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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 December 31, 2000
OR
[_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from to
Commission file number 1-75
Household Finance Corporation
(Exact name of registrant as specified in its charter)
Delaware 6-1239445
(State of incorporation) (I.R.S. Employer Identification No.)
2700 Sanders Road 60070
Prospect Heights, Illinois (Zip Code)
(Address of principal executive
offices)
Registrant's telephone number, including area code: (847) 564-5000
Securities registered pursuant to Section 12(b) of the Act:
Name of each exchange
Title of each class on which registered
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9% Senior Subordinated Notes, due September 28, New York Stock Exchange
2001
Securities registered pursuant to Section 12(g) of the Act:
None
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. [_]
As of March 15, 2001, there were 1,000 shares of registrant's common stock
outstanding, all of which are owned by Household International, Inc.
The registrant meets the conditions set forth in General Instruction I(1)(a)
and (b) of Form 10-K and is therefore filing this Form 10-K with the reduced
disclosure format.
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TABLE OF CONTENTS
PART/Item No. Page
------------- ----
PART I.
Item 1. Business.................................................. 3
Cautionary Statement on Forward-Looking Statements........ 3
Item 2. Properties................................................ 4
Item 3. Legal Proceedings......................................... 4
Item 4. Submission of Matters to a Vote of Security Holders....... 4
PART II.
Item 5. Market for Registrant's Common Equity and Related
Stockholder Matters....................................... 4
Item 6. Selected Financial Data................................... 4
Item 7. Management's Discussion and Analysis of Financial
Condition and Results of Operations....................... 5
Item 7A. Quantitative and Qualitative Disclosure About Market
Risk...................................................... 24
Item 8. Financial Statements and Supplementary Data............... 24
Item 9. Changes in and Disagreements with Accountants on
Accounting and Financial Disclosure....................... 24
PART III.
Item 10. Directors and Executive Officers of the Registrant........ 24
Item 11. Executive Compensation.................................... 24
Item 12. Security Ownership of Certain Beneficial Owners and
Management................................................ 24
Item 13. Certain Relationships and Related Transactions............ 24
PART IV.
Item 14. Exhibits, Financial Statement Schedules, and Reports on
Form 8-K.................................................. 24
Financial Statements...................................... 24
Reports on Form 8-K....................................... 25
Exhibits.................................................. 25
Signatures............................................................... 26
Report of Independent Public Accountants................................. F-1
Consolidated Statements of Income........................................ F-2
Consolidated Balance Sheets.............................................. F-3
Consolidated Statements of Cash Flows.................................... F-4
Consolidated Statements of Changes in Common Shareholder's Equity........ F-5
Notes to Consolidated Financial Statements............................... F-7
Selected Quarterly Financial Data (Unaudited)............................ F-33
2
PART I
Item 1. Business.
Household Finance Corporation ("HFC") is a wholly-owned subsidiary of
Household International, Inc. ("Household International" or the "parent
company"). HFC and its subsidiaries may also be referred to in this Form 10-K
as "we," "us" or "our." On June 30, 1998, Household International merged with
Beneficial Corporation ("Beneficial"), a consumer finance holding company
headquartered in Wilmington, Delaware. Upon completion of the merger,
substantially all of the net assets of Beneficial were contributed by
Household International to HFC. We offer real estate secured loans, auto
finance loans, MasterCard* and Visa* credit cards, private label credit cards,
tax refund anticipation loans ("RAL") and other types of unsecured loans to
consumers in the United States. Prior to December 1998 when the holding
company for Beneficial's international operations was merged with an
affiliate, we also provided our consumer lending products to consumers in the
United Kingdom and Canada. Where applicable laws permit, credit and specialty
insurance is offered to our customers in connection with our products in the
United States and Canada and prior to December 1998, in the United Kingdom.
We have one reportable segment, Consumer, which includes our branch-based
and correspondent consumer lending, retail services, credit card services and
auto finance businesses. Our consumer lending business includes our branch
based operations and our mortgage services business, which includes our
correspondent business. Information about operating segments which are not
individually reportable are included in the "All Other" segment which includes
our insurance and tax services and commercial businesses, our corporate and
treasury activities, and prior to June 30, 1998, Beneficial's international
operations.
Our consumer lending business originates real estate and unsecured products
through its retail branch network, correspondents, direct mail, telemarketing
and Internet applications. Auto finance loan volume is generated primarily
through dealer relationships from which installment contracts are purchased.
Additional auto finance volume is generated through direct lending which
includes alliance partner referrals, Internet applications and direct mail.
MasterCard and Visa loan volume is generated primarily through direct mail,
telemarketing, Internet applications, application displays and promotional
activity associated with our affinity relationships. We also cross sell our
credit cards to existing real estate secured, private label and RAL customers.
Additionally, we supplement internally-generated receivable growth with
purchases from affiliates and opportunistic portfolio acquisitions.
Cautionary Statement on Forward-Looking Statements
Certain matters discussed throughout this Form 10-K or in the information
incorporated herein by reference may constitute forward-looking statements
within the meaning of the Private Securities Litigation Reform Act of 1995 and
as such may involve known and unknown risks, uncertainties and other factors
that may cause our actual results, performance or achievements to be
materially different from any future results, performance or achievements
expressed or implied by such forward-looking statements. Forward-looking
statements are based on our current views and assumptions, and involve risks
and uncertainties that could cause our results to be materially different than
those anticipated. The following important factors could affect our actual
results and could cause such results to vary materially from those expressed
herein or in any other document filed with the Securities and Exchange
Commission:
. changes in laws and regulations, including changes in accounting
standards;
. changes in overall economic conditions, including the interest rate
environment in which we operate, the capital markets in which we fund our
operations, recession, employment and currency fluctuations;
. consumer perception of the availability of credit, including price
competition in the market segments we target, and the ramifications or
ease of filing for personal bankruptcy;
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* MasterCard is a registered trademark of MasterCard International,
Incorporated and VISA is a registered trademark of VISA USA, Inc.
3
. the effectiveness of models or programs to predict loan delinquency or
loss and initiatives to improve collections in all business areas;
. continued consumer acceptance of our distribution systems and demand for
our loan or insurance products;
. changes associated with, as well as the difficulty in integrating
systems, operational functions and cultures of any organization we
acquire;
. the continued repositioning of our MasterCard/Visa business to further
penetrate selected consumer segments; and
. the ability to attract and retain qualified personnel to expand all of
our operations.
Item 2. Properties.
Substantially all of our branch offices, servicing locations and
headquarters are leased, except for processing facilities in Las Vegas, Nevada
and Tampa, Florida. We believe that such properties are in good condition and
are adequate to meet our current and reasonably anticipated needs.
Item 3. Legal Proceedings.
We have developed and implemented compliance functions to monitor our
operations to ensure that we comply with all applicable laws. However, we are
parties to various legal proceedings resulting from ordinary business
activities. Certain of these actions are or purport to be class actions
seeking damages in very large amounts. Due to the uncertainties in litigation
and other factors, we cannot assure you that we will ultimately prevail in
each instance. We believe that we have meritorious defenses to these actions
and any adverse decision should not materially affect our consolidated
financial condition.
During the past several years, the press has widely reported certain
industry related concerns which may impact us. Some of these involve the
amount of litigation instituted against finance and insurance companies
operating in the states of Alabama and Mississippi and the large punitive
awards obtained from juries in those states. Like other companies in this
industry, we and some of our subsidiaries are involved in a number of lawsuits
pending against us in Alabama and Mississippi, many of which relate to the
financing of satellite television broadcast receivers. We discontinued
financing such receivers in 1995. The Alabama and Mississippi cases generally
allege inadequate disclosure or misrepresentation of financing terms. In many
suits, other parties are also named as defendants. Unspecified compensatory
and punitive damages are sought. Several of these suits purport to be class
actions. The judicial climate in Alabama and Mississippi is such that the
outcome of all of these cases is unpredictable. Although we believe we have
substantive legal defenses to these claims and are prepared to defend each
case vigorously, a number of such cases have been settled or otherwise
resolved for amounts that in the aggregate are not material to our operations.
Appropriate insurance carriers have been notified of each claim, and a number
of reservations of rights letters have been received. Certain of these claims
have been partially covered by insurance.
Item 4. Submission of Matters to a Vote of Security Holders.
Omitted.
PART II
Item 5. Market for the Registrant's Common Equity and Related Stockholder
Matters.
All 1,000 shares of HFC's outstanding common stock are owned by Household
International. Consequently, there is no public market in HFC's common stock.
We paid cash dividends to Household International of $425 million in 2000,
$803 million in 1999 and $690 million in 1998. Beneficial paid cash dividends
of $75.4 million in 1998.
Item 6. Selected Financial Data.
Omitted.
4
Item 7. Management's Discussion and Analysis of Financial Condition and
Results of Operations
FINANCIAL HIGHLIGHTS
Household Finance Corporation and Subsidiaries
2000 1999 1998
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(All dollar amounts are
stated in millions.)
Year ended December 31,(1)
Net income................................. $ 1,185.5 $ 1,019.9 $ 304.9(2)
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Key Performance Ratios
Return on average owned assets............. 2.23% 2.25% .73%(2)
Return on average managed assets........... 1.77 1.78 .53(2)
Return on average common shareholder's
equity.................................... 18.1 17.5 5.1(2)
Managed net interest margin................ 8.29 8.42 8.09
Managed consumer net chargeoff ratio....... 3.93 4.20 4.21
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At December 31,(1)
Total assets:
Owned.................................... $58,591.1 $46,815.2 $42,363.0
Managed(3)............................... 77,514.4 59,527.0 55,062.2
Managed receivables........................ 69,192.6 50,961.9 47,145.2
Debt to equity ratio....................... 6.7:1 6.6:1 5.9:1
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(1) On June 30, 1998, Household International merged with Beneficial
Corporation ("Beneficial"), a consumer finance holding company. Upon
completion of the merger, substantially all of the net assets of
Beneficial were contributed by Household International to HFC. The merger
was accounted for as a pooling of interests and, accordingly, the
consolidated financial statements include the financial results of
Beneficial for all periods presented.
(2) Excluding merger and integration related costs of $751.0 million after-
tax and the $118.5 million after-tax gain on the sale of Beneficial's
Canadian operations, net operating income was $937.4 million, return on
average owned assets was 2.24 percent, return on average managed assets
was 1.64 percent and return on average common shareholder's equity was
15.6 percent.
(3) Our managed data includes assets on our balance sheet and those assets
that we service for investors as part of our asset securitization
program. In 2000, we purchased real estate secured portfolios totaling
$3.7 billion and acquired $6.7 billion in managed GM Card receivables, at
fair market value, from an affiliate.
OPERATIONS SUMMARY
. Our net income increased 16 percent in 2000 to $1.2 billion, compared to
$1.0 billion in 1999 and operating net income of $.9 billion in 1998. We
define operating net income in 1998 as income excluding merger and
integration related costs of $751.0 million after-tax related to our merger
with Beneficial and the $118.5 million after-tax gain on the sale of
Beneficial's Canadian operations. Net income was $304.9 million in 1998.
Strong revenue growth driven by significant receivable growth was the key
to our improved results in 2000 and 1999. Partially offsetting the revenue
growth in 2000 were higher operating expenses reflecting our investment in
growing our business. In 2000, we increased technology, marketing, e-
commerce and personnel spending to support current growth and strengthen
our ability to achieve sustainable and consistent revenue and receivable
growth in the future. Net income in 1999 also benefited from declines in
operating expenses as a result of the Beneficial merger and improved
results in our domestic MasterCard and Visa business.
5
. Managed receivables grew 36 percent to $69.2 billion in 2000. Growth was
strongest in our consumer lending business, which includes our real estate
secured and unsecured products, and auto finance business.
. Our return on average common shareholder's equity ("ROE") was 18.1 percent
in 2000, compared to 17.5 percent in 1999 and 15.6 percent in 1998. The
ratio for 1998 excludes merger and integration related costs and the gain
on sale of Beneficial Canada. Our return on average owned assets ("ROA")
was 2.23 percent in 2000 compared to 2.25 percent in 1999 and 2.24 percent
in 1998, excluding the nonrecurring items. Our return on average managed
assets ("ROMA") was 1.77 percent in 2000 compared to 1.78 percent in 1999
and 1.64 percent in 1998, excluding the nonrecurring items. Including the
merger and integration related costs and the gain on sale of Beneficial
Canada, ROE was 5.1 percent, ROA was .73 percent and ROMA was .53 percent
in 1998. The increases in our ratios in 2000 compared to 1999 reflect
higher net interest margin and other revenues due to receivables growth,
partially offset by higher operating expenses as we increased spending for
technology, marketing, e-commerce and personnel. The increase in 1999 over
1998 was primarily attributable to improved efficiency following the
Beneficial merger.
. Our consolidated managed net interest margin was 8.29 percent in 2000,
compared to 8.42 percent in 1999 and 8.09 percent in 1998. The decrease in
2000 reflects our continuing shift to lower margin real estate secured
receivables which have lower credit losses due to their secured nature. In
addition, the decline in the margin reflects higher interest costs due to
higher interest rates. The increase in 1999 reflects higher yields
resulting from successful repricing in our MasterCard and Visa and other
unsecured portfolios and a lower cost of funds.
. Our normalized managed basis efficiency ratio was 31.4 percent in 2000,
32.5 percent in 1999, and 36.0 percent in 1998. The efficiency ratio is the
ratio of operating expenses to the sum of our managed net interest margin
and other revenues less policyholders' benefits. We normalize, or adjust
for, items that are not indicative of ongoing operations. The ratio
improved slightly in 2000 as growth in net interest margin and other
revenue was substantially offset by increased operating expenses as we made
investments in technology, marketing and e-commerce to support the growth
of our businesses. The ratio improved in 1999 due to cost savings and
operating efficiencies achieved from the consolidation of Beneficial's
operations. Continued cost control efforts in all our businesses benefited
both periods.
Acquisitions and Dispositions
. In August 1999, we acquired all of the outstanding capital stock of
Decision One Mortgage Company LLC ("Decision One") for approximately $60
million. Decision One originates loans through a 30-state broker network
and packages them for sale to investors. The acquisition was accounted for
as a purchase and, accordingly, earnings from Decision One have been
included in our results of operations subsequent to the acquisition date.
. On June 30, 1998, Household International merged with Beneficial, a
consumer finance holding company headquartered in Wilmington, Delaware. The
merger was accounted for as a pooling of interests and, therefore, the
consolidated financial statements include the results of operations,
financial position, and changes in cash flows of Beneficial for all periods
presented.
. In connection with the Beneficial merger, Household International and HFC
established an integration plan. The plan was approved by the appropriate
levels of management and identified activities that would not be continued
as a result of the merger and the related costs of exiting those
activities. Pursuant to our plan, we accrued pre-tax merger and integration
related costs of approximately $1 billion ($751 million after-tax) in 1998
which have been reflected in the statement of income in total costs and
expenses. See Footnote 2 in our consolidated financial statements for
further detail about the components of our merger and integration related
costs. During 1998, we made cash payments of $629 million and non-cash
reductions of $291 million against our restructuring reserve. The
restructure reserve liability was $80 million at December 31, 1998. We
completed our merger and integration plan during 1999. The costs incurred
to execute the plan were consistent with our original estimated cost of
$1 billion.
6
. In December 1998, BFC Insurance Agency of America ("BFCIAA"), the holding
company of Beneficial's foreign operations, was merged with and into
Household Global Funding, Inc. ("Global"), an affiliate of HFC and a wholly-
owned subsidiary of Household International. HFC received cash of
approximately $340.0 million from Global equal to the net book value of the
assets transferred and liabilities assumed. In accordance with the guidance
established for mergers involving affiliates under common control, the
financial statements of HFC exclude the results of operations of BFCIAA
subsequent to June 30, 1998, the date which BFCIAA came under the control of
Household International.
. During the first quarter of 1998, we completed the sale of Beneficial's
Canadian operations and recorded an after-tax gain of approximately
$118.5 million. In April 1998, the sale of Beneficial's German operations
was also completed. In 1997, Beneficial announced its intent to sell the
German operations and recorded an after-tax loss of approximately
$27.8 million after consideration of a $31.0 million tax benefit.
Segment Results
Our consumer segment reported higher net income in 2000 compared to prior
years. Net income increased to $1.2 billion, compared to $.9 billion in 1999
and 1998. Managed receivables grew to $69.4 billion at year end 2000, up
37 percent from $50.7 billion in 1999 and $46.8 billion in 1998. Our higher
managed receivables were driven by solid growth in real estate secured, other
unsecured, and auto finance receivables. In 2000, in addition to strong
organic growth, we took advantage of consolidation in the home equity industry
by acquiring real estate portfolios of $2.2 billion in March and $1.5 billion
in June. Also in 2000, we acquired $6.7 billion in managed GM Card(R)
receivables, at fair market value, from an affiliate. This drove our increase
in MasterCard and Visa receivables as strong growth in our Union Privilege
("UP") portfolio, our affinity card relationship with the AFL-CIO labor
federation, was substantially offset by attrition in our legacy
undifferentiated Household Bank branded portfolio on which we have limited
marketing efforts. ROA was 2.45 percent in 2000 compared to 2.25 percent in
1999 and 2.52 percent in 1998. ROMA was 1.89 percent in 2000 compared to
1.72 percent in 1999 and 1.75 percent in 1998. Our improved results for 2000
were driven by strong receivables growth, which resulted in higher levels of
net interest income and other revenues. The higher revenues were partially
offset by our higher spending. Higher salary and sales incentive expenses and
higher marketing expenses reflected our investment in the growth of our
businesses. Our credit loss provision also rose as a result of increased
levels of receivables. In 1999, improved operating results in our consumer
lending business was offset by lower net interest margin and other revenues
from our MasterCard and Visa portfolio due to lower average receivables as a
result of prior restructuring initiatives and lower net income from our
private label business due to lower average receivables as an affiliate now
originates these receivables. Results for 1999 also reflect efficiencies
achieved as we successfully integrated Beneficial's branch operations.
7
BALANCE SHEET REVIEW
Receivables growth has been a key contributor to our 2000 results. We
generated strong growth in our consumer lending business, which includes our
real estate secured and unsecured products, and our auto finance business. We
also acquired $6.7 billion in managed GM Card(R) receivables from an affiliate
in October 2000. Our managed portfolio, which includes receivables on our
balance sheet plus receivables serviced with limited recourse, increased $18.2
billion to $69.2 billion at December 31, 2000. Growth in our managed portfolio
is shown in the following table:
Increase (Decrease) Increase (Decrease)
in 2000/1999 in 1999/1998
---------------------------------------------
December 31, 2000 $ % $ %
----------------- ------------ -------------------- ---------
(All dollar amounts are stated in millions)
Managed receivables:
Real estate secured... $31,605.7 $ 8,102.4 34% $ 2,707.2 13%
Auto finance.......... 4,355.7 1,323.9 44 1,266.5 72
MasterCard/Visa....... 13,806.7 7,239.5 110 (635.8) (9)
Private label......... 6,238.1 (259.4) (4) (1,355.4) (17)
Other unsecured....... 12,678.3 1,991.5 19 1,841.0 21
Commercial............ 508.1 (167.2) (25) (6.8) (1)
--------- ------------ ------ ------------ -------
Total............... $69,192.6 $18,230.7 36% $ 3,816.7 8%
========= ============ ====== ============ =======
. Real estate secured receivables increased $8.1 billion to $31.6 billion
during 2000. Favorable market conditions, reduced competition and improved
customer retention were key contributors to our growth. Our branch sales
force continued to benefit from our centralized lead management and point-
of-sale system resulting in increased productivity and strong growth in our
HFC and Beneficial branches. Our mortgage services business, which includes
our correspondent business, also reported strong year-over-year growth. We
supplemented the strong internal growth with opportunistic portfolio
acquisitions of $2.2 billion in the first quarter and $1.5 billion in the
second quarter of 2000.
