for the
Company's account are being internally funded. See "Business - Sources of
Funds."
The Company's policy is to sell loans originated for its own account
for cash. During the first quarter of fiscal 1998, however, the Company engaged
in a sale of a pool of loans for a note. The Company's policy is generally to
sell loans on a servicing-released basis; however, with respect to the sale of a
group of originated and acquired loans, the sale was on a servicing-retained
basis. The Company has subcontracted the servicing of these loans to Jefferson
Bank.
As an originator of residential mortgage loans, the Company faces
intense competition, primarily from mortgage banking companies, commercial
banks, credit unions, thrift institutions and finance companies. This
competition is particularly intense in the area of conforming loan originations
and results in loan yields and fees that are less than in the non-conforming
loan market.
Sponsorship of Real Estate Investment Trust
The Company has sponsored RAIT, a publicly-held real estate investment
trust whose common shares of beneficial interest are listed on the American
Stock Exchange. RAIT's primary business is to acquire or originate commercial
mortgage loans in situations that, generally, do not conform to the underwriting
standards of institutional lenders or sources that provide financing through
securitization. Although RAIT may acquire commercial mortgage loans at a
discount, it seeks to acquire such loans where the workout process has been
initiated and where, unlike the commercial mortgage loans acquired by the
Company, there is no need for RAIT's active intervention. RAIT commenced
operations on January 14, 1998.
As the sponsor of RAIT, the Company has acquired 14% of RAIT's common
shares at a cost of approximately $12.0 million. So long as the Company owns 5%
or more of RAIT's common shares, the Company will have the right to nominate one
person to RAIT's board of trustees (the "Board of Trustees"). In connection with
RAIT's initial public offering, the Company sold 10 of its mortgage loans and
senior lien interests in two other loans (representing a net investment by the
Company at December 31, 1997 of $17.1 million, including $2.1 million of senior
lien interests acquired by the Company in connection with the sale) to RAIT, as
part of RAIT's initial investments, for $20.1 million. The Company subsequently
sold the balance of its interest in one of the loans in which RAIT had acquired
a senior lien interest to RAIT at the carrying value of such interest to the
Company. In addition, RAIT separately acquired a $6.0 million participation in
loan 32, a $12.0 million participation in loan 44, a $4.0 million participation
in loan 45 and a $10.0 million participation in loan 50, each of which is senior
21
to the Company's interest. RAIT also purchased an 89% interest in a partnership
that owns the property securing a portion of loan 48. The Company may sell
further loans to RAIT, to a maximum of 30% of RAIT's investments (on a cost
basis), excluding the initial investments. Betsy Z. Cohen, spouse of the
Company's Chairman and Chief Executive Officer, Edward E. Cohen, and mother of
Daniel G. Cohen, President and director of the Company, is the Chairman and
Chief Executive Officer of RAIT. Jonathan Z. Cohen, a son of Mr. and Mrs. Cohen
and a Vice President of the Company, is the Company's nominee to the Board of
Trustees and is the Secretary of RAIT.
To limit conflicts between RAIT and the Company, it has been agreed
that, until January 14, 2000, (i) the Company will not sponsor another real
estate investment trust with investment objectives and policies which are the
same as, or substantially similar to, those of RAIT; (ii) if the Company
originates a proposal to provide wraparound or other junior lien or subordinated
financing (as opposed to acquiring existing financing) with respect to
multifamily, office or other commercial properties to a borrower (other than to
a borrower with an existing loan from the Company), the Company must first offer
the opportunity to RAIT; and (iii) if the Company desires to sell any loan it
has acquired that conforms to RAIT's investment objectives and policies with
respect to acquired loans, it must first offer to sell it to RAIT. The Company
believes that complying with these restrictions has not materially affected the
Company's current operations, nor does it anticipate that it will do so in the
future. The Company has also agreed that if, following January 14, 2000, the
Company sponsors a real estate investment trust with investment objectives
similar to those of RAIT, the Company's representative on the Board of Trustees
(should the Company have a representative on the Board at that time) will recuse
himself or herself from considering or voting upon matters relating to
financings which may be deemed to be within the lending guidelines of both RAIT
and the real estate investment trust then being sponsored by the Company.
Equipment Leasing
General
The Company's equipment leasing business commenced in September 1995
with the acquisition of an equipment leasing subsidiary of a regional insurance
company. Through this acquisition, the Company assumed the management of five
publicly-held equipment leasing partnerships involving $50.1 million (original
equipment cost) in leased assets at September 30, 1998. More importantly,
through this acquisition the Company acquired an infrastructure of operating
systems, computer hardware and proprietary software (generally referred to as a
"platform"), as well as personnel, which the Company utilized in fiscal 1996 as
a basis for the development of an equipment leasing business for its own
account. As part of its development of this business, in early 1996 the Company
hired a team of four experienced leasing executives, including the former chief
executive officer of the U.S. leasing subsidiary of Tokai Bank, a major Japanese
banking institution.
The Company conducts its leasing operations through three corporate
divisions: Fidelity Leasing, Inc. ("FLI"), which conducts the Company's small
ticket leasing operations; F.L. Partnership Management, Inc. ("FLPM"), which
manages five public leasing partnerships; and FL Financial Services, Inc.
("FLFS"), which provides lease finance placement and advisory services. The
Company's primary focus in its equipment leasing operations is on the
development of FLI, which commenced small ticket leasing operations in August
1996. FLPM's operations will continue to be reduced over the next several years
22
as partnership assets are sold and cash is distributed back to the investors.
FLPM does not anticipate forming new limited partnerships in the future. FLFS
will continue to operate its lease finance placement and advisory business
which, while profitable, is not expected to constitute a material source of
revenues for the Company.
Strategy
Focus on Small Ticket Leasing. The Company focuses on leasing equipment
that costs between $5,000 and $100,000 ("small ticket" leasing). By so doing,
the Company takes advantage not only of the background and expertise of its
leasing management team, but also of the servicing platform the Company has
acquired and developed which has the capacity to monitor the large amounts of
equipment and related assets involved in a small ticket leasing operation. In
addition, small ticket items represent a substantial portion of the equipment
sought by small businesses thereby affording the Company a niche market with
significant growth potential (see "Business - Equipment Leasing - Strategy:
Focus on Leasing to Small Businesses"). Moreover, the small size of a typical
transaction relative to the Company's total lease portfolio reduces the
Company's credit risk exposure from any particular transaction.
Focus on Vendor Programs. The significant majority of equipment leased
to end-user customers by the Company will be purchased from manufacturers or
regional distributors with whom the Company is establishing vendor programs. In
so doing, the Company utilizes the manufacturer's or distributor's sales
organization to gain access to the manufacturer's end-user base without
incurring the costs of establishing independent customer relationships. The
Company actively pursues the establishment of multiple vendor programs in an
effort to reduce its reliance on any one vendor and, thus, to reduce the risk of
tying the success of the Company's leasing operations to the continuation of a
relationship with one (or a small group) of vendors. The Company currently has
programs established with 10 manufacturers or distributors of equipment in a
variety of equipment categories, including Lucent Technologies
(telecommunications) and Minolta (office automation). In addition, in fiscal
1998 the Company became the exclusive lessor for Tech Data Corporation, the
world's second largest distributor of information technology equipment. Two of
the Company's vendor programs (for Minolta Corporation and for Lucent
Technologies) accounted for 16% and 10%, respectively, of the equipment (by
cost) leased by the Company during fiscal 1998. In 1998, the Company also
pursued a marketing strategy of providing leasing on a private label basis to
the small business customers of commercial banks. Through September 30, 1998,
program agreements had been signed with three banks, including Huntington Bank,
a $40.0 billion (total assets) bank based in Columbus, Ohio.
Focus on Leasing to Small Businesses. The Company focuses its marketing
programs and resources on lease programs for small business end-users (generally
those with 500 or fewer employees). The Company has acquired and developed
credit evaluation and scoring systems (based upon credit evaluation services
provided by Dun & Bradstreet) which it believes significantly increases its
ability to evaluate the credit risk in dealing with small business end-users
(see "Business - Equipment Leasing Small Ticket Leasing"). The Company also
believes that small business end-users, while sensitive to the size of a monthly
lease payment, are less sensitive than large end-users to the interest rate
structure of a lease, allowing the Company to increase its yield by lengthening
lease terms to lower monthly rent. The Company currently offers lease terms from
one to five years to meet the needs of its end-users and will consider other
lease terms in appropriate circumstances.
23
Focus on Full-Payout Leases. The Company seeks to reduce the financial
risk associated with the lease transactions it originates through the use of
full-payout leases. A "full-payout lease" is a lease under which the
non-cancelable rental payments due during the initial lease term are at least
sufficient to recover the purchase price of the equipment under the lease,
related acquisition fees and, typically, a minimum return on the Company's
invested capital. To the extent possible, the Company seeks to increase this
return through amounts received upon remarketing the equipment or through
continued leasing of the equipment after expiration of the initial lease term.
Focus on Providing Service. The Company provides service and support to
its small business customers and vendors by seeking to minimize the time
required to respond to customer applications for lease financing and by
providing sales training programs to its vendors and their sales staff (which it
customizes to their particular needs) regarding the use of lease financing for
marketing purposes to increase a vendor's equipment sales and market share. The
Company has acquired and developed proprietary management systems to assist it
in providing lease quotes and application decisions to its customers, generally
within four hours after receipt of a request.
Focus on Lease Sales. The Company sells substantially all of its
leases. In fiscal 1997, the Company sold four separate pools of leases and the
equipment underlying the leases (including the residual interest) to special
purpose lease financing entities (each, an "Intermediate Purchaser") which then
sold interests in the leases to an institutional buyer. In the first quarter of
fiscal 1998, the Company entered into an arrangement with an unaffiliated
Intermediate Purchaser and a group of institutional buyers to periodically sell
leases (including lease residuals) to a maximum of $50.0 million of leases. The
Company has utilized $27.7 million of availability under this arrangement
through September 30, 1998. In June 1998, the Company entered into a second
lease sale facility with an affiliated Intermediate Purchaser to a maximum of
$100.0 million. Under this latter facility, the Company retains lease residuals
(that is, the proceeds received from the sale or re-leasing of equipment upon
lease termination or from the extension of the lease term beyond its original
expiration date). The Company has utilized $50.2 million of availability under
this facility through September 30, 1998. See "Business - Sources of Funds -
Forward Lease Sale Facilities." To date, the Company has retained the servicing
rights on the leases it sells. Selling the leases allows the Company to recover
a significant amount of its investment in the leased equipment, freeing capital
for further leasing activity.
Small Ticket Leasing
The Company offers full-payout leases with options, exercisable by the
lessee at the end of the lease term, either to purchase the equipment at fair
market value, to purchase the equipment for a fixed price negotiated at the time
the lease is signed, or to continue as a lessee on a month-to-month basis. The
Company's leases have a provision which requires the lessee to make all lease
payments under all circumstances. The leases are also net leases, requiring the
lessee to pay (in addition to rent) any other expenses associated with the use
of equipment, such as maintenance, casualty and liability insurance, sales or
use taxes and personal property taxes. The Company offers lease terms from one
to five years and will consider other lease terms in appropriate circumstances.
The equipment that the Company presently purchases for lease includes
document processing and storage equipment, telecommunications systems and
computer systems. The table below sets forth the distribution of equipment
purchased by the Company, by principal product type and percentage of dollar
volume of equipment purchased, during the fiscal years 1998, 1997 and 1996.
24
Equipment Volume by Product Type
(% by dollar volume of equipment purchased)
Year Ended
September 30
-------------------------------------
1998 1997 1996
---- ---- ----
Document processing and storage.............. 40% 49% 73%
Telecommunications........................... 32 37 21
Computer systems............................. 15 8 6
Other........................................ 13 6 -
--- --- ---
100% 100% 100%
=== === ===
The Company has developed a credit evaluation system, known as the
"Small Business Credit Scoring System," in order to respond to the inability of
small businesses to supply standardized financial information for credit
analysis (for example, audited financial statements). The system operates by
assigning point amounts, or "scores," to various factors (such as business
longevity, type of business, payment history, bank account balances and credit
ratings) deemed relevant by the Company in determining whether an end-user is a
creditworthy lessee. The scoring system declines approval of end-users with low
scores, approves end-users with high scores and refers mid-range scores to
credit analysts for further consideration and decision. Information is obtained
from the end-user, from reports by standard credit reporting firms and from
reports provided by consumer credit bureaus. The credit scoring system is also
based upon industry data and the past experience of the Company and will be
reviewed and modified as required in response to actual portfolio performance.
Financial statements may be required for larger transactions (in the $30,000 to
$100,000 range) as a complement to the scoring system.
The Company oversees its leasing program through lease administration
and management systems which control invoicing, collection, sales and property
taxes, and financial and other reporting to management (including reports
regarding regular payments, payment shortages, advance payments, security
deposits, insurance payments and late or finance charges). The Company has
supplemented the system with an internal audit department (which evaluates the
safeguarding of assets, reliability of financial information and compliance with
the Company's credit policies) and a collection department.
The Company markets its leasing services primarily through the
establishment of vendor programs. See "Business - Equipment Leasing - Strategy -
Focus on Vendor Programs." As of September 30, 1998, the Company had vendor
program relationships with 10 vendors, including Minolta Corporation and Minolta
Business Systems. In addition, three manufacturers, including Lucent
Technologies, Inc. and Tech Data Corporation, have designated the Company as an
authorized lessor for their dealer distribution channels. Under a typical vendor
program, the Company will work with the vendor and the lessee to structure the
lease, finance the lease, purchase the related equipment and administer the
lease, including providing all billing and collection services (except for
private-label leasing, referred to below). At the end of the initial lease term,
the Company and the vendor will typically coordinate the re-marketing of the
equipment. The Company seeks to establish vendor relationships by (i) obtaining
manufacturers' endorsements of the Company's finance programs, (ii) offering
25
inventory financing credit lines to a manufacturer's vendors, (iii) developing
customized sales training programs to offer to vendors and (iv) assisting the
manufacturers and their vendors in establishing a sales package including the
lease financing provided by the Company.
The Company also competes by establishing private-label leasing
programs with its vendors. Private-label leasing involves the lease by a vendor
of its own equipment on a lease form bearing the vendor's name as lessor (but
otherwise identical to the Company's lease form), the sale of the lease and
equipment to the Company, and the provision of basic administrative services by
the vendor (such as billing and collecting rent). The Company will provide
assistance, particularized rental payment structures and other customized lease
terms, remarketing, customized invoicing and management information reports. The
Company also seeks to develop programs marketing directly to end-user groups,
primarily through small business affinity groups or associations, participations
in trade shows and conventions, and media advertising.
In April 1998, the Company commenced retaining for its own account the
residual interest in leases sold by it and anticipates that it will derive a
significant portion of its leasing profits (if any) from residuals. Currently,
repayment of notes received by the Company from Intermediate Purchasers of the
Company's equipment leases in earlier sales depends, to a significant extent, on
realization of residuals. See "Business - Equipment Leasing - Revenue
Recognition and Lease Accounting." The Company anticipates that residuals will
principally involve the original end-users; however, equipment not sold or
re-leased to end-users will be disposed of in the secondary market. While
residual realization is generally higher with original end-users than in the
secondary market, the secondary market (essentially, networks of distributors
and dealers in various equipment categories) is well developed in the product
categories the Company currently pursues and transactions in these product
categories have historically resulted in residual recoveries, on average, equal
to the book value of the equipment. Equipment reacquired by the Company prior to
lease termination (through lease default or otherwise) will be sold in the
secondary market.
Revenue Recognition and Lease Accounting
General. The manner in which lease finance transactions are
characterized and reported for accounting purposes has a significant impact upon
the Company's reported revenue, net earnings and the resulting financial
measures. Lease accounting methods significant to the Company's leasing
operations are discussed below.
Direct Financing Leases. The Company classifies its lease transactions,
as required by the Statement of Financial Accounting Standards No. 13,
Accounting for Leases ("FASB No. 13"), as direct financing leases (as
distinguished from sales-type or operating leases). Direct financing leases
transfer substantially all benefits and risks of equipment ownership to the
customer. A lease is a direct financing lease if the creditworthiness of the
customer and the collectibility of lease payments are reasonably certain and the
lease meets one of the following criteria: (i) it transfers ownership of the
equipment to the customer by the end of the lease term; (ii) it contains a
bargain purchase option; (iii) the term at inception is at least 75% of the
estimated economic life of the leased equipment; or (iv) the present value of
the minimum lease payments is at least 90% of the fair market value of the
leased equipment at inception of the lease. The Company's net investment in
direct financing leases consists of the sum of the total future minimum lease
payments receivable and the estimated unguaranteed residual value of leased
equipment, less unearned income. Unearned lease income, which is recognized as
26
revenue over the term of the lease by the effective interest method, represents
the excess of the total future minimum lease payments plus the estimated
unguaranteed residual value expected to be realized at the end of the lease term
over the cost of the related equipment. Initial direct costs incurred in
consummating a lease are capitalized as part of the investment in direct finance
leases and amortized over the lease term as a reduction in the yield.
Residual Values. Unguaranteed residual value represents the estimated
amount to be received at lease termination from lease extensions or disposition
of the leased equipment. The estimates are based upon available industry data
and senior management's prior experience with respect to comparable equipment.
Current estimates of residual values will vary from the original recorded
estimates. Residual values are reviewed periodically to determine if the fair
market value of the equipment is below its recorded estimate. If required,
residual values are adjusted downward to reflect adjusted estimates of fair
market value. Generally accepted accounting principles do not permit upward
adjustments to residual values.
Sales of Leases. The Company sells a large percentage of the leases it
originates (until recently including residuals) through indirect securitization
transactions and other structured finance techniques. In a securitization
transaction, the Company sells and transfers a pool of leases to a bankruptcy
remote Intermediate Purchaser. Typically, the Intermediate Purchaser will have
no material assets apart from the leases sold to it. The Intermediate Purchaser
in turn simultaneously sells and transfers its interest in the leases (excluding
the residual value) to a financial institution in return for cash equal to a
percentage of the aggregate present value of the lease receivables being sold.
The consideration paid to the Company for the lease receivables and the
residuals sold to the Intermediate Purchaser consists of the cash advanced by
the financial institution and an interest bearing note from the Intermediate
Purchaser. (Only cash is received on sales that do not include residuals.)
Gains on the sale of leases are recorded at the date of sale in the
amount by which the sales price exceeds the book value of the underlying leases.
Subsequent to a sale which includes residuals, the Company has no remaining
interest in the pool of leases or equipment except (i) a security interest is
retained in the pool when a note is received as part of the sale proceeds and
(ii) under certain circumstances, the Company is obligated to replace or accept
retransfer of non-performing leases in the pool.
The Company maintains an allowance for possible losses in connection
with payments due under lease contracts held in the Company's portfolio and its
retained interest in leases securitized or sold. The allowance is determined by
management's estimate of future uncollectible lease contracts based on the
Company's historical loss experience, an analysis of delinquencies, economic
conditions and trends and management's expectations of future trends, industry
statistics and lease portfolio characteristics and assumptions of future losses.
The Company's policy is to charge off to the allowance those lease contracts
which are delinquent and for which management has made a determination that the
probability of collection is remote. Recoveries on leases previously charged off
are restored to the allowance. For the fiscal year ended September 30, 1998, the
Company recorded a provision for possible losses of $1.4 million or
27
approximately 1% of lease receivables under management. For the year ended
September 30, 1997, it recorded a provision for possible losses of $253,000.
To the extent that the Company determines to retain residuals for its
own account, the Company's gain on sale from any pool of leases so sold may be
materially reduced, although the Company's revenues in subsequent years from
realization of residuals may be increased.
During fiscal 1998, the Company sold leases with a book value of
approximately $78.4 million to an Intermediate Purchaser in return for cash of
$78.0 million, on a servicing retained basis, and notes with a face value of
$8.0 million, resulting in a gain of $7.6 million. During fiscal 1997, the
Company sold leases with a book value of approximately $30.2 million, on a
servicing retained basis, to Intermediate Purchasers in return for cash of $20.6
million and notes with a total face value of $13.3 million, resulting in a gain
of $3.7 million. During fiscal 1998 and 1997, $8.6 million of principal payments
were made on these notes.
The Company accounts for the sale and servicing of lease equipment in
accordance with SFAS No. 125, "Accounting for Transfers and Servicing of
Financial Assets and Extinguishments of Liabilities." See Note 2, Notes to
Consolidated Financial Statements. In calculating the gains on sale to
Intermediate Purchasers, the Company assumed that the cash flows on the
underlying leases sold were discounted at rates ranging from 6.1% to 7.8% per
annum during the fiscal year ended September 30, 1998.
Partnership Management
The Company acts as the general partner and manager of five public
limited partnerships formed between 1986 and 1990 with total assets at September
30, 1998 of $34.4 million, including $21.1 million (book value) of equipment
with an original cost of $50.1 million and investments in direct financing
leases of $8.0 million. The partnerships primarily lease computers and related
peripheral equipment to investment grade, middle market and capital intensive
companies. The principal stated objective of each of the limited partnerships is
to generate leasing revenues for distribution to the investors in the
partnerships. The partnerships commenced their liquidation periods at various
times between December 1995 and December 1998.
For its services as general partner, the Company receives management
fees, an interest in partnership cash distributions and a reimbursement of
specified expenses related to administration of the partnerships (including
costs of non-executive personnel, legal, accounting and third-party contractor
fees and costs, and costs of equipment used in a partnership's behalf).
Management fees range from 4% to 6% of gross rents except that, if leases are
full-payout leases, management fees range from 2% to 3% of gross rents. In four
of the partnerships, management fees are subordinated to the receipt by limited
partners of a cumulative annual cash distribution of 11% (one partnership) or
12% (three partnerships) of the limited partners' aggregate investment. The
Company's interest, as general partner, in cash distributions from the
partnerships is 3.5% (one partnership) and 1% (four partnerships).
28
Lease Finance Placement and Advisory Business
The Company also operates a lease finance placement and advisory
business which focuses on two related types of leasing transactions: the
origination of leases by others and the identification of third-party lease
funding sources. Lease transactions generated by the division are typically
full-payout leases. The Company generally receives between 1% and 4% of the
equipment cost at the time the transaction is closed for its services in
arranging a transaction. In some of the transactions it generates, the Company
also enters into a remarketing agreement that entitles it to fees upon residual
sale. Lease finance placement and advisory services generated revenues of
$789,000, $657,000 and $650,000 during fiscal years 1998, 1997 and 1996,
respectively.
Competition
The Company believes that, although the small ticket leasing business
has experienced substantial consolidation in the past few years, the business of
equipment leasing remains highly competitive. The Company believes, however,
that small ticket leasing, to be viable, requires the financing and monitoring
of large amounts of equipment and related assets. Because of the complexity and
cost of developing and maintaining the platforms and vendor programs to handle
such high volumes, the Company believes that there are substantial barriers to
others entering into this business. Accordingly, the Company believes that its
principal competitors are and will be primarily major financial institutions and
their affiliates.
Recent Developments
On December 15, 1998, the Company entered into an agreement to acquire
JLA Credit Corporation ("JLA"). JLA is the small-ticket United States leasing
subsidiary of Japan Leasing Corporation, headquartered in Tokyo, Japan. Like
FLI, JLA underwrites, finances and services non-cancelable, full-payout
equipment leases. JLA originated leases with an aggregate original equipment
purchase price of $151.0 million and $168.0 million during the year ended
December 31, 1997 and during the eleven months ending November 30, 1998,
respectively. As of October 31, 1998, JLA had a net investment in leases of
$324.4 million and total assets of $367.0 million. JLA's equipment leasing
business focuses on small ticket leasing programs from vendors and manufacturers
primarily in the high technology, machine tool, printing and Japanese business
segments. Lease transactions generally range in equipment size from $25,000 to
$500,000 to small and medium size businesses. Key vendor relationships include
Heidelberg, Scitex and Buycomp.
The Company expects to acquire JLA for a combination of cash, including
financing to be arranged by the Company, and assumption of existing JLA debt.
The Company values the transaction at approximately $350.0 million. Subject to a
financing contingency, the Company anticipates that the transaction will close
in January 1999.
29
Energy Operations
General
The Company produces natural gas and, to a lesser extent, oil from
locations principally in Ohio, Pennsylvania and New York. On September 29, 1998,
the Company acquired Atlas by merger. See "Business - Energy Operations -
Acquisition of Atlas." As a result of that acquisition, at September 30, 1998
the Company had (either directly or through partnerships and joint ventures
managed by it) interests in 2,505 wells (including royalty or overriding
interests with respect to 182 wells), of which the Company operates
approximately 2,200 wells, 1,250 miles of natural gas pipelines and 301,000
acres (net) of mineral rights. Natural gas produced from wells operated by the
Company is collected in gas gathering pipeline systems owned by partnerships
managed by the Company (and in which the Company also has an interest) and by
systems directly owned by the Company, and is sold to customers, such as gas
brokers and local utilities, under a variety of contractual arrangements. Oil
produced from wells operated by the Company is sold at the well site to regional
oil refining companies at the prevailing spot price for Appalachian crude oil.
The Company seeks to increase its reserve base through selective acquisition of
producing properties and assets, through further development of its existing oil
and gas interests and acquisition of energy industry companies. For further
information, see Note 14 to Consolidated Financial Statements.
Acquisition of Atlas
On September 29, 1998, the Company acquired Atlas, a company
principally involved in the energy finance business, by merger with Atlas
America, Inc., a newly-formed, wholly-owned subsidiary of the Company. Atlas
owned interests in, operated or managed more than 1,400 natural gas and oil
wells and 650 miles of gas gathering pipelines, located predominantly in
Pennsylvania and Ohio. Atlas also had undeveloped oil and gas leases covering
more than 155,000 acres and managed more than 25 energy-related partnerships and
joint ventures which it had syndicated through public and private offerings.
Pursuant to the Agreement and Plan of Merger dated July 13, 1998, as
amended, (the "Agreement"), the former shareholders of Atlas received 2,063,496
shares of the Company's Common Stock ("Common Stock"), options to acquire
120,213 shares of Common Stock for nominal consideration and cash of $6.9
million. Atlas shareholders also received certain "piggy-back" registration
rights, effective during the period from September 30, 1999 through September
29, 2000, with respect to the shares of Common Stock received by them. Atlas
shareholders are also eligible to receive incentive compensation should Atlas'
post-acquisition earnings exceed a specified amount during the four years
following the merger. The incentive compensation is equal to 10% of Atlas'
aggregate earnings in excess of that amount equal to an annual (but
uncompounded) return of 15% on $63.0 million. The $63.0 million base amount will
increase by the amounts (if any) the Company pays for any post-merger energy
acquisitions. Incentive compensation is payable, at the Company's option, in
cash or in shares of Common Stock, valued at the average closing price of the
Common Stock for the ten trading days preceding September 30, 2003.