Our auto finance business expanded its sales force by approximately
60 people, which improved our relationships with existing dealers and
increased the number of our dealer relationships. Continued consolidation
within the non-prime auto finance industry has resulted in more rational
pricing and fewer competitors. These factors drove the $1.3 billion increase
in our auto finance loans to $4.4 billion at the end of 2000. Approximately
half of the new volume was generated through our Millennium program, which
was introduced in the second quarter of 1999. We believe this product enables
us to target higher quality customers at competitive rates and to add credit
diversification to our non-prime segment. In addition to its positive impact
on receivable growth, the Millennium product has begun to positively impact
our credit loss characteristics. Additional growth was also generated via the
Internet. Our Internet customers tend to have higher credit scores and thus
are a lower credit risk than our traditional dealer relationship customers.
MasterCard and Visa receivables more than doubled to $13.8 billion during
2000. In October 2000, we acquired $6.7 billion in managed GM Card(R)
receivables, at fair market value, from an affiliate. This affiliate remains
the designated issuer of the GM Card(R), but we periodically purchase
additional receivables from this affiliate. Our Union Privilege ("UP")
portfolio, our affinity card relationship with the AFL-CIO labor federation,
also reported strong year-over-year growth. This growth was offset, as
expected, by continued attrition in our undifferentiated Household Bank
portfolio and reflects our strategy to de-emphasize this low margin business.
Private label receivables declined 4 percent to $6.2 billion in 2000. Since
late 1998, substantially all private label receivables generated from new
merchant relationships have been originated by an affiliate. Although we
subsequently purchase a portion of these receivables from the affiliate, this
change has resulted in continued decreases in our private label portfolio.
8
Strong growth in our consumer lending branches was the driver of the 19
percent increase in our other unsecured receivables. As mentioned earlier,
improved customer retention, as well as lower turnover and increased
productivity from our branch sales force, combined with favorable market
conditions, contributed to our strong branch growth. Included in our
unsecured portfolio are our personal homeowner loans ("PHL's"), which are
underwritten and priced as unsecured loans but include a lien on real estate.
Consequently, these loans have lower credit loss severity than traditional
unsecured loans. At December 31, 2000, PHL's included in the other unsecured
category comprised 5.6 percent of our managed portfolio. A year earlier these
loans represented 5.0 percent.
. Our distribution channels and growth strategies vary across product lines.
The consumer lending business originates real estate and unsecured products
through its retail branch network, correspondents, direct mail,
telemarketing and Internet applications. Auto finance loan volume is
generated primarily through dealer relationships from which installment
contracts are purchased. Additional auto finance volume is generated
through direct lending which includes alliance partner referrals, Internet
applications and direct mail. MasterCard and Visa loan volume is generated
primarily through direct mail, telemarketing, Internet applications,
application displays and promotional activity associated with our affinity
relationships. GM Card(R) and private label credit card receivables are
purchased from an affiliate. We also supplement internally-generated
receivable growth with opportunistic portfolio acquisitions.
We have identified the potential for selling more products to existing
customers as an opportunity for receivable growth. This opportunity results
from our broad product array, recognized brand names, varied distribution
channels, and large, diverse customer base. As a result of these cross-
selling initiatives, during 2000, we increased our products per customer by
approximately 10 percent over 1999.
The Internet is also an increasingly important distribution channel and is
enabling us to expand into new customer segments and serve current customers
in a more cost-effective manner. We are currently accepting loan applications
via the Internet for most of our products and have the ability to serve our
customers entirely on-line or in combination with our other distribution
channels. We offer on-line customer care in some of our businesses with the
goal to expand across all products in 2001.
. Owned assets totaled $58.6 billion at December 31, 2000 and $46.8 billion
at year-end 1999. Owned receivables may vary from period to period
depending on the timing and size of asset securitization transactions. We
had initial securitizations, excluding replenishments of prior
securitizations, of $5.8 billion of receivables in 2000 and $3.9 billion in
1999. We refer to the securitized receivables that are serviced for
investors and not on our balance sheet as our off-balance sheet portfolio.
. The managed consumer two-months-and-over contractual delinquency ratio was
4.51 percent at December 31, 2000 compared to 5.45 percent at December 31,
1999. The 2000 managed consumer net chargeoff ratio was 3.93 percent
compared to 4.20 percent in 1999 and 4.21 percent in 1998.
. The owned consumer two-months-and-over contractual delinquency ratio was
4.71 percent at December 31, 2000 compared to 5.58 percent at December 31,
1999. The 2000 owned consumer net chargeoff ratio was 3.58 percent compared
to 3.98 percent in 1999 and 3.89 percent in 1998.
. Our managed credit loss reserves were $2.6 billion at December 31, 2000
compared to $2.2 billion at December 31, 1999. Credit loss reserves as a
percent of managed receivables were 3.77 percent at December 31, 2000
compared to 4.33 percent at year-end 1999.
. Our owned credit loss reserves were $1.6 billion at December 31, 2000
compared to $1.5 billion at December 31, 1999. Credit loss reserves as a
percent of owned receivables were 3.19 percent at December 31, 2000
compared to 3.84 percent at year-end 1999.
. Our debt to equity ratio was 6.7 to 1 at December 31, 2000 compared to 6.6
to 1 at December 31, 1999. The increase in the ratio was due to higher debt
levels primarily attributable to higher average owned receivables at
December 31, 2000.
9
PRO FORMA MANAGED STATEMENTS OF INCOME
Securitizations of consumer receivables have been, and will continue to be,
a source of liquidity for us. We continue to service securitized receivables
after they have been sold and retain a limited recourse liability for future
credit losses. We include revenues and credit-related expenses related to the
off-balance sheet portfolio in one line item in our owned statements of
income. Specifically, we report net interest margin, provision for credit
losses, fee income, and securitization related revenue as a net amount in
securitization revenue.
We monitor our operations on a managed basis as well as on the owned basis
shown in our statements of income. Our pro forma managed income statement
assumes that the securitized receivables have not been sold and are still on
our balance sheet. Consequently, the income and expense items discussed above
are reclassified from securitization revenue into the appropriate caption in
our pro forma managed basis income statement as if the receivables had not
been securitized. Our pro forma managed basis income statement is presented
below. Our pro forma managed basis income statement is not intended to reflect
the differences between our accounting policies for owned receivables and the
off-balance sheet portfolio, but merely to report net interest margin, fees
and provision for losses as if the securitized loans were held in portfolio.
Therefore, net income on a pro forma managed basis equals net income on an
owned basis.
We define the net effect of securitization activity on our operations as
securitization related revenue less the over-the-life provision for credit
losses on initial securitization transactions. Securitization related revenue
includes gross initial gains on current period securitization transactions
less amortization of current and prior period securitization gains. The over-
the-life provision for credit losses on initial securitization transactions is
reported in our pro forma managed income statement as a component of provision
for credit losses. The net effect of securitization activity will vary
depending upon the amount and mix of securitizations in a particular period.
10
PRO FORMA MANAGED STATEMENTS OF INCOME
Year ended December 31
-----------------------------
2000 1999 1998
--------- --------- ---------
(In millions)
Finance income................................... $ 8,699.9 $ 7,023.0 $ 6,941.2
Other interest income............................ 58.0 67.3 36.5
Interest expense................................. 3,813.4 2,827.0 2,927.9
--------- --------- ---------
Net interest margin.............................. 4,944.5 4,263.3 4,049.8
Provision for credit losses...................... 2,422.9 2,060.8 2,058.4
--------- --------- ---------
Net interest margin after provision for credit
losses.......................................... 2,521.6 2,202.5 1,991.4
--------- --------- ---------
Securitization related revenue................... 152.9 85.0 206.3
Insurance revenue................................ 394.8 357.7 352.9
Investment income................................ 159.0 154.4 146.7
Fee income....................................... 656.2 568.5 728.8
Other income..................................... 108.5 164.9 239.2
Gain on sale of Beneficial Canada................ -- -- 189.4
--------- --------- ---------
Total other revenues........................... 1,471.4 1,330.5 1,863.3
--------- --------- ---------
Salaries and fringe benefits..................... 955.4 824.5 820.2
Sales incentives................................. 193.6 140.4 101.5
Occupancy and equipment expense.................. 239.0 218.8 266.3
Other marketing expenses......................... 191.3 158.6 205.8
Other servicing and administrative expenses...... 207.3 252.0 417.8
Amortization of acquired intangibles and
goodwill........................................ 147.0 143.3 168.8
Policyholders' benefits.......................... 231.7 224.7 207.6
Merger and integration related costs............. -- -- 1,000.0
--------- --------- ---------
Total costs and expenses....................... 2,165.3 1,962.3 3,188.0
--------- --------- ---------
Income before income taxes....................... 1,827.7 1,570.7 666.7
Income taxes..................................... 642.2 550.8 361.8
--------- --------- ---------
Net income................................... $ 1,185.5 $ 1,019.9 $ 304.9
========= ========= =========
Average managed receivables...................... $58,292.0 $48,930.0 $49,290.8
Average noninsurance investments................. 911.0 1,244.8 489.1
Other interest-earning assets.................... 434.1 416.4 302.6
--------- --------- ---------
Average managed interest-earning assets.......... $59,637.1 $50,591.2 $50,082.5
========= ========= =========
STATEMENT OF INCOME REVIEW
The following discussion on revenues, where applicable, and provision for
credit losses includes comparisons to amounts reported on our historical owned
statements of income ("Owned Basis"), as well as on the above pro forma
managed statements of income ("Managed Basis").
Net Interest Margin
Our net interest margin on an Owned Basis expanded to $3.6 billion for
2000, up from $3.1 billion in 1999 and $2.6 billion in 1998. As a percent of
average owned interest-earning assets, net interest margin was 7.84 percent in
2000, 7.91 percent in 1999, and 7.53 percent in 1998. In 2000, better pricing
and growth in average owned interest-earning assets resulted in higher net
interest margin dollars which was partially offset by higher interest costs.
On a percentage basis, net interest margin was impacted by a shift in the
portfolio to lower margin real estate secured receivables and higher interest
costs. In 2000, the Federal Reserve raised interest rates
11
3 times for a total of 100 basis points in addition to the 75 basis point
increase in 1999. This resulted in absolute higher levels of interest costs as
well as delays in repricing our portfolios in response to the increases. The
increase in net interest margin in 1999 was due to growth in average interest-
earning assets and higher interest spreads. The interest spread represents the
difference between the yield earned on interest-earning assets and the cost of
the debt used to fund the assets. Although interest rates decreased during the
last half of 1998 and increased during the last half of 1999, the timing of
these rate changes resulted in a lower average rate for 1999 than for 1998.
Our net interest margin on a Managed Basis increased to $4.9 billion for
2000, up from $4.3 billion in 1999 and $4.0 billion in 1998. As a percent of
average managed interest-earning assets, the net interest margin percentage
was 8.29 percent in 2000, 8.42 percent in 1999, and 8.09 percent in 1998. The
decrease in the ratio in 2000 reflects the continued shift in the portfolio to
lower margin real estate secured receivables and higher interest costs due to
increases in interest rates, partially offset by improved pricing in our
consumer lending and MasterCard and Visa portfolios. During 1999, pricing
improvements in our MasterCard and Visa and other unsecured portfolios and
lower costs of funds contributed to the higher rates. Although interest rates
decreased during the last half of 1998 and increased during the last half of
1999, the timing of these rate changes resulted in a lower average rate for
1999 than for 1998. These increases were partially offset by an increase in
the percentage of secured loans.
Net interest margin as a percent of receivables on a Managed Basis is
greater than on an Owned Basis because auto finance and MasterCard and Visa
receivables, which have wider spreads, are a larger portion of the off-balance
sheet portfolio than of the owned portfolio.
Because we generally are able to adjust our pricing in response to interest
rate changes, we remain relatively interest rate insensitive. At December 31,
2000 and 1999, we estimated that our after-tax earnings would decline by about
$75 and $55 million, respectively, following a gradual 200 basis point
increase in interest rates over a twelve month period.
Provision for Credit Losses
The provision for credit losses includes current period credit losses and
an amount which we believe is sufficient to maintain reserves for losses of
principal, interest and fees at a level that reflects known and inherent risks
in the portfolio. The Managed Basis provision for credit losses also includes
the over-the-life reserve requirement established on the off-balance sheet
portfolio when receivables are securitized.
The provision for credit losses on an Owned Basis totaled $1.6 billion in
2000 compared to $1.4 billion in 1999 and $1.3 billion in 1998. The increase
in 2000 was primarily due to increases in chargeoffs due to receivable growth,
except for a decrease in chargeoffs in our MasterCard and Visa portfolio.
Additionally, despite the shift to secured loans and improved credit quality,
we recorded excess owned loss provision of $25 million in 2000 due to our
rapid receivable growth. The increase in the 1999 provision for credit losses
was due to higher chargeoffs in our unsecured and private label portfolios.
The provision for credit losses on an Owned Basis may vary from year to year,
depending on the amount of securitizations in a particular period. As a
percent of average owned receivables, the provision was 3.51 percent compared
to 3.81 percent in 1999 and 3.68 percent in 1998. The decline in this ratio
reflects improving credit quality as secured loans represent a larger
percentage of our owned portfolio and the run-off of our Household Bank
branded MasterCard and Visa portfolio which has higher loss rates.
The provision for credit losses on a Managed Basis was $2.4 billion in 2000
and $2.1 billion in 1999 and 1998. The provision as a percent of average
managed receivables was 4.16 percent in 2000, 4.21 percent in 1999, and
4.18 percent in 1998. The Managed Basis provision is impacted by the type and
amount of receivables securitized during the year and substantially offsets
the income recorded on the securitization transactions.
12
Other Revenues
Total other revenues on an Owned Basis were $2.0 billion in 2000,
$1.9 billion in 1999, and $2.5 billion in 1998. Total other revenues on a
Managed Basis were $1.5 billion in 2000, $1.3 billion in 1999, and
$1.9 billion in 1998. Total other revenues in 1998 included a pretax gain of
$189.4 million from the sale of Beneficial's Canadian operations.
Securitization revenue on an Owned Basis consists of income associated with
the securitization and sale of receivables with limited recourse, including
net interest margin, fee and other income, and provision for credit losses
related to those receivables. Securitization revenue was $932.8 million in
2000, $794.9 million in 1999 and $1,058.5 million in 1998. The increase in
2000 was due to higher average securitized receivables and changes in
portfolio mix. The decrease in 1999 was due to lower average securitized
receivables. The components of securitization revenue are reclassified to the
appropriate caption in the pro forma statements of income on a Managed Basis.
Securitization related revenue on a Managed Basis was $152.9 million in
2000, $85.0 million in 1999, and $206.3 million in 1998. The net effect of
securitization activity, after establishing credit loss reserves on initial
transactions, decreased income by $336.2 million in 2000, $280.7 million in
1999 and $152.6 million in 1998. Pro forma income decreased because
amortization of current and prior period securitization gains exceeded initial
gains on new transactions. Securitization related revenue and the net effect
of securitization activity will vary from year to year depending upon the
amount and mix of securitizations in a particular period.
The following table includes securitization related revenue on a Managed
Basis and the net effect of securitization activity on our operations:
Year ended December 31
-------------------------
2000 1999 1998
------- ------- -------
(In millions)
Gross initial gains................................... $ 624.5 $ 461.1 $ 447.3
Amortization.......................................... (471.6) (376.1) (241.0)
------- ------- -------
Securitization related revenue........................ 152.9 85.0 206.3
Over-the-life provision on initial transactions....... 489.1 365.7 358.9
------- ------- -------
Net effect of securitization activity............... $(336.2) $(280.7) $(152.6)
======= ======= =======
Insurance revenue of $394.8 million in 2000 was up from $357.7 million in
1999 and $352.9 million in 1998. The increase reflects increased sales on a
larger loan portfolio and improved retention in our consumer lending branch
systems.
Investment income includes interest income on investment securities in the
insurance business as well as realized gains and losses from the sale of
investment securities. Investment income was $159.0 million in 2000 compared
to $154.4 million in 1999 and $146.7 million in 1998. The increases were due
to higher average investment balances and in 2000, higher yields.
Fee income on an Owned Basis includes revenues from fee-based products such
as credit cards. Fee income was $361.0 million in 2000, $414.1 million in
1999, and $498.7 million in 1998. Decreases in credit card fees resulting from
lower average MasterCard and Visa and private label receivables contributed to
the decreases. Fee income will also vary from year to year depending upon the
amount of securitizations in a particular period.
Fee income on a Managed Basis was $656.2 million in 2000, compared to
$568.5 million in 1999, and $728.8 million in 1998. The increase in 2000 was
primarily due to higher average MasterCard and Visa receivables as a result of
the purchase of GM Card(R) receivables from an affiliate in October 2000,
partially offset by lower average private label receivables. The decrease in
1999 was due to lower average MasterCard and Visa receivables resulting from
repositioning initiatives and to lower average private label receivables.
13
Other income, which includes revenue from our refund anticipation loan
business, was $108.5 million in 2000, $164.9 million in 1999, and $239.2
million in 1998. The declines were attributable to lower non-recurring gains
on sales of non-strategic assets and lower commercial income.
Expenses
Total costs and expenses increased 10 percent to $2.2 billion in 2000,
compared to $2.0 billion in 1999 and $3.2 billion in 1998. In 2000, higher
expenses were driven by higher receivable levels and increased operating,
technology, marketing, e-commerce, and personnel spending directly related to
receivable growth. Acquisitions during the first half of 2000 also contributed
to increased expenses over the prior year. Operating expenses, excluding the
one-time merger related costs of $1.0 billion, were down in 1999 compared to
1998. Cost savings and operating efficiencies from the Beneficial integration
and continued cost control efforts throughout the company resulted in lower
occupancy and equipment, salaries and fringe benefits and other costs.
Integration-related decreases in salaries and fringe benefits were offset by
growth throughout our businesses. Our Managed Basis efficiency ratio was 31.4
percent in 2000, compared to 32.5 percent in 1999 and 36.0 percent in 1998.
Salaries and fringe benefits were $955.4 million in 2000, up from $824.5
million in 1999 and $820.2 million in 1998. Additional staffing to support
growth and collection efforts in our consumer lending business contributed to
the increase over prior years. In 1999, growth in our consumer lending and
auto finance businesses were partially offset by efficiencies resulting from
Beneficial staff reductions.
Sales incentives were $193.6 million in 2000, compared to $140.4 million in
1999 and $101.5 million in 1998. The increases were primarily due to higher
sales volumes in our branches.
Occupancy and equipment expense was $239.0 million in 2000, compared to
$218.8 million in 1999 and $266.3 million in 1998. The increase in 2000 was
primarily associated with our Tampa, Florida collections center and other
facilities acquired in the first half of the year. These facilities have
supported our receivable growth. The reductions in 1999 compared to 1998
primarily were due to the elimination of duplicate branch offices and
operating centers, including the sublease of the Beneficial office complex.
Other marketing expenses include payments for advertising, direct mail
programs and other marketing expenditures. These expenses were $191.3 million
in 2000, compared to $158.6 million in 1999 and $205.8 million in 1998. The
increase in 2000 was primarily due to increased credit card marketing
initiatives. The decrease in 1999 was due to lower spending on marketing
programs on our Household Bank branded MasterCard and Visa portfolio.
Other servicing and administrative expenses were $207.3 million in 2000,
$252.0 million in 1999, and $417.8 million in 1998. The decreases were
primarily due to increased fees earned for servicing receivables of
affiliates, partially offset by increased e-commerce initiatives and increased
costs resulting from portfolio acquisitions in the first half of the year.
Amortization of acquired intangibles and goodwill was $147.0 million in
2000, $143.3 million in 1999, and $168.8 million in 1998. The increase in 2000
reflects higher amortization of purchased credit card relationships. The
decrease in 1999 reflects lower levels of intangible assets resulting from the
Household Bank branded credit card portfolio sales in 1998.
Policyholders' benefits were $231.7 million in 2000, $224.7 million in
1999, and $207.6 million in 1998. The increases are consistent with the
increase in insurance revenues resulting from increased policy sales.
Income taxes. The effective tax rate was 35.1 percent in both 2000 and 1999
and 36.5 percent in 1998 (excluding merger and integration related costs and
the gain on sale of Beneficial Canada).
14
CREDIT QUALITY
Delinquency and Chargeoffs
Our delinquency and net chargeoff ratios reflect, among other factors,
changes in the mix of loans in our portfolio, the quality of our receivables,
the average age of our loans, the success of our collection efforts and
general economic conditions. Real estate secured receivables, which have a
significantly lower chargeoff rate than unsecured receivables, represented 46
percent of our total managed receivables at both December 31, 2000 and 1999
and 60 percent of our total owned receivables at December 31, 2000, compared
to 56 percent in 1999. The levels of personal bankruptcies also have a direct
effect on the asset quality of our overall portfolio and others in our
industry.
We track delinquency and chargeoff levels on both an owned and a managed
basis. We apply the same credit and portfolio management procedures to both
our owned and off-balance sheet portfolios. Our focus is to use risk-based
pricing and effective collection efforts for each loan. We have a process
which we believe gives us a reasonable basis for predicting the credit quality
of new accounts. This process is based on our experience with numerous
marketing, credit and risk management tests. We also believe that our frequent
and early contact with delinquent customers is helpful in managing net credit
losses. Despite these efforts to manage in the current credit environment,
bankruptcies remain an industry-wide issue and are difficult to predict. We
have taken steps throughout 2000 to tighten underwriting and credit line
management in light of the uncertainty surrounding the economy.
Our chargeoff policy for consumer receivables varies by product. Unsecured
receivables are written off at the following stages of contractual
delinquency: MasterCard and Visa--6 months; private label--9 months; and other
unsecured--9 months and no payment received in 6 months. For real estate
secured receivables, carrying values are written down to net realizable value
at the time of foreclosure. For loans secured by automobiles, carrying values
are written down to net realizable value when the loan becomes 5 months
contractually delinquent. Commercial receivables are written off when it
becomes apparent that an account is uncollectible.
Consumer Two-Month-and-Over Contractual Delinquency Ratios
2000 Quarter End 1999 Quarter End
---------------------- ----------------------
4 3 2 1 4 3 2 1
---- ---- ---- ---- ---- ---- ---- ----
Managed:
Real estate secured............. 2.82% 2.95% 2.90% 3.16% 3.34% 3.42% 3.09% 3.36%
Auto finance.................... 2.63 2.25 2.05 1.53 2.44 2.26 1.87 1.74
MasterCard/Visa................. 2.72 3.28 2.98 3.17 3.46 3.90 3.73 4.69
Private label................... 9.51 9.95 9.66 9.66 9.30 9.69 8.46 8.00
Other unsecured................. 8.89 8.41 8.66 9.52 9.83 9.58 9.12 8.62
---- ---- ---- ---- ---- ---- ---- ----
Total Managed................... 4.51% 4.75% 4.72% 5.09% 5.45% 5.57% 5.14% 5.22%
---- ---- ---- ---- ---- ---- ---- ----
Total Owned..................... 4.71% 4.82% 4.80% 5.24% 5.58% 5.92% 5.28% 5.34%
==== ==== ==== ==== ==== ==== ==== ====
Our managed consumer delinquency ratio at year-end declined from both the
third quarter and prior-year levels. The sequential quarter improvement was
driven by improved credit quality in our MasterCard and Visa portfolio. The
decrease in MasterCard and Visa delinquency was due to the GM Card(R)
portfolio acquisition in October 2000. The GM Card(R) portfolio has a lower
delinquency rate than our other MasterCard and Visa receivables. The modest
sequential increase in auto finance and other unsecured delinquency during the
quarter was due to normal aging of our portfolios and seasonality in our auto
finance business.
Compared to a year ago, managed delinquency declined by 94 basis points.
The decrease from a year ago was primarily driven by improvements in our real
estate secured, MasterCard and Visa, and other unsecured portfolios. In our
real estate secured portfolio, we continue to benefit from the growing
percentage of loans on
15
which we hold a first lien position. During 2000, our consumer lending
business added additional collection staff which has helped decrease
delinquency in our real estate secured and other unsecured portfolios. The
decrease in our MasterCard and Visa delinquency was primarily attributable to
the previously discussed GM Card(R) portfolio acquisition. Run-off in our
undifferentiated Household Bank branded portfolio also had a favorable impact
on delinquencies. The increase in private label delinquency was attributable
to reductions in the portfolio balance as more originations are booked by our
affiliate.
The trends impacting owned consumer delinquency as a percent of owned
receivables are generally consistent with those described above for our
managed portfolio. Owned delinquency for MasterCard and Visa, private label
and other unsecured receivables are greater than managed delinquency due to
the retention of receivables on balance sheet that do not meet the eligibility
requirements for securitization. Owned delinquency for real estate secured and
auto receivables are comparable to managed delinquency.
Consumer Net Chargeoff Ratios
2000 Quarter 1999 Quarter
Full Annualized Full Annualized Full
Year ---------------------- Year ---------------------- Year
2000 4 3 2 1 1999 4 3 2 1 1998
---- ---- ---- ---- ---- ---- ---- ---- ---- ---- ----
Managed:
Real estate secured..... .48% .44% .44% .51% .55% .56% .56% .58% .62% .48% .58%
Auto finance............ 4.90 5.40 4.56 4.37 5.27 4.96 5.44 4.55 4.41 5.45 5.39
MasterCard/Visa......... 5.52 5.23 5.07 5.85 6.24 8.04 6.13 7.04 9.24 9.60 6.29
Private label........... 8.92 8.62 9.16 8.99 8.93 7.50 8.60 7.63 7.24 6.66 6.05
Other unsecured......... 8.21 7.05 8.17 9.01 8.80 7.51 8.29 8.19 6.27 7.16 7.90
---- ---- ---- ---- ---- ---- ---- ---- ---- ---- ----
Total Managed........... 3.93% 3.69% 3.71% 4.07% 4.37% 4.20% 4.25% 4.21% 4.05% 4.30% 4.21%
---- ---- ---- ---- ---- ---- ---- ---- ---- ---- ----
Total Owned............. 3.58% 3.23% 3.38% 3.73% 4.09% 3.98% 4.17% 4.00% 3.68% 4.07% 3.89%
==== ==== ==== ==== ==== ==== ==== ==== ==== ==== ====
Our annualized fourth quarter chargeoff ratio improved for the third
consecutive quarter. The sequential quarterly increase in auto finance
chargeoffs is attributable to seasonality and aging of the portfolio. Our
MasterCard and Visa portfolio continues to benefit from lower bankruptcy
rates, higher recoveries and run-off in our undifferentiated Household Bank
branded portfolio. Our real estate secured and other unsecured portfolios
reflect the benefits of improved collections resulting from the addition of
collection staff.
The managed consumer net chargeoff ratio for 2000 improved to 3.93 percent,
down from 4.20 percent in 1999 and 4.21 percent in 1998. Our MasterCard and
Visa portfolio reported the strongest improvement in 2000 as a result of
significant decreases in chargeoffs in our Household Bank portfolio and in
bankruptcy chargeoffs. The increase in other unsecured chargeoffs was driven
by higher chargeoff levels on older Beneficial vintages in the first half of
the year. Private label chargeoffs have been negatively impacted by reductions
in the portfolio balance as more originations are booked by our affiliate. The
1999 ratio reflected lower real estate secured, auto finance and other
unsecured chargeoffs and a lower chargeoff contribution to the total portfolio
from our MasterCard and Visa portfolio due to lower average receivables. Our
overall MasterCard and Visa chargeoff ratio was up in 1999, reflecting the
impact of the repositioning of our Household Bank branded portfolio. These
improvements were substantially offset by the impact of higher private label
chargeoffs.
The trends impacting owned net chargeoffs as a percent of owned receivables
are generally consistent with those described above for our managed portfolio.
Owned chargeoffs for MasterCard and Visa, private label, and other unsecured
are higher than managed chargeoffs due to the difference in credit quality and
seasoning of the receivables that remain on our balance sheet. Chargeoffs on
owned auto finance receivables are lower than managed chargeoffs due to the
predominantly unseasoned nature of the receivables which remain on our balance
sheet.
16
Credit Loss Reserves
We maintain credit loss reserves to cover probable losses of principal,
interest and fees in both our owned and off-balance sheet portfolios. We
estimate losses for consumer receivables based on delinquency status and past
loss experience. For securitized receivables, we also record a provision for
estimated probable losses that we expect to incur over the life of the
transaction. In addition, we provide loss reserves on both consumer and
commercial receivables to reflect our assessment of portfolio risk factors
which may not be fully reflected in the statistical calculation, including
bankruptcy trends, recent growth, product mix, economic conditions, and
current levels in chargeoff and delinquency. Chargeoff policies are also
considered when establishing loss reserve requirements to ensure the
appropriate allowances exist for products with longer chargeoff periods. Loss
reserve estimates are reviewed periodically and adjustments are reported in
earnings when they become known. These estimates are influenced by factors
outside of our control, such as economic conditions and consumer payment
patterns. As a result, there is uncertainty inherent in these estimates,
making it reasonably possible that they could change.
The following table sets forth credit loss reserves for the periods
indicated:
At December 31
------------------------------------------------
2000 1999 1998 1997 1996
-------- -------- -------- -------- --------
(All dollar amounts are stated in millions)
Managed credit loss reserves. $2,605.3 $2,208.1 $2,105.3 $2,125.3 $1,745.9
Reserves as a % of managed
receivables................. 3.77% 4.33% 4.47% 4.21% 3.85%
======== ======== ======== ======== ========
Owned credit loss reserves... $1,603.9 $1,470.7 $1,448.9 $1,417.5 $1,169.7
Reserves as a % of owned
receivables................. 3.19% 3.84% 4.21% 4.38% 3.84%
======== ======== ======== ======== ========
Reserves as a percent of receivables reflect improved credit quality and
underwriting, the impact of a growing percentage of secured loans which have
lower loss rates than unsecured loans, continued runoff of our Household Bank
branded MasterCard and Visa portfolio, and the 1998 sale of credit card
receivables. Real estate secured receivables, which have a significantly lower
chargeoff rate than unsecured receivables, represented 46 percent of our total
managed receivables at both December 31, 2000 and 1999 and 60 percent of our
total owned receivables at December 31, 2000, compared to 56 percent in 1999.
Prior to the 1998 repositioning of our MasterCard and Visa business, unsecured
receivables represented a higher percentage of our portfolio and drove the
increasing reserve ratios.
Geographic Concentrations
The state of California accounts for 16 percent of our managed domestic
consumer portfolio and is the only state with more than 10 percent of this
portfolio. Because of our centralized underwriting collections and processing
functions, we can quickly change our credit standards and intensify collection
efforts in specific locations. We believe this lowers risks resulting from
such geographic concentrations.
17
Nonperforming Assets
At December 31
----------------------------
2000 1999 1998
-------- -------- --------
(All dollar amounts are
stated in millions)
Nonaccrual owned receivables..................... $1,434.2 $1,183.7 $ 822.7
Accruing owned consumer receivables 90 or more
days delinquent................................. 480.3 508.4 602.6
Renegotiated commercial loans.................... 12.3 12.3 12.3
-------- -------- --------
Total nonperforming owned receivables............ 1,926.8 1,704.4 1,437.6
Real estate owned................................ 332.1 266.6 235.1
-------- -------- --------
Total nonperforming owned assets................. $2,258.9 $1,971.0 $1,672.7
======== ======== ========
Nonaccrual managed receivables................... $1,823.4 $1,610.1 $1,165.5
Accruing managed consumer receivables 90 or more
days delinquent................................. 690.7 605.8 707.7
Renegotiated commercial loans.................... 12.3 12.3 12.3
-------- -------- --------
Total nonperforming managed receivables.......... 2,526.4 2,228.2 1,885.5
Real estate owned................................ 332.1 266.6 235.1
-------- -------- --------
Total nonperforming managed assets............... $2,858.5 $2,494.8 $2,120.6
======== ======== ========
Managed credit loss reserves as a percent of
nonperforming managed receivables............... 103.1% 99.1% 111.7%
======== ======== ========
LIQUIDITY AND CAPITAL RESOURCES
Generally, we are funded independently from our parent. Cash flows,
liquidity, and capital are monitored at both HFC and Household International
levels. In managing capital, HFC develops targets for the ratio of equity to
managed assets based on discussions with rating agencies, reviews of
regulatory requirements and competitor capital positions, credit loss reserve
strength, risks inherent in the projected operating environment and
acquisition objectives. We also specifically consider the level of intangibles
arising from completed acquisitions. These targets include capital levels
against both on-balance sheet assets and our off-balance sheet portfolio. We
paid cash dividends to our parent of $425 million in 2000, $803 million in
1999 and $690 million in 1998. Beneficial paid cash dividends of $75.4 million
in 1998. We received capital contributions from our parent company of $550
million in 2000 and $250 million in 1998.
Our major use of cash is the origination or purchase of receivables,
purchases of investment securities or acquisitions of businesses. Our main
sources of cash are the collection of receivable balances, maturities or sales
of investment securities, proceeds from the issuance of debt and deposits and
from the securitization of receivables, capital contributions from our parent
company and cash provided by operations.
We domestically market our commercial paper through an in-house sales
force. Outstanding commercial paper totaled $8.7 billion at December 31, 2000
and $8.1 billion at December 31, 1999. We actively manage the level of
commercial paper outstanding to ensure availability to core investors and
proper use of any excess capacity within internally-established targets.
We market domestic medium-term notes through investment banks and our in-
house sales force. A total of $9.9 billion domestic medium-term notes were
issued in 2000 and $4.0 billion were issued in 1999. During 2000, we also
issued $4.8 billion of domestic long-term debt with a weighted-average
original maturity of 6.98 years. Domestic long-term issuances in 1999 totaled
$5.1 billion and had a weighted-average maturity of 7.07 years. These long-
term issuances lengthened the term of our funding, reduced reliance on
commercial paper and securitizations, and preserved liquidity.
18
To obtain a broader investment base, we periodically issue debt in foreign
markets. During 2000, $2.1 billion in notes were issued in these foreign
markets, including Euro-denominated debt and our first Japanese and Australian
issuances, compared to $1.0 billion in 1999. In order to eliminate future
foreign exchange risk, currency swaps were used to convert the notes to U.S.
dollars at the time of issuance.
We had committed back-up lines of credit totaling $9.5 billion at December
31, 2000, of which $400 million was also available to our parent company. None
of these back-up lines were used in 2000. In addition, none of these lines
contained a material adverse change clause which could restrict availability.
Our back-up lines expire on various dates from 2001 through 2005. The most
restrictive financial covenant contained in the terms of our credit agreements
is the maintenance of minimum shareholder's equity of $3.6 billion.
Capital Expenditures
During 2000 we made $135 million in capital expenditures compared to the
prior-year level of $94 million.
Asset Securitizations
From time to time, we securitize consumer receivables whereby we receive
annual servicing fees on the outstanding balance of securitized receivables
and the rights to future cash flows arising after the investors receive their
contractual return.
Securitizations of consumer receivables have been, and will continue to be,
a source of liquidity for us. We believe the market for securities issued by
an investment grade issuer and backed by receivables is a reliable and cost-
effective source of funds.
The following table summarizes the composition of receivables securitized
(excluding replenishments of certificate holder interests) during the year:
2000 1999 1998
---- ---- ----
(In billions)
MasterCard/Visa.................................................. $1.4 $ .5 $ .8
Auto finance..................................................... 1.9 1.4 .8
Private label.................................................... .5 .5 --
Other unsecured.................................................. 2.0 1.5 1.3
---- ---- ----
Total............................................................ $5.8 $3.9 $2.9
==== ==== ====
Certain securitization trusts, such as credit cards, are established at
fixed levels and due to the revolving nature of the underlying receivables
require the sale of new receivables into the trust to replace receivable
runoff. These replenishments totaled $8.1, $7.8, and $7.1 billion in 2000,
1999, and 1998, respectively.
The following table summarizes the expected amortization of our
securitizations by type:
At December 31, 2000
---------------------------------------------------------------
2001 2002 2003 2004 2005 Thereafter Total
-------- -------- -------- -------- ------ ---------- ---------
(In millions)
Real estate secured..... $ 603.0 $ 380.3 $ 250.6 $ 224.0 -- -- $ 1,457.8
Auto finance............ 909.8 677.8 749.3 375.8 -- -- 2,712.7
MasterCard/Visa......... 3,745.6 3,578.3 787.7 320.0 $880.0 -- 9,311.7
Private label........... 176.3 922.4 551.3 -- -- -- 1,650.0
Other unsecured......... 1,580.2 926.1 735.6 271.8 90.9 $186.5 3,791.1
-------- -------- -------- -------- ------ ------ ---------
Total................. $7,014.9 $6,484.9 $3,074.5 $1,191.6 $970.9 $186.5 $18,923.3
======== ======== ======== ======== ====== ====== =========
At December 31, 2000, the expected weighted average remaining life of these
transactions was 1.6 years.