The Agreement requires the Company to indemnify the officers and
directors of Atlas until September 29, 2000 against claims based upon their
service as officers and directors of Atlas (except for claims based upon breach
of the Agreement or upon a failure to disclose information as required by the
Agreement) and against claims alleging wrongdoing by any of them outside the
scope of their employment with Atlas. The Agreement requires the principal Atlas
30
shareholders to indemnify the Company for losses resulting from a breach of any
representation or warranty given by Atlas. The maximum aggregate amount that the
shareholders are required to pay as a result of this indemnification is $10.0
million. The shareholders will have no indemnification obligation until the
aggregate loss (including expenses) exceeds $750,000 and then only to the extent
such loss exceeds $250,000. As security for this indemnification, 698,651 shares
of the Common Stock issued in connection with the merger are being held in
escrow until September 29, 2002.
The merger consideration paid by the Company was based upon the
Company's valuation of Atlas' assets and the price of the Common Stock. There
were no material relationships between the Company, its officers, directors or
affiliates, and Atlas or its officers, directors or affiliates, prior to the
merger. The cash paid in connection with the merger was derived from the
Company's working capital. It is anticipated that any cash required for payment
of incentive compensation will come from the earnings of Atlas from which the
incentive compensation has been derived.
Well Operations
The following table sets forth information as of September 30, 1998
regarding productive oil and gas wells in which the Company has a working
interest, including wells acquired in connection with the acquisition of Atlas:
Number of Productive Wells
--------------------------
(Unaudited)
Gross(1) Net(1)
-------- ------
Oil wells ................... 180 73
Gas wells ................... 2,143 1,015
----- -----
2,323 1,088
===== =====
(1) Includes the Company's equity interest in wells owned by 84
partnerships and joint ventures. Does not include royalty or overriding
interests with respect to 182 wells held by the Company.
31
The following table sets forth net quantities of oil and natural gas
produced, average sales prices, and average production (lifting) costs per
equivalent unit of production, for the periods indicated, including the
Company's equity interests in the production of 51 partnerships and joint
ventures.
Average
Lifting
Production Average Sales Price Cost per
------------------------- ---------------------- Equivalent
Fiscal Period Oil(bbls) Gas(mcf) per bbl per mcf mcf(1)
- - ------------- --------- -------- ------- ------- ------
1998(2) 48,113 1,485,008 $14.38 $2.66 $1.14
1997 35,811 1,227,887 $19.68 $2.59 $1.13
1996 33,862 1,165,477 $18.53 $2.34 $1.04
(1) Oil production is converted to mcf equivalents at the rate of six mcf per
barrel.
(2) Excludes production relating to Atlas, which was not acquired by the Company
until the end of the 1998 fiscal year.
Neither the Company nor the partnerships and joint ventures it manages
are obligated to provide any fixed quantities of oil or gas in the future under
existing contracts.
Exploration and Development
The following table sets forth information with respect to the number
of wells completed in Ohio and New York (the only areas in which Company
drilling activities occurred) at any time during the fiscal years 1998, 1997 and
1996, regardless of when drilling was initiated.
Exploratory Wells Development Wells
--------------------------------------- -------------------------------------
Productive Dry Productive Dry
Fiscal --------------- ---------------- --------------- --------------
Period Gross Net Gross Net Gross Net Gross Net
- - ------ ----- --- ----- --- ----- --- ----- ---
1998(1) 1.0 .25 2.0 .75 3.0 3.0 -- --
1997 1.0 .50 -- -- -- -- -- --
1996 3.0 .52 1.0 .29 2.0 1.50 -- --
- - ----------
(1) Excludes wells drilled by Atlas, which was not acquired by the Company until
the end of the 1998 fiscal year.
All drilling has been on acreage held by the Company. The Company does
not own its own drilling equipment; rather, it acts as a general contractor for
well operations and subcontracts drilling and certain other work to third
parties.
32
Oil and Gas Reserve Information
An evaluation of the Company's estimated proved developed oil and gas
reserves as of September 30, 1998, including those acquired with Atlas, was
reviewed by Wright & Company, Inc., an independent petroleum engineering firm.
Such study showed, subject to the qualifications and reservations therein set
forth, reserves of 90.0 million mcf of gas and 573,000 barrels of oil. See Note
14 to the Consolidated Financial Statements.
The following table sets forth information with respect to the
Company's developed and undeveloped oil and gas acreage as of September 30,
1998, including acreage acquired in connection with the acquisition of Atlas.
The information in this table includes the Company's equity interest in acreage
owned by 84 partnerships and joint ventures.
Developed Acreage Undeveloped Acreage
--------------------- -------------------
Gross Net Gross Net
----- --- ----- ---
Arkansas............................ 2,560 403 - -
Kansas.............................. 160 20 - -
Kentucky............................ 9,838 4,919 9,771 4,885
Louisiana........................... 1,819 206 - -
Mississippi......................... 40 3 - -
New York............................ 23,738 18,816 18,528 15,749
Ohio................................ 122,526 80,227 44,008 42,793
Oklahoma............................ 4,243 635 - -
Pennsylvania........................ 39,786 39,194 59,822 59,822
Tennessee........................... - - 1,804 1,804
Texas............................... 4,520 209 - -
West Virginia....................... 4,692 2,346 58,177 29,038
----- ----- ------ ------
213,922 146,978 192,110 154,091
======= ======= ======= =======
The terms of the oil and gas leases held by the Company for its own
account and by its managed partnerships vary, depending upon the location of the
leased premises and the minimum remaining terms of undeveloped leases, from less
than one year to five years. Rentals of approximately $72,000 in fiscal 1998
were paid to maintain leases on such acreage in force.
The Company believes that the partnership, joint venture and Company
properties have satisfactory title. The developed oil and gas properties are
subject to customary royalty interests generally contracted for in connection
with the acquisition of the properties, burdens incident to operating
agreements, current taxes and easements and restrictions (collectively,
"Burdens"). Presently, the partnerships, joint ventures and the Company are
current with respect to all such Burdens.
At September 30, 1998, the Company had no individual interests in any
oil and gas property that accounted for more than 10% of the Company's proved
developed oil and gas reserves, including the Company's interest in reserves
owned by 84 partnerships and joint ventures.
33
Pipeline Operations
The Company operates, on behalf of four limited partnerships of which
it is both a general and limited partner (in which it owns 22%, 46%, 26% and 50%
interests and including one partnership for which Atlas acts as a general and
limited partner), and for its own account, various gas gathering pipeline
systems (including those owned by Atlas) totaling approximately 1,250 miles in
length. The pipeline systems are located in Ohio, New York and Pennsylvania.
Well Services
The Company provides a variety of well services to wells of which it is
the operator and to wells operated by independent third party operators. These
services include well operations, petroleum engineering, well maintenance and
well workover and are provided at rates in conformity with general industry
standards.
Sources and Availability of Raw Materials
The Company contracts for drilling rigs and purchases tubular goods
necessary for the drilling and completion of wells from a substantial number of
drillers and suppliers, none of which supplies a significant portion of the
Company's annual needs. During fiscal 1998, the Company faced no shortage of
such goods and services. The duration of the current supply and demand situation
cannot be predicted with any degree of certainty due to numerous factors
affecting the oil and gas industry, including selling prices, demand for oil and
gas, and governmental regulations.
Major Customers
The Company's natural gas and oil is sold to various purchasers. During
fiscal 1998, gas sales to two purchasers accounted for 35% and 14%,
respectively, of the Company's total production revenues. For the years ended
September 30, 1997 and 1996, gas sales to two purchasers accounted for 29% and
12%, and 29% and 13%, respectively, of the Company's total production revenues.
Competition
The oil and gas business is intensely competitive in all of its
aspects. The oil and gas industry also competes with other industries in
supplying the energy and fuel requirements of industrial, commercial and
individual customers. Domestic oil and gas sales are also subject to competition
from foreign sources. Moreover, competition is intense for the acquisition of
leases considered favorable for the development of oil and gas in commercial
quantities. The Company's competitors include other independent oil and gas
companies, individual proprietors and partnerships. Many of these entities
possess greater financial resources than the Company. While it is impossible for
the Company to accurately determine its comparative industry position with
respect to its provision of products and services, the Company does not consider
its oil and gas operations to be a significant factor in the industry.
34
Markets
The availability of a ready market for oil and gas produced by the
Company, and the price obtained therefor, will depend upon numerous factors
beyond the Company's control including the extent of domestic production, import
of foreign natural gas and/or oil, political instability in oil and gas
producing countries and regions, market demands, the effect of federal
regulation on the sale of natural gas and/or oil in interstate commerce, other
governmental regulation of the production and transportation of natural gas
and/or oil and the proximity, availability and capacity of pipelines and other
required facilities. Currently, the supply of both crude oil and natural gas is
more than sufficient to meet projected demand in the United States. These
conditions have had, and may continue to have, a negative impact on the Company
through depressed prices for its oil and gas reserves.
Governmental Regulation
The exploration, production and sale of oil and natural gas are subject
to numerous state and federal laws and regulations. Compliance with the laws and
regulations affecting the oil and gas industry generally increases the Company's
costs of doing business in, and the profitability of its energy operations.
Inasmuch as such regulations are frequently changing, the Company is unable to
predict the future cost or impact of complying with such regulations. The
Company is not aware of any pending or threatened matter involving a claim that
it has violated environmental regulations which would have a material effect on
its operations or financial position.
Sources of Funds
The Company historically relied upon internally generated funds to
finance its growth. During the past two fiscal years, the Company has augmented
its internally generated funds with the proceeds of one debt and two equity
offerings (which generated aggregate net proceeds of $249.3 million) and lines
of credit to the Company and its subsidiaries. The following is a summary of the
terms of the Company's debt offering and the lines of credit outstanding as of
December 1, 1998.
12% Senior Notes. The 12% Senior Notes (the "12% Notes") are unsecured
general obligations of the Company, with interest only payable until maturity on
August 1, 2004. The 12% Notes are not subject to mandatory redemption except
upon a change in control of the Company, as defined in the Indenture governing
the 12% Notes, when the Noteholders have the right to require the Company to
redeem the 12% Notes at 101% of principal amount plus accrued interest. No
sinking fund has been established for the 12% Notes. At the Company's option,
the 12% Notes may be redeemed in whole or in part on or after August 1, 2002 at
a price of 106% of principal amount (through July 31, 2003) and 103% of
principal amount (through July 31, 2004), plus accrued interest to the date of
redemption. The Indenture contains covenants that, among other things, (i)
require the Company to maintain certain levels of net worth (generally, an
amount equal to $50.0 million plus a cumulative 25% of the Company's
consolidated net income) and liquid assets (generally, an amount equal to 100%
of required interest payments for the next succeeding interest payment date);
and (ii) limit the ability of the Company and its subsidiaries to (a) incur
indebtedness (not including secured indebtedness used to acquire or refinance
the acquisition of loans, equipment leases or other assets), (b) pay dividends
or make other distributions in excess of 25% of aggregate consolidated net
income (offset by 100% of any deficit) on a cumulative basis, (c) engage in
certain transactions with affiliates, (d) dispose of certain subsidiaries, (e)
create liens and guarantees with respect to pari passu or junior indebtedness
35
and (f) enter into any arrangement that would impose restrictions on the ability
of subsidiaries to make dividend and other payments to the Company. The
Indenture also restricts the Company's ability to merge, consolidate or sell all
or substantially all of its assets and prohibits the Company from incurring
additional indebtedness if the Company's "leverage ratio" exceeds 2.0 to 1.0. As
defined by the Indenture, the leverage ratio is the ratio of all indebtedness
(excluding debt used to acquire assets, obligations of the Company to repurchase
loans or other financial assets sold by the Company, guarantees of either of the
foregoing, non-recourse debt and certain securities issued by securitization
entities, as defined in the Indenture), to the consolidated net worth of the
Company. The Indenture also prohibits the Company from incurring pari passu or
junior indebtedness with a maturity date prior to that of the 12% Notes.
Commercial Mortgage Loan Credit Facility. In March 1998, the Company,
through certain operating subsidiaries, established an $18.0 million revolving
credit facility (with current permitted draws of $5.0 million) with Jefferson
Bank for its commercial mortgage loan operations. The credit facility bears
interest at the prime rate reported in The Wall Street Journal plus .75%, and is
secured by the borrowers' interests in certain commercial loans and by a pledge
of their outstanding capital stock. In addition, repayment of the credit
facility is guaranteed by the Company. Credit availability is based upon the
amount of assets pledged as security for the facility and is subject to approval
by Jefferson Bank of additional collateral. The facility expires on April 1,
1999. There were no borrowings under this facility during fiscal 1998. See
"Certain Relationships and Related Party Transactions."
Lease Financing Credit Facility. The Company's equipment leasing
subsidiary, FLI, maintains a $20.0 million revolving credit facility with term
loan availability with First Union National Bank and European American Bank. The
facility has, in addition to customary covenants, the following principal terms:
(i) no single advance may exceed the lesser of (a) 95% of the cost of the leases
being financed or (b) $500,000 or, in the case of leases to investment grade
lessees, $1,000,000; (ii) revolving credit loans bear interest, at FLI's
election, at (a) an adjusted LIBOR rate plus 150 basis points or (b) the rate
for one month U.S. dollar deposits as reported by Telerate (London) plus 150
basis points, while term loans bear interest at the adjusted LIBOR rate plus 150
basis points; (iii) term loans must be for not less than $2.0 million per loan;
(iv) the loans are secured by a first lien on the equipment leases being
financed (and on the underlying equipment), a guaranty by the Company and a
pledge of the capital stock of FLI and Resource Leasing, Inc. (the direct parent
of FLI and a wholly-owned subsidiary of the Company); (v) revolving credit loans
may be converted to term loans and paid in accordance with applicable
amortization schedules; (vi) adjustable rate term loans may, at the option of
FLI, be converted into fixed rate term loans at then quoted rates; and (vii) FLI
will be required to maintain a debt (excluding non-recourse debt) to tangible
net worth ratio of 5.5 to 1.0 or less, a minimum tangible net worth equal to
$8.0 million plus 75% of FLI's net income, and a ratio of cash flow (income
before taxes, depreciation, amortization and extraordinary items, plus interest
expense) to the sum of interest expense, mandatory principal payments and 25% of
outstanding obligations under the revolving line of credit, of 1.5 to 1.0. The
facility expires on March 31, 2000 but may be renewed for additional 18 month
periods by the lenders. In fiscal 1998, there was an aggregate of $33.8 million
in borrowings under this line, all of which were repaid prior to September 30,
1998.
Forward Lease Sale Facilities. In December 1997, the Company, through
FLI, entered into an arrangement (the "1997 Commitment") with SW Leasing
Portfolio IV, Inc. ("SW"), as the Intermediate Purchaser, and First Union
National Bank ("First Union") and Variable Funding Capital Corporation ("VFCC"
36
and collectively with First Union, the "Purchaser"), as the ultimate investors,
for the sale of equipment leases by FLI. In June 1998, the Company entered into
a similar arrangement (the "1998 Commitment" and together with the 1997
Commitment, the "Commitments") with Fidelity Leasing SPC I, Inc. (a wholly-owned
special purpose lease finance subsidiary of FLI) ("FSP"), as the Intermediate
Purchaser, and the Purchaser. Under the Commitments, (i) SW or FSP will purchase
equipment leases (meeting specific eligibility requirements) and the underlying
equipment from FLI for a purchase price equal to the sum of the present value of
scheduled payments (the "Discounted Contract Balance") as of the date of sale
and, with respect to the 1997 Commitment only, the residual value of the
equipment (the "Residual Value"), (ii) the Purchaser will purchase, for a price
equal to the product of .88 (.90 in the 1998 Commitment) multiplied by the
aggregate Discounted Contract Balances on the date of sale, up to $50.0 million
of equipment leases ($100.0 million of equipment leases for the 1998 Commitment)
from time to time during the one year term of each Commitment, and (iii) FLI
acts as servicing agent for the equipment leases purchased. With respect to
transactions under the 1997 Commitment, SW uses the cash received by it from the
Purchaser to pay a portion of the purchase price of the leases and pays the
balance of the purchase price with a promissory note in an original principal
amount equal to the aggregate Residual Value and the non-advanced portion of the
aggregate Discounted Contract Balances. With respect to transactions under the
1998 Commitment, FSP uses the cash received by it from the Purchaser to pay
portion of the purchase price of the leases; the unpaid balance of the purchase
price constitutes a contribution to FSP's capital by the Company. Lease
collections in excess of fees associated with the leases and a return to the
Purchaser (equivalent to LIBOR, the First Union prime rate or the federal funds
rate plus 1%, depending on the circumstances) may be reinvested in eligible
leases (unless the capital limit the product of the aggregate Discounted
Contract Balances multiplied by .88 or .90, as the case may be, has been
exceeded, in which event the amount of such excess must be paid to the Purchaser
or paid to SW or FSP, as the case may be). Payments made to SW will be available
to pay down the promissory note, while the payments to FSP will be distributed
to FLI. Under the Commitments, FLI is obligated to provide a substitute
equipment lease to the Purchaser in the event a lease is terminated or prepaid
in full prior to its scheduled expiration date and the prepayment amount is less
than the Discounted Contract Balance on the date of prepayment plus any
outstanding services advances. In addition, SW and FSP, as the case may be, and
FLI, in either case, are obligated to accept retransfer of, or provide a
substitute lease for, any lease which does not meet the eligibility
requirements. The Commitments are subject to early termination under certain
circumstances, including (i) if the ratio of the average Discounted Contract
Balances (for each of the previous three months) for all leases delinquent in
payments by 60 days or more to the aggregate Discounted Contract Balances (for
each of the previous three months) for all non-delinquent leases exceeds 3% or
(ii) if the ratio of the aggregate Discounted Contract Balances (for each of the
preceding nine months) for all defaulted leases (i.e., leases which FLI has
determined are not collectible or subject to repossession or which are
delinquent in payments by 120 days or more) to the aggregate Discounted Contract
Balances (for each of the preceding nine months) for all non-defaulted leases
exceeds 2.75%.
In fiscal 1998, the Company sold to SW equipment leases under the 1997
Commitment with an aggregate book value of $31.8 million in return for cash of
$27.7 million and promissory notes for $8.0 million and sold FSP equipment
leases under the 1998 Commitment with an aggregate book value of $46.5 million
in return for cash of $50.2 million, retaining lease residuals with a book value
of $3.9 million.
37
Oil and Gas Credit Facilities. The Company maintains a $5.0 million
credit facility with KeyBank for purposes of acquiring oil and gas assets. The
credit facility permits draws based on a percentage of reserves of oil and gas
properties pledged as security for the facility. Draws under the facility bear
interest at KeyBank's prime rate plus 25 basis points. The facility requires the
Company to maintain a tangible net worth in excess of $31.0 million, a 2.0 to
1.0 ratio of current assets to current liabilities, a 1.5 to 1.0 ratio of cash
flow to maturities of long-term debt coming due within the calculation period
and a ratio of adjusted debt to tangible net worth of not more than 2.0 to 1.0.
The facility terminates on June 30, 1999. As of September 30, 1998, the Company
had $5.0 million outstanding under this line.
Prior to its acquisition by the Company, Atlas maintained a $40.0
million credit facility (with $27.0 million of permitted draws) at PNC Bank
("PNC"). This line has been continued by the Company. The credit facility is
divided into two principal parts: a revolving credit facility and a term loan
facility. The revolving credit facility has $20.0 million of permitted draws,
with a term ending in 2001 and with draws bearing interest at one of two rates
(elected at borrower's option) which increase as the amount outstanding under
the facility increases: (i) PNC prime rate plus between 0 to 50 basis points, or
(ii) LIBOR plus between 137.5 to 212.5 basis points. The term loan facility has
$7.0 million of permitted draws, with a term ending in 2003, and with draws
bearing interest at one of two rates (elected at borrower's option), which
increase as the amount outstanding under the facility increases: (i) PNC prime
rate plus between 12.5 to 62.5 basis points, or (ii) LIBOR plus between 150 to
225 basis points. The credit facility contains certain financial covenants of
Atlas, including maintaining a current ratio of .75 to 1.0, a ratio of fixed
charges to earnings of 2.0 to 1.0 and a leverage ratio (essentially a ratio of
debt to equity) of not less than 3.75 to 1.0, reducing to 3.50 to 1.0 in January
1999, 3.25 to 1.0 in October 1999 and 3.0 to 1.0 in March 2000. The credit
facility also imposes the following limits: (a) Atlas' exploration expense can
be no more than 20% of capital expenditures plus exploration expense, without
PNC's consent; (b) sales, leases or transfers of property by Atlas are limited
to $1.0 million without PNC's consent; and (c) Atlas cannot incur debt in excess
of $2.0 million to lenders other than PNC without PNC's consent. As of September
30, 1998 there was $20.0 million outstanding under the revolving credit facility
and $7.0 million outstanding under the term loan facility.
Other. During fiscal 1998, FMF maintained two credit facilities, both
of which have expired. FMF is currently in the process of obtaining a new credit
facility; however, no such facility has yet been established and there can be no
assurance that FMF will be able to obtain such a facility on acceptable terms.
Employees
As of September 30, 1998, the Company employed 309 persons, including
15 in general corporate, 56 in real estate finance, 96 in equipment leasing and
142 in energy.
Cautionary Statements for Purposes of the Safe Harbor
Statements made by the Company in written or oral form to various
persons, including statements made in filings with the Securities and Exchange
Commission, that are not strictly historical facts are "forward-looking"
statements that are based on current expectations about the Company's business
and assumptions made by management. Such statements should be considered as
subject to risks and uncertainties that exist in the Company's operations and
38
business environment and could render actual outcomes and results materially
different than predicted. The following includes some, but not all, of the
factors or uncertainties that could cause the Company to miss its projections:
o The Company's real estate finance and equipment leasing businesses are
dependent on outside capital in order to sustain current growth.
Historically, funding for the Company's operations has been derived
from a number of different sources, including internally generated
funds, proceeds from the sale of senior lien interests and refinancings
of commercial mortgages, sales of residential loans and equipment
leases, borrowings and the sale of its notes and Common Stock. A
decrease in availability of such outside funds could have a material
adverse effect on the Company's results of operations and financial
condition. See "Management's Discussion and Analysis of Financial
Condition and Results of Operations: Liquidity and Capital Resources."
o Variations in the volume of commercial mortgage loans purchased or
originated by the Company or in the volume of residential mortgage
loans and equipment leases originated by the Company could materially
affect the Company's results of operations and financial condition.
o Unforeseen interest rate increases could reduce the resale value of
leases with fixed interest rates, could increase the Company's costs of
funds (such as the interest rates payable on new senior lien interests
sold by the Company on, or new borrower refinancings of its commercial
loan portfolio), and could reduce demand for the Company's residential
mortgage loans and lease funding. In addition, in residential mortgage
lending and equipment leasing, the return expected, and the rates
charged by the Company, are based on interest rates prevailing in the
market at the time of loan origination or lease approval. Until the
Company's residential loans or equipment leases are sold, they are
funded from credit facilities or working capital. An increase in
interest rates during the period between funding by the Company of the
residential loan or equipment lease and its resale could adversely
affect the Company's operating margin. During a period of declining
rates, the amounts becoming available to the Company for investment may
have to be invested at lower rates that the Company had been able to
obtain in prior investments.
o Declines in real property values generally and/or in those specific
markets where the properties securing the Company's commercial mortgage
and residential loans are located could materially affect the value of
and default rates under those loans and, with respect to residential
mortgage loans, may reduce consumer demand.
o In each of its business operations, the Company is subject to intense
competition from numerous persons, many of whom possess far greater
financial, marketing, operational and other resources than the Company
and may have lower costs of funds than the Company.
o Many of the Company's commercial mortgage loans are secured by
properties that, while income producing, are unable to generate
sufficient revenues to pay the full amount of debt service under the
original loan terms or are subject to other problems. Although prior to
acquisition of a loan the Company will generally negotiate with the
borrower or other parties in interest to resolve outstanding issues,
ensure the Company's control of the cash flow and, where appropriate,
make financial accommodations to take into account the operating
39
conditions of the underlying property, there may be a higher risk of
default with these loans as compared to conventional loans.
o Many of the Company's commercial mortgage loans were acquired as or
became (as a result of borrower refinancing) junior lien obligations.