19
For MasterCard and Visa and private label securitizations, the issued
securities may pay off sooner than originally scheduled if certain events
occur. One example of such an event is if the annualized portfolio yield
(defined as the sum of finance income and applicable fees, less net
chargeoffs) for a certain period drops below a base rate (generally equal to
the sum of the rate paid to the investors and the servicing fee). For certain
auto securitizations, early payoff of securities may occur if established
delinquency or loss levels are exceeded. For real estate secured and other
unsecured securitizations, early pay off of the securities begins if the
annualized portfolio yield falls below various limits, or if certain other
events occur. We do not presently believe that any early payoff will take
place. If early payoff occurred, our funding requirements would increase.
These additional requirements could be met through securitizations, issuance
of various types of debt or borrowings under existing back-up lines of credit.
We believe we would continue to have more than adequate sources of funds if an
early payoff event occurred.
At December 31, 2000, we had facilities with commercial banks under which
$11.8 billion of receivables may be securitized. These facilities are
renewable on an annual basis. At December 31, 2000, $10.7 billion of
receivables were securitized under these programs. The amount available under
these facilities will vary based on the timing and volume of public
securitization transactions.
Risk Management
We have a comprehensive program to address potential financial risks, such
as interest rate, counterparty and currency risk. For all of its subsidiaries,
the Finance Committee of the Board of Directors of Household International
sets acceptable limits for each of these risks annually and reviews the limits
semi-annually.
Interest rate risk is defined as the impact of changes in market interest
rates on our earnings. We utilize simulation models to measure the impact on
net interest margin of changes in interest rates. The key assumptions used in
this model include the rate at which we expect our loans to pay off, loan
volumes and pricing, cash flows from derivative financial instruments and
changes in market conditions. The assumptions we make are based on our best
estimates of actual conditions. The model cannot precisely predict the actual
impact of changes in interest rates on net income because these assumptions
are highly uncertain. At December 31, 2000, our interest rate risk levels were
substantially below those allowed by our existing policy.
We generally fund our assets with liabilities that have similar interest
rate features. This reduces structural interest rate risk. Over time, customer
demand for our receivable products shifts between fixed rate and floating rate
products, based on market conditions and preferences. These shifts result in
different funding strategies and produce different interest rate risk
exposures. To manage these exposures, as well as our liquidity position, we
have used derivatives to synthetically alter the repricing terms of our assets
or liabilities or off-balance sheet transactions. We do not use any exotic or
leveraged derivatives. We discontinued synthetic alteration of off-balance
sheet transactions during 2000.
At December 31, 2000, we managed approximately $21 billion of receivables
that have variable interest rates, including credit card, real estate secured
and other unsecured products. These receivables have been funded with $8.8
billion of short-term debt, with the remainder funded by intermediate and
long-term liabilities. This position exposes us to interest rate risk. We
primarily use interest rate swaps to reduce this exposure to interest rate
risk. These transactions have no impact on liquidity risk. Interest rate swaps
also are used sometimes to synthetically alter our exposure to basis risk.
This type of risk exists because the pricing of some of our assets is tied to
the prime rate, while the funding for these assets is tied to LIBOR. The prime
rate and LIBOR react differently to changes in market interest rates; that is,
the prime rate does not change as quickly as LIBOR. We assign all of our
synthetic alteration and hedge transactions to specific groups of assets or
liabilities. Prior to December 31, 2000, we also periodically assigned these
hedge transactions to off-balance sheet items.
The economic risk related to our interest rate swap portfolio is minimal.
The face amount of a swap transaction is referred to as the notional amount.
The notional amount is used to determine the interest payment to be paid by
each counterparty, but does not result in an exchange of principal payments.
20
Our primary exposure on our interest rate swap portfolio is the risk that
the counterparty will not pay us the money they owe us. We protect ourselves
against counterparty risk in several ways. Counterparty limits have been set
and are closely monitored as part of the overall risk management process.
These limits ensure that we do not have significant exposure to any individual
counterparty. Based on peak exposure at December 31, 2000, substantially all
of our derivative counterparties were rated AA- or better. We have never
suffered a loss due to counterparty failure. Certain swap agreements that we
have entered into require that payments be made to, or received from, the
counterparty when the fair value of the agreement reaches a certain level.
We also use interest rate futures and purchased put and call options to
reduce interest rate risk. We use these instruments to hedge interest rate
changes on our variable rate assets and liabilities. For example, short-term
borrowings expose us to interest rate risk because the interest rate we must
pay to others may change faster than the rate we receive from borrowers on the
asset our borrowings are funding. Futures and options are used to fix our
interest cost on these borrowings at a desired rate and are held until the
interest rate on the variable rate asset or liability changes. We then
terminate, or close out, the contracts. These terminations are necessary
because the date the interest rate changes is usually not the same as the
expiration date of the futures contract or option.
At December 31, 2000 and 1999, we estimated that our after-tax earnings
would decline by about $75 and $55 million, respectively, following a gradual
200 basis point increase in interest rates over a twelve month period and
would increase by about $77 and $53 million, respectively, following a gradual
200 basis point decrease in interest rates. These estimates assume we would
not take any corrective action to lessen the impact and, therefore, exceed
what most likely would occur if rates were to change.
We enter into currency swaps in order to minimize currency risk. Currency
risk results from changes in the value of underlying foreign-denominated
assets or liabilities. These swaps convert both principal and interest
payments on debt issued from one currency to another. For example, we may
issue Euro-denominated debt and then execute a currency swap to convert the
obligation to U. S. dollars.
In January 2001, we adopted FAS No. 133, "Accounting for Derivative
Instruments and Hedging Activities" ("FAS No. 133"). The adoption of FAS No.
133 will not have a significant impact on our interest rate risk management
strategy.
See Note 8 to the accompanying consolidated financial statements,
"Derivative Financial Instruments and Other Financial Instruments With Off-
Balance Sheet Risk," for additional information related to interest rate risk
management and Note 9, "Fair Value of Financial Instruments," for information
regarding the fair value of certain financial instruments.
21
GLOSSARY OF TERMS
Acquired Intangibles and Goodwill--Intangible assets reflected on our
consolidated balance sheet resulting from the market value premium
attributable to our credit card accounts in excess of the aggregate
outstanding managed credit card loans acquired. Goodwill represents the
purchase price over the fair value of identifiable assets acquired less
liabilities assumed from business combinations.
Affinity Credit Card--A MasterCard or Visa account jointly sponsored by the
issuer of the card and an organization whose members share a common interest
(e.g., the AFL-CIO Union Privilege Credit Card Program).
Asset Securitization--The process where interests in a pool of financial
assets, such as credit card or other unsecured receivables, are sold to
investors. Typically, the receivables are sold to a trust that issues
interests that are sold to investors.
Auto Finance Loans--Closed-end loans secured by a first lien on a vehicle.
Co-Branded Credit Card--A MasterCard or Visa account that is jointly
sponsored by the issuer of the card and another corporation. (e.g., the GM
Card(R)) The account holder typically receives some form of added benefit for
using the card.
Consumer Net Chargeoff Ratio--Net chargeoffs of receivables divided by
average receivables outstanding.
Fee Income--Income associated with interchange on credit cards and late and
other fees from the origination or acquisition of loans.
Foreign Exchange Contract--A contract used to minimize our exposure to
changes in foreign currency exchange rates.
Futures Contract--An exchange-traded contract to buy or sell a stated
amount of a financial instrument or index at a specified future date and
price.
Interchange Fees--Fees received for processing a credit card transaction
through the MasterCard or Visa network.
Interest Only Strip--Represents our contractual right to receive interest
and other cash flows from our securitization trusts after the investors
receive their contractual return.
Interest Rate Swap--Contract between two parties to exchange interest
payments on a stated principal amount (notional principal) for a specified
period. Typically, one party makes fixed rate payments, while the other party
makes payments using a variable rate.
LIBOR--London Interbank Offered Rate. A widely quoted market rate which is
frequently the index used to determine the rate at which we borrow funds.
Liquidity--A measure of how quickly we can convert assets to cash or raise
additional cash by issuing debt.
Managed Basis--Method of reporting whereby net interest margin, other
revenues and credit losses on securitized receivables are reported as if those
receivables were still held on our balance sheet.
Managed Basis Efficiency Ratio--Ratio of operating expenses to managed net
interest margin and other revenues less policyholders' benefits. The
normalized efficiency ratio excludes nonrecurring gains, losses and charges.
Managed Net Interest Margin--Interest income from managed receivables and
noninsurance investment securities reduced by interest expense.
22
Managed Receivables--The sum of receivables on our balance sheet and those
that we service for investors as part of our asset securitization program.
MasterCard and Visa Receivables--Receivables generated through customer
usage of MasterCard and Visa credit cards.
Nonaccrual Loans--Loans on which we no longer accrue interest because
ultimate collection is unlikely.
Non-prime Accounts--Accounts held by individuals with credit history
reflecting occasional delinquencies, prior chargeoffs, or other credit
blemishes. These accounts generally are charged higher interest rates and fees
to compensate for the additional risk.
Options--A contract giving the owner the right, but not the obligation, to
buy or sell a specified item at a fixed price for a specified period.
Other Unsecured Receivables--Unsecured lines of credit or closed-end loans
made to individuals.
Over-the-Life Reserves--Credit loss reserves established for securitized
receivables to cover the estimated probable losses we expect to incur over the
life of the transaction.
Owned Receivables--Receivables held on our balance sheet.
Personal Homeowner Loan ("PHL")--A real estate loan that has been
underwritten and priced as an unsecured loan.
Private Label Credit Card--A line of credit made available to customers of
retail merchants evidenced by a credit card bearing the merchant's name.
Real Estate Secured Loan--Closed-end loans and revolving lines of credit
secured by first or second liens on residential real estate.
Refund Anticipation Loan ("RAL") Program--A cooperative program with H&R
Block Tax Services, Inc. and certain of its franchises, along with other
independent tax preparers, to provide loans to customers entitled to tax
refunds and who electronically file their returns with the Internal Revenue
Service.
Receivables Serviced with Limited Recourse--Receivables we have securitized
and for which we have some level of potential loss if defaults occur.
Return on Average Owned Assets--Net income divided by average owned assets.
Return on Average Common Shareholder's Equity--Net income less dividends on
preferred stock divided by average common shareholder's equity.
Return on Average Managed Assets--Net income divided by average managed
assets.
Synthetic Alteration--Process by which derivative financial instruments are
used to alter the risk characteristics of an asset, liability or off-balance
sheet item.
23
Item 7A. Quantitative and Qualitative Disclosure about Market Risk.
Reference is made to the information contained under the caption "Risk
Management" of Item 7 of this Form 10-K for the information required by this
Item.
Item 8. Financial Statements and Supplementary Data.
Reference is made to the list of financial statements under Item 14(a)
herein for the financial statements required by this Item.
Item 9. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure.
Not applicable.
PART III
Item 10. Directors and Executive Officers of the Registrant.
Omitted.
Item 11. Executive Compensation.
Omitted.
Item 12. Security Ownership of Certain Beneficial Owners and Management.
Omitted.
Item 13. Certain Relationships and Related Transactions.
Omitted.
PART IV
Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K.
(a) Financial Statements.
Report of Independent Public Accountants.
Consolidated Statements of Income for the Three Years Ended December
31, 2000.
Consolidated Balance Sheets, December 31, 2000 and 1999.
Consolidated Statements of Cash Flows for the Three Years Ended
December 31, 2000.
Consolidated Statements of Changes in Common Shareholder's Equity
for the Three Years Ended December 31, 2000.
Notes to Consolidated Financial Statements.
Selected Quarterly Financial Data (Unaudited).
24
(b) Reports on Form 8-K.
HFC did not file any current report on Form 8-K during the three months
ended December 31, 2000.
(c) Exhibits.
3(i) Restated Certificate of Incorporation of Household Finance
Corporation, as amended (incorporated by reference to Exhibit 3(i)
of our Quarterly Report on Form 10-Q for the quarter ended March 31,
1997).
3(ii) Bylaws of Household Finance Corporation (incorporated by reference
to Exhibit 3(b) of our Annual Report on Form 10-K for the fiscal
year ended December 31, 1992).
4(a) Standard Multiple-Series Indenture Provisions for Senior Debt
Securities dated as of June 1, 1992 (incorporated by reference to
Exhibit 4(b) of our Registration Statement on Form S-3, No. 33-48854
filed on June 26, 1992).
4(b) Indenture dated as of December 1, 1993 for Senior Debt Securities
between HFC and The Chase Manhattan Bank (National Association), as
Trustee (incorporated by reference to Exhibit 4(b) of our
Registration Statement on Form S-3, No. 33-55561 filed on September
20, 1994).
4(c) The principal amount of debt outstanding under each other instrument
defining the rights of holders of our long-term debt does not exceed
10 percent of our total assets on a consolidated basis. We agree to
furnish to the Securities and Exchange Commission, upon request, a
copy of each instrument defining the rights of holders of our long-
term debt.
12 Statement of Computation of Ratios of Earnings to Fixed Charges and
to Combined Fixed Charges and Preferred Stock Dividends.
23 Consent of Arthur Andersen LLP, Certified Public Accountants.
99.1 Ratings of Household Finance Corporation and its significant
subsidiaries.
25
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, Household Finance Corporation has duly caused this report
to be signed on its behalf by the undersigned, thereunto duly authorized.
Household Finance Corporation
Dated: March 22, 2001
/s/ G. D. Gilmer
By:__________________________________
G. D. Gilmer, President 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 Household
Finance Corporation and in the capacities and on the dates indicated.
Signature Title
--------- -----
/s/ G. D. Gilmer President and Chief
____________________________________ Executive Officer, Director
G. D. Gilmer
/s/ W. F. Aldinger Director
____________________________________
W. F. Aldinger
/s/ D. A. Schoenholz Executive Vice President and Dated: March 22,
____________________________________ Chief Financial Officer, 2001
D. A. Schoenholz Director (also the principal
financial and accounting
officer)
/s/ J. A. Vozar Vice President and Director
____________________________________
J. A. Vozar
26
REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS
To the Board of Directors of Household Finance Corporation:
We have audited the accompanying consolidated balance sheets of Household
Finance Corporation (a Delaware corporation) and subsidiaries as of December
31, 2000 and 1999, and the related consolidated statements of income, changes
in common shareholder's equity and cash flows for each of the three years in
the period ended December 31, 2000. These financial statements are the
responsibility of Household Finance Corporation's management. Our
responsibility is to express an opinion on these financial statements based on
our audits.
We conducted our audits in accordance with auditing standards generally
accepted in the United States. Those standards require that we plan and
perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on
a test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used
and significant estimates made by management, as well as evaluating the
overall financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the consolidated financial position
of Household Finance Corporation and subsidiaries as of December 31, 2000 and
1999, and the consolidated results of their operations and their cash flows
for each of the three years in the period ended December 31, 2000 in
conformity with accounting principles generally accepted in the United States.
Arthur Andersen LLP
Chicago, Illinois
January 15, 2001
F-1
HOUSEHOLD FINANCE CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF INCOME
Year ended December 31
--------------------------
2000 1999 1998
-------- -------- --------
(In millions)
Finance income...................................... $6,438.3 $5,139.8 $4,581.4
Other interest income............................... 58.0 67.3 36.5
Interest expense.................................... 2,895.2 2,152.7 1,995.5
-------- -------- --------
Net interest margin................................. 3,601.1 3,054.4 2,622.4
Provision for credit losses on owned receivables.... 1,564.2 1,407.4 1,253.1
-------- -------- --------
Net interest margin after provision for credit
losses............................................. 2,036.9 1,647.0 1,369.3
-------- -------- --------
Securitization revenue.............................. 932.8 794.9 1,058.5
Insurance revenue................................... 394.8 357.7 352.9
Investment income................................... 159.0 154.4 146.7
Fee income.......................................... 361.0 414.1 498.7
Other income........................................ 108.5 164.9 239.2
Gain on sale of Beneficial Canada................... -- -- 189.4
-------- -------- --------
Total other revenues.............................. 1,956.1 1,886.0 2,485.4
-------- -------- --------
Salaries and fringe benefits........................ 955.4 824.5 820.2
Sales incentives.................................... 193.6 140.4 101.5
Occupancy and equipment expense..................... 239.0 218.8 266.3
Other marketing expenses............................ 191.3 158.6 205.8
Other servicing and administrative expenses......... 207.3 252.0 417.8
Amortization of acquired intangibles and goodwill... 147.0 143.3 168.8
Policyholders' benefits............................. 231.7 224.7 207.6
Merger and integration related costs................ -- -- 1,000.0
-------- -------- --------
Total costs and expenses.......................... 2,165.3 1,962.3 3,188.0
-------- -------- --------
Income before income taxes.......................... 1,827.7 1,570.7 666.7
Income taxes........................................ 642.2 550.8 361.8
-------- -------- --------
Net income...................................... $1,185.5 $1,019.9 $ 304.9
======== ======== ========
The accompanying notes are an integral part of these consolidated financial
statements.
F-2
HOUSEHOLD FINANCE CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEETS
At December 31
-------------------
2000 1999
--------- ---------
(In millions,
except share data)
Assets
Cash.......................................................... $ 269.5 $ 1,487.2
Investment securities......................................... 3,217.4 2,257.2
Receivables, net.............................................. 50,498.5 38,187.6
Advances to parent company and affiliates..................... 504.6 691.8
Acquired intangibles and goodwill, net........................ 1,426.0 1,572.9
Properties and equipment, net................................. 368.0 360.3
Real estate owned............................................. 332.1 266.6
Other assets.................................................. 1,975.0 1,991.6
--------- ---------
Total assets.............................................. $58,591.1 $46,815.2
========= =========
Liabilities and Shareholder's Equity
Debt:
Commercial paper, bank and other borrowings................. $ 8,829.4 $ 8,780.2
Senior and senior subordinated debt (with original
maturities over one year).................................. 40,575.9 30,383.6
--------- ---------
Total debt.................................................... 49,405.3 39,163.8
Insurance policy and claim reserves........................... 891.8 1,077.2
Other liabilities............................................. 944.8 643.0
--------- ---------
Total liabilities............................................. 51,241.9 40,884.0
Common shareholder's equity:
Common stock, $1.00 par value, 1,000 shares authorized,
issued and outstanding at December 31, 2000 and 1999, and
additional paid-in capital................................. 3,503.3 2,955.5
Retained earnings........................................... 3,813.8 3,053.3
Accumulated other comprehensive income (loss)............... 32.1 (77.6)
--------- ---------
Total common shareholder's equity............................. 7,349.2 5,931.2
--------- ---------
Total liabilities and shareholder's equity................ $58,591.1 $46,815.2
========= =========
The accompanying notes are an integral part of these consolidated financial
statements.