Subordinate liens carry a greater credit risk, including a
substantially greater risk of non-payment of interest or principal,
than senior lien financing. In the event of foreclosure, the Company
will be entitled to share only in the net proceeds after payment of all
senior lienors. It is therefore possible that the Company will not
recover the full amount of its outstanding loan or of its unrecovered
investment in the loan, either of which events could have a material
adverse effect on the Company's results of operations and financial
condition.
o At September 30, 1998, the Company's allowance for possible losses was
$905,000 (.5% of book value of its commercial mortgage loan portfolio
at that date). There can be no assurance that this allowance will prove
to be sufficient or that future provisions for loan losses will not be
materially greater, either of which could have a material adverse
effect on the Company's results of operations.
o Unforeseen and drastic changes in governmental truth-in-lending, equal
credit opportunity, settlement procedures, mortgage disclosure, debt
collection practices, environmental and similar policies affecting the
Company's business could make compliance more difficult (or impossible)
and expensive.
o In the first quarter of fiscal 1998 the Company sold, on a
servicing-retained basis, a pool of residential mortgage loans that
were both acquired and originated by it to an unaffiliated special
purpose mortgage financing entity for a note with a face value of $8.3
million. The note was partially prepaid during fiscal 1998 through
third-party financing, which financing was unconditionally guaranteed
by the Company. See "Management's Discussion and Analysis of Financial
Condition and Results of Operations -- Results of Operations: Real
Estate Finance." The $1.4 million balance of the note is due on or
before December 31, 2027. The special purpose financing entity has no
material assets other than the loan pool sold to it and approximately
75% of these loans have loan to value ratios in excess of 100%. To the
extent that defaults under the loans in the pool are greater than
anticipated by the Company, or if loan prepayments are substantially in
excess of those anticipated by the Company, the Company may not receive
full payment on the remaining balance of the note. This would result in
a charge to the Company's earnings in the amount of any unrecovered
remaining balance of the note. Moreover, if the number of defaults is
sufficiently large, the Company may be required to repay some portion
or all of the third party financing pursuant to its guaranty. Any such
repayment could have a material adverse effect on the Company's results
of operations and financial condition.
o The Company currently relies in its equipment leasing business upon
relationships it has established with certain manufacturers and
regional distributors in order to gain access to end-users who will
enter into equipment leases. To date, the Company has established
vendor programs with 10 manufacturers or distributors. Two
manufacturers, Minolta Corporation and Lucent Technologies, accounted
for 16% and 10%, respectively, of the equipment (by cost) leased by the
40
Company during fiscal 1998. In the event that these vendors
significantly reduce the number of leases placed with the Company, and
the Company cannot replace the lost lease volume, such reduction could
have a material adverse effect on the Company's financial condition and
results of operations.
o During fiscal 1997 and the first six months of fiscal 1998, the Company
typically sold some portion or all of its interest in originated
equipment leases and the related equipment to Intermediate Purchasers
for cash and promissory notes. At September 30, 1998, the Company held
$14.1 million of such notes. See "Management's Discussion and Analysis
of Financial Condition and Results of Operations." The Intermediate
Purchasers have no material assets other than the leases and equipment
purchased from the Company. If lease defaults are greater than
anticipated by the Company, the ability of an Intermediate Purchaser to
repay its notes to the Company may be adversely affected. The ability
of an Intermediate Purchaser to repay the notes could also be adversely
affected if the realization of residuals is less than anticipated by
the Company. Accordingly, lease defaults that are greater than
anticipated and residual earnings that are less than anticipated could
result in a charge to the Company's earnings in the amount of the notes
not recoverable by the Company. Moreover, if the number of lease
defaults is sufficiently large, the Company may be required, under the
terms of any credit enhancement provided by it, to repay some portion
or all of the financing arranged by the Intermediate Purchaser or to
replace defaulted leases with performing leases. Any such repayment or
replacement could have a material adverse effect on the Company's
results of operations and financial condition.
o Through March 31, 1998, as part of its equipment lease sales the
Company sold its entire interest in the leased equipment, including
residuals, to Intermediate Purchasers in exchange for cash and
promissory notes. At April 1, 1998, the Company commenced retaining
residuals for its own account, which materially reduces the gain on
sale of leases as the recognition of revenues, if any, from residuals
will be recognized over the term of the lease. Realization of residuals
is subject to a number of factors including the ability or willingness
of a lessee to continue to lease or to acquire the equipment, unusual
wear and tear on or use of the equipment, equipment obsolescence,
excessive supply of similar equipment, reductions in manufacturers'
prices for similar equipment and similar matters which could materially
adversely affect the amount of residuals obtainable. To the extent that
the Company retains residuals, a decline in their value could adversely
affect the Company's operating results and financial condition. At
September 30, 1998, the Company held unrealized residuals with a book
value of $6.3 million.
o Under the terms of certain of its lease sales, the Company may be
required to replace a lease if the lessee defaults in its obligations
under the lease. If the Company were required to replace a lease, the
pool of leases otherwise available for sale by the Company would be
reduced. In addition, the Company would have to repossess the leased
equipment in order to attempt to recover the lease balance. There can
be no assurance that the amount realizable from equipment subject to a
defaulted lease will be sufficient to recover amounts invested by the
Company.
41
o Historically, the markets for natural gas and oil have been volatile
and are likely to continue to be volatile in the future. Prices for
natural gas and oil are subject to wide fluctuation in response to
relatively minor changes in the supply of and demand for natural gas
and oil, market uncertainty and other factors over which the Company
has no control. Depending on the purchasers' needs, the price
obtainable for natural gas produced by the Company, or the amount of
natural gas which the Company is able to sell, the revenues of the
Company from its energy operations may be materially adversely
affected.
o The oil and natural gas business involves certain operating hazards
such as well blowouts, craterings, explosions, uncontrollable flows of
oil, natural gas or well fluids, fires, formations with abnormal
pressures, pipeline ruptures or spills, pollution, releases of toxic
gas and other environmental hazards and risks, any of which could
result in substantial losses to the Company. In addition, the Company
may be liable for environmental damage caused by previous owners of
property purchased or leased by the Company. As a result, substantial
liabilities to third parties or governmental entities may be incurred,
the payment of which could materially adversely affect the Company's
results of operations or financial condition. In accordance with
customary industry practices, the Company maintains insurance against
some, but not all, of such risks and losses. The Company may elect to
self-insure if it believes that the cost of insurance, although
available, is excessive relative to the risks presented. The occurrence
of an event that is not covered, or not fully covered, by insurance
could have a material adverse effect on the Company's business,
financial condition and results of operations. In addition, pollution
and environmental risks generally are not fully insurable.
o The Company annually reviews the carrying value of its oil and natural
gas properties under the full cost accounting rules of the Securities
and Exchange Commission (the "Commission"). Under these rules,
capitalized costs of proved oil and natural gas properties may not
exceed the present value of estimated future net revenues from proved
reserves, discounted at 10%. Application of the "ceiling" test
generally requires pricing future revenue at the unescalated prices in
effect as of the end of each fiscal year and requires a write-down for
accounting purposes if the ceiling is exceeded, even if prices were
depressed for only a short period of time. The Company may be required
to write-down the carrying value of its oil and natural gas properties
when oil and natural gas prices are depressed or unusually volatile. If
a write-down is required, it could result in a material charge to
earnings, but would not impact cash flow from operating activities.
Once incurred, a write-down of oil and natural gas properties is not
reversible at a later date.
o The estimates of the Company's proved oil and natural gas reserves and
the estimated future net revenues therefrom referred to immediately
above are based upon reserve reports that rely upon various
assumptions, including assumptions required by the Commission as to oil
and natural gas prices, drilling and operating expenses, capital
expenditures, taxes and availability of funds. Such estimates are
inherently imprecise. Actual future production, oil and natural gas
prices, revenues, taxes, development expenditures, operating expenses
and quantities of recoverable oil and natural gas reserves may vary
substantially from those estimated by the Company or contained in the
reserve reports. Any significant variance in these assumptions could
materially affect the estimated quantity of the Company's reserves. The
Company's properties also may be susceptible to hydrocarbon drainage
from production by other operators on adjacent properties. In addition,
the Company's proved reserves may be subject to downward or upward
42
revision based upon production history, results of future exploration
and development, prevailing oil and natural gas prices, mechanical
difficulties, governmental regulation and other factors, many of which
are beyond the Company's control.
o Unforeseen Year 2000 compliance issues, both within the Company and
among its customers and service providers and in general among the
business and governmental communities, could negatively impact the
Company's business.
ITEM 2. PROPERTIES
The Company's executive office is located in Philadelphia, and is
leased under an agreement providing for rents of $115,000 per year through May
2000. The Company's small ticket equipment leasing and residential mortgage loan
headquarters are located in Ambler, Pennsylvania, and is leased by the Company
under agreements providing for rents of $351,000 per year. The agreements
terminated on June 30, 1998 but have been extended on a month-to-month basis.
The residential mortgage loan business also leases office space in Mt. Laurel,
New Jersey under an agreement providing for rents of $220,000 per year through
October 2002. The Company leases space in Philadelphia for management operations
with respect to its five public leasing partnerships for $87,000 per year. That
lease expires on January 24, 2003. The Company owns a 9,600 square foot office
building and related land in Akron, Ohio and, as a result of the Atlas
acquisition, a 24,000 square foot office building in Pittsburgh, Pennsylvania
which are used for its energy operations. In addition, as a result of the Atlas
acquisition, the Company owns a 17,000 square foot field office and warehouse
facility in Jackson Centre, Pennsylvania. The Company also maintains two energy
field offices in Ohio and New York, on month-to-month tenancies, for which
aggregate rent for fiscal 1998 was $25,000. The Company also maintains a lease
brokerage office in California for which the rent is $24,000 per year through
July 1999. Aggregate rent for all of the Company's offices was $750,000 for
fiscal 1998.
ITEM 3. LEGAL PROCEEDINGS
On October 14, 1998, Theodore M. Birnbaum filed a complaint in the U.S.
District Court for the Eastern District of Pennsylvania (the "Eastern District")
on behalf of himself and all purchasers of the Common Stock between December 17,
1997 and August 28, 1998 against the Company, its directors and executive
officers and the Company's independent auditors. On December 2, 1998, Janet
Leigh and Glenn Hutton filed a similar complaint in the Eastern District,
individually and on behalf of all others similarly situated, against the
Company, the Company's Chief Executive, Financial and Accounting Officers, and
the Company's independent auditors. The complaints allege that the Company (i)
used the "accretion-of-discount" method of recognizing revenue on discounted
loans inappropriately and (ii) applied FASB 125 improperly with respect to the
calculation of the fair value of the Company's retained junior interests in
loans in which the Company had sold a senior lien interest or which the borrower
had refinanced. The complaints further allege that, as a result, the Company's
revenues and net income were inflated. The complaints seek unspecified damages.
The Company believes that the complaints are without merit and intends to defend
itself vigorously.
43
The Company is also party to various routine legal proceedings arising
out of the ordinary course of its business. Management believes that none of
these actions, individually or in the aggregate, will have a material adverse
effect on the financial condition or operations of the Company.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Not applicable.
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
The Company's Common Stock is quoted on the Nasdaq Stock Market under
the symbol "REXI." The following table sets forth the high and low sale prices,
as reported by Nasdaq, on a quarterly basis for the Company's last two full
fiscal years and the 1999 fiscal year through December 9, 1998. All amounts have
been retroactively adjusted to reflect the three-for-one stock split effected in
the form of a 200% stock dividend by the Company on June 5, 1998.
High Low
---- ---
Fiscal 1999
-----------
First Quarter (through December 9, 1998)....... $13.69 $7.56
Fiscal 1998
-----------
Fourth Quarter................................. 37.50 7.75
Third Quarter.................................. 29.25 19.75
Second Quarter ................................ 20.17 14.50
First Quarter.................................. 18.83 14.25
Fiscal 1997
-----------
Fourth Quarter................................. 17.17 8.33
Third Quarter.................................. 8.75 6.33
Second Quarter................................. 8.83 5.92
First Quarter.................................. 6.33 4.08
As of December 9, 1998, there were 21,859,924 shares of Common Stock
outstanding held by 794 holders of record.
The Company paid regular quarterly cash dividends on its Common Stock
(as adjusted for stock dividends) of $.03 per share commencing with the fourth
quarter of fiscal 1995. Under the terms of the 12% Notes, the payment of
dividends on the Company's Common Stock is restricted unless certain financial
tests are met. See "Business - Sources of Funds: 12% Notes."
44
ITEM 6. SELECTED FINANCIAL DATA
Selected financial data as of and for the five fiscal years ended
September 30, 1998 are as follows (all amounts in thousands, except per share
data):
For the Years Ended September 30,
-----------------------------------------------------
1998 1997 1996 1995 1994
---- ---- ---- ---- ----
Revenues
Real estate finance $62,856 $19,144 $ 7,171 $ 6,114 $ 2,522
Equipment leasing 13,561 7,162 4,466 - -
Energy production 4,682 3,936 3,421 3,452 3,442
Energy services 2,052 1,672 1,736 1,879 2,080
Interest and other 4,316 1,031 204 149 136
------- ------- ------- ------- ------
Total revenues $87,467 $32,945 $16,998 $11,594 $8,180
======= ======= ======= ======= ======
Income from continuing operations
before income taxes and extraordinary
item $40,740 $14,931 $7,353 $3,344 $1,209
Provision (benefit) for income taxes 13,368 3,980 2,206 630 (100)
------ ------ ----- ----- -----
Income from continuing operations
before extraordinary item $27,372 $10,951 $5,147 $2,714 $1,309
Extraordinary Item 239 - - - -
------- ------- ------ ------ ------
Net income $27,611 $10,951 $5,147 $2,714 $1,309
======= ======= ====== ====== ======
Net income per common share (basic)
before extraordinary item $1.64 $1.05 $.91 $.48 $.22
Extraordinary item .01 - - - -
----- ----- ---- ---- ----
Net income per common share (basic) $1.65 $1.05 $.91 $.48 $.22
===== ===== ==== ==== ====
Cash dividends per common share $ .13 $ .13 $ .13 $ .03 $ -
===== ===== ===== ===== ====
Balance Sheet Data
Total assets $426,447 $195,119 $43,959 $37,550 $34,796
Long-term debt less current maturities 133,016 118,786 8,966 8,523 8,627
Stockholders' equity 236,478 64,829 31,123 26,551 24,140
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
General
The Company's operating results and financial condition reflect the
growth of the Company's real estate finance and equipment leasing businesses
following substantial increases in working capital due to the sale, in December
1996, of Common Stock (from which it received net proceeds of $19.5 million),
45
the issuance, in July 1997, of $115.0 million of 12% Notes (from which it
received net proceeds of $110.6 million), and the sale, in April 1998, of Common
Stock (from which it received net proceeds of $119.2 million). These
transactions along with the acquisition of Atlas were primarily responsible for
increasing the Company's capital (stockholders' equity plus long-term debt) to
$369.5 million as of September 30, 1998.
Overview of Fiscal 1998
The Company's gross revenues were $87.5 million in fiscal 1998, an
increase of $54.5 million (165%) from $32.9 million in fiscal 1997, as compared
to an increase in fiscal 1997 of $15.9 million (94%) from $17.0 million in
fiscal 1996. Of the increases in total revenue during that period, the revenues
from the Company's real estate finance business increased to $62.9 million, an
increase of $43.7 million (228%) from $19.1 million in fiscal 1997, as compared
to an increase of $12.0 million (167%) in fiscal 1997 from $7.2 million in
fiscal 1996. Leasing revenues were $13.6 million in fiscal 1998, an increase of
$6.4 million (89%) from $7.2 million in fiscal 1997 as compared to an increase
of $2.7 million (60%) from $4.5 million in fiscal 1996, the period in which
leasing operations commenced. In addition, energy revenues were $6.7 million in
fiscal 1998, an increase of $1.1 million (20%) from $5.6 million in fiscal 1997
as compared to $5.2 million (9%) in fiscal 1996. Real estate finance and
equipment leasing revenues were 87%, 80% and 68% of total revenues in fiscal
1998, 1997 and 1996, respectively. Energy revenues were 8%, 17%, and 30% of
total revenues in fiscal 1998, 1997 and 1996, respectively. The Company
anticipates that its energy revenues, as a percentage of total revenues, will
increase in fiscal 1999 as a result of the acquisition of Atlas.
As of September 30, 1998, total assets were $426.4 million an increase
of $231.3 million (119%) from assets of $195.1 million at September 30, 1997, as
compared to an increase of $151.2 million (344%) from assets of $44.0 million at
September 30, 1996. Real estate finance and equipment leasing assets were 56%,
53% and 57% of total assets at September 30, 1998, 1997 and 1996, respectively.
Energy assets were 21%, 8% and 29% of total assets at September 30, 1998, 1997
and 1996, respectively.
46
Results of Operations: Real Estate Finance
The following table sets forth certain information relating to the
revenue recognized and cost and expenses incurred in the Company's real estate
finance operations during the periods indicated:
Year Ended September 30,
----------------------------------
1998 1997 1996
---- ---- ----
(in thousands)
Revenues:
Commercial mortgage loan
acquisition and resolution:
Interest................................ $13,179 $ 4,877 $ 1,899
Accreted discount....................... 6,520 4,124 954
Fees.................................... 5,939 2,556 675
Gains on sales of senior lien
interests and loans................... 30,196 7,587 3,643
------ ------- ------
55,834 19,144 7,171
------ ------- ------
Residential mortgage lending:
Gain on sales of residential
mortgage loans........................ 4,273 -- --
Interest................................ 876 -- --
--
Origination and other income............ 1,873 -- --
------- ------- ------
7,022 -- --
------- ------- ------
$62,856 $19,144 $7,171
======= ======= ======
Costs and expenses:
Commercial mortgage loan acquisition
and resolution........................ $1,801 $ 1,069 $ 852
Residential mortgage lending............ 9,311 -- --
------ ------- ------
$11,112 $ 1,069 $ 852
======= ======= ======
47
Year Ended September 30, 1998 Compared to Year Ended September 30, 1997
Commercial Mortgage Lending. In recent years and especially during
fiscal 1998, the Company's resources have increased considerably, enabling the
Company to acquire loans much larger than those it had previously acquired and
to increase the amount of its average net investment in loans. Prior to fiscal
1998, the Company had focused on acquiring loans with outstanding receivable
balances of between $1.0 million and $15.0 million, with investment costs
(invested funds before proceeds of refinancings or sales of senior lien
interests) typically between $1.0 million and $8.0 million. For loans acquired
through the fiscal year ended September 30, 1997, the average receivable balance
was $6.1 million at September 30, 1998 and the average investment cost was $3.2
million while during the year ended September 30, 1998, the average receivable
balance for loans acquired was $37.2 million and the average investment cost was
$27.8 million. During the year ended September 30, 1998, the Company acquired 12
loans for a cost of $337.1 million, as compared to the purchase of 18 loans for
a cost of $71.7 million in fiscal 1997. The loans acquired in fiscal 1998 had
outstanding receivable balances ranging from $2.0 million to $100.7 million,
with eight of such loans having receivable balances in excess of $19.0 million
(and five of those loans having receivable balances in excess of $45.0 million).
During the year ended September 30, 1997, the receivable balances of loans
acquired ranged from $401,000 to $52.6 million with only one loan having a
receivable balance in excess of $19.0 million (which such loan balance was also
in excess of $45.0 million). The Company anticipates that it will continue to
acquire loans in excess of its previous historical receivable balance and
investment cost ranges, and that such loans may constitute a substantial
percentage of the Company's commercial loan portfolio.
Revenues from commercial mortgage loan acquisition and resolution
operations increased $36.7 million (192%) to $55.8 million in the year ended
September 30, 1998. The increase was attributable to the following:
(i) An increase of $10.7 million (119%) in interest income
(including an increase of $2.4 million of accretion of
discount) resulting from an increase of $100.4 million in the
book value of loans outstanding during that period to $189.6
million as compared to $89.2 million for the same period in
the prior fiscal year.
(ii) An increase of $22.6 million (298%) in gains from
refinancings, sales of senior lien interests and sales of
loans. This increase was primarily the result of an increase
in the number of loans sold or loans in which senior lien
interests were sold (from eight loans totaling $16.5 million
in the year ended September 30, 1997 to 39 loans totaling
$279.4 million in the year ended September 30, 1998). These
sales included, during the second quarter of fiscal 1998, a
sale to RAIT of 10 mortgage loans and senior lien interests in
two other loans, resulting in proceeds of $20.1 million and a
gain of $3.1 million. In addition, during fiscal 1998, the
Company sold senior lien interests in three other loans to
RAIT, resulting in proceeds of $18.0 million and a gain of
$5.1 million.
(iii) An increase of $3.4 million (132%) in fee income to $5.9
million in the year ended September 30, 1998 from $2.6 million
in the year ended September 30, 1997. Fees received in the
year ended September 30, 1998 consisted of the following:
$830,000 for financial advisory and consultation services
related to the organization and capitalization of RAIT; $4.1
48
million for services to borrowers whose loans the Company
later acquired (of these fees, $840,000 was paid by a
partnership whose partners are RAIT and BCMI); and a one-time
fee of $850,000 for services rendered to an existing borrower
in connection with the operation, leasing and supervision of
the collateral securing the Company's loan.
Gains on sale of loans and senior lien interests in loans (if any) and
the amount of fees (if any) received vary from transaction to transaction and
there may be significant variations in the Company's gain on sale and fee income
from period to period.
As a consequence of the foregoing, the Company's yield (gross
commercial mortgage loan acquisition and resolution revenues, including gains
resulting from refinancings, sales of loans and sales of senior lien interests
in loans, divided by the book value of average loan balances) increased to 40%
in the year ended September 30, 1998 as compared to 35% in the year ended
September 30, 1997.
Costs and expenses of the Company's commercial mortgage loan
acquisition and resolution operations increased $732,000 (68%) to $1.8 million
in the year ended September 30, 1998. The increase was primarily a result of
hiring additional personnel, increased compensation to existing employees and
legal costs associated with the expansion of this operation.
As a result of the foregoing, the Company's gross profit from
commercial mortgage loan acquisition and resolution operations increased to
$54.0 million in the year ended September 30, 1998, as compared to $18.1 million
in the same period in the prior year.
Residential Mortgage Lending. During the year ended September 30, 1998,
the Company originated 1,771 residential mortgage loans aggregating $74.8
million. The Company may opportunistically purchase residential mortgage loans
although its focus is on residential mortgage loan originations. During fiscal
1998, the Company had a program for originating 125 loans which was terminated
at the end of the fiscal year. See "Business - Residential Mortgage Loans." At
September 30, 1998, the Company held $3.9 million of 125 loans, all of which
were held for sale.
The Company sold residential mortgage loans with a book value of $71.2
million during the year ended September 30, 1998, resulting in gains of $4.3
million. These sales included, in the first quarter of fiscal 1998, the sale of
certain originated and acquired residential mortgage loans for a note in the
principal amount of $8.3 million of which $6.8 million had been paid through
September 30, 1998. The $6.8 million payment was funded by a loan to the
purchaser from an unaffiliated bank and was guaranteed by the Company and
secured by the residential mortgage loans sold to the purchaser. The Company has
taken such guaranty into consideration in establishing its allowance for
possible losses. The Company also realized $876,000 of interest income from
loans originated and $1.9 million in fees from its origination activities.
Costs and expenses associated with residential mortgage lending
operations were $9.3 million for the year ended September 30, 1998, reflecting
commencement of operations on October 1, 1997 and the increase in loan
originations. In addition, the Company incurred $723,000 of depreciation and
amortization, $248,000 of interest expense and, in connection with a note
received in a loan sale, established a $286,000 allowance for possible loan
losses.
As a result of the foregoing, the Company's residential mortgage
lending business incurred a loss from operations of $3.5 million for the year
ended September 30, 1998.
49
Year Ended September 30, 1997 Compared to Year Ended September 30, 1996
During fiscal 1997, the Company purchased or originated 18 commercial
real estate loans, for a total cost of $71.7 million, as compared to the
purchase of nine commercial real estate loans for a total cost of $15.1 million
in fiscal 1996. The average net investment in the 18 loans was $4.0 million
(with individual investments ranging from a high of $19.2 million to a low of
$400,000) during fiscal 1997, as compared to an average net investment of $1.7
million in nine loans (with individual investments ranging from a high of $3.8
million to a low of $100,000) during fiscal 1996. In addition, the Company
increased its investment in certain existing loans by an aggregate of $1.9
million in fiscal 1997, and an aggregate of $2.6 million in fiscal 1996, for
purposes of paying for property improvement costs, unpaid taxes and similar
items relating to properties underlying the loans. The increased investments had
been anticipated by the Company at the time the loans were acquired and were
included in its analysis of loan costs and yields.
Revenues from commercial mortgage loan acquisition and resolution
operations increased to $19.1 million in fiscal 1997 from $7.2 million in fiscal
1996, an increase of 167%. The increase in fiscal 1997 was attributable to (i)
an increase of $6.1 million (215%) in interest income (including accretion of
discount) resulting from an increase in the average amount of loans outstanding
during fiscal 1997 as compared to fiscal 1996; (ii) gains recognized on the
refinancing of loans and sale of senior lien interests in loans held by the
Company which increased to $7.6 million in fiscal 1997 from $3.6 million in
fiscal 1996, an increase of $4.0 million (108%); and (iii) an increase in fee
income to $2.6 million in fiscal 1997 from $675,000 in fiscal 1996, an increase
of $1.9 million (279%), as a result of an increase in the number of transactions
in which fee income was earned. The Company sold senior lien interests in or
refinanced nine loans during fiscal 1997 and eight loans during fiscal 1996,
realizing proceeds of $16.5 million and $18.0 million, respectively.
Costs and expenses of the Company's real estate finance operations
increased 25% in fiscal 1997 compared to fiscal 1996. The increase was primarily
a result of higher personnel costs associated with the expansion of the
Company's commercial mortgage lending operations.
As a consequence of the foregoing, the Company's gross profit from
commercial mortgage loan acquisition and resolution operations increased to
$16.5 million in fiscal 1997 from $6.3 million in fiscal 1996 (163%).
50
Results of Operations: Equipment Leasing
The following table sets forth certain information relating to the
revenue recognized costs and expenses incurred in the Company's equipment
leasing operations during the periods indicated:
Year Ended September 30,
-------------------------------
1998 1997 1996
---- ---- ----
(in thousands)
Revenues:
Small ticket leasing -
Gains on sale of leases................ $7,598 $3,711 $ --
Interest and fees...................... 3,481 1,081 7
Partnership management.................... 1,693 1,713 3,809
Lease finance placement and
advisory services....................... 789 657 650
------ ------ ------
$13,561 $7,162 $4,466
======= ====== ======
Year Ended September 30,
--------------------------------
1998 1997 1996
---- ---- ----
(in thousands)
Costs and expenses:
Small ticket leasing...................... $3,337 $2,051 $ 425
Partnership management.................... 1,264 1,243 1,471
Lease finance placement and
advisory services....................... 662 528 443
------ ------ ------
$5,263 $3,822 $2,339
====== ====== ======
Year Ended September 30, 1998 Compared to Year Ended September 30, 1997
The Company experienced continued growth in its leasing business during
fiscal 1998, originating 8,793 leases having a cost of $92.6 million, as
compared to 3,177 leases having a cost of $34.6 million during the prior year.
During that period, the Company sold leases with a book value of approximately
$78.4 million to an Intermediate Purchaser in return for cash of $78.0 million
and notes with a face value of $8.0 million, resulting in gains on sale of $7.6
million, as compared to fiscal 1997, in which the Company sold leases with a
book value of $30.2 million to an Intermediate Purchaser in return for cash of
$20.6 million and a note with a face value of $13.3 million, resulting in gains
on sale of $3.7 million. Payment on the notes is subject to the level of lease
delinquencies and realization of residuals on the sold leases. Revenues from
equipment leasing were $13.6 million in fiscal 1998, an increase of $6.4 million
(89%) from $7.2 million in fiscal 1997. The increase in revenues for year ended
September 30, 1998 as compared to the prior year was attributable to (i) an
increase in the gain on sales of leases of $3.9 million (105%) resulting from
the increased number of leases originated and sold by the Company and (ii) an
increase in interest and fee income of $2.4 million (222%) resulting from the
increased volume of lease originations.
51
Equipment leasing costs and expenses increased $1.4 million (38%) to
$5.3 million in the year ended September 30, 1998, as compared to the prior
year. The increase was primarily a result of higher operating costs associated
with the increase in lease originations.
During the quarter ended June 30, 1998, the Company began to retain for
its own account the residual values of leases sold. Prior to this quarter the
Company had sold its residual interests, primarily for promissory notes
(aggregating $14.1 million at September 30, 1998) from Intermediate Purchasers.
The Company anticipates that it will continue to retain residual interests for
its own account; however, there is no established Company policy as to the
retention or sale of residuals and, accordingly, the Company may determine to
sell residuals in the future. The effect of retaining residuals is to reduce
revenues recognized from the sale of leases at the time of sale while increasing
revenues anticipated to be derived in the future from the realization of
residuals. At September 30, 1998, unrealized residuals were $6.3 million.
Year Ended September 30, 1997 Compared to Year Ended September 30, 1996
In fiscal 1997, the Company received 8,344 lease proposals involving
equipment with an aggregate cost of $113.4 million, approved 5,054 of such
proposals involving equipment with an aggregate cost of $67.2 million, and
entered into 3,214 transactions and acquired equipment for lease with a cost of
$34.6 million. During fiscal 1997, the Company sold leases with a book value of
approximately $30.2 million to Intermediate Purchasers in return for cash of
$20.6 million and notes with an aggregate face value of $13.3 million, resulting
in gains on sale of $3.7 million. During fiscal 1997, the Company collected $8.5
million in principal payments on the notes.
Small ticket leasing expenses increased as a result of the start-up of
small ticket leasing activities in June 1996. Partnership management expenses
decreased as a result of the liquidation of one partnership. Lease placement and
advisory expenses increased as a result of an increase in commissions paid.
The decrease in partnership management revenue in fiscal 1997 as
compared to the prior year period was the result of the liquidation, in
accordance with the terms of its partnership agreement, of one leasing
partnership in the first quarter of fiscal 1996. Partnership management revenue
in fiscal 1996 includes the settlement of the Company's general partner share of
revenues from prior fiscal periods.
52
Results of Operations: Energy
Years Ended September 30, 1998 Compared to Year Ended September 30, 1997
Oil and gas production revenues increased 19% from fiscal 1997 to
fiscal 1998. A comparison of the Company's revenues, daily production volumes,
and average sales prices follows:
Year Ended September 30,
-----------------------
1998 1997
---- ----
Revenues (in thousands)
Gas(1) ....................................................... $3,944 $3,178
Oil .......................................................... 692 705
Production volumes
Gas (thousands of cubic feet ("mcf")/day)(1).................. 4,069 3,364
Oil (barrels ("bbls")/day).................................... 132 98
Average sales price
Gas (per mcf)................................................. $ 2.66 $ 2.59
Oil (per bbl)................................................. $14.38 $19.68
(1) Excludes sales of residual gas and sales to landowners.
Natural gas revenues increased $766,000 (24%) in fiscal 1998, compared
to the same period of the prior fiscal year, due to a 21% increase in production
volumes. Oil revenues decreased $13,000 (2%) for fiscal 1998 as compared to
fiscal 1997, due to a 27% decrease in the average sales price of oil in fiscal
1998. The decrease was significantly offset by a 35% increase in production
volumes as compared to fiscal 1997. Both gas and oil volumes were favorably
impacted by two acquisitions of interests in an aggregate of 431 wells located
in Ohio and New York, one in the third quarter of fiscal 1997 and the other in
the first quarter of fiscal 1998.
A comparison of the Company's production costs as a percentage of oil
and gas sales, and the production cost per equivalent unit for oil and gas, for
the fiscal years 1998 and 1997 is as follows:
Year Ended September 30,
------------------------
1998 1997
---- ----
Production Costs
As a percent of sales.......................................... 43% 42%
Gas (mcf)...................................................... $1.14 $1.13
Oil (bbl)...................................................... $6.84 $6.80
Production costs increased $386,000 (24%) to $2.0 million in the year
ended September 30, 1998, as compared to the same period in the prior year as a
result of the acquisition of the interests in producing properties referred to
above and well workovers.
53
Amortization of oil and gas property costs as a percentage of oil and
gas revenues was 17% in the year ended September 30, 1998 compared to 18% in the
year ended September 30, 1997. The variance from period to period was directly
attributable to changes in the Company's oil and gas reserve quantities, product
prices and fluctuations in the depletable cost basis of oil and gas properties.
The Company anticipates that revenues and expenses from its energy
operations will materially increase in 1999 and subsequent years as a result of
its acquisition of Atlas.
Year Ended September 30, 1997 Compared to Year Ended September 30, 1996
Oil and gas revenues from production sales increased 16% in fiscal 1997
as compared to fiscal 1996.
A comparison of the Company's revenues, daily production volumes, and
average sales prices for the periods indicated is as follows:
Year Ended September 30,
-----------------------
1997 1996
---- ----
Revenues (in thousands)
Gas(1)................................ $ 3,178 $2,722
Oil.................................... 705 627
Production volumes
Gas (mcf/day)(1)....................... 3,364 3,184
Oil (bbls/day)......................... 98 93
Average sales prices
Gas (per mcf).......................... $ 2.59 $ 2.34
Oil (per bbl).......................... $19.68 $18.53
(1) Excludes sales of residual gas and sales to landowners.
Natural gas revenues from production sales increased 17% in fiscal 1997
from fiscal 1996 due to a 6% increase in production volumes and an 11% increase
in the average price per mcf of natural gas. In fiscal 1996, natural gas
revenues decreased 1% from fiscal 1995 as a result of a 3% decrease in
production volumes partially offset by a 1% increase in the average price per
mcf of natural gas. Oil revenues increased by 12% in fiscal 1997 from fiscal
1996 due to a 6% increase in the average price per barrel and a 5% increase in
production volumes. Primarily as a result of these changes, the Company's
operating profit from energy production (energy production revenues less energy
production and exploration costs) increased to $2.1 million in fiscal 1997 from
$1.8 million in fiscal 1996.
The Company continued to experience normally declining production from
its properties located in New York state. This decline was offset by the
acquisition of additional well interests in Ohio in June 1997. The Company
participated in the drilling of three successful exploratory wells and two
successful developmental wells during fiscal 1996. The impact on revenues from
these wells was realized in the Company's financial statements commencing with
fiscal 1997. In fiscal 1995, the Company participated in the drilling of three
54
successful exploratory wells and recompleted one successful development well.
The impact on revenues from these wells was realized in the Company's financial
statements commencing with fiscal 1996.
A comparison of the Company's production costs as a percentage of oil
and gas sales, and the production cost per equivalent unit for oil and gas for
the fiscal years 1997 and 1996, is as follows:
Year Ended September 30,
------------------------
1997 1996
---- ----
Production Costs
- - ----------------
As a percent of sales......... 42% 42%
Gas (mcf)..................... $1.13 $1.04
Oil (bbl)..................... $6.80 $6.23
Production costs increased $215,000 (15%) in fiscal 1997 from fiscal
1996 as a result of an increase in the number of wells requiring cleanout and
workover operations. These operations are conducted on an as-needed basis and,
accordingly, costs incurred by the Company may vary from year to year.
Production costs also increased in fiscal 1997 as the result of the acquisition
of interests in 288 wells in Ohio.
Exploration costs increased $26,000 (16%) in fiscal 1997 as compared to
fiscal 1996. The fiscal 1997 increase was the result of an increase in delay
rentals paid on lease acreage held by the Company. During fiscal 1997, the
Company participated in one successful exploratory well and had lease value
impairments totaling $6,000. During fiscal 1996 the Company participated in one
exploratory dry hole and had lease impairments totaling $50,000.
Amortization of oil and gas property costs as a percentage of oil and
gas revenues was 18% in fiscal 1997, and 23% in fiscal 1996. The variance from
year to year was directly attributable to changes in the Company's oil and gas
reserve quantities, product prices and fluctuations in the depletable cost basis
of oil and gas properties. See Note 2 to the Consolidated Financial Statements.
55
Results of Operations: Other Revenues, Costs and Expenses
Year Ended September 30, 1998 Compared to Year Ended September 30, 1997
Interest and other income increased $3.3 million (319%) to $4.3 million
in the year ended September 30, 1998, as compared to the year ended September
30, 1997, as a result of: (i) the substantial increases in the Company's
uncommitted cash balances and the temporary investment of such balances during
the year; (ii) the reimbursement to the Company, in the third quarter of fiscal
1998, of payroll and administrative costs in the amount of $513,000 for services
provided to a partnership in connection with the partnership's investment in an
unrelated business (in which the Company's president is the president of the
general partner); and (iii) the recognition of dividend income of $801,300 from
RAIT in fiscal 1998, following its formation in January 1998.
General and administrative expenses increased $1.5 million (53%) to
$4.4 million in the year ended September 30, 1998, as compared to $2.9 million
the year ended September 30, 1997, primarily as a result of the hiring of
additional corporate staff and increases in the compensation of senior officers,
together with an increase in occupancy costs as the Company leased additional
office space to accommodate its increased staff.
Interest expense increased $12.2 million (231%) to $17.5 million in the
year ended September 30, 1998 as compared to $5.3 million in the year ended
September 30, 1997 primarily reflecting an increase in borrowings as a result of
the July 1997 issuance of the 12% Notes which were utilized to fund the growth
of the Company's real estate finance and equipment leasing operations.
Provision for possible losses increased $1.6 million (239%) to $2.2
million in the year ended September 30, 1998 as compared to $653,000 in the year
ended September 30, 1997. The increase was primarily the result of increases in
the provisions for possible losses relating to equipment leasing (to $1.4
million) and for possible losses relating to real estate finance (to $791,000).
The increased provisions reflect the increases in both lease originations and
investments in real estate loans. In establishing the Company's allowance for
possible losses in connection with its real estate finance and equipment leasing
operations, the Company considers among other things, the historic performance
of the Company's loan or lease portfolios, industry standards and experience
regarding losses in similar loans or leases and payment history on specific
loans and leases, as well as general economic conditions in the United States,
in the borrower's or lessee's geographic area and in its specific industry.
The effective tax rate increased to 33% in the year ended September 30,
1998 from 27% in the year ended September 30, 1997. The fiscal 1998 increase
resulted from: (i) an increase in the statutory tax rate due to an increase in
the Company's pre-tax earnings; (ii) a decrease in the generation of depletion
for tax purposes; (iii) a decrease in low income housing tax credits; (iv) a
decrease in tax exempt interest in relationship to pre-tax income; and (v) an
increase in state income taxes. The increase in effective tax rate resulted in
an increased provision for taxes of $2.5 million for 1998 over the tax that
would have been payable had the 1997 tax rate been in effect.
56
Year Ended September 30, 1997 Compared to Year Ended September 30, 1996
General and administrative expense increased by $1.1 million (62%) for
fiscal 1997 as compared to fiscal 1996 primarily as a result of costs associated
with the Company's residential mortgage loan business, higher legal and
professional fees and the payment of incentive and retirement compensation to
executive officers.
Interest expense increased to $5.3 million in fiscal 1997 from $872,000
in fiscal 1996, an increase of $4.4 million (505%), reflecting increased
borrowing to fund the growth of the Company's real estate finance and small
ticket leasing operations. In July 1997, the Company issued $115.0 million of
the 12% Notes and, in December 1996, the Company incurred purchase money
financing of $13.4 million to fund the acquisition of a series of mortgage loans
on a property located in Philadelphia, Pennsylvania. The purchase money
financing was repaid in July 1997. Interest expense decreased $219,000 during
fiscal 1996 as a result of a decrease in average debt outstanding during the
period due to loan repayments.
The effective tax rate decreased to 27% in fiscal 1997 from 30% in
fiscal 1996. The fiscal 1997 decrease resulted from the purchase of commercial
mortgage loans which generate tax exempt interest as well as the investment in
several low-income housing partnerships and the low income housing tax credits
associated with such investments.
Liquidity and Capital Resources
Year Ended September 30, 1998 Compared to Year Ended September 30, 1997
During the past three fiscal years, the Company has derived its capital
resources from three main sources: public and private offerings of debt and
equity securities, lines of credit and purchase facilities extended by banks and
other institutional lenders with respect to equipment leaseing, residential
mortgage and energy operations, and sales of senior lien interests in or
borrower refinancings of commercial mortgage loans held in the Company's
portfolio. The Company has employed its available capital resources primarily in
the expansion of its real estate finance and small ticket leasing businesses,
and expects that it will continue to do so for the foreseeable future. However,
through its acquisition of Atlas, the Company has significantly expanded its oil
and gas operations and, as a result, may direct capital resources to oil and gas
operations as other opportunities arise or as the Company's oil and gas business
develops.
The Company believes that its future growth and earnings will be
materially dependent upon its ability to continue to generate capital resources
from prior sources or to identify new sources. As a result of recent events in
the capital markets (including significant drops in the price of equity
securities generally and the Common Stock in particular, as well as a loss of
liquidity in credit markets), the Company anticipates that generating additional
capital resources on terms similar to those available to it during the last
three fiscal years may be restricted. Accordingly, the Company's
57
ability to generate continued growth in its real estate finance and equipment
leasing operations may be restricted, which could adversely affect the Company's
earnings potential.
Sources and (uses) of cash for the years ended September 30, 1998 and
1997 were as follows:
Year Ended September 30,
-----------------------
1998 1997
---- ----
(in thousands)
(Used in) provided by operations................ $(8,343) $7,023
(Used in) investing activities.................. (94,363) (66,071)
Provided by financing activities................ 111,507 124,173
------- --------
$ 8,801 $ 65,125
======= ========
The Company had $78.1 million in cash and cash equivalents on hand at
September 30, 1998, as compared to $69.3 million at September 30, 1997. The
Company's ratio of current assets to current liabilities was 1.73 to 1.0 at
September 30, 1998 and 6.7 to 1.0 at September 30, 1997. Working capital at
September 30, 1998 was $38.2 million as compared to $61.4 million at September
30, 1997. The Company's ratio of earnings to fixed charges was 3.3 to 1.0 in the
year ended September 30, 1998 as compared to 3.9 to 1.0 in the year ended
September 30, 1997.
Cash provided by operating activities in fiscal 1998 decreased $15.4
million as compared to fiscal 1997, primarily as a result of the following:
increases in net income and other non-cash adjustments of $16.7 million and $3.4
million, respectively; increases in gains on asset dispositions, accretion of
discount and collection of interest income of $30.7 million, $2.4 million and
$2.3 million respectively; increases in operating assets of $698,000; and
decreases in operating liabilities of $4.0 million.
The Company's cash used in investing activities increased $28.3 million
in the year ended September 30, 1998 as compared to the year ended September 30,
1997. This increase resulted primarily from an increase in the amount of cash
used to fund increased real estate finance and small ticket leasing activities.
In commercial mortgage loan acquisition and resolution, the Company invested
$337.1 million and $71.7 million in the acquisition or origination of 12 loans
and 18 loans in the years ended September 30, 1998 and 1997, respectively. In
addition, the Company advanced funds on existing commercial loans of $6.2
million and $1.9 million in the same respective periods. Cash proceeds received
upon refinancings or sales of senior lien interests and loans amounted to $274.4
million and $16.5 million in the years ended September 30, 1998 and 1997,
respectively. These proceeds reflect the sale of loans and senior lien interests
in or refinancing of 30 and nine loans, respectively. In small ticket leasing,
the Company invested $92.6 million and $34.6 million in the origination of 8,793
and 3,177 leases in the years ended September 30, 1998 and 1997, respectively.
Cash proceeds received upon sales of leases amounted to $78.1 million and $20.6
million in the years ended September 30, 1998 and 1997, respectively. The
Company invested $77.5 million in 1,808 residential mortgage loans during the
year ended September 30, 1998, and, during that period, received cash proceeds
from the sale of loans of $67.7 million.
58
The Company's cash flow provided by financing activities decreased
$12.7 million during the year ended September 30, 1998 as compared to the year
ended September 30, 1997 since, during fiscal 1997, the Company completed both
an equity and a debt offering, while in fiscal 1998 the Company completed an
equity offering only.
Year Ended September 30, 1997 Compared to Year Ended September 30, 1996
The Company raised net proceeds of $19.5 million from a Common Stock
offering and $110.6 million from an offering of the 12% Notes during fiscal
1997. These activities, coupled with the Company's increased profitability,
resulted in the Company having $69.3 million in cash and cash equivalents on
hand at September 30, 1997, as compared to $4.2 million at September 30, 1996.
The Company's ratio of current assets to current liabilities was 6.7 to 1.0 at
September 30, 1997 and 3.7 to 1.0 at September 30, 1996. The Company's ratio of
earnings to fixed charges was 3.8 to 1.0 at September 30, 1997 and 9.4 to 1.0 at
September 30, 1996. Working capital at September 30, 1997 was $61.4 million as
compared to $4.4 million at September 30, 1996, as the Company had not fully
deployed the proceeds from the 12% Notes offering.
Cash provided by operating activities increased $342,000, or 5%, during
fiscal 1997, as compared to fiscal 1996. The fiscal 1997 increase was primarily
the result of an increase in operating income in the commercial mortgage loan
acquisition and resolution and equipment leasing businesses.
The Company's cash used in investing activities increased $61.3 million
in fiscal 1997 as compared to fiscal 1996. The increase resulted primarily from
increases in the amount of cash used to fund commercial mortgage loan
acquisition and resolution activities. The Company invested $71.7 million and
$15.1 million in the acquisition of 18 and nine loans in fiscal years 1997 and
1996, respectively. In addition, the Company advanced funds on existing loans of
$1.9 million and $2.6 million in fiscal years 1997 and 1996, respectively.
Proceeds received from the sale of senior lien interests or borrower
refinancings amounted to $16.5 million and $18.0 million in fiscal years 1997
and 1996, respectively. Cash used for capital expenditures increased $694,000,
or 63%, during fiscal year 1997 over fiscal 1996. The 1997 increase includes
$507,000 in capital expenditures relating to the Company's residential mortgage
loan business. During fiscal 1997, the Company invested $1.2 million in 288
wells, operating rights and pipelines located in Ohio. The cost of equipment
acquired for lease was $34.6 million in fiscal 1997 as compared to $731,000 in
fiscal 1996, an increase of $33.9 million, as a result of the full year's
activity for the small ticket leasing business in fiscal 1997 as compared to two
months' activity in fiscal 1996.
The Company's cash flow provided by financing activities increased
$124.4 million during fiscal 1997, as compared to fiscal 1996 as a result of the
additional borrowings discussed above.
Dividends
In the years ended September 30, 1998, 1997 and 1996, $2.3 million,
$1.4 million and $757,000 were paid in dividends, respectively. The Company has
paid regular dividends since August 1995. In June 1998, the Company effected a
three-for-one stock split in the form of a 200% stock dividend.
59
The determination of the amount of future cash dividends, if any, to be
declared and paid is in the sole discretion of the Company's Board of Directors
and will depend on the various factors affecting the Company's financial
condition and other matters the Board of Directors deems relevant, including
restrictions which may be imposed pursuant to the indenture under which the 12%
Notes were issued.
Inflation and Changes in Prices
Inflation affects the Company's operating expenses and increases in
those expenses may not be recoverable by increases in finance rates chargeable
by the Company. Inflation also affects interests rates and movements in rates
may adversely affect the Company's profitability.
The Company's revenues and the value of its oil and gas properties have
been and will continue to be affected by changes in oil and gas prices. Oil and
gas prices are subject to fluctuations which the Company is unable to control or
accurately predict.
Computer Systems and Year 2000 Issue
The "Year 2000 issue" is the result of computer programs being written
using two digits, rather than four digits, to identify the year in a date field.
Any computer programs using such a system, and which have date sensitive
software, will not be able to distinguish between the year 2000 and the year
1900. This could result in miscalculations or an inability to process
transactions, send invoices or engage in similar normal business activities,
which could cause a disruption of business operations. As is the case with most
other businesses, the Company is in the process of evaluating and addressing
Year 2000 compliance of both its information technology and non-information
technology systems (collectively, the "Systems").
60
Based upon a recent assessment by the Company, the Company has in place
Year 2000 capable Systems for its commercial mortgage loan, equipment leasing
and residential mortgage loan operations. The Company believes that the Systems
for its energy operations (excluding those of Atlas) have completed
approximately 85% of the necessary remediation processes and that remediation
(including testing) will be completed by March 1999. The Company believes that
its embedded systems (such as natural gas monitoring systems and telephones)
are Year 2000 compliant or, if not, are either not date dependent or
would not materially affect the Company's operations. With respect to Atlas'
Systems, the Company's post-acquisition assessment has indicated that Atlas is
currently in the stage of implementing required remediation, which will include
the purchase of a new central processing system. The Company believes that the
necessary system is readily available in the retail market. The Company is also
considering, however, merging Atlas' systems with the Company's energy systems
thereby largely eliminating remediation requirements. The Company anticipates
that, whichever alternative is selected, Atlas' systems will be Year 2000
compliant by September 30, 1999.
As of September 30, 1998, the Company's costs in remediation of its
Systems has not been material. The Company anticipates that its remaining
remediation costs (including costs relating to Atlas' systems) will not exceed
$100,000.
The Company has initiated communications with all of its significant
business partners through a Vendor Readiness Survey to determine their Year 2000
compliance. Responses are evaluated as they are received to determine if
additional action is required to ensure compliance of the business partner. As
of September 30, 1998, all of the Company's principal business partners have
advised the Company that they are Year 2000 compliant or have initiated programs
that will render them Year 2000 compliant in a timely fashion.
As a result of its internal assessment and survey of its business
partners, the Company currently does not believe that Year 2000 matters will
have a material impact on its business, financial condition or results of
operations. To the extent that any of its business partners are materially
affected by Year 2000 problems, the Company intends to seek alternative firms
providing the same services that are Year 2000 compliant. In view of the
responses from its current business partners, the Company will identify
alternative firms on an as-needed basis. There can be no assurance, however,
that the Company would be able to make appropriate arrangements should the need
arise and, accordingly, it is uncertain whether or to what extent the Company
may be affected if problems with its business partners arise.
The Company is aware of the potential for claims against it and other
companies for damages for products and services that were not Year 2000
compliant. Since the Company is neither a hardware manufacturer nor a software
developer, the Company believes that it does not have significant exposure to
liability for such claims.
61
Environmental Regulation
A continued trend to greater environmental and safety awareness and
increasing environmental regulation has resulted in higher operating costs for
the oil and gas industry and the Company. The Company monitors environmental and
safety laws and believes it is in compliance with such laws and applicable
regulations thereunder. To date, compliance with environmental laws and
regulations has not had a material impact on the Company's capital expenditures,
earnings or competitive position. The Company believes, however, that
environmental and safety costs will increase in the future. There can be no
assurance that compliance with such laws will not, in the future, materially
impact the Company.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The following table sets forth certain information regarding 40 of the
41 loans held in the Company's portfolio as of September 30, 1998. The
presentation, for each category of information, aggregates the loans by their
maturity dates for maturities occurring in each of the fiscal years 1999 through
2003 and separately aggregates the information for all maturities arising after
the 2003 fiscal year. The Company does not believe that these loans are
sensitive to changes in interest rates since (i) the loans are subject to
forbearance or other agreements that require all of the operating cash flow from
the properties underlying the loans, after debt service on senior lien
interests, to be paid to the Company and thus are not currently being paid based
on the stated interest rates of the loans; (ii) all senior lien interests are at
fixed rates and are thus not subject to interest rate fluctuation that would
affect payments to the Company; and (iii) each loan has significant accrued and
unpaid interest and other charges outstanding to which cash flow from the
underlying property would be applied even if cash flow were to exceed the
interest rate, as originally underwritten.
Portfolio Loans, Aggregated by Maturity Dates,(1)
For the Year Ending September 30,
--------------------------------------------------------------------------------------------
1999 2000 2001 2002 2003 Thereafter
---- ---- ---- ---- ---- ----------
Outstanding loan
receivable
balances (to the
Company's interest) $12,576,991 $7,439,789 $17,902,472 $80,749,326 $82,004,963 $ 91,061,549
Carried cost of
loans (fixed rate) $6,888,741 $4,778,314 4,541,195 $38,165,719 $33,098,200 $59,146,355
Average stated
interest rate
(fixed rate) 12.00% 11.28% 9.53% 8.58% 9.13% 12.80%
Carried cost of
loans (variable
rate) $981,399 $748,554 $338,112 $1,299,182 $735,102 $3,753,934
Average stated
interest rate
(variable rate) 7.21% 12.00% 7.61% 12.65% 9.00% 7.93%
Average interest
payment rate (2) (2) (2) (2) (2) (2)
Principal balance
of related senior
lien interests(3) $9,661,135 $3,860,797 $9,596,217 $23,326,710 $63,310,030 $146,452,834
Average interest
rate of senior
lien interests
(fixed rate) 8.44% 9.53% 9.41% 9.75% 8.67% 7.59%
62
(1) Maturity dates of related Forbearance Agreement or Company's interest in the
loan.
(2) Pay rates are equal to the net cash flow from the underlying properties
after payments on senior lien interests. See "Business - Commercial Mortgage
Loan Acquisition and Resolution; Loan Status."
(3) Maturity dates for senior lien interests are as follows:
Maturity Date of Maturity Dates of
Company's Loans Senior Lien Interests Outstanding Balance
(Fiscal Year Ended (Fiscal Year Ended of Senior Lien Interests
September 30) September 30) at September 30, 1998
------------ ------------- ---------------------
1999 2002 $ 875,000
2003 2,237,980
2010 6,548,155
2000 2000 685,000
2002 2,096,000
2005 1,079,797
2001 2000 2,000,000
2001 5,209,000
2007 2,387,217
2002 2003 22,145,435
2005 1,181,275
2003 2003 25,564,065
2004 1,000,000
2006 2,212,903
2008 34,960,269
2021 2,570,000
Thereafter 2001 2,010,000
2003 5,393,792
2004 1,800,000
2008 127,786,532
2010 5,962,202
2011 1,412,631
2014 2,087,597
63
The following table sets forth information concerning one of the 41
loans held in the Company's portfolio that the Company believes may be deemed to
be interest rate sensitive. The loan matures October 1, 2003.