F-3
HOUSEHOLD FINANCE CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CASH FLOWS
Year ended December 31
---------------------------------
2000 1999 1998
---------- --------- ----------
(In millions)
Cash Provided by Operations
Net income................................. $ 1,185.5 $ 1,019.9 $ 304.9
Adjustments to reconcile net income to net
cash provided by operations:
Provision for credit losses on owned
receivables.............................. 1,564.2 1,407.4 1,253.1
Insurance policy and claim reserves....... 68.6 161.7 28.6
Depreciation and amortization............. 261.4 271.8 291.9
Deferred income tax provision............. 196.0 16.1 259.1
Non-cash merger and integration related
costs.................................... -- -- 291.0
Net realized gains from sales of assets... -- -- (156.9)
Other, net................................ (232.5) (435.6) (355.5)
---------- --------- ----------
Cash provided by operations............. 3,043.2 2,441.3 1,916.2
---------- --------- ----------
Investments in Operations
Investment securities:
Purchased................................. (595.8) (1,279.5) (1,304.4)
Matured................................... 271.8 675.2 308.5
Sold...................................... 229.5 732.2 848.3
Short-term investment securities, net
change.................................... (832.5) 481.3 (597.8)
Receivables:
Originations, net......................... (10,140.5) (7,865.4) (12,975.2)
Purchases and related premiums............ (17,290.2) (5,164.8) (2,937.8)
Sold...................................... 13,702.4 7,503.7 10,267.8
Acquisition of business operations......... -- (58.4) --
Properties and equipment purchased......... (135.1) (93.8) (107.6)
Properties and equipment sold.............. 13.6 27.5 42.5
Advances to parent company and affiliates,
net....................................... 187.2 (212.8) 363.4
Sale of foreign subsidiary to affiliate.... -- -- 340.0
---------- --------- ----------
Cash decrease from investments in
operations............................. (14,589.6) (5,254.8) (5,752.3)
---------- --------- ----------
Financing and Capital Transactions
Short-term debt and demand deposits, net
change.................................... 46.5 1,637.1 (2,718.3)
Senior and senior subordinated debt issued. 20,501.3 9,232.3 12,645.8
Senior and senior subordinated debt
retired................................... (10,232.9) (6,102.2) (4,869.6)
Policyholders' benefits paid............... (111.3) (113.9) (119.8)
Cash received from policyholders........... .1 22.0 63.7
Capital contributions from parent company.. 550.0 -- 250.0
Dividends paid to parent company........... (425.0) (803.0) (690.0)
Dividends paid--pooled affiliate........... -- -- (75.4)
Prepayment of debt......................... -- -- (767.2)
---------- --------- ----------
Cash increase from financing and capital
transactions........................... 10,328.7 3,872.3 3,719.2
---------- --------- ----------
Increase (decrease) in cash............. (1,217.7) 1,058.8 (116.9)
Cash at January 1....................... 1,487.2 428.4 545.3
---------- --------- ----------
Cash at December 31..................... $ 269.5 $ 1,487.2 $ 428.4
========== ========= ==========
Supplemental Cash Flow Information:
Interest paid............................. $ 2,931.8 $ 2,200.1 $ 1,928.4
Income taxes paid......................... 392.6 317.3 156.9
---------- --------- ----------
The accompanying notes are an integral part of these consolidated financial
statements.
F-4
HOUSEHOLD FINANCE CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN COMMON SHAREHOLDER'S EQUITY
Common Shareholder's Equity
------------------------------------------------
Common
Stock and Accumulated
Additional Other Total Common
Paid-in Retained Comprehensive Shareholder's
Capital Earnings Income (1) Equity
---------- -------- ------------- -------------
(All dollar amounts are stated in millions)
Balance at December 31, 1997... $2,555.1 $3,296.9 $(48.3) $5,803.7
Net income.................... 304.9 304.9
Other comprehensive income,
net of tax:
Foreign currency translation
adjustments................ 48.2 48.2
Unrealized gain on
investments, net of
reclassification
adjustment................. 13.8 13.8
--------
Total comprehensive income..... 366.9
Dividends to parent company.... (690.0) (690.0)
Dividends--pooled affiliate
(2)........................... (75.4) (75.4)
Contribution of capital from
parent company................ 250.0 250.0
Contribution of capital--pooled
affiliate (2)................. 155.2 155.2
-------- -------- ------ --------
Balance at December 31, 1998... 2,960.3 2,836.4 13.7 5,810.4
Net income.................... 1,019.9 1,019.9
Other comprehensive income,
net of tax:
Foreign currency translation
adjustments................ 1.2 1.2
Unrealized loss on
investments, net of
reclassification
adjustment................. (92.5) (92.5)
--------
Total comprehensive income..... 928.6
Dividends paid to parent
company....................... (803.0) (803.0)
Premiums on related party sale. (4.8) (4.8)
-------- -------- ------ --------
Balance at December 31, 1999... 2,955.5 3,053.3 (77.6) 5,931.2
Net income.................... 1,185.5 1,185.5
Other comprehensive income,
net of tax:
Foreign currency translation
adjustments................ 14.6 14.6
Unrealized gain on
investments, net of
reclassification
adjustment................. 95.1 95.1
--------
Total comprehensive income..... 1,295.2
Dividends paid to parent
company....................... (425.0) (425.0)
Contribution of capital from
parent company................ 550.0 550.0
Premiums on related party sale. (2.2) (2.2)
-------- -------- ------ --------
Balance at December 31, 2000... $3,503.3 $3,813.8 $ 32.1 $7,349.2
======== ======== ====== ========
- --------
(1) Accumulated other comprehensive includes the following:
At December 31
--------------------
2000 1999 1998
----- ------- -----
(In millions)
Unrealized gains (losses) on available-for-sale
investments:
Gross unrealized gains (losses)..................... $41.8 $(109.6) $33.7
Income tax expense (benefit)........................ 17.2 (39.1) 11.7
----- ------- -----
Net unrealized gains (losses)....................... 24.6 (70.5) 22.0
Cumulative adjustments for foreign currency
translation adjustments............................. 7.5 (7.1) (8.3)
----- ------- -----
$32.1 $ (77.6) $13.7
===== ======= =====
(2) Relates to previous equity transactions of Beneficial Corporation.
The accompanying notes are an integral part of these consolidated financial
statements.
F-5
HOUSEHOLD FINANCE CORPORATION AND SUBSIDIARIES
CONSOLIDATED STATEMENTS OF CHANGES IN COMMON SHAREHOLDER'S EQUITY-(Continued)
Comprehensive Income
The following discloses the related tax effects allocated to each component
of other comprehensive income (expense) and reclassification adjustments:
At December 31
-------------------------------
Tax
(Expense)
Before-Tax Benefit Net-of-Tax
---------- --------- ----------
(In millions)
1998
Foreign currency translation adjustments....... $ 48.0 $ .2 $ 48.2
Unrealized gains on investments:
Unrealized holding gains arising during the
period...................................... 26.9 (9.4) 17.5
Less: Reclassification adjustment for gains
realized in net income...................... (5.8) 2.1 (3.7)
------- ------ ------
Net unrealized gains on investments.......... 21.1 (7.3) 13.8
------- ------ ------
Other comprehensive income................. $ 69.1 $ (7.1) $ 62.0
======= ====== ======
1999
Foreign currency translation adjustments....... $ 1.7 $ (.5) $ 1.2
Unrealized losses on investments:
Unrealized holding losses arising during the
period...................................... (133.9) 47.5 (86.4)
Less: Reclassification adjustment for gains
realized in net income...................... (9.4) 3.3 (6.1)
------- ------ ------
Net unrealized losses on investments......... (143.3) 50.8 (92.5)
------- ------ ------
Other comprehensive expense................ $(141.6) $ 50.3 $(91.3)
======= ====== ======
2000
Foreign currency translation adjustments....... $ 14.6 $ -- $ 14.6
Unrealized gains on investments:
Unrealized holding gains arising during the
period...................................... 152.2 (56.6) 95.6
Less: Reclassification adjustment for gains
realized in net income...................... (.8) .3 (.5)
------- ------ ------
Net unrealized gains on investments.......... 151.4 (56.3) 95.1
------- ------ ------
Other comprehensive income................. $ 166.0 $(56.3) $109.7
======= ====== ======
The accompanying notes are an integral part of these consolidated financial
statements.
F-6
HOUSEHOLD FINANCE CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Household Finance Corporation ("HFC" or "the company") is a wholly-owned
subsidiary of Household International, Inc. ("Household International" or the
"parent company"). HFC is a leading provider of consumer lending products to
middle-market customers in the United States and prior to December 1998, to
customers in the United Kingdom and Canada, with $69.2 billion of managed
receivables at December 31, 2000. HFC may also be referred to in these notes
to the consolidated financial statements as "we," "us" or "our." Our lending
products include real estate secured loans, auto finance loans, MasterCard*
and Visa* credit cards, private label credit cards, and other types of
unsecured loans. We also offer tax refund anticipation loans in the United
Sates and credit and specialty insurance in the United States, Canada, and
prior to December 1998, in the United Kingdom. We have one reportable segment:
Consumer, which includes our consumer lending, retail services, credit card
services and auto finance businesses. Our consumer lending business includes
our branch-based operations and our mortgage services business, which includes
our correspondent business. Our retail services business offers private label
credit cards.
1. Summary of Significant Accounting Policies
Basis of Presentation. The consolidated financial statements include the
accounts of Household Finance Corporation and all subsidiaries. All
significant intercompany accounts and transactions have been eliminated.
Certain prior year amounts have been reclassified to conform with the current
year's presentation.
The preparation of financial statements in conformity with generally
accepted accounting principles requires management to make estimates and
assumptions that affect the amounts reported in the financial statements and
accompanying notes. Actual results could differ from those estimates.
Investment Securities. We maintain investment portfolios (comprised
primarily of debt securities) in both our noninsurance and insurance
operations. Our entire investment securities portfolio was classified as
available-for-sale at December 31, 2000 and 1999. Available-for-sale
investments are intended to be invested for an indefinite period but may be
sold in response to events we expect to occur in the foreseeable future. These
investments are carried at fair value. Unrealized holding gains and losses on
available-for-sale investments are recorded as adjustments to common
shareholder's equity in accumulated other comprehensive income, net of income
taxes. Any decline in the fair value of investments which is deemed to be
other than temporary is charged against current earnings.
Cost of investment securities sold is determined using the specific
identification method. Interest income earned on the noninsurance investment
portfolio is classified in the statements of income in net interest margin.
Realized gains and losses from the investment portfolio and investment income
from the insurance portfolio are recorded in investment income. Accrued
investment income is classified with investment securities.
Receivables. Receivables are carried at amortized cost. Finance income is
recognized using the effective yield method. Premiums and discounts on
purchased receivables are recognized as adjustments of the yield of the
related receivables. Origination fees are deferred and amortized to finance
income over the estimated life of the related receivables, except to the
extent they offset directly related lending costs. MasterCard and Visa annual
fees are netted with direct lending costs, deferred, and amortized on a
straight-line basis over one year. Net deferred annual fees related to these
receivables totaled $3.0 million at December 31, 2000 and $25.7 million at
December 31, 1999.
Insurance reserves applicable to credit risks on consumer receivables are
treated as a reduction of receivables in the balance sheets, since payments on
such policies generally are used to reduce outstanding receivables.
- --------
* MasterCard is a registered trademark of MasterCard International,
Incorporated and Visa is a registered trademark of VISA USA, Inc.
F-7
HOUSEHOLD FINANCE CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
Provision and Credit Loss Reserves. Provision for credit losses on owned
receivables is made in an amount sufficient to maintain credit loss reserves
at a level considered adequate to cover probable losses of principal, interest
and fees in the existing owned portfolio. Probable losses are estimated for
consumer receivables based on contractual delinquency status and historical
loss experience. For commercial loans, probable losses are calculated using
estimates of amounts and timing of future cash flows expected to be received
on loans. In addition, loss reserves on consumer and commercial receivables
are maintained to reflect our judgment of portfolio risk factors. Loss reserve
estimates are reviewed periodically and adjustments are reported in earnings
when they become known. As these estimates are influenced by factors outside
our control, such as consumer payment patterns and economic conditions, there
is uncertainty inherent in these estimates, making it reasonably possible that
they could change.
Our chargeoff policy for consumer receivables varies by product. Unsecured
receivables are written off at the following stages of contractual
delinquency: MasterCard and Visa--6 months; private label--9 months; and other
unsecured--9 months and no payment received in 6 months. For real estate
secured receivables, carrying values are written down to net realizable value
at the time of foreclosure. For loans secured by automobiles, carrying values
are written down to net realizable value when the loan becomes five months
contractually delinquent. Commercial receivables are written off when it
becomes apparent that an account is uncollectible.
Nonaccrual Loans. Nonaccrual loans are loans on which accrual of interest
has been suspended. Interest income is suspended on all loans except for
credit card and auto finance receivables when principal or interest payments
are more than three months contractually past due. For credit card
receivables, interest continues to accrue until the receivable is charged off.
For auto finance receivables, accrual of interest income is discontinued when
payments are more than two months contractually past due. Accrual of income on
nonaccrual consumer receivables is resumed if the receivable becomes less than
three months contractually past due (two months for auto finance receivables).
Accrual of income on nonaccrual commercial loans is resumed if the loan
becomes contractually current. Cash payments received on nonaccrual commercial
loans are either applied against principal or reported as interest income,
according to our judgment as to the collectibility of principal.
Receivables Sold and Serviced with Limited Recourse and Securitization
Revenue. Certain real estate secured, auto finance, MasterCard and Visa,
private label and other unsecured receivables have been securitized and sold
to investors with limited recourse. We have retained the servicing rights to
these receivables. Upon sale, the receivables are removed from the balance
sheet and a gain on sale is recognized for the difference between the carrying
value of the receivables and the adjusted sales proceeds. The adjusted sales
proceeds are based on a present value estimate of future cash flows to be
received over the lives of the sold receivables. Future cash flows are based
on estimates of prepayments, the impact of interest rate movements on yields
of receivables and securities issued, delinquency of receivables sold,
servicing fees, operating expenses and other factors. The resulting gain is
also adjusted by a reserve for estimated probable losses under the recourse
provisions. Gains on sale, recourse provisions and servicing cash flows on
receivables sold are reported in the accompanying consolidated statements of
income as securitization revenue.
In connection with these transactions, we record an interest only strip
receivable, representing our contractual right to receive interest and other
cash flows from our securitization trusts. Our interest only strip receivables
are reported in receivables at fair value as a component of amounts due and
deferred from receivable sales along with our estimates of probable losses
under the recourse provisions. Unrealized gains and losses are recorded as
adjustments to common shareholder's equity in accumulated other comprehensive
income, net of income taxes. Our interest only strip receivables are reviewed
for impairment whenever events indicate that the carrying value may not be
recovered.
Properties and Equipment. Properties and equipment, which include leasehold
improvements, are recorded at cost, net of accumulated depreciation and
amortization of $785.7 million at December 31, 2000 and $705.9
F-8
HOUSEHOLD FINANCE CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
million at December 31, 1999. Depreciation is provided on a straight-line
basis over the estimated useful lives of the assets for financial reporting
purposes. Leasehold improvements are amortized over the lesser of the economic
useful life of the improvement or the term of the lease.
Repossessed Collateral. Real estate owned is valued at the lower of cost or
fair value less estimated costs to sell. These values are periodically
reviewed and reduced, if necessary. Costs of holding real estate, and related
gains and losses on disposition, are credited or charged to operations as
incurred. Repossessed vehicles are recorded at the lower of the estimated fair
market value or the outstanding receivable balance.
Insurance. Insurance revenues on revolving credit insurance policies are
recognized when billed. Insurance revenues on the remaining insurance
contracts are recorded as unearned premiums and recognized into income based
on the nature and term of the underlying contracts. Liabilities for credit
insurance policies are based upon estimated settlement amounts for both
reported and incurred but not yet reported losses. Liabilities for future
benefits on annuity contracts and specialty and corporate owned life insurance
products are based on actuarial assumptions as to investment yields, mortality
and withdrawals.
Acquired Intangibles and Goodwill. Acquired intangibles consist of acquired
credit card relationships which are amortized on a straight-line basis over
their estimated useful lives which vary by portfolio and range from 4 to 15
years. Goodwill represents the purchase price over the fair value of
identifiable assets acquired less liabilities assumed from business
combinations and is amortized on a straight-line basis over periods not
exceeding 25 years. We review acquired intangibles and goodwill for impairment
utilizing undiscounted cash flows whenever events indicate that the carrying
amounts may not be recoverable. We consider significant and long-term changes
in industry and economic conditions to be our primary indicator of potential
impairment. Impairment charges, when required, are calculated using discounted
cash flows.
Interest Rate Contracts. Interest rate swaps are the principal vehicle used
to manage interest rate risk; however, we also utilize interest rate futures,
options, caps and floors, and forward contracts. We also have entered into
currency swaps to convert both principal and interest payments on debt issued
from one currency to the appropriate functional currency. Our interest rate
contracts are designated as an effective hedge/synthetic alteration of the
specific underlying assets or liabilities (or specific groups of assets or
liabilities). The net amount to be paid or received is accrued and included in
net interest margin in the statements of income.
Correlation between all interest rate contracts and the underlying asset,
liability or off-balance sheet item is direct because we use interest rate
contracts which mirror the underlying item being hedged/synthetically altered.
If correlation between the hedged/synthetically altered item and related
interest rate contract would cease to exist, the interest rate contract would
be recorded at fair value and the associated unrealized gain or loss would be
included in net interest margin, with any future realized and unrealized gains
or losses recorded in other income.
Interest rate contracts are recorded in the balance sheets at amortized
cost. If interest rate contracts are terminated early, the realized gains and
losses are deferred and amortized over the life of the underlying
hedged/synthetically altered item as an adjustment to net interest margin.
These deferred gains and losses are recorded on the accompanying consolidated
balance sheets as adjustments to the carrying value of the
hedged/synthetically altered items. In circumstances where the underlying
assets or liabilities are sold, any remaining carrying value adjustments or
cumulative change in value on any open positions are recognized immediately as
a component of the gain or loss upon disposition. Any remaining interest rate
contracts previously designated to the sold hedged/synthetically altered item
are recorded at fair value with realized and unrealized gains and losses
included in other income.
Foreign Currency Translation. We have credit and specialty insurance
operations in Canada and prior to December 1998, had foreign subsidiaries
located in Canada and the United Kingdom. The functional currency for our
foreign operations and subsidiaries is its local currency. Assets and
liabilities of these businesses are
F-9
HOUSEHOLD FINANCE CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
translated at the rate of exchange in effect on the balance sheet date; income
and expenses are translated at the average rate of exchange prevailing during
the year. Resulting translation adjustments are accumulated in common
shareholder's equity as a component of accumulated other comprehensive income.
Prior to 1999, we periodically entered into forward exchange contracts to
hedge our investment in foreign subsidiaries. After-tax gains and losses on
contracts to hedge foreign currency fluctuations are accumulated in common
shareholder's equity as a component of accumulated other comprehensive income.
Effects of foreign currency translation in the statements of cash flows are
offset against the cumulative foreign currency adjustment, except for the
impact on cash. Foreign currency transaction gains and losses are included in
income as they occur.
Premiums on Related Party Sales. Receivables are purchased from affiliates
at fair market value. Premiums are recorded when the fair market value exceeds
the carrying value of receivables purchased. Prior to April 2001, these
premiums were included as a reduction of paid-in capital, net of related tax
effects. Effective April 1, 2000, these premiums are recognized as adjustments
of the yield of the related receivables.
Income Taxes. HFC and its subsidiaries are included in Household
International's consolidated federal income tax return and in various
consolidated state income tax returns. In addition, HFC files some
unconsolidated state tax returns. Federal income taxes are accounted for
utilizing the liability method. Deferred tax assets and liabilities are
determined based on differences between financial reporting and tax bases of
assets and liabilities and are measured using the enacted tax rates and laws
that will be in effect when the differences are expected to reverse.
Investment tax credits generated by leveraged leases are accounted for using
the deferral method.
New Accounting Pronouncements. In September 2000, the Financial Accounting
Standards Board ("FASB") issued Statement of Financial Accounting Standards
No. 140, "Accounting for Transfers and Servicing of Financial Assets and
Extinguishments of Liabilities, a replacement of FASB Statement No. 125."
("FAS No. 140"). FAS No. 140 revises the standards for accounting for
securitizations and requires certain disclosures. FAS No. 140 is effective for
all transfers of financial assets occurring after March 31, 2001 and for
disclosures relating to securitization transactions for fiscal years ending
after December 15, 2000. The disclosures required by FAS No. 140 are presented
in Note 5, "Asset Securitizations." We will adopt the non-disclosure-related
provisions of FAS No. 140 on April 1, 2001 and do not expect the adoption to
have a significant effect on our operations.
In June 1998, the FASB issued Statement of Financial Accounting Standards
No. 133, "Accounting for Derivative Instruments and Hedging Activities" ("FAS
No. 133"). FAS No. 133, as amended by FAS Nos. 137 and 138, establishes
accounting and reporting standards requiring that every derivative instrument
(including certain derivative instruments embedded in other contracts) be
recorded in the balance sheet as either an asset or liability measured at its
fair value. FAS No. 133 requires that changes in a derivative's fair value be
recognized currently in earnings unless specific hedge accounting criteria are
met. The accounting for qualifying hedges allows a derivative's gains and
losses to offset the related results on the hedged item in the income
statement. On January 1, 2001, we adopted FAS No. 133 as required. The
adoption was accounted for as a cumulative effect of the change in accounting
principle. The impact of the adoption was not material to earnings and reduced
shareholder's equity by $230 million. The adjustment to shareholder's equity
was recorded as a component of accumulated other comprehensive income and was
made to recognize at fair value all derivatives that were designated as cash
flow hedging instruments.
2. Business Combinations, Acquisitions and Divestitures
In August 1999, we acquired all of the outstanding capital stock of
Decision One Mortgage Company LLC ("Decision One"). Decision One originates
loans through a 30-state broker network and packages them for sale to
investors. The acquisition was accounted for as a purchase and, accordingly,
earnings from Decision One have been included in our results of operations
subsequent to the acquisition date.
F-10
HOUSEHOLD FINANCE CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
On June 30, 1998, Household International merged with Beneficial
Corporation ("Beneficial"), a consumer finance holding company headquartered
in Wilmington, Delaware. Each outstanding share of Beneficial common stock was
converted into 3.0666 shares of Household International common stock,
resulting in the issuance of approximately 168.4 million shares of common
stock. Each share of Beneficial $5.50 Convertible Preferred Stock (the
"Beneficial Convertible Stock") was converted into the number of shares of
Household International common stock the holder would have been entitled to
receive in the merger had the Beneficial Convertible Stock been converted into
shares of Beneficial common stock immediately prior to the merger.
Additionally, each other share of Beneficial preferred stock outstanding was
converted into one share of a newly-created series of Household International
preferred stock with terms substantially similar to those of existing
Beneficial preferred stock. The merger was accounted for as a pooling of
interests and, therefore, the consolidated financial statements include the
results of operations, financial position, and changes in cash flows of
Beneficial for all periods presented.
As a result of the merger, adjustments were made in 1998 to align
accounting policies of the two companies, particularly relating to chargeoffs
for the retail services and consumer lending businesses. These adjustments did
not have a material impact on our reported results.
In connection with the Beneficial merger, Household International and HFC
established an integration plan. The plan was approved by the appropriate
levels of management and identified activities that would not be continued as
a result of the merger and the related costs of exiting those activities. Our
plan also identified the number of employees who would be involuntarily
terminated and established the benefit levels those employees would receive
upon termination. These benefit levels were communicated to employees in April
1998. Pursuant to our plan, we accrued pre-tax merger and integration related
costs of approximately $1 billion ($751 million after-tax) in 1998 which have
been reflected in the statement of income in total costs and expenses.
The merger and integration costs were comprised of the following:
(In millions)
Employee termination costs........................................ $ 270
------
Facility closures:
Lease termination costs:
Beneficial corporate office................................... 100
Branch offices and other operating facilities................. 142
Fixed asset writedowns.......................................... 40
Vendor contract termination penalties........................... 37
------
Total facility closure costs...................................... 319
------
Asset writedowns to reflect modified business plans:
Goodwill and other intangibles.................................. 183
Real estate interests........................................... 68
------
Total asset writedowns............................................ 251
------
Investment banking fees........................................... 75
Legal and other expenses.......................................... 25
Debt prepayment premiums.......................................... 60
------
Total merger and integration costs................................ $1,000
======
During 1998, we made cash payments of $629 million and non-cash reductions
of $291 million against our restructure reserve. The restructure reserve
liability was $80 million at December 31, 1998. The merger and integration
plan was completed during 1999. The costs incurred to execute the plan were
consistent with our originally estimated cost of $1 billion.
F-11
HOUSEHOLD FINANCE CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
In December 1998, BFC Insurance Agency of America ("BFCIAA"), the holding
company of Beneficial's foreign operations, was merged with and into Household
Global Funding, Inc. ("Global"), an affiliate of HFC and a wholly-owned
subsidiary of Household International. HFC received cash of approximately
$340.0 million from Global equal to the net book value of the assets
transferred and liabilities assumed. In accordance with the guidance
established for mergers involving affiliates under common control, the
financial statements of HFC exclude the results of operations of BFCIAA
subsequent to June 30, 1998, the date which BFCIAA came under the control of
Household International.
In April 1998, we completed the sale of Beneficial's German consumer
banking operations. An after-tax loss of $27.8 million was recorded in the
fourth quarter of 1997. This loss was recorded after consideration of a $31.0
million tax benefit.
In March 1998, we completed the sale of Beneficial's Canadian operations
and recorded an after-tax gain of $118.5 million.
3. Investment Securities
At December 31
-----------------
2000 1999
-------- --------
(In millions)
Available-For-Sale Investments
Marketable equity securities............................... $ 24.9 $ 24.6
Corporate debt securities.................................. 1,867.6 1,679.6
U.S. government and federal agency debt securities......... 879.3 182.3
Certificates of deposit.................................... 76.8 124.9
Money market funds......................................... 187.5 106.6
Other...................................................... 147.0 106.7
-------- --------
Subtotal..................................................... 3,183.1 2,224.7
Accrued investment income.................................... 34.3 32.5
-------- --------
Total investment securities.............................. $3,217.4 $2,257.2
======== ========
Proceeds from the sale of available-for-sale investments totaled
approximately $.2, $.7 and $.8 billion in 2000, 1999 and 1998, respectively.
Gross gains of $2.2, $12.1 and $9.0 million and gross losses of $1.4, $2.7 and
$3.2 million in 2000, 1999 and 1998, respectively, were realized on those
sales.
The gross unrealized gains (losses) of available-for-sale investment
securities were as follows:
At December 31
---------------------------------------------------------------------------------
2000 1999
---------------------------------------- ----------------------------------------
Gross Gross Gross Gross
Amortized Unrealized Unrealized Fair Amortized Unrealized Unrealized Fair
Cost Gains Losses Value Cost Gains Losses Value
--------- ---------- ---------- -------- --------- ---------- ---------- --------
(In millions)
Marketable equity
securities............. $ 25.8 $ -- $ (.9) $ 24.9 $ 23.8 $1.0 $ (.2) $ 24.6
Corporate debt
securities............. 1,942.6 17.4 (92.4) 1,867.6 1,777.7 3.5 (101.6) 1,679.6
U.S. government and
federal agency debt
securities............. 879.5 1.6 (1.8) 879.3 194.3 1.0 (13.0) 182.3
Certificates of deposit. 76.8 -- -- 76.8 124.9 -- -- 124.9
Money market funds...... 187.5 -- -- 187.5 106.6 -- -- 106.6
Other................... 146.8 .6 (.4) 147.0 107.0 .3 (.6) 106.7
-------- ------ ------- -------- -------- ---- ------- --------
Total available-for-
sale investments...... $3,259.0 $ 19.6 $ (95.5) $3,183.1 $2,334.3 $5.8 $(115.4) $2,224.7
======== ====== ======= ======== ======== ==== ======= ========
F-12
HOUSEHOLD FINANCE CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
See Note 9, "Fair Value of Financial Instruments," for further discussion
of the relationship between the fair value of our assets, liabilities and off-
balance sheet financial instruments.
Contractual maturities of and yields on investments in debt securities were
as follows:
At December 31, 2000
------------------------------------------------------------
U.S. Government and Federal
Corporate Debt Securities Agency Debt Securities
---------------------------- -------------------------------
Amortized Fair Amortized Fair
Cost Value Yield (1) Cost Value Yield (1)
--------- -------- --------- ---------- --------- ---------
(All dollar amounts are stated in millions)
Due within 1 year....... $ 195.3 $ 194.3 6.96% $ 761.4 $ 761.3 5.99%
After 1 but within 5
years.................. 550.4 548.8 6.91 14.2 14.5 6.50
After 5 but within 10
years.................. 340.2 333.0 6.74 36.5 35.6 5.59
After 10 years.......... 856.7 791.5 7.20 67.4 67.9 6.65
-------- -------- ---- --------- --------- -------
Total................. $1,942.6 $1,867.6 7.01% $ 879.5 $ 879.3 6.22%
======== ======== ==== ========= ========= =======
- --------
(1) Computed by dividing annualized interest by the amortized cost of the
respective investment securities.
4. Receivables
At December 31
--------------------
2000 1999
--------- ---------
(In millions)
Real estate secured....................................... $30,147.9 $21,229.7
Auto finance.............................................. 1,643.0 1,225.5
MasterCard/Visa........................................... 4,495.0 2,956.8
Private label............................................. 4,588.1 5,347.5
Other unsecured........................................... 8,887.2 6,815.3
Commercial................................................ 508.1 675.3
--------- ---------
Total owned receivables................................... 50,269.3 38,250.1
Accrued finance charges................................... 1,095.9 698.0
Credit loss reserve for owned receivables................. (1,603.9) (1,470.7)
Unearned credit insurance premiums and claims reserves.... (622.3) (479.4)
Amounts due and deferred from receivables sales........... 2,360.9 1,927.0
Reserve for receivables serviced with limited recourse.... (1,001.4) (737.4)
--------- ---------
Total owned receivables, net.............................. 50,498.5 38,187.6
Receivables serviced with limited recourse................ 18,923.3 12,711.8
--------- ---------
Total managed receivables, net.......................... $69,421.8 $50,899.4
========= =========
The outstanding balance of receivables serviced with limited recourse
consisted of the following:
At December 31
--------------------
2000 1999
--------- ---------
(In millions)
Real estate secured....................................... $ 1,457.8 $ 2,273.6
Auto finance.............................................. 2,712.7 1,806.3
MasterCard/Visa........................................... 9,311.7 3,610.4
Private label............................................. 1,650.0 1,150.0
Other unsecured........................................... 3,791.1 3,871.5
--------- ---------
Total................................................... $18,923.3 $12,711.8
========= =========
F-13
HOUSEHOLD FINANCE CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
At December 31, 2000, the expected weighted-average remaining life of these
securitization transactions was 1.6 years.
The combination of receivables owned and receivables serviced with limited
recourse, which we consider our managed portfolio, is shown below:
At December 31
-------------------
2000 1999
--------- ---------
(In millions)
Real estate secured......................................... $31,605.7 $23,503.3
Auto finance................................................ 4,355.7 3,031.8
MasterCard/Visa............................................. 13,806.7 6,567.2
Private label............................................... 6,238.1 6,497.5
Other unsecured............................................. 12,678.3 10,686.8
Commercial.................................................. 508.1 675.3
--------- ---------
Managed receivables....................................... $69,192.6 $50,961.9
========= =========
The amounts due and deferred includes interest only strip receivables and
net customer payments owed to the securitization trustee and other assets
established under the recourse provisions for certain receivables sales.
Interest only strip receivables totaled $1,595.8 million at December 31, 2000
and $1,121.1 million at December 31, 1999. Net customer payments owed to the
securitization trustee totaled $61.2 million at December 31, 2000 and $78.6
million at December 31, 1999. We also maintain credit loss reserves pursuant
to the recourse provisions for receivables serviced with limited recourse
which are included in receivables. These reserves totaled $1,001.4 million at
December 31, 2000 and $737.4 million at December 31, 1999 and represent our
best estimate of probable over-the-life losses on these receivables. Interest
only strip receivables, net of our reserve for receivables serviced with
limited recourse, were $594.4 million at December 31, 2000 and $383.7 million
at December 31, 1999.
HFC and Household International maintain facilities with third parties
which provide for the securitization of receivables on a revolving basis
totaling $11.8 billion, of which $10.7 billion were utilized at December 31,
2000. The amount available under these facilities will vary based on the
timing and volume of public securitization transactions.
Contractual maturities of owned receivables were as follows:
At December 31, 2000
------------------------------------------------------------------
2001 2002 2003 2004 2005 Thereafter Total
--------- -------- -------- -------- -------- ---------- ---------
(In millions)
Real estate secured..... $ 7,515.7 $5,586.3 $4,188.5 $3,144.8 $2,364.5 $ 7,348.1 $30,147.9
Auto finance............ 11.7 27.6 136.8 366.1 709.5 391.3 1,643.0
MasterCard/Visa......... 423.3 400.5 322.6 296.8 270.6 2,781.2 4,495.0
Private label........... 2,366.6 767.4 219.9 161.9 116.5 955.8 4,588.1
Other unsecured......... 3,788.0 2,076.6 1,177.6 689.8 415.7 739.5 8,887.2
Commercial.............. 66.2 30.6 39.8 54.6 38.9 278.0 508.1
--------- -------- -------- -------- -------- --------- ---------
Total................. $14,171.5 $8,889.0 $6,085.2 $4,714.0 $3,915.7 $12,493.9 $50,269.3
========= ======== ======== ======== ======== ========= =========
F-14
HOUSEHOLD FINANCE CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
A substantial portion of consumer receivables, based on our experience,
will be renewed or repaid prior to contractual maturity. The above maturity
schedule should not be regarded as a forecast of future cash collections. The
ratio of annual cash collections of principal to average principal balances,
excluding MasterCard and Visa receivables, approximated 51 percent in 2000 and
62 percent in 1999.
The following table summarizes contractual maturities of owned receivables
due after one year by repricing characteristic:
At December 31, 2000
------------------------
Over 1 But Over 5
Within 5 years years
-------------- ---------
(In millions)
Receivables at predetermined interest rates........... $18,070.8 $ 9,596.3
Receivables at floating or adjustable rates........... 5,533.1 2,897.6
--------- ---------
Total............................................... $23,603.9 $12,493.9
========= =========
Nonaccrual consumer receivables totaled $1,403.5 and $1,152.3 million at
December 31, 2000 and 1999, respectively. Interest income that would have been
recorded in 2000 and 1999 if such nonaccrual receivables had been current and
in accordance with contractual terms was approximately $219.9 and $194.7
million, respectively. Interest income that was included in net income for
2000 and 1999, prior to these loans being placed on nonaccrual status, was
approximately $122.6 and $107.9 million, respectively.
The following table sets forth the activity in the company's credit loss
reserves for the periods indicated:
Year ended December 31
-----------------------------
2000 1999 1998
--------- -------- --------
(In millions)
Owned Receivables:
Credit loss reserves at January 1................ $ 1,470.7 $1,448.9 $1,417.5
Provision for credit losses...................... 1,564.2 1,407.4 1,253.1
Chargeoffs....................................... (1,726.3) (1,605.7) (1,426.8)
Recoveries....................................... 136.8 153.9 127.6
Other, net....................................... 158.5 66.2 77.5
--------- -------- --------
Total credit loss reserves for owned
receivables at December 31.................... 1,603.9 1,470.7 1,448.9
--------- -------- --------
Receivables Serviced with Limited Recourse:
Credit loss reserves at January 1................ 737.4 656.4 707.8
Provision for credit losses...................... 858.7 653.4 805.3
Chargeoffs....................................... (727.2) (611.4) (800.1)
Recoveries....................................... 31.6 29.2 50.7
Other, net....................................... 100.9 9.8 (107.3)
--------- -------- --------
Total credit loss reserves for receivables
serviced with limited recourse at December 31. 1,001.4 737.4 656.4
--------- -------- --------
Total credit loss reserves for managed
receivables at December 31.................... $ 2,605.3 $2,208.1 $2,105.3
========= ======== ========
5. Asset Securitizations
During 2000, we sold unsecured consumer, auto finance, MasterCard and Visa,
and private label receivables in several securitization transactions. We
continue to service and receive servicing fees on the outstanding balance of
securitized receivables. We also retain rights to future cash flows arising
from the receivables after
F-15
HOUSEHOLD FINANCE CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
the investors receive their contractual return. We have also, in certain
cases, retained other subordinated interests in these securitizations. These
transactions typically result in the recording of an interest only strip
receivable which represents the value of the future residual cash flows from
securitized receivables. The investors and the securitization trusts only have
limited recourse to our assets for failure of debtors to pay. That recourse is
limited to our rights to future cash flow and any subordinated interest we
retain.
Securitization revenue on an owned basis includes income associated with
the securitization and sale of receivables with limited recourse, including
gains on sales, net interest income, fee and other income and provision for
credit losses related to those receivables. Securitization related revenue on
a managed basis includes the gross initial gains on current period
securitization transactions less amortization of current and prior period
securitization gains. We evaluate our financial performance on a managed
basis. See the "Statement of Income Review" section within Management's
Discussion and Analysis of Financial Condition and Results of Operations for
further information about our operating results on a pro forma managed basis.
The following table presents the components of securitization related
revenue on a managed basis:
Year ended
December 31, 2000
-----------------
(In millions)
Gross initial gains........................................... $624.5
Amortization.................................................. (471.6)
------
Securitization related revenue................................ $152.9
======
Offsetting securitization related revenue, we provided an over-the-life
credit loss provision of $489.1 million on initial transactions in 2000. The
level of credit loss provision required on securitized receivables is
generally higher than that for owned receivables which are on balance sheet.