Outstanding receivable balance (to the
Company's interest) $38,856,915
Carried cost of loan $35,081,713
Stated interest rate Federal funds rate plus
87.5 basis points plus 200
basis points default
interest
Interest payment rate Net cash flow from property
underlying loan
Principal balance of related senior
lien interest $60,000,000
Stated interest rate (senior lien LIBOR plus 250 basis
interest) points; 8.875% maximum
rate
Current interest payment rate (senior
lien interest) 7.88%
Maturity date (senior lien interest) 10/01/01
64
The following table sets forth certain information regarding the
Company's interest-bearing assets and debt as of September 30, 1998. For further
information regarding the Company's 12% Notes and credit facilities, see Item 1
"Business-Sources of Funds."
Maturity Date
For the Year Ending September 30,
--------------------------------------------------------------------------------------------
1999 2000 2001 2002 2003 Thereafter
---- ---- ---- ---- ---- ----------
INTEREST-BEARING
ASSETS
Fixed rate -- -- -- -- $2,088,373 $13,499,007
Average interest
rate -- -- -- -- 9.00% 8.84%
Variable rate -- -- -- -- $155,283 $5,734,717
Average interest
rate -- -- -- -- 13.53% 13.53%
DEBT
Fixed rate $115,318 $126,884 $139,611 $153,618 $159,700 $105,995,087
Average interest
rate 9.30% 9.30% 9.30% 9.30% 9.28% 11.96%
Variable rate $7,149,107 $1,690,942 $1,695,751 $1,679,668 $21,593,109 --
Average interest
rate 8.65% 9.24% 9.24% 9.24% 8.56% --
65
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
Report of Independent Certified Public Accountants
Stockholders and Board of Directors
RESOURCE AMERICA, INC.
We have audited the accompanying consolidated balance sheets of
Resource America, Inc. and subsidiaries as of September 30, 1998 and 1997, and
the related consolidated statements of income, changes in stockholders' equity,
and cash flows for each of the three years in the period ended September 30,
1998. 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 financial statements referred to above present
fairly, in all material respects, the consolidated financial position of
Resource America, Inc. and subsidiaries as of September 30, 1998 and 1997, and
the consolidated results of their operations and cash flows for each of the
three years in the period ended September 30, 1998, in conformity with generally
accepted accounting principles.
We have also audited Schedule IV as of September 30, 1998. In our
opinion, this schedule presents fairly, in all material respects, the
information required to be set forth therein.
Grant Thornton LLP
Cleveland, Ohio
December 7, 1998, except for the last paragraph of Note 11 for which the date
is December 15, 1998
66
RESOURCE AMERICA, INC.
CONSOLIDATED BALANCE SHEETS
SEPTEMBER 30, 1998 AND 1997
1998 1997
---- ----
(in thousands)
ASSETS
Current Assets
Cash and cash equivalents $ 78,080 $ 69,279
Accounts and notes receivable 9,461 2,414
Prepaid expenses and other current assets 3,109 576
---------- -----------
Total Current Assets 90,650 72,269
Investments in Real Estate Loans (less allowance for
possible losses of $1,191 and $400) 202,050 88,816
Investments in Leases and Notes Receivable (less allowance for
possible losses of $1,602 and $248) 24,977 8,152
Investment in Resource Asset Investment Trust 11,912 -
Property and Equipment
Oil and gas properties and equipment 44,516 24,939
(successful efforts)
Gas gathering and transmission facilities 6,751 1,606
Other 9,133 2,874
----------- ----------
60,400 29,419
Less - accumulated depreciation, depletion
and amortization (16,915) (15,793)
----------- -----------
Net Property and Equipment 43,485 13,626
Other Assets
(less accumulated amortization of $3,112 and $1,014) 53,373 12,256
---------- ----------
$426,447 $195,119
========== ==========
LIABILITIES AND STOCKHOLDERS' EQUITY
Current Liabilities
Borrowings under credit facilities $ 5,166 $ -
Account payable - trade 12,864 1,339
Accrued liabilities 18,648 1,967
Accrued interest 2,226 2,734
Estimated income taxes 6,242 4,093
Current portion of long-term debt 7,264 708
---------- ----------
Total Current Liabilities 52,410 10,841
Long-Term Debt 133,016 118,786
Deferred Income Taxes 1,764 -
Other Long-Term Liabilities 2,779 663
Commitments and Contingencies - -
Stockholders' Equity
Preferred stock, $1.00 par value: 1,000,000 authorized shares - -
Common stock, $.01 par value: 49,000,000 authorized shares 230 54
Net unrealized loss on investment (43) -
Additional paid-in capital 208,588 56,787
Less treasury stock, at cost (17,890) (13,664)
Less loan receivable for Employee Stock Option Plan ("ESOP") (1,591) (353)
Retained earnings 47,184 22,005
---------- ----------
Total Stockholders' Equity 236,478 64,829
---------- ----------
$426,447 $195,119
========== ==========
See accompanying notes to Consolidated Financial Statements
67
RESOURCE AMERICA, INC.
CONSOLIDATED STATEMENTS OF INCOME
YEARS ENDED SEPTEMBER 30, 1998, 1997 AND 1996
1998 1997 1996
---- ---- ----
(in thousands, except per share data)
REVENUES
Real Estate Finance........................................ $62,856 $19,144 $ 7,171
Equipment Leasing.......................................... 13,561 7,162 4,466
Energy: Production........................................ 4,682 3,936 3,421
Services.......................................... 2,052 1,672 1,736
Interest and Other......................................... 4,316 1,031 204
-------- --------- ---------
87,467 32,945 16,998
COSTS AND EXPENSES
Real Estate Finance........................................ 11,112 1,069 852
Equipment Leasing.......................................... 5,263 3,822 2,339
Energy: Exploration and Production........................ 2,525 1,823 1,582
Services.......................................... 1,136 909 869
General and Administrative................................. 4,373 2,851 1,756
Depreciation, Depletion and Amortization................... 2,641 1,614 1,368
Interest .................................................. 17,464 5,273 872
Provision for Possible Losses.............................. 2,213 653 7
------- -------- ---------
46,727 18,014 9,645
------ -------- ---------
Income Before Income Taxes and Extraordinary Item.......... 40,740 14,931 7,353
Provision for Income Taxes................................. 13,368 3,980 2,206
------- -------- ---------
Income Before Extraordinary Item........................... 27,372 10,951 5,147
Extraordinary Item - gain on early
extinguishment of debt, net of taxes of $112............ 239 - -
------- -------- ---------
NET INCOME................................................. $27,611 $10,951 $ 5,147
======= ======== =======
Net Income Per Common Share - Basic; Before
Extraordinary Item....................................... $ 1.64 $ 1.05 $ .91
Extraordinary Item......................................... .01 - -
------- -------- -------
Net Income Per Common Share - Basic........................ $ 1.65 $ 1.05 $ .91
======= ======== =======
Weighted Average Common Shares Outstanding................. 16,703 10,434 5,670
======= ======== =======
Net Income Per Common Share - Diluted Before
Extraordinary item....................................... $ 1.59 $ .84 $ .62
Extraordinary Item......................................... .01 - -
------- -------- -------
Net Income Per Common Share - Diluted...................... $ 1.60 $ .84 $ .62
======= ======== =======
Weighted Average Common Shares............................. 17,268 13,074 8,271
======= ======== =======
See accompanying notes to Consolidated Financial Statements
68
RESOURCE AMERICA, INC.
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
YEARS ENDED SEPTEMBER 30, 1998, 1997 AND 1996
(in thousands, except share data)
Common Stock Additional Treasury Stock ESOP
--------------- Net Unrealized Loss Paid-In ------------------ Loan
Shares Amount on Investment Capital Shares Amount Receivable
------ ------ ---------------------- ---------- ------ ------ ----------
Balance, September 30, 1995 817,912 $8 - $19,214 (152,700) $(2,721) $(482)
Treasury shares issued (24) 1,889 39
6% stock dividends 82,688 1 2,453
5-for-2 stock split effected
in the form of a 150%
stock dividend 1,136,609 11
Issuance of common stock 10,000 77
Treasury shares acquired (1,637) (17)
Cash dividends
($.13 per share)
Warrants issued 41
Repayment of ESOP loan 65
Net income
- - ------------------------------------------------------------------------------------------------------------------------------------
Balance, September 30, 1996 2,047,209 $20 - $21,761 (152,448) $(2,699) $(417)
Treasury shares issued (34) 23,023 483
Issuance of common stock 3,363,436 34 35,060
Treasury shares acquired (579,623) (11,448)
Cash dividends
($.13 per share)
Repayment of ESOP loan 64
Net income
- - ------------------------------------------------------------------------------------------------------------------------------------
Balance, September 30, 1997 5,410,645 $54 - $56,787 (709,048) $(13,664) $(353)
Treasury shares issued 129 9,897 209
Issuance of common stock 4,105,541 41 151,267
Treasury shares acquired (410,000) (4,435)
Net Unrealized loss on investment (43)
3-for-1 stock split effected
in the form of a 200%
stock dividend 13,452,922 135
Loan to ESOP (1,302)
Tax benefit of stock option
plan 405
Cash dividends
($.13 per share)
Repayment of ESOP loan 64
Net income
- - ------------------------------------------------------------------------------------------------------------------------------------
Balance, September 30, 1998 22,969,108 $230 $(43) $208,588 (1,109,151) $(17,890) $(1,591)
========== ==== ===== ======== =========== ========= ========
[RESTUBBED FROM TABLE ABOVE]
Total
Retained Stockholders'
Earnings Equity
-------- -------------
Balance, September 30, 1995 $10,532 $26,551
Treasury shares issued 15
6% stock dividends (2,453) 1
5-for-2 stock split effected
in the form of a 150%
stock dividend (11) -
Issuance of common stock 77
Treasury shares acquired (17)
Cash dividends
($.13 per share) (757) (757)
Warrants issued 41
Repayment of ESOP loan 65
Net income 5,147 5,147
- - --------------------------------------------------------------
Balance, September 30, 1996 $12,458 $31,123
Treasury shares issued 449
Issuance of common stock 35,094
Treasury shares acquired (11,448)
Cash dividends
($.13 per share) (1,404) (1,404)
Repayment of ESOP loan 64
Net income 10,951 10,951
- - --------------------------------------------------------------
Balance, September 30, 1997 $22,005 $64,829
Treasury shares issued 338
Issuance of common stock 151,308
Treasury shares acquired (4,435)
Net Unrealized loss on investment (43)
3-for-1 stock split effected
in the form of a 200%
stock dividend (135) -
Loan to ESOP (1,302)
Tax benefit of stock option
plan 405
Cash dividends
($.13 per share) (2,297) (2,297)
Repayment of ESOP loan 64
Net income 27,611 27,611
- - --------------------------------------------------------------
Balance, September 30, 1998 $47,184 $236,478
======= ========
See accompanying notes to Consolidated Financial Statements
69
RESOURCE AMERICA, INC.
CONSOLIDATED STATEMENTS OF CASH FLOWS
YEARS ENDED SEPTEMBER 30, 1998, 1997 AND 1996
1998 1997 1996
---- ---- ----
(in thousands)
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income........................................... $ 27,611 $ 10,951 $ 5,147
Adjustments to reconcile net income to net cash
provided by (used in) operating activities:
Depreciation and amortization..................... 2,641 1,614 1,368
Amortization of discount on senior note and
deferred finance costs.......................... 1,045 657 75
Provision for losses.............................. 2,213 653 7
Deferred income taxes............................. (1,736) (2,206) 1,059
Accretion of discount............................. (6,520) (4,124) (954)
Collection of interest............................ 5,229 2,932 3,722
Extraordinary gain on debt extinguishment......... (239) - -
Gain on asset dispositions ....................... (42,082) (11,375) (3,650)
Property impairments and abandonments............. 260 38 71
Change in operating assets and liabilities:
Increase in accounts receivable................... (118) (935) (175)
Increase in prepaid expenses
and other current assets........................ (1,618) (103) (310)
Increase (decrease) in accounts payable.......... 1,740 754 (137)
Increase in accrued income taxes................. 2,311 3,716 377
Increase in other liabilities..................... 920 4,451 81
--------- -------- --------
Net cash (used in) provided by operating activities.. (8,343) 7,023 6,681
CASH FLOWS FROM INVESTING ACTIVITIES:
Net cash acquired (paid) in business acquisitions.... 9,061 (1,226) -
Cost of equipment acquired for lease................. (92,648) (34,567) (731)
Capital expenditures................................. (4,127) (1,791) (1,097)
Principal payments on notes receivable............... 84,782 9,031 9,377
Proceeds from sale of assets......................... 335,963 34,264 5,478
Increase in other assets............................. (12,196) (3,319) (152)
Investments in real estate loans..................... (420,920) (69,857) (17,650)
Increase in other long-term liabilities.............. 2,026 - -
Payments received (revenue recognized) in excess of
revenue recognized (cash received) on leases....... 3,696 1,394 (7)
--------- -------- ----------
Net cash used in investing activities................ (94,363) (66,071) (4,782)
CASH FLOWS FROM FINANCING ACTIVITIES:
Long-term borrowings................................. 60,000 129,320 536
Short term borrowings................................ 82,652 - -
Dividends paid....................................... (2,297) (1,404) (756)
Principal payments on long-term borrowings........... (70,317) (22,148) (27)
Principal payment on short-term borrowings........... (72,487) - -
Purchase of treasury stock........................... (4,435) - (17)
Increase in other assets............................. (1,220) (5,376) (31)
Proceeds from issuance of stock...................... 119,611 23,781 93
-------- --------- ---------
Net cash provided by (used in) financing activities.. 111,507 124,173 (202)
-------- -------- -------
Increase in cash and cash equivalents................ 8,801 65,125 1,697
Cash and cash equivalents at beginning of year....... 69,279 4,154 2,457
-------- -------- --------
Cash and cash equivalents at end of year............. $78,080 $ 69,279 $ 4,154
======= ======== =======
See accompanying notes to Consolidated Financial Statements
70
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1-NATURE OF OPERATIONS
Resource America, Inc. (the "Company") is engaged in three lines of
business: (1) real estate finance, including the acquisition of commercial real
estate loans and, beginning in the fiscal year ended September 30, 1998, the
origination, acquisition and sale of residential loans; (2) commercial equipment
leasing, and (3) energy operations, including natural oil and gas production.
Based on net assets and net income, real estate finance currently is the
dominant business line.
The markets for the Company's business lines are as follows: in real
estate finance, the Company obtains its commercial mortgage loans on properties
located throughout the United States from various financial institutions and
other organizations, while its residential mortgage loans are originated through
outbound telemarketing and several wholesale channels to potential borrowers
throughout the United States; in commercial equipment leasing, the Company
markets its equipment leasing products nationwide through equipment
manufacturers, distributors and other vendors; and in energy, gas is sold to a
number of customers such as gas brokers and local utilities and oil is sold at
the well site to regional oil refining companies in the Appalachian basin.
The Company's ability to acquire commercial mortgage loans, originate
residential mortgage loans and to fund equipment lease transactions will be
dependent on the continued availability of funds. The availability of
third-party financing for each of these businesses will be dependent upon a
number of factors over which the Company has limited or no control, including
conditions in the capital markets (both generally and as they pertain to the
Company), the size and liquidity of the market for the types of real estate
loans or equipment leases in the Company's portfolio and the respective
financial performance of the Company's loans and equipment leases.
The Company's growth will also depend on its continued ability to
generate attractive opportunities for acquiring commercial mortgage loans and to
originate equipment leases. The availability of loans for acquisition on terms
acceptable to the Company will be dependent upon a number of factors over which
the Company has no control, including economic conditions, interest rates, the
market for and value of properties securing loans which the Company may seek to
acquire, and the willingness of financial institutions to dispose of troubled or
under-performing loans in their portfolios.
Mortgage loans and equipment leases are subject to the risk of default
in payment by borrowers and lessees. Mortgage loans are further subject to the
risk that declines in real estate values could result in the Company being
unable to realize the property values projected.
71
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 2-SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Principles of Consolidation
The consolidated financial statements include the accounts of the
Company, its wholly owned subsidiaries and its pro rata share of the assets,
liabilities, income, and expenses of the partnerships in which the Company has
an interest. All material intercompany transactions have been eliminated. All
per share amounts and references to numbers of shares give effect to a
three-for-one stock split (effected in the form of a 200% stock dividend) in
June 1998.
Use of Estimates
Preparation of the financial statements in conformity 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. Actual results could differ from these estimates.
Impairment of Long-Lived Assets
The Company reviews its long-lived assets for impairment whenever
events or circumstances indicate that the carrying amount of an asset may not be
recoverable. If it is determined that an asset's estimated future cash flows
will not be sufficient to recover its carrying amount, an impairment charge will
be recorded to reduce the carrying amount for that asset to its estimated fair
value.
Stock-Based Compensation
The Company recognizes compensation expense with respect to stock
option grants to employees using the intrinsic value method prescribed by
Accounting Principles Board Opinion No. 25; stock-based compensation with
respect to non-employees is recognized under the fair value method prescribed by
Statement of Financial Accounting Standards ("SFAS") No. 123, "Accounting for
Stock Based Compensation."
Equity Securities
The Company has classified its investment in Resource Asset Investment
Trust ("RAIT"), a real estate investment trust sponsored by the Company, as
available-for-sale. As such, it is carried at market value and the unrealized
gain or loss is reported net of tax as a separate component of stockholders'
equity.
72
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
New Accounting Standards
In fiscal 1997, the Financial Accounting Standards Board ("FASB")
issued SFAS No. 130, "Reporting Comprehensive Income." SFAS No. 130 establishes
standards for reporting comprehensive income in the basic financial statements.
Comprehensive income will adjust net income for changes in equity during the
period from transactions and other events and circumstances from nonowner
sources. The Company is required to adopt the provisions of SFAS No. 130 for the
fiscal year ending September 30, 1999, beginning with the quarter ending
December 31, 1998, and to restate any prior period financial statements included
for comparative purposes to reflect the application of SFAS No. 130. As the
adoption of this pronouncement will only modify disclosures, there will be no
effect on the Company's consolidated financial position, results of operations
or cash flows.
In fiscal 1997, the FASB issued SFAS No. 131, "Disclosures About
Segments of an Enterprise and Related Information." SFAS No. 131 revises the
manner in which an entity determines the operating segments it must report and
also requires the disclosure of additional segment information. The Company is
required to adopt the provisions of SFAS No. 131 for the fiscal year ending
September 30, 1999, and to restate any prior period financial statements
included for comparative purposes to reflect the application of SFAS No. 131. As
the adoption of this pronouncement will only modify disclosures, there will be
no effect on the Company's consolidated financial position, results of
operations or cash flows.
In fiscal 1998, the American Institute of Certified Public Accountants
("AICPA") issued Statement of Position 97-2, "Software Revenue Recognition"
("SOP 97-2"). SOP 97-2 provides guidance on the recognition of revenue for the
licensing, selling, leasing and marketing of computer software to customers. The
Company is required to adopt the provisions of SOP 97-2 for the fiscal year
ending September 30, 1999. Management believes that the adoption of this
pronouncement will not have a material effect on the Company's consolidated
financial position, results of operations or cash flows.
In fiscal 1998, the AICPA issued Statement of Position 98-1,
"Accounting for the Costs of Computer Software Developed or Obtained for
Internal Use" ("SOP 98-1"). SOP 98-1 requires the capitalization of certain
costs incurred in the development of software used by a company for its own
internal operations. The Company is required to adopt the provisions of SOP 98-1
for the fiscal year ending September 30, 1999. Management believes that the
adoption of this pronouncement will not have a material effect on the Company's
consolidated financial position, results of operations or cash flows.
In fiscal 1998, the FASB issued SFAS No. 133, "Accounting for
Derivative Instruments and Hedging". SFAS No. 133 provides accounting and
reporting standards for derivative instruments. This standard will require the
Company to recognize all derivatives as either assets or liabilities in the
statement of financial position and to measure those instruments at fair value.
The Company is required to adopt the provisions of SFAS No. 133 during the first
quarter of fiscal 1999. Management believes that the adoption of this
pronouncement will not have a material effect on the Company's consolidated
financial position, results of operations or cash flows.
73
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
In fiscal 1998, the AICPA issued Statement of Position 98-5, "Reporting
on the Costs of Start-Up Activities ("SOP 98-5"). SOP 98-5 requires costs of
start-up activities and organization costs, as defined, to be expensed as
incurred. The Company is required to adopt the provisions of SOP 98-5 during the
first quarter of fiscal 2000. Management believes that the adoption of this
pronouncement will not have a material effect on the Company's consolidated
financial position, results of operations or cash flows.
Oil and Gas Properties
The Company follows the successful efforts method of accounting.
Accordingly, property acquisition costs, costs of successful exploratory wells,
all development costs, and the cost of support equipment and facilities are
capitalized. Costs of unsuccessful exploratory wells are expensed when such
wells are determined to be nonproductive. The costs associated with drilling and
equipping wells not yet completed are capitalized as uncompleted wells,
equipment, and facilities. Geological and geophysical costs and the costs of
carrying and retaining undeveloped properties, including delay rentals, are
expensed as incurred.
Production costs, overhead, and all exploration costs other than costs
of exploratory drilling are charged to expense as incurred.
Unproved properties are assessed periodically to determine whether
there has been a decline in value and, if such decline is indicated, a loss is
recognized. The Company compares the carrying value of its oil and gas producing
properties to the estimated future cash flow, net of applicable income taxes,
from such properties in order to determine whether their carrying values should
be reduced. No adjustment was necessary during any of the fiscal years in the
three year period ended September 30, 1998.
On an annual basis, the Company estimates the costs of future
dismantlement, restoration, reclamation, and abandonment of its gas and oil
producing properties. Additionally, the Company evaluates the estimated salvage
value of equipment recoverable upon abandonment. At both September 30, 1998 and
1997 the Company's evaluation of equipment salvage values was greater than or
equal to the estimated costs of future dismantlement, restoration, reclamation,
and abandonment.
Depreciation, Depletion and Amortization
Proved developed oil and gas properties, which include intangible
drilling and development costs, tangible well equipment, and leasehold costs,
are amortized on the unit-of-production method using the ratio of current
production to the estimated aggregate proved developed oil and gas reserves.
Depreciation of property and equipment, other than oil and gas
properties, is computed using the straight-line method over the estimated
economic lives, which range from three to 39 years.
74
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Other Assets
Included in other assets are intangible assets that consist primarily of
contracts acquired through acquisitions recorded at fair value on their
acquisition dates, the excess of the acquisition cost over the fair value of the
net assets of a business acquired (goodwill) and deferred financing costs. The
contracts acquired are being amortized on a declining balance method, except for
syndication network which is being amortized on a straight-line basis, over
their respective estimated lives, ranging from five to 30 years, goodwill is
being amortized on a straight-line basis over periods ranging from 15 to 30
years, deferred financing costs are being amortized over the terms of the
related loans (two to seven years) and other costs are being amortized over
varying periods of up to five years.
Other assets at September 30, 1998 and 1997 were:
1998 1997
---- ----
(in thousands)
Contracts acquired (including syndication network).... $14,943 $ 1,636
Goodwill.............................................. 29,335 709
Deferred financing costs.............................. 4,312 5,240
Investment in real estate partnerships................ 1,781 1,827
Restricted cash....................................... 950 1,052
Other ................................................ 2,052 1,792
-------- -------
Total............................................ $53,373 $12,256
======== =======
Fair Value of Financial Instruments
The following methods and assumptions were used by the Company in
estimating the fair value of each class of financial instruments for which it is
practicable to estimate fair value.
For cash and cash equivalents, receivables and payables, the carrying
amounts approximate fair value because of the short maturity of these
instruments. For long-term debt, including current maturities, the fair value of
the Company's long-term debt approximates historically recorded cost since
interest rates approximate market.
Based upon available market information and appropriate valuation
methods, the Company believes the carrying cost of investments in direct
financing leases approximates fair value.
For investments in real estate loans, the Company believes the carrying
amounts of the loans are reasonable estimates of their fair value considering
the nature of the loans and the estimated yield relative to the risks involved.
75
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Concentration of Credit Risk
Financial instruments which potentially subject the Company to
concentrations of credit risk consist principally of periodic temporary
investments of excess cash. The Company places its temporary excess cash
investments in high quality short-term money market instruments, principally at
Jefferson Bank (see Note 3), and other high quality financial institutions. The
amounts of these instruments are in excess of the Federal Deposit Insurance
Corporation ("FDIC") insurance limit. At September 30, 1998, the Company had
$53.8 million in deposits at Jefferson Bank, of which $52.3 million is over the
FDIC insurance limit. In addition, the Company had deposits of $10.1 million and
$9.7 million at two unaffiliated banks, of which $10.0 million and $9.6 million
are over the FDIC insurance limit, respectively. No losses have been experienced
on such investments.
Revenue Recognition
Real Estate Finance
The difference between the Company's cost basis in a commercial
mortgage loan and the sum of projected cash flows therefrom is accreted into
interest income over the estimated life of the loan using a method which
approximates the level interest method. Projected cash flows, which include
amounts realizable from the underlying properties, are reviewed on a regular
basis, as are property appraisals. Changes to projected cash flows reduce or
increase the amounts accreted into interest income over the remaining life of
the loan.
Gains on the sale of a senior lien interest in a commercial mortgage
loan are recognized based on an allocation of the Company's cost basis between
the portion of the loan sold or refinanced and the portion retained based upon
the fair value of those respective portions on the date of sale or refinance.
Any gain recognized on a sale of a senior lien interest or a refinancing is
credited to income at the time of such sale or refinancing.
Loan origination fees and certain direct loan origination costs for
residential mortgage loans held for sale are deferred until the related loan is
sold.
Gain on the sale of residential mortgage loans is recorded at the trade
date in the amount by which the sales price exceeds the carrying value of the
underlying mortgage loan.
76
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Equipment Leasing
Direct Financing Leases. The Company's lease transactions are
classified as direct financing leases (as distinguished from sales-type or
operating leases). These leases transfer substantially all benefits and risks of
equipment ownership to the customer. A lease is a direct financing lease if the
creditworthiness of the customer and the collectibility of lease payments are
reasonably certain and it meets one of the following criteria: (i) the lease
transfers ownership of the equipment to the customer by the end of the lease
term; (ii) the lease contains a bargain purchase option; (iii) the lease term at
inception is at least 75% of the estimated economic life of the leased
equipment; or (iv) the present value of the minimum lease payments is at least
90% of the fair market value of the leased equipment at inception of the lease.