Net initial gains, representing the difference between gross initial gains
and the over-the-life provision on initial transactions, and the key economic
assumptions used in measuring the net initial gains from securitizations
completed during the year ended December 31, 2000 were as follows:
MasterCard/ Other Private Auto
Visa Unsecured Label Finance Total
----------- --------- ------- ------- ------
Net initial gains (in millions)... $37.6 $8.9 $8.5 $80.4 $135.4
Key economic assumptions: (1)
Weighted-average life (in
years)......................... .58 1.18 .93 2.06
Payment speed................... 84.10% 54.18% 63.97% 33.31%
Expected credit losses (annual
rate).......................... 4.98 7.89 6.60 5.38
Discount rate on cash flows..... 9.00 11.00 10.00 10.00
Cost of funds................... 5.90 6.71 6.36 7.12
(1) Weighted-average annual rates for securitizations entered into during the
period for securitizations of loans with similar characteristics.
Certain securitization trusts, such as credit cards, are established at
fixed levels and due to the revolving nature of the underlying receivables,
require the sale of new receivables into the trust to replace receivable run-
off. These periodic replenishments occur frequently. In 2000, these
replenishments totaled $8.1 billion. Net gains (gross gains less over-the-life
loss provision) related to these replenishments totaled $174.2 million in 2000
and
F-16
HOUSEHOLD FINANCE CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
were calculated using weighted-average assumptions consistent with those used
for calculating initial gains. These net gains related to periodic
replenishments are substantially offset by amortization of prior period gains
as these receivables have a relatively short life and the level of
replenishments is fairly consistent from period to period. Gross gains and
amortization related to periodic replenishments are included in the
amortization line of the reconciliation of securitization related revenue
presented above. The net effect of replenishments, including amortization and
the related over-the-life provision, did not have a significant impact on our
consolidated statement of income.
For the year ended December 31, 2000, cash flows received from
securitization trusts were as follows:
(In millions)
-------------
Proceeds from initial securitizations............................. $5,837.6
Servicing fees received........................................... 275.5
Other cash flow received on retained interests (1)................ 667.3
--------
(1) Other cash flows include all cash flows from interest only strip
receivables, excluding servicing fees.
At December 31, 2000, the sensitivity of the current fair value of the
interest only strip receivables to an immediate 10 percent and 20 percent
unfavorable change in assumptions are presented in the table below. These
sensitivities are based on assumptions used to value our interest only strip
receivables at December 31, 2000.
MasterCard/ Other Private Auto Real Estate
Visa Unsecured Label Finance Secured
----------- --------- ------- ------- -----------
(Dollar amounts are stated in millions)
Carrying value (fair value)
of interest only strip
receivables, net of
reserves for recourse
liability.................. $203.5 $267.1 $18.8 $ 99.7 $ 5.3
Weighted-average life (in
years)..................... .58 1.33 .94 1.87 1.70
Payment speed assumption
(annual rate).............. 83.77% 44.39% 63.52% 37.57% 27.96%
Impact on fair value of
10% adverse change....... $(18.0) $(17.2) $(1.7) $ (3.0) $(1.9)
Impact on fair value of
20% adverse change....... (33.5) (33.8) (3.1) (5.8) (3.8)
Expected credit losses
(annual rate).............. 5.02% 7.22% 6.50% 5.74% 1.67%
Impact on fair value of
10% adverse change....... $(21.6) $(31.6) $(8.9) $(27.1) $(2.8)
Impact on fair value of
20% adverse change....... (43.3) (63.2) (17.8) (54.1) (5.3)
Discount rate on residual
cash flows (annual rate)... 9.00% 11.00% 10.00% 10.00% 13.00%
Impact on fair value of
10% adverse change....... $ (2.5) $ (2.3) $ (.1) $ (7.6) $ (.6)
Impact on fair value of
20% adverse change....... (5.0) (4.6) (.3) (15.0) (1.2)
Variable returns to
investors (annual rate).... 6.45% 6.88% 6.70% 7.00% 6.81%
Impact on fair value of
10% adverse change....... $(29.1) $(30.8) $(9.6) $ (7.4) $(5.3)
Impact on fair value of
20% adverse change....... (58.3) (61.7) (18.8) (14.8) (5.3)
These sensitivities are hypothetical and should not be considered to be
predictive of future performance. As the figures indicate, the change in fair
value based on a 10 percent variation in assumptions cannot necessarily be
extrapolated because the relationship of the change in assumption to the
change in fair value may not be linear. Also, in this table, the effect of a
variation in a particular assumption on the fair value of the residual cash
flow is calculated independently from any change in another assumption. In
reality, changes in one factor may contribute to changes in another (for
example, increases in market interest rates may result in lower prepayments
and increased credit losses), which might magnify or counteract the
sensitivities. Furthermore, the estimated fair values as disclosed should not
be considered indicative of future earnings on these assets.
F-17
HOUSEHOLD FINANCE CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
6. Commercial Paper, Bank and Other Borrowings
At December 31
-----------------------------------------
Bank and Other
Commercial Paper Borrowings Total
---------------- -------------- ---------
(All dollar amounts are stated in
millions)
2000
Balance................... $8,721.3 $108.1 $ 8,829.4
Highest aggregate month-
end balance.............. 11,177.8
Average borrowings........ 9,298.0 106.8 9,404.8
Weighted average interest
rate:
At year end............. 6.6% 6.7% 6.6%
Paid during year........ 6.4 6.4 6.4
-------- ------ ---------
1999
Balance................... $8,065.0 $715.2 $ 8,780.2
Highest aggregate month-
end balance.............. 9,280.9
Average borrowings........ 8,132.1 100.0 8,232.1
Weighted average interest
rate:
At year end............. 5.6% 5.4% 5.6%
Paid during year........ 5.3 5.3 5.3
-------- ------ ---------
1998
Balance................... $7,074.8 $ 68.3 $ 7,143.1
Highest aggregate month-
end balance.............. 11,122.0
Average borrowings........ 8,870.1 905.3 9,775.4
Weighted average interest
rate:
At year end............. 5.2% 4.9% 5.2%
Paid during year........ 5.6 4.5 5.5
-------- ------ ---------
Interest expense for commercial paper, bank and other borrowings totaled,
$602.6, $433.7 and $537.7 million for 2000, 1999 and 1998, respectively.
We maintain various bank credit agreements primarily to support commercial
paper borrowings. At December 31, 2000 and 1999, we had committed back-up
lines and other bank lines of $9.1 and $9.0 billion, respectively. None of
these back-up lines were used in 2000 or 1999. Formal credit lines are
reviewed annually and expire at various dates from 2001 to 2005. Borrowings
under these lines generally are available at a surcharge over LIBOR. Annual
commitment fee requirements to support availability of these lines at December
31, 2000 totaled $8.2 million.
7. Senior and Senior Subordinated Debt (with original maturities over one
year)
At December 31
-------------------------
2000 1999
------------ -----------
(All dollar amounts are
stated in millions)
Senior Debt:
5.00% to 6.49%; due 2001 to 2013.................. $ 7,570.8 $ 8,729.3
6.50% to 6.99%; due 2001 to 2013.................. 4,011.8 4,538.0
7.00% to 7.49%; due 2001 to 2023.................. 4,119.3 2,826.8
7.50% to 7.99%; due 2001 to 2019.................. 4,173.5 660.7
8.00% to 8.99%; due 2001 to 2010.................. 3,892.5 679.6
9.00% and greater; due 2001....................... 208.8 372.2
Variable interest rate debt; 5.15% to 7.26%; due
2001 to 2025..................................... 16,629.8 12,299.3
Senior Subordinated Debt:
6.94% to 9.01%; due 2001.......................... 80.6 302.6
Unamortized discount................................ (111.2) (24.9)
------------ -----------
Total senior and senior subordinated debt....... $ 40,575.9 $ 30,383.6
============ ===========
F-18
HOUSEHOLD FINANCE CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
Weighted average interest rates were 6.9 and 6.4 percent at December 31,
2000 and 1999, respectively. Interest expense for senior and senior
subordinated debt was $2,292.6 $1,719.0 and $1,441.5 million for 2000, 1999
and 1998, respectively. The most restrictive financial covenant contained in
the terms of our debt agreements is the maintenance of a minimum shareholder's
equity of $3.6 billion.
Maturities of senior and senior subordinated debt were:
At December 31, 2000
--------------------
(In millions)
2001....................................................... $ 7,554.6
2002....................................................... 7,729.6
2003....................................................... 5,395.8
2004....................................................... 2,190.9
2005....................................................... 4,733.7
Thereafter................................................. 12,971.3
---------
Total.................................................... $40,575.9
=========
8. Derivative Financial Instruments and Other Financial Instruments with Off-
Balance Sheet Risk
In the normal course of business and in connection with our asset/liability
management program, we enter into various transactions involving derivative
and other off-balance sheet financial instruments. These instruments primarily
are used to manage our exposure to fluctuations in interest rates and foreign
exchange rates. We do not serve as a financial intermediary to make markets in
any derivative financial instruments. For further information on our
strategies for managing interest rate and foreign exchange rate risk, see the
"Risk Management" section within the Management's Discussion and Analysis of
Financial Condition and Results of Operations.
We use interest-rate contracts and foreign exchange rate contracts. Each of
these financial instruments has varying degrees of credit risk and/or market
risk.
Credit Risk. Credit risk is the possibility that a loss may occur because
the counterparty to a transaction fails to perform according to the terms of
the contract. Our exposure to credit loss related to interest-rate swaps, cap
and floor transactions, forward and futures contracts and options is the
amount of uncollected interest or premium related to these instruments. These
interest-rate related instruments are generally expressed in terms of notional
principal or contract amounts which are much larger than the amounts
potentially at risk for nonpayment by counterparties. We control the credit
risk of our off-balance sheet financial instruments through established credit
approvals, risk control limits and ongoing monitoring procedures. We have
never experienced nonperformance by any derivative instrument counterparty.
Market Risk. Market risk is the possibility that a change in interest rates
or foreign exchange rates will cause a financial instrument to decrease in
value or become more costly to settle. We mitigate this risk by establishing
limits for positions and other controls.
F-19
HOUSEHOLD FINANCE CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
Interest Rate and Foreign Exchange Contracts. The following table
summarizes the activity in interest rate and foreign exchange contracts for
2000, 1999 and 1998:
Exchange Traded Non-Exchange Traded
------------------------------------------ --------------------------------------------------------------
Interest Rate Futures Foreign Exchange Interest Rate
Contracts Options Rate Contracts Forward Contracts
---------------------- ------------------ Interest Currency -------------------- -----------------
Purchased Sold Purchased Written Rate Swaps Swaps Purchased Sold Purchased Sold
---------- ---------- --------- ------- ---------- -------- --------- --------- --------- -------
(In millions)
1998
Notional amount,
1997........... $ 872.0 $ (200.0) -- -- $ 8,800.9 $2,065.2 $ 407.7 $ (474.6) -- --
New contracts... 2,736.0 (2,281.0) $ 1,344.0 -- 6,971.8 1,600.0 1,762.9 (2,707.5) $ 257.0 --
Matured or
expired
contracts...... (1,072.0) 15.0 (800.0) -- (2,238.8) (26.3) (1,446.5) 1,677.0 (257.0) --
Terminated
contracts...... -- -- -- -- (873.0) (254.6) -- -- -- --
In-substance
maturities (1). (2,466.0) 2,466.0 -- -- -- -- (724.1) 724.1 -- --
Activity
associated with
sale to
affiliate (3).. -- -- -- -- (680.6) (193.9) -- -- -- --
---------- ---------- --------- ------- ---------- -------- --------- --------- ------- -------
Notional amount,
1998........... $ 70.0 -- $ 544.0 -- $ 11,980.3 $3,190.4 -- $ (781.0) -- --
========== ========== ========= ======= ========== ======== ========= ========= ======= =======
Fair value,
1998(2)........ -- -- -- -- $ 97.0 $ 148.7 -- $ (1.4) -- --
---------- ---------- --------- ------- ---------- -------- --------- --------- ------- -------
1999
Notional amount,
1998........... $ 70.0 -- $ 544.0 -- $ 11,980.3 $3,190.4 -- $ (781.0) -- --
New contracts... 5,608.0 $ (4,725.0) 1,158.0 $ (50.0) 18,583.0 1,176.5 $ 488.5 (135.5) -- $ 500.0
Matured or
expired
contracts...... (878.0) 25.0 (949.0) (2,552.9) (447.8) (16.2) 121.3 -- (500.0)
Terminated
contracts...... -- -- -- -- (1,593.7) (66.1) -- -- --
In-substance
maturities (1). (4,700.0) 4,700.0 (50.0) 50.0 -- -- (373.1) 373.1 -- --
---------- ---------- --------- ------- ---------- -------- --------- --------- ------- -------
Notional amount,
1999........... $ 100.0 -- $ 703.0 -- $ 26,416.7 $3,853.0 $ 99.2 $ (422.1) -- --
========== ========== ========= ======= ========== ======== ========= ========= ======= =======
Fair value,
1999(2)........ $ (.1) -- -- -- $ (111.6) $ (286.7) $ .2 $ 5.7 -- --
---------- ---------- --------- ------- ---------- -------- --------- --------- ------- -------
2000
Notional amount,
1999........... $ 100.0 -- $ 703.0 -- $ 26,416.7 $3,853.0 $ 99.2 $ (422.1) -- --
New contracts... 21,715.0 $(20,321.0) 1,300.0 $(300.0) 13,653.3 2,677.9 -- -- -- --
Matured or
expired
contracts...... (1,494.0) -- (1,403.0) -- (13,231.2) (574.5) (80.1) 350.7 -- --
Terminated
contracts...... -- -- (600.0) 300.0 (3,783.7) (654.9) -- -- -- --
In-substance
maturities (1). (20,321.0) 20,321.0 -- -- -- -- (19.1) 19.1 -- --
---------- ---------- --------- ------- ---------- -------- --------- --------- ------- -------
Notional amount,
2000........... -- -- -- -- $ 23,055.1 $5,301.5 -- $ (52.3) -- --
========== ========== ========= ======= ========== ======== ========= ========= ======= =======
Fair value,
2000(2)........ -- -- -- -- $ 263.8 $ (506.6) -- $ 4.0 -- --
---------- ---------- --------- ------- ---------- -------- --------- --------- ------- -------
Other Risk
Management
Instruments
-----------
1998
Notional amount,
1997........... $ 1,350.0
New contracts... 823.8
Matured or
expired
contracts...... (100.0)
Terminated
contracts...... --
In-substance
maturities (1). --
Activity
associated with
sale to
affiliate (3).. --
-----------
Notional amount,
1998........... $ 2,073.8
===========
Fair value,
1998(2)........ $ 1.3
-----------
1999
Notional amount,
1998........... $ 2,073.8
New contracts... 2,089.4
Matured or
expired
contracts...... (261.7)
Terminated
contracts...... (1,200.0)
In-substance
maturities (1). --
-----------
Notional amount,
1999........... $ 2,701.5
===========
Fair value,
1999(2)........ $ 3.4
-----------
2000
Notional amount,
1999........... $ 2,701.5
New contracts... 2,550.6
Matured or
expired
contracts...... (2,589.8)
Terminated
contracts...... (309.4)
In-substance
maturities (1). --
-----------
Notional amount,
2000........... $ 2,352.9
===========
Fair value,
2000(2)........ $ (2.6)
-----------
(1) Represent contracts terminated as the market execution technique of
closing the transaction either (a) just prior to maturity to avoid
delivery of the underlying instrument, or (b) at the maturity of the
underlying items being hedged.
(2) (Bracketed) unbracketed amounts represent amounts to be (paid) received by
us had these positions been closed out at the respective balance sheet
date. Bracketed amounts do not necessarily represent risk of loss for
hedging instruments, as the fair value of the hedging instrument and the
items being hedged must be evaluated together. See Note 9, "Fair Value of
Financial Instruments" for further discussion of the relationship between
the fair value of our assets, liabilities and off-balance sheet financial
instruments.
(3) Represents contracts related to BFCIAA assets/liabilities which were
transferred to an affiliate.
Interest-rate swaps are contractual agreements between two counterparties
for the exchange of periodic interest payments generally based on a notional
principal amount and agreed-upon fixed or floating rates. We primarily enter
into interest-rate swap transactions to synthetically alter balance sheet
items. These transactions
F-20
HOUSEHOLD FINANCE CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
are specifically designated to a particular asset/liability, off-balance sheet
item or anticipated transaction of a similar characteristic. Specific assets
or liabilities may consist of groups of individually small dollar homogeneous
assets or liabilities of similar economic characteristics. Credit and market
risk exists with respect to these instruments. The following table reflects
the items so altered at December 31, 2000:
(In millions)
-------------
Investment securities.............................................. $ 29.7
Commercial paper, bank and other borrowings........................ 2,350.0
Senior and senior subordinated debt................................ 20,675.4
---------
Total items synthetically altered with interest rate swaps....... $23,055.1
=========
In all instances, the notional amount is not greater than the carrying
value of the related asset/liability or off-balance sheet item.
We manage our exposure to interest rate risk primarily through the use of
interest rate swaps. These swaps synthetically alter the interest rate risk
inherent in balance sheet assets and liabilities. The majority of our interest
rate swaps are used to convert floating rate assets or debt to fixed rate,
fixed rate assets or debt to floating rate, or floating rate assets or debt
from one floating rate index to another. Interest rate swaps have also been
used to synthetically alter interest rate characteristics on certain
receivables that are sold and serviced with limited recourse. These off-
balance sheet items expose us to the same interest rate risk as on-balance
sheet items. Interest rate swaps have also been used to synthetically alter
the interest rate provisions of the securitization transaction whereby the
underlying receivables pay a fixed (floating) rate and the pass-through rate
to the investor is floating (fixed). As of December 31, 2000, we had not
synthetically altered the interest rate characteristics of any of our
receivables serviced with limited recourse. We also have entered into currency
swaps to convert both principal and interest payments on debt issued from one
currency to the appropriate functional currency.