The Company's net investment in direct financing leases consists of the sum of
the total future minimum lease payments receivable and the estimated
unguaranteed residual value of leased equipment, less unearned income. Unearned
lease income, which is recognized as revenue over the term of the lease by the
effective interest method, represents the excess of the total future minimum
lease payments plus the estimated unguaranteed residual value expected to be
realized at the end of the lease term over the cost of the related equipment.
Initial direct costs incurred in consummating a lease are capitalized as part of
the investment in direct financing leases and amortized over the lease term as a
reduction in the yield.
Residual Values. Unguaranteed residual value represents the estimated
amount to be received at lease termination from lease extensions or disposition
of the leased equipment. The estimates are based upon available industry data
and senior management's prior experience with respect to comparable equipment.
The estimated residual values are recorded as investment in direct financing
leases, on a net present value basis. Current estimates of residual values will
vary from the original recorded estimates. Residual values are reviewed
periodically to determine if the equipment's fair market value is below its
recorded estimate. If required, residual values are adjusted downward to reflect
adjusted estimates of fair market value. Generally accepted accounting
principles do not permit upward adjustments to residual values.
Sales of Leases. The Company sells a large percentage of the leases it
originates through indirect securitization transactions and other structured
finance techniques. In a securitization transaction, the Company sells and
transfers a pool of leases to a bankruptcy remote separate entity (an
"Intermediate Purchaser"). Typically, the Intermediate Purchaser will have no
material assets apart from the leases sold to it. The Intermediate Purchaser in
turn simultaneously sells and transfers its interest in the leases (excluding
the residual values) to a financial institution in return for cash equal to a
percentage of the aggregate present value of the finance lease receivables being
sold. The consideration received by the Company for each pool of leases and
residuals sold consists of the cash received by the Intermediate Purchaser from
the financial institution plus an interest bearing note from the Intermediate
Purchaser.
Through March 1998, the Company's lease sales included residual values.
In April 1998, the Company commenced retaining for its own account the residual
interest in leases sold by it and anticipates that it will derive a significant
portion of its leasing profits (if any) from residuals. Currently, repayment of
notes received by the Company from Intermediate Purchasers in earlier sales
77
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
depends, to a significant extent, on realization of residuals. The Company
anticipates that residuals will principally involve the original end-users;
however, equipment not sold or re-leased to end-users will be disposed of in the
secondary market. While residual realization is generally higher with original
end-users than in the secondary market, the secondary market (essentially,
networks of distributors and dealers in various equipment categories) is well
developed in the product categories the Company currently pursues and
transactions in these product categories have historically resulted in residual
recoveries, on average, equal to the book value of the equipment. Equipment
reacquired by the Company prior to lease termination (through lease default or
otherwise) will be sold in the secondary market.
Gains on the sales of equipment leases are recorded at the date of sale
in the amount by which the sales price exceeds the book value of the underlying
leases. Subsequent to a sale, the Company has no remaining interest in the pool
of the leases or equipment except for (i) residuals retained on post-March 1998
sales, (ii) security interests retained in the lease pool sold when a note is
received as part of the sale proceeds and (iii) under certain circumstances, the
obligation to replace, non-performing leases in the pool.
The Company maintains an allowance for possible losses in connection
with payments due under leases held in the Company's portfolio, its retained
interest in leases securitized or sold and its replacement obligation for
non-performing leases sold. The allowance is determined by management's estimate
of future uncollectible lease contracts, based on factors including the
Company's historical loss experience, an analysis of delinquencies, economic
conditions and trends, industry statistics and lease portfolio (including leases
under the Company's management) characteristics. The Company's policy is to
charge off to the allowance those leases which are delinquent and for which
management has determined the probability of collection to be remote. Recoveries
on leases previously charged off are restored to the allowance.
Leasing revenues also consist of management fees, brokerage fees and a
share of net income from partnerships in which a subsidiary of the Company
serves as general partner. Management fees are earned for management services
provided to the partnerships. Such fees are recognized as earned (see Limited
Partnerships).
Energy Operations
Working interest, royalties and override revenues are recognized as
production and delivery take place. Well service income is recognized as
revenue as services are performed.
78
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Cash Flow Statements
The Company considers temporary investments with a maturity at
the date of acquisition of 90 days or less to be cash equivalents.
Supplemental disclosure of cash flow information:
Year Ended September 30,
--------------------------------------
1998 1997 1996
---- ---- ----
(in thousands)
Cash paid during the year for:
Interest............................................................... $17,677 $ 2,727 $797
Income taxes........................................................... 12,762 2,094 770
Non-cash activities include the following:
Notes received in exchange for:
Sales of leases..................................................... $ 9,277 $13,275 -
Sales of residential mortgage loans................................. 7,794 - -
Debt assumed upon acquisition of real
estate loan.......................................................... -- 2,381 -
Receipt of note in satisfaction of a
real estate sale..................................................... - 3,500 -
Note payable issued in acquisition..................................... - 925 -
Stock issued in acquisitions........................................... 32,034 315 -
Details of acquisitions:
Fair value of assets acquired.......................................... $78,180 $ 2,466 -
Debt issued............................................................ - (925) -
Stock issued........................................................... (32,034) (315) -
Liabilities assumed.................................................... (46,016) - -
Amounts due seller..................................................... (9,191) - -
-------- ------- ----
Net cash (acquired) paid............................................... ($9,061) $ 1,226 $ -
======== ====== ====
Limited Partnerships
The Company conducts certain energy and leasing activities through, and
a portion of its revenues are attributable to, limited partnerships
("Partnerships"). The Company serves as general partner of the Partnerships and
assumes customary rights and obligations for the Partnerships. As the general
partner, the Company is liable for Partnership liabilities and can be liable to
limited partners if it breaches its responsibilities with respect to the
operations of the Partnerships.
79
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The Company is entitled to receive management fees, reimbursement for
administrative costs incurred, and to share in the Partnerships' revenue and
costs and expenses according to the respective Partnership agreements. Such fees
and reimbursements are recognized as income and are included in energy services
and equipment leasing revenues. Amounts reimbursed for costs incurred as
operator of certain oil and gas partnership properties and as the general
partner in certain equipment leasing partnerships for the years ended September
30, 1998, 1997 and 1996 approximated $2.0 million, $1.8 million, and $1.6
million, respectively. The Company includes in its operations the portion of the
oil and gas Partnerships' revenues and expenses applicable to its interests
therein.
Income Taxes
The Company records deferred tax assets and liabilities, as
appropriate, to account for the estimated future tax effects attributable to
temporary differences between the financial statement and tax bases of assets
and liabilities and the value at currently enacted tax rates, of operating loss
carryforwards. The deferred tax provision or benefit each year represents the
net change during that year in the deferred tax asset and liability balances.
Earnings Per Share
In February 1997, the FASB issued SFAS No. 128 "Earnings Per Share."
This statement is effective for financial statements issued for periods ending
after December 15, 1997; earnings per share data included herein have been
restated to reflect the new standard. Under this statement the previous
calculation of primary earnings per share ("EPS") is changed to exclude the
dilutive effect of stock options and is referred to as Basic EPS.
Basic EPS is determined by dividing net income by the weighted average
number of common shares outstanding during the period. Earnings per share -
diluted are computed by dividing net income by the sum of the weighted average
number of shares outstanding and dilutive potential common shares issuable
during the period. Dilutive potential common shares consist of the excess of
common shares issuable under the terms of various stock option and warrant
agreements over the number of such shares that could have been reacquired (at
the weighted average price of the Company's Common Stock during the period) with
the proceeds received from the exercise of the options and warrants (see Notes 8
and 9).
The computations of basic and diluted earnings per share for each year were as
follows:
Year Ended September 30,
1998 1997 1996
---- ---- ----
(in thousands)
Income before extraordinary item ................................ $ 27,372 $ 10,951 $ 5,147
Extraordinary gain on early extinguishment of debt .............. 239 -- --
-------- -------- --------
Net income $ 27,611 $ 10,951 $ 5,147
======== ======== ========
Basic average shares of common stock outstanding ................ 16,703 10,435 5,671
Dilutive effect of stock options and award plans ................ 565 2,639 2,600
-------- -------- --------
Diluted average shares of common stock outstanding .............. 17,268 13,074 8,271
======== ======== ========
Reclassifications
Certain reclassifications have been made to the fiscal years 1997 and
1996 consolidated financial statements to conform with the fiscal 1998
presentation.
NOTE 3-CERTAIN RELATIONSHIPS AND RELATED PARTY TRANSACTIONS
In the ordinary course of its business operations, the Company has
ongoing relationships with several related entities, primarily a property
management firm, a bank and RAIT. As particular opportunities have arisen, the
Company has purchased commercial mortgage loans from lenders, or involving
borrowers which are, affiliated with officers of the Company. In two instances
80
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(excluding sales to RAIT) the Company has sold senior or junior lien interests
in commercial loans to purchasers affiliated with officers of the Company. At
September 30, 1998, loans held with respect to related borrowers or acquired
from related lenders constitute 33% ($62.2 million), by book value, of the
Company's commercial loan portfolio, while the participation interests sold to
related purchasers constituted 1% ($1.9 million) of all participation interests
with respect to the Company's commercial loan portfolio. Transactions with
affiliates must be approved by the Company's entire Board of Directors including
a majority of the outside directors. In addition, acquisitions of commercial
mortgage loans must be approved by the Investment Committee of the Board of
Directors (which consists of three outside directors). The Company believes that
the terms of its transactions with related parties are no less favorable than
those available with unrelated third parties. A more detailed description of
these relationships and transactions is set forth below.
Relationship with Brandywine Construction & Management, Inc. ("BCMI").
The properties underlying 26 of the Company's commercial mortgage loans are
managed by BCMI, a firm in which the Chairman of the Company is the Chairman of
the Board of Directors and a minority stockholder (approximately 8%). The
Company has advanced funds to certain borrowers for improvements on their
properties, which have been performed by BCMI. The President of BCMI (or an
entity affiliated with him) has also acted as the general partner, president or
trustee of eight of the borrowers; an entity affiliated with him is the general
partner of the sole limited partner of an ninth borrower. In addition, BCMI owns
an 11% limited partnership interest in another borrower. BCMI has agreed to
subordinate its management fees to receipt by the Company of minimum required
debt service payments under the obligations held by the Company.
Relationship with Jefferson Bank. The Company maintains a normal
banking and borrowing relationship with Jefferson Bank, a subsidiary of
JeffBanks, Inc. The Company anticipates that it may effect other borrowings in
the future from Jefferson Bank. The Company, through its residential mortgage
subsidiary, subcontracts any residential mortgage loan servicing to Jefferson
Bank. The Chairman of the Company and his spouse are officers and directors of
JeffBanks, Inc. (and his spouse is Chairman and Chief Executive Officer of
Jefferson Banks and JeffBanks, Inc.), and are principal stockholders thereof.
The President of the Company is a director of Jefferson Bank. Jefferson Bank is
also a tenant at two properties which secure loans held by the Company and
subleases space at one such property to RAIT.
Relationship with RAIT. The Company sponsored the formation and the
January 1998 initial public offering of common shares of beneficial interest of
RAIT. The Company acquired 15% of RAIT's outstanding shares in the initial
offering for an investment of approximately $7.0 million. In June 1998, the
Company acquired additional common shares in a secondary offering for $5.0
million, and currently holds approximately 14% of RAIT's outstanding common
shares. The spouse of the Chairman of the Company is Chairman and Chief
Executive Officer of RAIT. The Company has the right to nominate one person for
election to the Board of Trustees until such time as its ownership of RAIT's
outstanding common shares is less than 5%. A Vice President of the Company, who
is also the son of the Chairman of the Company and the brother of its President,
currently serves as the Company's nominee. The Company advanced funds to RAIT
for legal, accounting and filing fees and for certain other expenses, salaries
of RAIT's executive officers, rent and other organizational expenses. The
Company also incurred expenses in sponsoring RAIT. These advances and expenses
were repaid, without interest, from the proceeds of RAIT's offering.
81
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
In connection with RAIT's initial offering, the Company sold ten loans
and senior lien interests in two other loans to RAIT at an aggregate purchase
price of $20.1 million (including $2.1 million attributable to senior lien
interests acquired by the Company in connection with the sales to RAIT). One of
the loans and one of the senior lien interests were originated for RAIT and sold
to it by the Company at cost. The Company realized a total gain on the sale of
the loans and senior lien interests of $3.1 million.
The Company has engaged in the following transactions with RAIT
subsequent to the sale of the initial investments:
o The Company sold senior lien interests in three loans to RAIT at an
aggregate purchase price of $18.0 million and recognized aggregate gains on
sale of $5.1 million.
o The Company and RAIT jointly acquired a loan at a purchase price of $85.5
million, $10.0 million of which was contributed by RAIT.
o The Company sold to RAIT two loans, both of which it had originated for
RAIT in connection with its sponsorship of RAIT, at their aggregate
carrying value of $7.7 million. The Company retained a $1.3 million junior
lien interest in one of these loans, which interest is subordinate to
RAIT's $4.0 million interest and the $12.0 million interest of an
unaffiliated party.
o The Company made a first mortgage loan to OSEB Associates, L.P. ("OSEB"),
which is owned by RAIT (89%) and BCMI (11%). The loan bears interest at 10%
per annum on stated principal in the amount of $65.0 million. OSEB obtained
outside financing to reduce the loan by $44.0 million; the balance of the
loan is secured by a second mortgage and pledge of partnership interests in
OSEB.
The Company anticipates that it will sell additional loans and
senior lien interests in loans to RAIT, and participate with it in other
transactions.
82
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Relationships with Certain Borrowers. The Company has from time to time
purchased loans in which affiliates of the Company are affiliates of the
borrowers.
In September 1998, the Company acquired a defaulted loan in the
original principal amount of $91.0 million. In connection with the acquisition
of the loan, the Company acquired the right to transfer the equity interest in
the borrower. Currently, a subsidiary of the Company is the general partner of
the borrower. Pending transfer of the limited partnership interests, the Vice
Chairman of the Company holds legal title to those interests.
In March 1998, the Company acquired a loan under a plan of bankruptcy.
An order of the bankruptcy court in effect when the Company acquired the loan
required that legal title to the property underlying the loan be transferred on
or before June 30, 1998. In order to comply with that order and to maintain
control of the property, Evening Star Associates took title to the property on
or about June 19, 1998. A subsidiary of the Company serves as general partner to
Evening Star Associates and holds a 1% interest; the Chairman, Vice Chairman and
President of the Company hold a 94% limited partnership interest. The latter
have agreed to list their interests in Evening Star Associates for sale through
a qualified real estate broker until December 31, 1999. Any amounts received by
the limited partners for their interests in excess of the original capital
contributions plus a 6% return will be paid to Evening Star Associates. If no
such sale occurs by December 31, 1999, the limited partners may retain their
interests.
In August 1997, the Company, acquired a loan with a face amount of $2.3
million from Jefferson Bank at a cost of $1.6 million. The loan is secured by a
property owned by a partnership in which the Company's Vice Chairman and the
Chairman, together with the Chairman's spouse, are limited partners. The Vice
Chairman was previously the general partner of such partnership. The Company
leases its headquarters space at such property. The lease provides for rents of
$114,800 per year through May 2000. Ledgewood Law Firm, P.C., a law firm which
provides legal services to the Company, is a tenant at such property.
83
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
In June 1997, the Company acquired a loan with a face amount of $7.0
million from a partnership in which the Vice Chairman and Chairman, together
with the Chairman's wife, are limited partners. The Vice Chairman was previously
the general partner of such partnership. The Company acquired such loan at a
cost of $3.0 million.
In December 1996, the Company acquired a loan with a face amount of
$52.7 million from an unaffiliated third party at a cost of $19.3 million. The
property securing such loan is owned by two partnerships: the Building
Partnership, which owns the office building, and the Garage Partnership, which
owns the parking garage. Pursuant to a loan restructuring agreement entered into
in 1993, an affiliate of the holder of the loan is required to hold, as
additional security for the loan, general partnership interests in both the
Building Partnership and the Garage Partnership. The partnership interest in the
Building Partnership was assigned to a limited partnership of which a subsidiary
of the Company is general partner and RPI Partnership is a limited partner. The
partnership interest in the Garage Partnership was assigned to a limited
partnership of which a subsidiary of the Company is general partner and RPI
Partnership is limited partner. RPI Partnership is a limited partnership in
which the Vice Chairman of the Company is the general partner and the Chairman
and President are limited partners. Although the Company does not anticipate any
economic benefit to RPI Partnership, any which may be received will be assigned
and transferred to the Company.
Relationships with Certain Lienholders. The Company has sold two senior
lien interests and one junior lien interest in its commercial loans to entities
in which officers of the Company have minority interests as discussed in the
following paragraphs.
In December 1997, the Company purchased from third parties, for an
aggregate of $1.52 million, two loans in the aggregate original principal amount
of $2.0 million and with an aggregate outstanding balance at the time of
purchase of $1.95 million. The loans are secured by an apartment building. The
Company sold a senior lien interest in one of the loans for $1.0 million to a
limited partnership in which the Chairman and Vice Chairman of the Company
beneficially own a 14.4% interest, reducing the Company's net investment to
$518,000 and leaving the Company with a retained interest in outstanding loan
receivables of $1.0 million (at a book value of $803,000). The Company
recognized a gain of $322,900 on the sale of this loan.
From November 1996 to June 1997 the Company acquired from third parties
loans relating to one property in the aggregate original principal amount of
$5.8 million (and with aggregate outstanding balances at the respective times of
purchase of $7.6 million) for an investment of $2.5 million. The Company sold,
for $2.2 million, a senior lien interest in one of the loans and recognized a
$28,900 gain on the sale. The purchaser was a limited partnership in which the
Chairman and Vice Chairman of the Company beneficially own an 18.3% limited
partnership interest. The senior lien interest was paid off in December 1997.
84
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
In June 1996, for an investment of $2.4 million, the Company acquired
from third parties a loan in the original principal amount of $3.3 million (and
with a then outstanding balance of $3.3 million). The Company sold, at book
value, a junior lien interest in the loan for $875,000, to a limited partnership
in which the Chairman and Vice Chairman of the Company beneficially own a 21.3%
limited partnership interest.
Relationship with Financing Institution. The Company has in the past
obtained material amounts of financing from Physicians Insurance Company of Ohio
("PICO") by the sale to PICO, in May 1994, of an $8.0 million principal amount
9.5% senior note and by the sale, in fiscal years 1995 and 1996, of $12.0
million of senior lien interests in seven of the Company's portfolio loans,
together with warrants to purchase 2.9 million shares of Common Stock. In July
1997, the Company repaid the senior note in full and PICO exercised, and
subsequently sold, the Common Stock underlying the warrants to institutional
investors in private transactions. Following such transactions, John R. Hart, an
executive officer and director of PICO who had become a director of the Company
in connection with the PICO financings, resigned from the Board of Directors of
the Company. An outside director of the Company became a director of PICO on
November 20, 1998.
Management believes that any other such commercial real estate
transactions and balances involving parties that may be considered to be related
parties are not material.
Relationship with Law Firm. Until April 1996, the Chairman of the
Company was of counsel to Ledgewood Law Firm, P.C. ("LLF"), which provides legal
services to the Company. LLF was paid $1.2 million, $803,000 and $402,000 during
fiscal 1998, 1997 and 1996, respectively, for legal services rendered to the
Company. The Chairman of the Company receives certain debt service payments from
LLF related to the termination of his affiliation with such firm and its
redemption of his interest therein.
NOTE 4-INVESTMENTS IN REAL ESTATE LOANS
The Company has primarily focused its real estate activities on the
purchase of income producing commercial mortgages at a discount from both the
face value of such mortgages and the appraised value of the properties
underlying the mortgages. The Company records as income the accretion of a
portion of the difference between its cost basis in a commercial mortgage and
the sum of projected cash flows therefrom. Cash received by the Company for
payment on each mortgage is allocated between principal and interest. This
accretion of discount amounted to $6.5 million and $4.1 million during the years
ended September 30, 1998 and 1997, respectively. As the Company sells senior
lien interests or receives funds from refinancings in such mortgages, a portion
of the cash received is employed to reduce the cumulative accretion of discount
included in the carrying value of the Company's investments in real estate
loans. In October 1997, the Company commenced residential mortgage lending
operations.
85
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
At September 30, 1998 and 1997, the Company held real estate loans
having aggregate face values of $679.6 million and $233.7 million, respectively,
which were being carried at aggregate costs of $202.1 million and $88.8 million,
including cumulative accretion. Amounts receivable, net of senior lien interests
and deferred costs, were $344.3 million and $178.1 million at September 30, 1998
and 1997, respectively. The following is a summary of the changes in the
carrying value of the Company's investments in real estate loans for the years
ended September 30, 1998 and 1997.
Year Ended September 30,
------------------------
1998 1997
---- ----
(in thousands)
Balance, beginning of year
(commercial mortgage loans only).............. $ 88,816 $21,798
New loans...................................... 337,087 71,720
Additions to existing loans.................... 6,181 1,860
Provision for possible losses.................. (505) (400)
Accretion of discount.......................... 6,520 4,124
Collections of principal....................... (76,915) (517)
Cost of loans sold............................. (172,533) (9,769)
-------- -------
Balance, end of year
(commercial mortgage loans only).............. 188,651 88,816
Investments in
residential mortgage loans
(less an allowance for possible losses
of $286)..................................... 13,399 -
-------- -------
Balance, end of year (all real estate loans)... $202,050 $88,816
======== =======
A summary of activity in the Company's allowance for possible losses
related to real estate loans for the years ended September 30, 1998 and 1997 are
as follows:
1998 1997
---- ----
Balance, beginning of year..................... $400 $ -
Provision for possible losses.................. 791 400
Writeoffs...................................... - -
------ ----
Balance, end of year........................... $1,191 $400
====== ====
86
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 5-INVESTMENT IN LEASES AND NOTES RECEIVABLE
Components of the net investment in direct financing leases and notes
receivable as of September 30, 1998 and 1997, as well as future minimum lease
payments receivable, including residual values, are as follows:
September 30,
--------------------
1998 1997
---- ----
(in thousands)
Total minimum lease payments receivable............. $10,011 $4,186
Initial direct costs, net of amortization........... 153 75
Unguaranteed residual............................... 6,338 310
Unearned lease income............................... (4,061) (932)
------- -----
Net investment in direct financing leases........... 12,441 3,639
Notes receivable.................................... 14,138 4,761
Allowance for possible losses....................... (1,602) (248)
------- ------
Investment in leases and notes receivable........... $24,977 $8,152
======= ======
At September 30, 1998, minimum lease payments for each of the five
succeeding fiscal years are as follows (in thousands): 1999 - $3,549; 2000 -
$3,009; 2001- $1,806; 2002 - $993; and 2003 - $654.
The amount of unguaranteed residual value actually realized at contract
termination will depend on the then fair market value of the related equipment
and may vary from the recorded estimate. Residual values are reviewed
periodically to determine if the equipment's fair market is below its recorded
value (see Note 2).
Certain of the leases include options to purchase the underlying
equipment at the end of the lease term at fair value or the stated residual
which is not less that the book value at termination.
A summary of activity in the Company's allowance for possible losses
related to direct financing leases and notes receivable for the years ended
September 30, 1998 and 1997 are as follows:
Year Ended September 30,
------------------------
1998 1997
---- ----
(in thousands)
Balance, beginning of year....................... $ 248 $ 7
Provision for possible losses.................... 1,422 253
Write offs....................................... (68) (12)
------ ----
Balance, end of year............................. $1,602 $248
====== ====
87
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 6-LONG-TERM DEBT AND OTHER BORROWINGS
Long-term debt consists of the following:
September 30,
-------------
1998 1997
---- ----
(in thousands)
12% senior unsecured notes payable, interest due semi-
annually, principal due August 2004......................... $104,400 $115,000
Term loan payable to bank, secured by certain oil and gas
properties; quarterly payments of $350 plus interest at
LIBOR plus 1.5% (7.09% at September 30, 1998) due
September, 2003............................................. 7,000 -
Revolving credit loans, secured by certain oil and gas
properties; interest ranging from 7.06% to 9.0% due June
1999, April 2003 and September 2003......................... 24,975 -
Other....................................................... 3,905 4,494
-------- --------
140,280 119,494
Less current maturities..................................... 7,264 708
-------- --------
$133,016 $118,786
======== ========
As of September 30, 1998, long-term debt maturing over the next five
fiscal years is as follows (in thousands): 1999 - $7,264; 2000 - $1,818; 2001 -
$1,835; 2002 - $1,834; and 2003 - $21,753.
In July 1997, the Company issued $115.0 million of 12% Senior Notes
(the "12% Notes") due August 2004 in a private placement. Provisions of the 12%
Notes limit dividend payments, mergers and indebtedness, place restrictions on
liens and guarantees and require the maintenance of certain financial ratios. At
September 30, 1998, the Company was in compliance with such provisions. In
November 1997, the Company exchanged the privately placed 12% Notes with a like
amount of 12% Notes which were registered under the Securities Act of 1933.
Oil and Gas Credit Facilities.
Prior to its acquisition by the Company, The Atlas Group, Inc.
("Atlas") maintained a $40.0 million credit facility (with $27.0 million of
permitted draws) at PNC Bank ("PNC"). This line has been continued by the
Company. The credit facility is divided into two principal parts: a revolving
credit facility and a term loan facility. The resolving credit facility has
$20.0 million of permitted draws, with a term ending in 2001 and with draws
bearing interest at one of two rates (elected at borrower's option) which
increase as the amount outstanding under the facility increases: (i) PNC prime
rate plus between 0 to 50 basis points, or (ii) LIBOR plus between 137.5 to
212.5 basis points. The term loan facility has $7.0 million of permitted draws,
with a term ending in 2003, and with draws bearing interest at one of two rates
(elected at borrower's option), which increase as the amount outstanding under
the facility increases: (i) PNC prime rate plus between 12.5 to 62.5 basis
points, or (ii) LIBOR plus between 150 to 225 basis points. The credit facility
contains certain financial covenants
88
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
of Atlas, including maintaining a current ratio of .75 to 1.0, a ratio of fixed
charges to earnings of 2.0 to 1.0 and a leverage ratio (essentially a ratio of
debt to equity) of not less than 3.75 to 1.0, reducing to 3.50 to 1.0 in January
1999, 3.25 to 1.0 in October 1999 and 3.0 to 1.0 in March 2000. The credit
facility also imposes the following limits: (a) Atlas' exploration expense can
be no more than 20% of capital expenditures plus exploration expense, without
PNC's consent; (b) sales, leases or transfers of property by Atlas are limited
to $1.0 million without PNC's consent; and (c) Atlas cannot incur debt in excess
of $2.0 million to lenders other than PNC without PNC's consent. As of September
30, 1998, there was $20.0 million outstanding under the revolving credit
facility and $7.0 million outstanding under the term loan facility.
The Company also maintains a $5.0 million credit facility with KeyBank
for purposes of acquiring oil and gas assets. The credit facility permits draws
based on a percentage of reserves of oil and gas properties pledged as security
for the facility. Draws under the facility bear interest at KeyBank's prime rate
plus 25 basis points. The facility which terminates on June 30, 1999, contains
certain financial covenants with which the Company believes it has substantially
complied at September 30, 1998. As of September 30, 1998, the Company had $5.0
million outstanding under this line.
Other borrowings consist of the following:
Commercial Mortgage Loan Credit Facility. In March 1998, the Company,
through certain operating subsidiaries, established an $18.0 million revolving
credit facility (with current credit availability of $5.0 million) with
Jefferson Bank for its commercial mortgage loan operations. The credit facility
bears interest at the prime rate reported in the Wall Street Journal plus .75%,
and is secured by the borrowers' interests in certain commercial loans and by a
pledge of their outstanding capital stock. In addition, repayment of the credit
facility is guaranteed by the Company. Credit availability is based upon the
amount of assets pledged as security for the facility and is subject to approval
by Jefferson Bank of additional collateral. The facility expires on April 1,
1999. As of September 30, 1998 there were no borrowings under this facility.
Lease Financing Credit Facility. The Company's equipment leasing
subsidiary, Fidelity Leasing, Inc. ("FLI"), maintains a $20.0 million revolving
credit facility with term loan availability with First Union National Bank and
European American Bank. The facility has, in addition to customary covenants,
the following principal terms: (i) no single advance may exceed the lesser of
(a) 95% of the cost of the leases being financed or (b) $500,000 or, in the case
of leases to investment grade lessees, $1,000,000; (ii) revolving credit loans
bear interest, at FLI's election, at (a) an adjusted LIBOR rate plus 150 basis
points or (b) the rate for one month U.S. dollar deposits as reported by
Telerate (London) plus 150 basis points, while term loans bear interest at the
adjusted LIBOR rate plus 150 basis points; (iii) term loans must be for not less
than $2.0 million per loan; (iv) the loans are secured by a first lien on the
equipment leases being financed (and on the underlying equipment), a guaranty by
the Company and a pledge of the capital stock of FLI and Resource Leasing, Inc.
(the direct parent of FLI and a wholly-owned subsidiary of the Company); (v)
revolving credit loans may be converted to term loans and paid in accordance
with applicable amortization schedules; (vi) adjustable rate term loans may, at
the option of FLI, be converted into fixed rate term loans at then quoted rates;
89
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
and (vii) FLI will be required to maintain a debt (excluding non-recourse debt)
to "worth" ratio of 5.5 to 1.0 or less, a minimum tangible net worth equal to
$8.0 million plus 75% of FLI's net income, and a ratio of cash flow (income
before taxes, depreciation, amortization and extraordinary items, plus interest
expense) to the sum of interest expense, mandatory principal payments and 25% of
outstanding obligations under the revolving line of credit, of 1.5 to 1.0. The
facility expires on March 31, 2000 but may be renewed for additional 18 month
periods by the lenders. In fiscal 1998, there was an aggregate of $33.8 million
in borrowings under this line, all of which were repaid prior to September 30,
1998.
In October 1997, the Company's residential mortgage subsidiary,
established a $15.0 million warehouse credit facility with a financial
institution, bearing interest at LIBOR or, if unavailable, the interbank
eurodollars market rate, plus 90 basis points. The facility was collateralized
by a first lien interest in the loans being financed by facility draws. The
facility expired in November 1998. As of September 30, 1998, $5.2 million was
outstanding under this line. It was repaid on November 30, 1998.
NOTE 7-INCOME TAXES
The following table details the components of the Company's income tax
expense for the fiscal years 1998, 1997 and 1996.
Year Ended September 30,
---------------------------------------
1998 1997 1996
---- ---- ----
(in thousands)
Provision for federal income tax:
Current...................................
Federal.................................. $14,871 $6,186 $1,147
State.................................... 345 - -
Deferred.................................. (1,736) (2,206) 1,059
------- ------ ------
$13,480 $3,980 $2,206
======= ====== ======
A reconciliation between the statutory federal income tax rate and the
Company's effective income tax rate is as follows:
Year Ended September 30,
---------------------------------------
1998 1997 1996
---- ---- ----
Statutory tax rate................................ 35% 34% 34%
Statutory depletion............................... - (2) (4)
Non-conventional fuel and low-income
housing credits................................. (2) (3) -
Tax-exempt interest............................... (1) (2) -
State income tax.................................. 1
--- --- ---
33% 27% 30%
=== === ===
90
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The components of the net deferred tax liability are as follows:
September 30,
---------------------------
1998 1997
---- ----
(in thousands)
Deferred tax assets:
Tax credit carryforwards............................ $ 507 $ 507
Alternative minimum tax credit
carryforwards...................................... 1,555 --
Statutory depletion................................. 187 --
Interest receivable................................. 1,952 1,490
Net operating loss carryforwards.................... 988 357
Provision for losses................................ 1,233 220
Less valuation allowance............................ (1,618) --
-------- ------
$ 4,804 $2,574
-------- ------
Deferred tax liabilities:
Fixed asset basis difference........................ (6,470) (2,290)
ESOP benefits....................................... (98) (120)
Other items, net..................................... -- (164)
-------- ------
(6,568) (2,574)
-------- ------
Net deferred tax liability......................... ($1,764) $ --
======== =======
SFAS No. 109 requires that deferred tax assets be reduced by a
valuation allowance if it is more likely than not that some portion or all of
the deferred tax asset will not be realized. Tax rules impose limitations on the
use of tax carryforwards following certain changes in ownership. Due to mergers
(see Note 11), there will be limitations on the amount of net operating loss and
alternative minimum tax credit carryforwards that can be utilized in any given
year to reduce further taxes.
NOTE 8-STOCKHOLDERS' EQUITY
In April 1998, the Company completed a public offering of 5.9 million
shares of its Common Stock. The Company received net proceeds (after
underwriting discounts and commissions) of $120.1 million before offering
expenses of $917,000.
In March 1998, the Company's stockholders authorized an amendment to
the Certificate of Incorporation of the Company to increase the total authorized
capital stock to 50.0 million shares, of which 49.0 million shares were Common
Stock and 1.0 million shares were Preferred Stock.
91
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
In July 1997, the Company issued 2.9 million unregistered shares of the
Company's Common Stock pursuant to the exercise of warrants held by the holder
of the Company's 9.5% senior secured note payable due 2004. The Company realized
proceeds of $3.66 million from the exercise of the warrants. The 2.9 million
shares were subsequently sold by the holder in a separate private placement to a
small group of institutional investors.
In December 1996, the Company completed a public offering of 5.0
million shares of its Common Stock. The Company received net proceeds of $20
million, before offering expenses of $515,000, from the offering.
On December 20, 1995 and March 12, 1996, the Board of Directors
declared 6% stock dividends on the Common Stock. Furthermore, on May 9, 1996 and
May 12, 1998, the Board of Directors authorized a five-for-two stock split
effected in the form of a 150% stock dividend and a three-for-one stock split
effected in the form of a 200% stock dividend, respectively. These stock
dividends resulted in the issuance of 14.6 million additional shares of Common
Stock. Earnings per share and weighted average shares outstanding reflect the
above transactions.
NOTE 9-EMPLOYEE BENEFIT PLANS
Employee Stock Ownership Plan
The Company sponsors an Employee Stock Ownership Plan ("ESOP"), which
is a qualified non-contributory retirement plan established to acquire shares of
the Company's Common Stock for the benefit of all employees who are 21 years of
age or older and have completed 1,000 hours of service for the Company.
Contributions to the ESOP are made at the discretion of the Board of Directors.
In prior years the ESOP borrowed funds to purchase shares from the Company,
which in turn borrowed the funds for the ESOP loan from a bank. The loan from
the bank to the Company is payable in semiannual installments through February
1, 2003. The loan from the Company to the ESOP was fully repaid in August 1996.
Both the loan obligation and the unearned benefits expense (a reduction in
shareholders' equity) will be reduced by the amount of any loan principal
payments made by the Company. On September 28, 1998, the Company loaned $1.3
million to the ESOP, which the ESOP used to acquire 105,000 shares of the
Company's Common Stock.
The Common Stock purchased by the ESOP with the money borrowed is held
by the ESOP trustee in a suspense account. On an annual basis, a portion of the
Common Stock is released from the suspense account and allocated to
participating employees. Any dividends on ESOP shares are used to pay principal
and interest on the loan. As of September 30, 1998, there were 271,000 shares
allocated to participants which constitute substantially all shares prior to the
105,000 shares acquired on September 28, 1998. Compensation expense related to
the plan amounted to $50,400, $50,400 and $50,300 for the years ended September
30, 1998, 1997 and 1996, respectively.
92
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Employee Savings Plan
The Company sponsors an Employee Retirement Savings Plan and Trust
under Section 401(k) of the Internal Revenue Code which allows employees to
defer up to 10% of their income (subject to certain limitations) on a pretax
basis through contributions to the savings plan. The Company matches up to 100%
of each employee's contribution. Included in general and administrative expenses
are $305,600, $131,900 and $44,700 for the Company's contributions for the years
ended September 30, 1998, 1997 and 1996, respectively.
Stock Options
The Company has three employee stock option plans, those of 1984, 1989
and 1997. The 1984 and 1989 plans authorize the granting of up to 168,540 and
1,769,670 (as amended during the fiscal year ended September 30, 1996) shares,
respectively, of the Company's Common Stock in the form of incentive stock
options ("ISO's"), non-qualified stock options and stock appreciation rights
("SAR's"). No further grants may be made under these two plans.
In April 1997, the stockholders approved the Resource America, Inc.,
1997 Key Employee Stock Option Plan ("Employee Plan"). This plan, for which
825,000 shares were reserved, provides for the issuance of ISO's and
non-qualified stock options. In fiscal 1998 and 1997, options for 669,115 and
75,000 shares were issued under this plan, respectively.
Options under the 1984, 1989 and 1997 plans become exercisable as to
25% of the optioned shares each year after the date of grant, and expire not
later than ten years after grant.
Transactions for all three stock option plans are as follows:
Year Ended September 30,
------------------------------------------------------------------------------------------------
1998 1997 1996
--------------------------------- -------------------------------- ---------------------------
Weighted Weighted Weighted
Average Average Average
Shares Exercise Price Shares Exercise Price Shares Exercise Price
------ -------------- ------ -------------- ------ --------------
Outstanding - beginning of year 685,959 $ 3.85 1,044,948 $ 2.07 606,744 $ .96
Granted 669,115 $22.21 75,000 $13.17 606,744 $2.86
Exercised (33,708) $ 2.73 (433,989) $ 1.17 (84,270) $ .92
Cancelled - - - (84,270) $ .92
--------- --------- ---------
Outstanding - end of year 1,321,366 $13.18 685,959 $ 3.85 1,044,948 $2.07
========= ========= =========
Exercisable, at end of year 292,629 $ 3.22 190,662 $ 2.35 328,653 $ .97
========= ========= =========
Available for grant 80,885 750,000 -
========= ========= =========
Weighted average fair
value per share of options
granted during the year $ 19.41 $11.98 $2.17
======= ====== =====
93
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Outstanding Exercisable
-------------------------------------------- ---------------------------
Weighted
Average Weighted Weighted
Range of Contractual Average Average
Exercise Prices Shares Life (Years) Exercise Price Shares Exercise Price
- - --------------- ------ ----------- -------------- ------ --------------
$.92 50,562 4.56 $ .92 50.562 $ .92
$2.73-3.00 526,689 4.66 $ 2.88 223,317 $ 2.91
$13.17 75,000 8.91 $ 13.17 18,750 $13.17
$15.08-15.58 135,615 9.21 $ 15.55 - $15.55
$22.67-$27.81 533,500 4.79 $ 23.91 - $23.91
--------- -------
1,321,366 292,629
========= =======
On October 20, 1998, the options granted under the 1997 Stock Option
Plan were cancelled. These options were replaced with an identical number of new
options with an exercise price of $8.08 per share, which amount represents the
market value of the Company's Common Stock at that date. The new options will
vest 25% per year commencing October 20, 1999.
In connection with the acquisition of Atlas (see Note 11), the Company
issued 120,213 options at $.11 per share to certain employees of Atlas who held
options of Atlas prior to its acquisition by the Company.
In addition, a key employee of FLI, a wholly owned subsidiary of the
Company, has received options to purchase 10% of the common stock of FLI (1.0
million shares) at an aggregate price of $220,000 and, should FLI declare a
dividend, will receive payments on the options in an amount equal to the
dividends that would have been paid on the shares subject to the options had
they been issued. In the event that, prior to becoming a public company, FLI
issues stock to anyone other than the Company or the key employee, the employee
is entitled to receive such additional options as will allow him to maintain a
10% equity position in FLI upon exercise of all options held by such employee
(excluding shares issuable pursuant to the employee option plan referred to
below), at an exercise price equal to the price paid or value received in the
additional issuance. FLI does not anticipate making any such issuances.
The options issued to the FLI key employee vest 25% per year and will
be fully vested in March 2000; they will terminate in March 2005. The options
become fully vested and immediately exercisable in the event of a change in
control of FLI. The key employee has certain rights, commencing after March 5,
2000, to require FLI to register his option shares under the Securities Act of
1933. In the event FLI does not become a public company by March 5, 2001, the
key employee may require that FLI thereafter buy, for cash, FLI shares subject
to his options at a price equal to ten times FLI's net earnings (as defined in
the agreement) per share for the fiscal year ended immediately prior to the
giving of notice of his exercise of this right. FLI is required to purchase 25%
of such employee's shares in each year following such employee's exercise of
this right.
FLI has also established another option plan providing for the granting
of options, at the discretion of FLI's board of directors, for up to 500,000
shares of common stock to other employees of FLI. As of September 30, 1998,
options for 416,000 shares had been issued to certain employees.
94
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Transactions for both FLI stock option plans are as follows:
Year Ended September 30,
---------------------------------------------------------------------------
1998 1997 1996
---------------------- ------------------------ -----------------------
Weighted Weighted Weighted
Average Average Average
Shares Exercise Price Shares Exercise Price Shares Exercise Price
------ -------------- ------ -------------- ------ --------------
Outstanding-beginning of year 1,393,000 $ .22 1,000,000 $.22 - $ -
Granted 23,000 $1.07 393,000 $.22 1,000,000 $.22
Exercised - $ - - $ - - $ -
Cancelled - $ - - $ - - $ -
--------- --------- ---------
Outstanding - end of year 1,416,000 $ .23 1,393,000 $.22 1,000,000 $.22
========= ========= =========
Exercisable, at end of year 598,300 $ .22 250,000 $.22 - $ -
========= ========= =========
Available for grant 84,000 107,000 500,000
========= ========= =========
Weighted average fair
value per share of options
granted during the year $ .50 $ .11 $ .10
========== ========== ==========
Outstanding Exercisable
-------------------------------------------- ---------------------------
Weighted
Average Weighted Weighted
Range of Contractual Average Average
Exercise Prices Shares Life (Years) Exercise Price Shares Exercise Price
- - --------------- ------ ----------- -------------- ------ --------------
$.22 - $1.07 1,416,000 7.52 $.23 598,300 $.22
========= =======
Fidelity Mortgage Funding, Inc. ("FMF"), another wholly-owned
subsidiary of the Company (and in which the Company owns 25.5 million shares of
common stock), has established an option plan pursuant to which 4.5 million
shares of FMF's common stock (representing 18% of FMF's common stock on a
fully-diluted basis) have been reserved for options which may be issued to key
employees. These amounts reflect a three-for-two stock split effected in the
form of a 150% stock dividend declared by the Board of Directors in October
1997. Under the program, a director and officer of the Company who is also the
Chairman of FMF has received options to purchase 3.0 million shares
(representing 12% of FMF's common stock on a fully-diluted basis) at an
aggregate price of $236,000 ($.079 per share) and, should FMF declare a
dividend, will receive payments on the options in an amount equal to the
dividends that would have been paid on the shares subject to the options had
they been issued. The options generally will have the same terms as those
relating to the FLI options, except that (i) the option term and vesting period
commenced in April 1997 and (ii) the period during which the officer/director
may sell FMF shares to FMF will commence in April 2002. The options become fully
vested and immediately exercisable in the event of a change in control or
potential change in control of FMF or the Company. In addition, as part of the
program, at September 30, 1998, FMF had granted options to (i) its President and
Chief Operating Officer to purchase 1.2 million shares at an aggregate price of
$94,000 ($.079 per share) (representing 5% of FMF's common stock on a
fully-diluted basis), and (ii) to certain other of its employees to purchase
185,000 shares at an aggregate price of $23,000 ($.125 per share), leaving
115,000 shares reserved for issuance of options under the plan at September 30,
1998.
95
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Transactions for the FMF stock option plan are as follows:
Year Ended September 30,
----------------------------------------------------------------
1998 1997
----------------------------- ------------------------------
Weighted Weighted
Average Average
Shares Exercise Price Shares Exercise Price
------ -------------- ------ --------------
Outstanding - beginning of year 4,345,000 $ .08 - $ -
Granted 80,000 $ .12 4,345,000 $.08
Exercised - $ - - $ -
Cancelled (40,000) $(.12) - $ -
--------- ---------
Outstanding - end of year 4,385,000 $ .08 4,345,000 $.08
========= =========
Exercisable, at end of year 1,076,300 $.08 - $ -
========= =========
Available for grant 115,000 155,000
========= =========
Weighted average fair
value per share of options
granted during the year $ .06 $ .06
========= =========
Outstanding Exercisable
-------------------------------------------- ---------------------------
Weighted
Average Weighted Weighted
Range of Contractual Average Average
Exercise Prices Shares Life (Years) Exercise Price Shares Exercise Price
- - --------------- ------ ----------- -------------- ------ --------------
$.079 - $.12 4,385,000 8.57 $.08 1,076,300 $.08
========= =========
As discussed in Note 2, the Company accounts for its stock-based awards
using the intrinsic value method in accordance with Accounting Principles Board
Opinion No. 25, "Accounting for Stock Issued to Employees," and its related
interpretations. Accordingly, no compensation expense has been recognized in the
financial statements for these employee stock arrangements.
SFAS No. 123, Accounting for Stock-Based Compensation, requires the
disclosure of pro forma net income and earnings per share as if the Company had
adopted the fair value method for stock options granted after June 30, 1996. No
such options were granted in fiscal 1996. Under SFAS No. 123, the fair value of
stock-based awards to employees is calculated through the use of option pricing
models, even though such models were developed to estimate the fair value of
freely tradable, fully transferable options without vesting restrictions, which
significantly differ from the Company's stock option awards. These models also
require subjective assumptions, including future stock price volatility and
expected time to exercise, which greatly affect the calculated values. The
Company's calculations were made using the Black-Scholes option pricing model
with the following weighted average assumptions: expected life, 5 or 10 years
following vesting; stock volatility, 99%, 96% and 87% in 1998, 1997 and 1996,
respectively; risk free interest rate, 5.8%, 6.6% and 6.0% in 1998, 1997 and
1996, respectively; and no dividends during the expected term. The Company's
calculations are based on a multiple option valuation approach and forfeitures
are recognized as they occur. If the computed fair values of the awards had been
amortized to expense over the vesting period of the awards, pro forma net income
would have been $26.2 million ($1.52 per share) and $10.5 million ($.80 per
share) in fiscal 1998 and 1997, respectively.
96
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
In addition to the various stock option plans, in May 1997 the
stockholders approved the Resource America, Inc. Non-Employee Director Deferred
Stock and Defined Compensation Plan (the "Director Plan") for which 75,000
shares were reserved for issuance. Each director vests in shares granted under
the Director Plan on the fifth anniversary of the date of grant. If a director
terminates service prior to such fifth anniversary, all of the shares granted
are forfeited. In May 1998, 15,000 shares were granted under the Director Plan
to each of the Company's four non-employee directors. The fair value of the
grants ($24.25 per share, $363,800 in total) is being charged to operations over
the five-year vesting period.
The tax benefit associated with the exercise of non-statutory stock
options and disqualifying dispositions by employees of shares issued reduced
taxes payable by $405,000 in fiscal 1998. Such benefits are reflected as
additional paid-in capital.
NOTE 10-COMMITMENTS AND CONTINGENCIES
The Company leases office space under leases with varying expiration
dates through 2002 (see Note 3). Rental expense was $749,800, $238,600 and
$188,900 for the years ended September 30, 1998, 1997 and 1996, respectively. At
September 30, 1998, future minimum rental commitments for the next five fiscal
years were as follows:
1999...................... $1,645,800
2000...................... 1,292,800
2001...................... 975,900
2002...................... 848,300
2003...................... 772,800
As of September 30, 1998, the Company had outstanding commitments to
fund the purchase of equipment which it intends to lease, with an aggregate cost
of $13.2 million. The Company believes, based on its past experience, that
approximately $9.5 million will be funded.
The Company has an employment agreement with its Chairman pursuant to
which the Company has agreed to provide him with a supplemental employment
retirement plan ("SERP") and with certain financial benefits upon termination of
his employment. Under the SERP, he will be paid an annual benefit of 75% of his
Average Income after he has reached Retirement Age (each as defined in the
employment agreement). Upon termination, he is entitled to receive lump sum
payments in various amounts of between 25% and five times Average Compensation
(depending upon the reason for termination) and, for termination due to
disability, a monthly benefit equal to the SERP benefit (which will terminate
upon commencement of payments under the SERP). During fiscal 1998 and 1997,
operations were charged $204,000 and $240,000, respectively, with respect to
these commitments.
97
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Actions have been filed against the Company, its directors and
executive officers and the Company's independent auditors by certain of the
Company's shareholders. The complaints seek unspecified damages. The complaints
seek unspecified damages. The Company believes that the complaints are without
merit and intends to defend itself vigorously.
The Company is also party to various routine legal proceedings arising
out of the ordinary course of its business. Management believes that none of
these actions, individually or in the aggregate, will have a material adverse
effect on the financial condition or operations of the Company.
NOTE 11-ACQUISITIONS
On September 29, 1998, the Company acquired all the common stock of
Atlas in exchange for 2,063,496 shares of the Company's Common Stock and the
assumption of Atlas debt as described below. Atlas is a company primarily
involved in the energy finance business through the syndication of oil and gas
properties in the Appalachian Basin.
The Atlas acquisition was recorded under the purchase method of
accounting and accordingly the results of operations of Atlas are included in
the Company's consolidated financial statements commencing September 29, 1998.
The effect on the Company's operations for fiscal 1998 was nominal. The purchase
price has been allocated to assets acquired and liabilities assumed based on
their fair market values, at the date of acquisition as summarized below (in
thousands).
Estimated fair value of assets acquired $ 74,635
Liabilities assumed (45,968)
Amounts due seller (9,191)
Common Stock issued (29,534)
--------
Net cash acquired ($10,058)
========
98
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The following table reflects unaudited pro forma combined results of
operations of the Company and Atlas presented as if that the acquisition had
taken place on October 1, 1996:
Year Ended September 30,
--------------------------
1998 1997
---- ----
(unaudited)
(in thousands, except per
share amounts)
Revenues $148,413 $96,958
Net income 29,874 14,140
Net income per common share-diluted $1.54 $ .93
Shares used in computation 19,451 15,257
These unaudited pro forma results have been prepared for comparative
purposes only and include certain adjustments to: (i) depletion, depreciation
and amortization expense attributable to allocation of the purchase price; (ii)
general and administrative expenses for certain cost reductions realized from
the combining of operations; and (iii) interest expense for additional
borrowings. They do not purport to be indicative of the results of operations
which actually would have resulted had the combination been consummated on
October 1, 1996, or of future results of operations of the consolidated
entities.
In April 1997, the Company acquired all the outstanding shares of Bryn
Mawr Resources, Inc. ("BMR") for 1,738,869 shares of Common Stock. BMR's only
asset was 1,768,869 shares of the Company's Common Stock held by subsidiaries of
BMR (excluding 11,421 shares of the Company's Common Stock attributable to
minority interests held by third parties in BMR's subsidiaries).
This acquisition was immaterial to the results of operations of the
Company, and therefore pro forma information is excluded.
On December 15, 1998, the Company entered into an agreement to acquire
JLA credit corporation ("JLA") for a combination of cash, including financing
to be arranged by the Company, and assumption of JLA debt. The Company believes
that the value of the transaction is approximately $350.0 million. Subject to a
financing contingency, the Company anticipates that the transaction will close
in January 1999.
NOTE 12-EXTRAORDINARY ITEM
During fiscal 1998 the Company acquired $10.6 million of its 12% Notes
at a discount. In addition the Company repaid another long-term borrowing at a
premium. These transactions resulted in a net extraordinary gain of $239,000 net
of taxes of $112,000.
99
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 13-INDUSTRY SEGMENT INFORMATION AND MAJOR CUSTOMERS
The Company operates in three principal industry segments - real estate
finance, equipment leasing and energy. Segment data for the years ended
September 30, 1998, 1997 and 1996 are as follows:
Year Ended September 30,
------------------------------------------
1998 1997 1996
-------- -------- --------
(in thousands)
Revenue:
Real estate finance $ 62,856 $ 19,144 $ 7,171
Equipment leasing 13,561 7,162 4,466
Energy 6,734 5,608 5,157
Corporate 4,316 1,031 204
-------- -------- -------
$ 87,467 $ 32,945 $16,998
======== ======== =======
Depreciation, Depletion and
Amortization:
Real estate finance $ 773 $ 36 $ 38
Equipment leasing 610 398 204
Energy 1,273 1,202 1,061
Corporate (15) (22) 65
-------- -------- -------
$ 2,641 $ 1,614 $ 1,368
======== ======== =======
Operating Profit (Loss):
Real estate finance $ 46,972 $ 16,546 $ 6,281
Equipment leasing 5,921 2,457 1,916
Energy 1,659 1,699 1,646
Corporate (13,812) (5,771) (2,490)
-------- -------- -------
$ 40,740 $ 14,931 $ 7,353
======== ======== =======
Identifiable Assets:
Real estate finance $211,251 $ 92,287 $22,087
Equipment leasing 29,608 10,647 3,019
Energy 90,408 15,016 12,675
Corporate 95,180 77,169 6,178
-------- -------- -------
$426,447 $195,119 $43,959
======== ======== =======
Capital Expenditures (excluding
assets acquired in business
acquisitions):
Real estate finance $ 1,141 $ 59 $ 17
Equipment leasing 891 585 531
Energy 2,095 640 501
Corporate - 507 48
-------- -------- -------
$ 4,127 $ 1,791 $ 1,097
======== ======== =======
100
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Operating profit (loss) represents total revenue less costs
attributable thereto, including interest and provision for possible losses, and
less depreciation, depletion and amortization, excluding general corporate
expenses.
The Company's natural gas is sold under contract to various purchasers.
For the years ended September 30, 1998, 1997 and 1996, gas sales to two
purchasers accounted for 35% and 14%, 29% and 12%, and 29% and 13% of the
Company's total production revenues, respectively.
In commercial mortgage loan acquisition and resolution, no revenues
from a single borrower exceeded 10% of total revenues. In fiscal 1997, revenues
from a single borrower approximated 20% of total revenues, while for fiscal 1996
revenues from a (different) single borrower approximated 24% of total revenues.
NOTE 14-SUPPLEMENTAL OIL AND GAS INFORMATION
Results of operations for oil and gas producing activities:
Year Ended September 30,
------------------------------------------
1998 1997 1996
---- ---- ----
(in thousands)
Revenues................................. 4,682 $3,936 $3,421
Production costs......................... (2,022) (1,636) (1,421)
Exploration expenses..................... (503) (187) (161)
Depreciation, depletion, and
amortization.......................... (809) (712) (781)
Income taxes............................. (263) (197) (96)
------ ------ ------
Results of operations for
producing activities.................. $1,085 $1,204 $ 962
====== ====== ======
101
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Capitalized Costs Related to Oil and Gas Producing Activities
The components of capitalized costs related to the Company's oil and
gas producing activities (less impairment reserve of $20,000 in fiscal 1998,
$28,000 in fiscal 1997 and $22,000 in fiscal 1996), are as follows:
September 30,
------------------------------------------
1998 1997 1996
---- ---- ----
(in thousands)
Proved properties........................ $42,458 $23,254 $22,549
Unproved properties...................... 1,164 846 482
Pipelines, equipment and other
interests............................. 7,645 2,445 2,540
------- ------- -------
Total.................................... 51,267 26,545 25,571
Accumulated depreciation, depletion
and amortization....................... (15,611) (15,145) (14,306)
-------- ------- -------
Net capitalized costs................ $35,656 $11,400 $11,265
======= ======= =======
Costs Incurred in Oil and Gas Producing Activities
The costs incurred by the Company in its oil and gas activities during
fiscal years 1998, 1997 and 1996 are as follows:
Year Ended September 30,
-----------------------------------------
1998 1997 1996
---- ---- ----
(in thousands)
Property acquisition costs:
Unproved properties....................... $ 378 $321 $ 2
Proved properties......................... 19,436 782 157
Exploration costs........................... 816 238 317
Development costs........................... 416 144 176
Oil and Gas Reserve Information (unaudited)
The Company's estimates of net proved oil and gas reserves and the
present value thereof have been verified by Wright & Company, Inc. in fiscal
1998 and by E.E. Templeton & Associates, Inc. in fiscal 1997 and 1996. Both are
petroleum engineering firms. The Company did not estimate the value of its
proven undeveloped reserves in fiscal 1997 and 1996.
The Company's oil and gas reserves are located within the United
States. There are numerous uncertainties inherent in estimating quantities of
proved reserves and in projecting future net revenues and the timing of
development expenditures. The reserve data presented represent estimates only
and
102
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
should not be construed as being exact. In addition, the standardized
measures of discounted future net cash flows may not represent the fair market
value of the Company's oil and gas reserves or the present value of future cash
flows of equivalent reserves, due to anticipated future changes in oil and gas
prices and in production and development costs and other factors for which
effects have not been provided.
The standardized measure of discounted future net cash flows is
information provided for the financial statement user as a common base for
comparing oil and gas reserves of enterprises in the industry.
Gas Oil
(mcf) (bbls)
---------- -------
Balance at September 30, 1995........................ 12,782,482 301,159
Purchase of reserves in-place........................ 293,602 8,880
Current additions.................................... 237,070 726
Sales of reserves in-place........................... (18,645) (1,885)
Revision to previous estimates....................... 723,242 35,002
Production........................................... (1,165,477) (33,862)
---------- -------
Balance at September 30, 1996........................ 12,852,274 310,020
Purchase of reserves in-place........................ 1,903,853 45,150
Current additions.................................... 15,984 0
Sales of reserves in-place........................... (1,393) 0
Revision to previous estimates....................... 1,614,704 38,654
Production........................................... (1,227,887) (35,811)
---------- -------
Balance at September 30, 1997........................ 15,157,535 358,013
Purchase of reserves in-place........................ 74,894,968 194,270
Current additions.................................... 217,508 41,406
Sales of reserves in-place........................... (53,320) (2,523)
Revision to previous estimates....................... 1,151,890 29,461
Production........................................... (1,485,008) (48,113)
---------- -------
Balance September 30, 1998........................... 89,883,573 572,514
========== =======
Proved developed reserves at
September 30, 1998................................. 49,868,113 572,514
September 30, 1997................................. 15,157,535 358,013
September 30, 1996................................. 12,852,274 310,020
103
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Presented below is the standardized measure of discounted future net
cash flows and changes therein relating to proved oil and gas reserves. The
estimated future production is priced at year-end prices. The resulting
estimated future cash inflows are reduced by estimated future costs to develop
and produce the proved reserves based on year-end cost levels. The future net
cash flows are reduced to present value amounts by applying a 10% discount
factor.
Year Ended September 30,
-------------------------------------------
1998 1997 1996
---- ---- ----
(in thousands)
Future cash inflows............................ $240,922 $42,634 $ 34,516
Future production and
development costs........................... (102,557) (21,585) (16,764)
Future income tax expense...................... (14,278) (2,740) (2,732)
--------- ------- --------
Future net cash flows.......................... 124,087 18,309 15,020
Less 10% annual discount for
estimated timing of cash flows............... (80,313) (8,186) (6,671)
---------- ------- --------
Standardized measure of discounted
future net cash flows........................ $ 43,774 $10,123 $ 8,349
======== ======= ========
104
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
The following table summarizes the changes in the standardized measure
of discounted future net cash flows from estimated production of proved oil and
gas reserves after income taxes.
Year Ended September 30,
--------------------------------------------
1998 1997 1996
---- ---- ----
(in thousands)
Balance, beginning of year...................... $10,123 $ 8,349 $7,810
Increase (decrease) in discounted
future net cash flows:
Sales and transfers of oil and gas
net of related costs.......................... (2,822) (2,411) (1,928)
Net changes in prices and production
costs......................................... 171 512 1,392
Revisions of previous quantity
estimates..................................... 597 2,483 697
Extensions, discoveries, and improved
recovery less related costs................... 194 10 145
Purchases of reserves in-place.................. 34,935 1,474 242
Sales of reserves in-place, net of
tax effect.................................... (30) (1) (26)
Accretion of discount........................... 1,012 997 851
Net change in future income taxes............... (3,770) (14) (924)
Other........................................... 3,364 (1,276) 90
------- ------- ------
Balance, end of year............................ $43,774 $10,123 $8,349
======= ======= ======
105
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 15 - QUARTERLY RESULTS (unaudited)
Dec 31 March 31 June 30 Sept. 30
------ -------- ------- --------
(in thousands except per share data)
Year ended September 30, 1998:
Revenues $15,080 $21,305 $25,130 $25,952
Costs and Expenses 9,354 12,111 13,013 12,249
-------- -------- ------- -------
Income before taxes and extraordinary
item 5,726 9,194 12,117 13,703
Income taxes 1,775 2,875 3,750 4,968
-------- ------- ------- -------
Income before extraordinary item 3,951 6,319 8,367 8,735
Extraordinary item, gain on early extinguishment
of debt, net of taxes - - - 239
------- ------- ------- -------
Net income $ 3,951 $ 6,319 $ 8,367 $ 8,974
======== ======= ======= =======
Net income per common share-
Basic
Income before extraordinary item $0.28 $0.44 $ 0.46 $ 0.44
Extraordinary item - - - 0.01
----- ------ ----- ------
Net income per common share -
basic $0.28 $0.44 $ 0.46 $ 0.45
===== ===== ======= =======
Diluted
Income before extraordinary item $0.27 $0.43 $ 0.45 $ 0.42
Extraordinary item - - - 0.01
----- ------- ------- -------
Net income per common share -
diluted $0.27 $0.43 $ 0.45 $ 0.43
===== ======= ======= =======
Year ended September 30, 1997:
Revenues $ 5,932 $ 6,843 $ 7,828 $12,342
Costs and Expenses 3,072 3,534 3,754 7,654
------- ------- ------- -------
Income before taxes 2,860 3,309 4,074 4,688
Income taxes 575 775 1,144 1,486
------- ------- ------- -------
Net Income $ 2,285 $ 2,534 $ 2,930 $ 3,202
======= ======= ======= =======
Net income per common share -
Basic $ 0.30 $ 0.24 $ 0.27 $ 0.24
======= ======= ======= =======
Diluted $ 0.22 $ 0.18 $ 0.21 $ 0.22
======= ======= ======= =======
106
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None.
PART III
ITEM 10. DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS OF THE
REGISTRANT
The information required by this item will be set forth in Company's
definitive proxy statement with respect to its 1999 annual meeting of
stockholders, to be filed on or before January 29, 1999 (the "Proxy Statement"),
and is incorporated herein by reference.
ITEM 11. EXECUTIVE COMPENSATION
The information required by this item will be set forth in the Proxy
Statement, and is incorporated herein by reference.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The information required by this item will be in the Proxy Statement,
and is incorporated herein by reference.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information required by this item will be set forth in the Proxy
Statement, and is incorporated herein by reference.
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
(a) The following documents are filed as part of this Form 10-K:
1. Financial Statements
Report of Independent Certified Public Accountants
Consolidated Balance Sheets
Consolidated Statements of Income
Consolidated Statements of Changes in Stockholders'
Equity
Consolidated Statements of Cash Flows
Notes to Consolidated Financial Statements
107
2. Financial Statement Schedules
a. Inapplicable
b. Schedule IV - Mortgage Loans on Real Estate
All other schedules are not applicable or are omitted
since either (i) the required information is not
material or (ii) the information required is included
in the consolidated financial statements and the
Notes thereto.
3. Exhibit No. Description
----------- -----------
2.1 Agreement and Plan of Merger among Tri-Star Financial Services, Inc., Frank Pellegrini,
Resource Tri-Star Acquisition Corp. and the Registrant(1)
2.2 Agreement and Plan of Merger among Registrant, Atlas America, Inc., The Atlas Group, Inc.
and certain shareholders of The Atlas Group, Inc.(2)
3.1 Restated Certificate of Incorporation of the Registrant.(3)
3.2 Bylaws of the Registrant, as amended.(3)
4.1 Indenture with respect to 12% Senior Notes due 2004 (including form of note).(4)
10.1 1984 Key Employee Stock Option Plan, as amended.(5)
10.2 1989 Key Employee Stock Option Plan, as amended.(5)
10.3 Employee Stock Ownership Plan.(6)
10.4 1997 Key Employee Stock Option Plan.(7)
10.5 1997 Stock Option Plan for Directors.(7)
10.6 1997 Non-Employee Director Deferred Stock and Defined Compensation Plan.(7)
10.7 Employment Agreement between Edward E. Cohen and Registrant(8)
10.8 Contribution Agreement between Resource Leasing, Inc. and Abraham Bernstein.(3)
10.9 Employment Agreement between Fidelity Leasing, Inc. and Abraham Bernstein.(3)
10.10 Employment Agreement between Fidelity Mortgage Funding, Inc. and Daniel G. Cohen.(8)
108
10.11 Loan Agreement between Registrant and KeyBank, N.A.(9)
10.12 Loan Agreement between Atlas and PNC Bank.
10.13 Loan Agreement between Fidelity Leasing, Inc. and First Union National Bank, as Agent.
11 Calculation of Basic and Diluted Earnings per Share.
12 Computation of Ratios
21 List of Subsidiaries.
23.1 Consent of Wright & Company, Inc.
23.2 Consent of E. E. Templeton & Associates, Inc.
27 Financial Data Schedule.
(1) Filed previously as an Exhibit to the Company's Annual Report in Form 10-K for the year ended September 30, 1997.
(2) Filed previously as an Exhibit to the Company's Current Report on Form 8-K for September 29, 1998.
(3) Filed previously as an Exhibit to the Company's Registration Statement on Form S-1 (Registration No. 333-13905) and by this
reference incorporated herein.
(4) Filed previously as an Exhibit to the Company's Registration Statement on Form S-4 (Registration No. 333-40231) and by this
reference incorporated herein.
(5) Filed previously as an Exhibit to the Company's Registration Statement on Form S-8 May 2, 1996 and by this reference
incorporated herein.
(6) Filed previously as an Exhibit to the Company's Annual Report on Form 10-K for the year ended September 30, 1989 and by this
reference incorporated herein.
(7) Filed previously as an Exhibit to the Company's Quarterly Report on Form 10-Q for the quarter ended June 30, 1997 and by
this reference incorporated herein.
(8) Filed previously as an Exhibit to the Company's Quarterly Report on Form 10-Q for the quarter ended March 31, 1997 and by
this reference incorporated herein.
(9) Filed previously as an Exhibit to the Company's Annual report on Form 10-K for the year ended September 30, 1997 and by this
reference incorporated herein.
109
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.
RESOURCE AMERICA, INC. (Registrant)
December ___, 1998 By: /s/ Edward E. Cohen
--------------------------------------------
Chairman of the Board and Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934,
this report has been signed below by the following persons on behalf of the
registrant and in the capacities indicated as of December ___, 1998.
/s/ Edward E. Cohen Chairman of the Board and Chief Executive
- - ------------------------- Officer
EDWARD E. COHEN
/s/ Daniel G. Cohen
- - ------------------------- President, Chief Operating Officer and Director
DANIEL G. COHEN
/s/ Scott F. Schaeffer
- - ------------------------- Vice Chairman of the Board and Executive Vice
SCOTT F. SCHAEFFER President
/s/ Michael L. Staines
- - ------------------------- Senior Vice President and Director
MICHAEL L. STAINES
/s/ Carlos C. Campbell
- - ------------------------- Director
CARLOS C. CAMPBELL
/s/ Andrew M. Lubin
- - ------------------------- Director
ANDREW M. LUBIN
/s/ P. Sherrill Neff
- - ------------------------- Director
P. SHERRILL NEFF
/s/ Alan D. Schrieber
- - ------------------------- Director
ALAN D. SCHRIEBER
/s/ John S. White
- - ------------------------- Director
JOHN S. WHITE
/s/ Steven J. Kessler
- - ------------------------- Senior Vice President and Chief Financial
STEVEN J. KESSLER Officer
/s/ Nancy J. McGurk
- - ------------------------- Vice President-Finance and Chief Accounting
NANCY J. McGURK Officer
110
INDEX EXHIBIT
3. Exhibit No. Description
----------- -----------
2.1 Agreement and Plan of Merger among Tri-Star Financial Services, Inc., Frank Pellegrini,
Resource Tri-Star Acquisition Corp. and the Registrant(1)
2.2 Agreement and Plan of Merger among Registrant, Atlas America, Inc., The Atlas Group, Inc.
and certain shareholders of The Atlas Group, Inc.(2)
3.1 Restated Certificate of Incorporation of the Registrant.(3)
3.2 Bylaws of the Registrant, as amended.(3)
4.1 Indenture with respect to 12% Senior Notes due 2004 (including form of note).(4)
10.1 1984 Key Employee Stock Option Plan, as amended.(5)
10.2 1989 Key Employee Stock Option Plan, as amended.(5)
10.3 Employee Stock Ownership Plan.(6)
10.4 1997 Key Employee Stock Option Plan.(7)
10.5 1997 Stock Option Plan for Directors.(7)
10.6 1997 Non-Employee Director Deferred Stock and Defined Compensation Plan.(7)
10.7 Employment Agreement between Edward E. Cohen and Registrant(8)
10.8 Contribution Agreement between Resource Leasing, Inc. and Abraham Bernstein.(3)
10.9 Employment Agreement between Fidelity Leasing, Inc. and Abraham Bernstein.(3)
10.10 Employment Agreement between Fidelity Mortgage Funding, Inc. and Daniel G. Cohen.(8)
10.11 Loan Agreement between Registrant and KeyBank, N.A.(9)
10.12 Loan Agreement between Atlas and PNC Bank.
10.13 Loan Agreement between Fidelity Leasing, Inc. and First Union National Bank, as Agent.
11 Calculation of Basic and Diluted Earnings per Share.
12 Computation of Ratios
21 List of Subsidiaries.
23.1 Consent of Wright & Company, Inc.
23.2 Consent of E. E. Templeton & Associates, Inc.
27 Financial Data Schedule.
(1) Filed previously as an Exhibit to the Company's Annual Report in Form 10-K for the year ended September 30, 1997.
(2) Filed previously as an Exhibit to the Company's Current Report on Form 8-K for September 29, 1998.
(3) Filed previously as an Exhibit to the Company's Registration Statement on Form S-1 (Registration No. 333-13905) and by this
reference incorporated herein.
(4) Filed previously as an Exhibit to the Company's Registration Statement on Form S-4 Registration No. 333-40231) and by this
reference incorporated herein.
(5) Filed previously as an Exhibit to the Company's Registration Statement on Form S-8 May 2, 1996 and by this reference
incorporated herein.
(6) Filed previously as an Exhibit to the Company's Annual Report on Form 10-K for the year ended September 30, 1989 and by this
reference incorporated herein.
(7) Filed previously as an Exhibit to the Company's Quarterly Report on Form 10-Q for the quarter ended June 30, 1997 and by
this reference incorporated herein.
(8) Filed previously as an Exhibit to the Company's Quarterly Report on Form 10-Q for the quarter ended March 31, 1997 and by
this reference incorporated herein.
(9) Filed previously as an Exhibit to the Company's Annual report on Form 10-K for the year ended September 30, 1997 and by this
reference incorporated herein.
SCHEDULE IV
RESOURCE AMERICA, INC. & SUBSIDIARIES
MORTGAGE LOANS ON REAL ESTATE
September 30, 1998
(in thousands)
FINAL PERIODIC
INTEREST MATURITY PAYMENT
DESCRIPTION RATE DATE TERMS
----------- ---- ---- -----
FIRST MORTGAGES
Hotel/Commercial Office, GA Fixed interest rate of 14% 12/31/15 (a)
Hotel GA Fixed interest rate of 14% 12/1/02 (a)
Hotel, NE Fixed interest rate of 14.5% 9/30/02 (a)
Condominium units, NC Fixed interest rate of 8% 3/31/02 (a)
Apartment bldg. PA Fixed interest rate of 14% 10/1/02 (a)
Office bldg., PA Interest at 85% of Prime 9/30/14 (a)
Apartment bldg., IL, 3 loans Fixed interest rate of 7.5% 9/30/02 (a)
JUNIOR LIEN LOANS
Apartment bldg., FL Fixed interest rate of 13% 7/1/00 (a)
Office bldg., NC Fixed interest rate of 11.5% 12/31/11 (a)
Apartment bldg. NJ, 2 loans Fixed interest rates of 11.25% 9/1/05 (a)
and Prime plus 1%
Apartment bldg., CN Fixed interest rate of 10.85% 9/1/05 (a)
Apartment bldg., PA Fixed interest rate of 14.5% 12/31/02 (a)
Apartment bldg., NJ Fixed interest rate of 9% 1/1/03 (a)
Apartment bldg., NJ, 2 loans Fixed rates of 8% and 24% 10/31/08 (a)
Apartment bldg., IL Fixed interest rate of 7.5% 4/30/03 (a)
Office bldg. PA Federal Funds rate plus 2.875% 10/01/03 (a)
Office bldg., PA 3 loans Fixed rates ranging from 6.85% 8/1/08
to 12%
Office bldg., PA Fixed interest rate of 10.6% 2/07/01 (a)
Office bldg., DC Interest rate of Prime plus 3% 6/1/00 (a)
Office bldg., NJ, 3 loans Fixed interest rate of 9.75%% 2/7/01 (a)
Office bldg., PA, 3 loans Rate ranging from 12% to 85% of 9/30/03 (a)
the rate for $100,000 CD's
Office bldg., PA 3 loans Fixed interest rate of 8% 1/1/02 (a)
Apartment bldg. CN Fixed interest rate of 7.5% 7/1/03 (a)
Apartment bldg., M Fixed interest rate of 10% 6/30/08 (a)
Apartment bldg., PA, 2 loans Interest rates of 7% and 15% 12/17/02 (a)
Apartment bldg., PA Fixed interest rate of 9% 12/31/02 (a)
Apartment bldg., PA 31 loans Fixed interest rate of 12% 7/1/16 (a)
Apartment bldg., PA 85% of 30 day $100,000 rate CD 10/31/98
plus 2.75%
Apartment bldg., PA Fixed interest rate of 9.28% 11/1/22
Condominium Units, NC Fixed interest rate of 8.0% 3/31/02 (a)
Office bldg., Washington, DC, Fixed interest rate of 12% and Two 11/30/98 (a)
2 loans thirds of the 30 day Treasury Rate
Office bldg., PA Fixed interest rate of 9% 9/25/02 (a)
Industrial bldg., Pasadena, CA 2.75% over the average cost of 5/1/01 (a)
funds to FSLIC-insured savings and
loan institutions
Office bldg., Washington, DC Fixed interest rate of 15% 8/1/08 (a)
Retail bldg., VA, 2 loans Fixed rates of 9.25% and 14.8% 12/1/02 (a)
Retail bldg., VA Fixed interest rate of 9% 2/1/21 (a)
Retail bldg., MN Fixed interest rate of 10% 12/31/14 (a)
Retail bldg., WVA Fixed interest rate of 12% 12/31/16 (a)
Retail bldg., CA Fixed interest rate of 9% 12/1/00 (a)
Office/Retail bldg., PA Interest rate of 5% plus 90% of 7/1/02 (a)
Prime
Office Bldg., WVA Fixed interest rate of 8.5% 12/31/00 (a)
Single family residential Fixed interest rates ranging from Various
housing 304 loans 7.74% to 16.75%
Note Receivable Fixed interest rate of 7.5% 12/31/27
[RESTUBBED TABLE]
FACE CARRYING SUBJECT TO
PRIOR AMOUNT OF AMOUNT OF DELINQUENT
DESCRIPTION LIENS MORTGAGES MORTGAGES INTEREST
----------- ----- --------- --------- --------
FIRST MORTGAGES
Hotel/Commercial Office, GA $ -- $5,800 $6,284 --
Hotel GA -- 3,625 1,453 --
Hotel, NE -- 6,005 4,082 --
Condominium units, NC -- 1,670 1,724 49
Apartment bldg. PA -- 400 402 --
Office bldg., PA -- 6,000 3,754 --
Apartment bldg., IL, 3 loans -- 17,460 17,333 --
JUNIOR LIEN LOANS
Apartment bldg., FL 2,096 4,100 1,214 --
Office bldg., NC 1,750 3,500 1,800 --
Apartment bldg. NJ, 2 loans 5,962 11,615 4,500 --
Apartment bldg., CN 1,800 7,520 3,918 --
Apartment bldg., PA 2,570 4,500 2,633 --
Apartment bldg., NJ 625 1,798 735 93
Apartment bldg., NJ, 2 loans 2,136 3,375 1,200 --
Apartment bldg., IL 10,000 24,083 10,580 --
Office bldg. PA 60,000 31,000 35,082 --
Office bldg., PA 3 loans 43,925 44,000 16,378 --
Office bldg., PA 840 5,400 817 --
Office bldg., DC 685 900 749 --
Office bldg., NJ, 3 loans 2,387 4,800 2,244 --
Office bldg., PA, 3 loans 2,213 3,116 1,312 --
Office bldg., PA 3 loans 17,784 40,644 13,576 --
Apartment bldg. CN 11,942 14,500 6,600 --
Apartment bldg., M 16,000 1,300 1,374 --
Apartment bldg., PA, 2 loans 1,000 1,454 880 --
Apartment bldg., PA 2,997 5,000 1,760 --
Apartment bldg., PA 31 loans 2,860 -- 1,081 --
Apartment bldg., PA 3,113 3,205 982 --
Apartment bldg., PA 2,478 3,155 809 --
Condominium Units, NC -- 3,550 3,564 13
Office bldg., Washington, DC, 6,548 13,283 6,889 --
2 loans
Office bldg., PA 1,750 1,150 570 --
Industrial bldg., Pasadena, CA 2,000 3,000 338 --
Office bldg., Washington, DC 80,684 100,971 20,041 --
Retail bldg., VA, 2 loans 34,960 45,000 8,358 --
Retail bldg., VA 1,413 3,961 671 --
Retail bldg., MN 2,088 1,776 602 --
Retail bldg., WVA 994 1,400 488 --
Retail bldg., CA 1,969 2,271 942 --
Office/Retail bldg., PA 2,611 3,400 1,299 --
Office Bldg., WVA 2,400 6,398 538 --
-------- -------- -------- ----
332,580 446,085 189,556 155
Single family residential
housing, 304 loans (d) 12,114 12,235 --
Note Receivable (d) 8,267 1,450 --
-------- -------- -------- ----
Balance at September 30, 1998 $332,580 $466,466 $203,241(c) $155
======== ======== ======== ====
Reconciliation of the total carrying amount of real estate loans for the year follow:
Balance at October 1, 1997 $ 89,216
Additions during the period:
New mortgage loans $337,087
Accretion of discount 6,520
Additions of residential
mortgage loans 13,685
Additions of existing loans 6,181 363,473
-------------------------
Deductions during the period:
Collections of principal ( 76,915)
Cost of mortgage old (172,533) (249,448)
-------------------------
Balance at September 30, 1998 $203,241(c)
========
(a) All net cash flows from the property
(b) Cost for Federal Income tax purposes equals $212,303
(c) Reconciliation shown without allowance for possible losses.
(d) Not practical to determine.