The following table summarizes the maturities and related weighted-average
receive/pay rates of interest-rate swaps outstanding at December 31, 2000:
2001 2002 2003 2004 2005 2006 Thereafter Total
-------- -------- -------- ------ ------ -------- ---------- ---------
(All dollar amounts are stated in millions)
Pay a fixed rate/receive
a floating rate:
Notional value......... $6,608.1 $6,054.0 $1,683.8 -- -- -- -- $14,345.9
Weighted-average
receive rate.......... 6.69% 6.82% 6.81% -- -- -- -- 6.76%
Weighted-average pay
rate.................. 6.47 6.87 6.73 -- -- -- -- 6.67
Pay a floating
rate/receive a fixed
rate:
Notional value......... $ 122.5 $ 102.3 -- $307.1 $100.0 $1,325.0 $6,252.3 $ 8,209.2
Weighted-average
receive rate.......... 6.16% 6.66% -- 5.75% 6.86% 7.16% 6.97% 6.94%
Weighted-average pay
rate.................. 6.82 6.76 -- 6.76 6.74 7.12 6.95 6.97
Pay a floating
rate/receive a
different floating
rate:
Notional value......... $ 500.0 -- -- -- -- -- -- $ 500.0
Weighted-average
receive rate.......... 6.47% -- -- -- -- -- -- 6.47%
Weighted-average pay
rate.................. 6.79 -- -- -- -- -- -- 6.79
-------- -------- -------- ------ ------ -------- -------- ---------
Total notional value. $7,230.6 $6,156.3 $1,683.8 $307.1 $100.0 $1,325.0 $6,252.3 $23,055.1
======== ======== ======== ====== ====== ======== ======== =========
Total weighted-average
rates on swaps:
Receive rate............ 6.66% 6.81% 6.81% 5.75% 6.86% 7.16% 6.97% 6.81%
Pay rate................ 6.50 6.87 6.73 6.76 6.74 7.12 6.95 6.78
-------- -------- -------- ------ ------ -------- -------- ---------
F-21
HOUSEHOLD FINANCE CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
The floating rates that we pay or receive are based on spot rates from
independent market sources for the index contained in each interest-rate swap
contract, which generally are based on either 1-, 3- or 6-month LIBOR. These
current floating rates are different than the floating rates in effect when
the contracts were initiated. Changes in spot rates impact the variable rate
information disclosed above. However, these changes in spot rates also impact
the interest rate on the underlying assets or liabilities. We use
hedging/synthetic alteration instruments to manage the volatility of net
interest margin resulting from changes in interest rates on the underlying
hedged/synthetically altered items. Owned net interest margin would have
declined by 8, 4 and 8, basis points in 2000, 1999 and 1998, respectively, had
these instruments not been utilized.
Forwards and futures are agreements between two parties, committing one to
sell and the other to buy a specific quantity of an instrument on some future
date. The parties agree to buy or sell at a specified price in the future, and
their profit or loss is determined by the difference between the arranged
price and the level of the spot price when the contract is settled. We have
both interest-rate and foreign exchange rate forward contracts and interest-
rate futures contracts. Foreign exchange contracts are used to reduce our
exposure to foreign currency exchange risk. Interest-rate forward and futures
contracts are used to hedge resets of interest rates on our floating rate
assets and liabilities. Our exposure to credit risk for futures is limited, as
these contracts are traded on organized exchanges. Each day, changes in
contract values are settled in cash. In contrast, forward contracts have
credit risk relating to the performance of the counterparty. These instruments
also are subject to market risk. Cash requirements for forward contracts
include the receipt or payment of cash upon the sale or purchase of the
instrument.
Purchased options grant the purchaser the right, but not the obligation, to
either purchase or sell a financial instrument at a specified price within a
specified period. The seller of the option has written a contract which
creates an obligation to either sell or purchase the financial instrument at
the agreed-upon price if, and when, the purchaser exercises the option.
Other risk management instruments consist of caps and floors. Caps and
floors written expose us to market risk but not to credit risk. Market risk
associated with caps and floors purchased is limited to the premium paid which
is recorded on the balance sheets in other assets.
Deferred gains of $41.7 and $45.1 million and deferred losses of $61.1 and
$.6 million from hedging/synthetic alteration instruments were recorded on the
balance sheets at December 31, 2000 and 1999, respectively. The weighted-
average amortization period associated with the deferred gains was 3.0 and 4.3
years at December 31, 2000 and 1999, respectively. The weighted-average
amortization period for the deferred losses was 6.0 and 1.2 years at December
31, 2000 and 1999, respectively.
At December 31, 2000 and 1999, the accrued interest, unamortized premium
and other assets recorded for agreements which would be written off should all
related counterparties fail to meet the terms of their contracts was $79.9 and
$52.2 million, respectively.
Concentrations of Credit Risk. A concentration of credit risk is defined as
a significant credit exposure with an individual or group engaged in similar
activities or affected similarly by economic conditions.
Because we primarily lend to consumers, we do not have receivables from any
industry group that equal or exceed 10 percent of total managed receivables at
December 31, 2000 and 1999. We lend nationwide, with the following geographic
areas comprising more than 10 percent of total managed domestic receivables at
December 31, 2000: California--16 percent; Midwest (IL, IN, IA, KS, MI, MN,
MO, NE, ND, OH, SD, WI)-- 22 percent; Middle Atlantic (DE, DC, MD, NJ, PA, VA,
WV)--15 percent; Northeast (CT, ME, MA, NH, NY, RI, VT)--12 percent; and
Southeast (AL, FL, GA, KY, MS, NC, SC, TN)--17 percent.
F-22
HOUSEHOLD FINANCE CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
9. Fair Value of Financial Instruments
We have estimated the fair value of our financial instruments in accordance
with Statement of Financial Accounting Standards No. 107, "Disclosures About
Fair Value of Financial Instruments" ("FAS No. 107"). Fair value estimates,
methods and assumptions set forth below for our financial instruments are made
solely to comply with the requirements of FAS No. 107 and should be read in
conjunction with the financial statements and notes in this Annual Report.
A significant portion of our financial instruments do not have a quoted
market price. For these items, fair values were estimated by discounting
estimated future cash flows at estimated current market discount rates.
Assumptions used to estimate future cash flows are consistent with
management's assessments regarding ultimate collectibility of assets and
related interest and with estimates of product lives and repricing
characteristics used in our asset/liability management process. All
assumptions are based on historical experience adjusted for future
expectations. Assumptions used to determine fair values for financial
instruments for which no active market exists are inherently judgmental and
changes in these assumptions could significantly affect fair value
calculations.
As required under generally accepted accounting principles, a number of
other assets recorded on the balance sheets (such as acquired credit card
relationships) and other intangible assets not recorded on the balance sheets
(such as the value of consumer lending relationships for originated
receivables and the franchise values of our business units) are not considered
financial instruments and, accordingly, are not valued for purposes of this
disclosure. We believe there is substantial value associated with these assets
based on current market conditions and historical experience. Accordingly, the
estimated fair value of financial instruments, as disclosed, does not fully
represent the entire value, nor the changes in the entire value, of the
company.
The following is a summary of the carrying value and estimated fair value
of our financial instruments:
At December 31
---------------------------------------------------------------------
2000 1999
---------------------------------- ----------------------------------
Carrying Estimated Carrying Estimated
Value Fair Value Difference Value Fair Value Difference
---------- ---------- ---------- ---------- ---------- ----------
(In millions)
Cash.................... $ 269.5 $ 269.5 -- $ 1,487.2 $ 1,487.2 --
Investment securities... 3,217.4 3,217.4 -- 2,257.2 2,257.2 --
Receivables............. 50,498.5 51,065.4 $ 566.9 38,187.6 38,493.4 $ 305.8
Advances to parent
company and affiliates. 504.6 504.6 -- 691.8 691.8 --
---------- ---------- ------- ---------- ---------- --------
Subtotal.............. 54,490.0 55,056.9 566.9 42,623.8 42,929.6 305.8
---------- ---------- ------- ---------- ---------- --------
Commercial paper, bank
and other borrowings... (8,829.4) (8,829.4) -- (8,780.2) (8,780.2) --
Senior and senior
subordinated debt...... (40,575.9) (40,176.1) 399.8 (30,383.6) (29,317.0) 1,066.6
Insurance reserves...... (891.8) (1,122.0) (230.2) (1,077.2) (1,240.8) (163.6)
---------- ---------- ------- ---------- ---------- --------
Subtotal.............. (50,297.1) (50,127.5) 169.6 (40,241.0) (39,338.0) 903.0
---------- ---------- ------- ---------- ---------- --------
Interest rate and
foreign exchange
contracts.............. 81.2 (241.4) (322.6) 50.3 (389.1) (439.4)
Commitments to extend
credit and guarantees.. -- 48.9 48.9 -- 49.1 49.1
---------- ---------- ------- ---------- ---------- --------
Subtotal.............. 81.2 (192.5) (273.7) 50.3 (340.0) (390.3)
---------- ---------- ------- ---------- ---------- --------
Total............... $ 4,274.1 $ 4,736.9 $ 462.8 $ 2,433.1 $ 3,251.6 $ 818.5
========== ========== ======= ========== ========== ========
F-23
HOUSEHOLD FINANCE CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
The following methods and assumptions were used to estimate the fair value
of our financial instruments:
Cash: The carrying value approximates fair value for this instrument due to
its liquid nature.
Investment securities: Investment securities are classified as available-
for-sale and are carried at fair value on the balance sheets. Fair values are
based on quoted market prices or dealer quotes. If a quoted market price is not
available, fair value is estimated using quoted market prices for similar
securities.
Receivables: The fair value of adjustable rate consumer receivables
approximates carrying value because interest rates on these receivables adjust
with changing market interest rates. The fair value of fixed rate consumer
receivables was estimated by discounting future expected cash flows at interest
rates which approximate the rates that would achieve a similar return on assets
with comparable risk characteristics. These receivables are relatively
insensitive to changes in overall market interest rates and, therefore, have
additional value compared to alternative uses of funds.
Receivables also includes our interest only strip receivables. The interest
only strip receivables are carried at fair value on our balance sheets. Fair
value is based on an estimate of the present value of future cash flows
associated with securitizations of certain real estate secured, auto finance,
MasterCard and Visa, private label and other unsecured receivables.
Advances to parent company and affiliates: The carrying value approximates
fair value for this instrument due to its short-term nature.
Commercial paper, bank and other borrowings: The fair value of these
instruments approximates carrying value because interest rates on these
instruments adjust with changes in market interest rates due to their short-
term maturity or repricing characteristics.
Senior and senior subordinated debt: The estimated fair value of our fixed
rate debt instruments was determined using either quoted market prices or by
discounting future expected cash flows at interest rates offered for similar
types of debt instruments. Carrying value is typically used to estimate the
fair value of floating rate debt.
Insurance reserves: The fair value of insurance reserves for periodic
payment annuities was estimated by discounting future expected cash flows at
estimated market interest rates at December 31, 2000 and 1999. The fair value
of other insurance reserves is not required to be determined in accordance with
FAS No. 107.
Interest-rate and foreign exchange contracts: Where practical, quoted market
prices were used to determine fair value of these instruments. For non-exchange
traded contracts, fair value was determined using accepted and established
valuation methods (including input from independent third parties) which
consider the terms of the contracts and market expectations on the valuation
date for forward interest rates (for interest-rate contracts) or forward
foreign-currency exchange rates (for foreign exchange contracts). We enter into
foreign exchange contracts to hedge our exposure to currency risk on foreign
denominated debt. We also enter into interest-rate contracts to hedge our
exposure to interest-rate risk on assets and liabilities, including debt. As a
result, decreases/increases in the fair value of these contracts would be
offset by a corresponding increase/decrease in the fair value of the individual
asset or liability being hedged. See Note 8, "Derivative Financial Instruments
and Other Financial Instruments with Off-Balance Sheet Risk," for additional
discussion of the nature of these items.
Commitments to extend credit and guarantees: These commitments were valued
by considering our relationship with the counterparty, the creditworthiness of
the counterparty and the difference between committed and current interest
rates.
F-24
HOUSEHOLD FINANCE CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
10. Leases
We lease certain offices, buildings and equipment under operating leases
which include various renewal options. The office space leases generally
require us to pay certain operating expenses. Net rental expense under
operating leases was $91.2, $69.9 and $97.7 million for 2000, 1999 and 1998,
respectively.
In connection with our merger with Beneficial, we have a lease obligation
on the Beneficial office complex which expires in 2010. This facility has been
subleased through the end of the lease period with the sublessee assuming our
future rental obligations.
Future net minimum lease commitments under noncancelable operating lease
arrangements were:
Minimum Minimum
Rental Sublease
Payments Income Net
-------- -------- ------
At December 31, 2000
- -------------------- (In millions)
2001.................................................. $122.9 $ 23.2 $ 99.7
2002.................................................. 110.3 23.0 87.3
2003.................................................. 97.0 22.8 74.2
2004.................................................. 79.3 22.1 57.2
2005.................................................. 66.8 21.8 45.0
Thereafter............................................ 267.8 98.0 169.8
------ ------ ------
Net minimum lease commitments......................... $744.1 $210.9 $533.2
====== ====== ======
11. Employee Benefit Plans
We participate in several defined benefit pension plans which are sponsored
by Household International and cover substantially all of our employees. At
December 31, 2000, plan assets included an investment in 2,480,910 shares of
Household International's common stock with a fair value of $136.5 million.
The fair value of pension plan assets exceeded the projected benefit
obligations by $503.7 and $378.6 million at December 31, 2000 and 1999,
respectively. The assumptions used in determining the benefit obligation and
pension income of the domestic defined benefit plans at December 31 were as
follows:
2000 1999 1998
---- ---- ----
Discount rate................................................. 8.25% 8.0% 7.0%
Salary increase assumption.................................... 4.0% 4.0% 4.0%
Expected long-term rate of return on plan assets.............. 10.0% 10.0% 10.0%
---- ---- ----
Our share of the net prepaid pension cost for the combined plans was $119.6
and $118.2 million at December 31, 2000 and 1999, respectively. Our share of
net pension (income) expense was $(1.4) million for 2000, $4.8 million for
1999, and $(1.6) million for 1998.
We also participate in various 401(k) savings plans and profit sharing
plans for employees meeting certain eligibility requirements. Under the
Household International plan, each participant's contribution is matched by
the company up to a maximum of 6 percent of the participant's compensation.
For 2000, 1999 and 1998, total expense for these plans was $41.0, $34.9 and
$28.7 million, respectively.
F-25
HOUSEHOLD FINANCE CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
We participate in Household International's plans which provide medical,
dental and life insurance benefits to retirees and eligible dependents. These
plans are funded on a pay-as-you-go basis and cover substantially all
employees who meet certain age and vested service requirements. We have
instituted dollar limits on our payments under the plans to control the cost
of future medical benefits.
Household International recognizes the expected postretirement costs on an
accrual basis, similar to pension accounting. The expected cost of
postretirement benefits is required to be recognized over the employees' years
of service with the company instead of the period in which the benefits are
paid. Household International is recognizing the transition obligation over a
period of 20 years. The transition obligation represents the unfunded and
unrecognized accumulated postretirement benefit obligation.
While no separate actuarial valuation has been made for our participation
in Household International's plans for postretirement medical, dental and life
benefits, our share of the liability and expense has been estimated. Household
International's accumulated postretirement benefit obligation was $161.0 and
$160.5 million at December 31, 2000 and 1999, respectively. Our estimated
share of Household International's accrued postretirement benefit obligation
was $157.4 and $144.8 million at December 31, 2000 and 1999, respectively. In
addition, our estimated share of postretirement benefit expense recognized in
2000, 1999 and 1998 was $14.6, $16.1 and $18.6 million, respectively.
Household International's accumulated postretirement benefit obligation and
benefit expense were determined using the following assumptions:
2000 1999 1998
---- ---- ----
Discount rate................................................. 8.25% 8.0% 7.0%
Salary increase assumption.................................... 4.0% 4.0% 4.0%
---- --- ---
A 7.5 percent annual rate of increase in the gross cost of covered health
care benefits was assumed for 2001. This rate of increase is assumed to
decline gradually to 5.0 percent in 2006.
Assumed health care cost trend rates have an effect on the amounts reported
for health care plans. A one-percentage point change in assumed health care
cost trend rates would increase (decrease) service and interest costs and the
postretirement benefit obligation as follows:
1 Percent 1 Percent
Increase Decrease
--------- ---------
(In millions)
Effect on total of service and interest cost components..... $(.6) $ .6
Effect on postretirement benefit obligation................. 7.6 (7.2)
---- -----
Our employees may participate in Household International's Employee Stock
Purchase Plan (the "ESPP"). The ESPP provides a means for employees to
purchase shares of the parent company's common stock at 85 percent of the
lesser of its market price at the beginning or end of a one year subscription
period.
Our key officers and employees participate in Household International's
executive compensation plans which provide for the issuance of nonqualified
stock options and restricted stock rights ("RSRs"). Stock options permit the
holder to purchase, under certain limitations, the parent company's common
stock at a price not less than 100 percent of the market value of the stock on
the date the option is granted. Stock options vest equally over four years and
expire 10 years from the date of grant. RSRs entitle an employee to receive a
stated number of shares of the parent company's common stock if the employee
satisfies the conditions set by Household International's Compensation
Committee for the award.
F-26
HOUSEHOLD FINANCE CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
Household International accounts for options and shares issued under the
ESPP in accordance with Accounting Principles Board Opinion No. 25, "Accounting
for Stock Issued to Employees," pursuant to which no compensation cost has been
recognized.
Household International also sponsors a non-qualified supplemental
retirement plan. This plan, which is unfunded, provides eligible employees
defined pension benefits outside the qualified retirement plan based on average
earnings, years of service and age at retirement.
12. Income Taxes
Total income taxes were allocated as follows:
Year ended December
31
---------------------
2000 1999 1998
------ ------ ------
(In millions)
Provision for income taxes related to operations....... $642.2 $550.8 $361.8
Income taxes related to adjustments included in common
shareholder's equity:
Unrealized gain (loss) on investments, net........... 56.3 (50.8) 7.3
Foreign currency translation adjustments............. -- .5 (.2)
Exercise of stock options--pooled affiliate.......... -- -- (41.6)
------ ------ ------
Total.............................................. $698.5 $500.5 $327.3
====== ====== ======
Provisions for income taxes related to operations were:
Year ended December
31
---------------------
2000 1999 1998
------ ------ ------
(In millions)
Current:
United States........................................ $440.3 $528.9 $ 95.2
Foreign.............................................. 5.9 5.8 7.5
------ ------ ------
Total current...................................... 446.2 534.7 102.7
Deferred--United States................................ 196.0 16.1 259.1
------ ------ ------
Total income taxes................................. $642.2 $550.8 $361.8
====== ====== ======
The significant components of deferred income tax provisions attributable to
income from operations were:
Year ended December
31
---------------------
2000 1999 1998
------ ------ ------
(In millions)
Deferred income tax provision.......................... $196.0 $ 16.1 $262.3
Adjustment of valuation allowance...................... -- -- (3.3)
Change in operating loss carryforwards................. -- -- .1
------ ------ ------
Deferred income tax provision.......................... $196.0 $ 16.1 $259.1
====== ====== ======
Income before income taxes from foreign operations was $3.3, $5.1 and $4.8
million in 2000, 1999 and 1998, respectively.
F-27
HOUSEHOLD FINANCE CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
Effective tax rates are analyzed as follows:
Year ended December 31
-------------------------
2000 1999 1998
------- ------- -------
Statutory federal income tax rate.................... 35.0% 35.0% 35.0%
Increase (decrease) in rate resulting from:
State and local taxes, net of federal benefit...... 3.0 2.9 4.5
Tax credits........................................ (3.1) (1.9) (2.1)
Amortization of intangible assets.................. .4 .5 1.8
Nondeductible acquisition costs.................... -- -- 17.5
Leveraged lease tax benefits....................... (.6) (1.7) (5.7)
Other.............................................. .4 .3 3.3
------- ------- -------
Effective tax rate............................... 35.1% 35.1% 54.3%
======= ======= =======
Provision for U.S. income taxes had not been made at December 31, 2000 and
1999 on $80.1 million of undistributed earnings of life insurance subsidiaries
accumulated as policyholders' surplus under tax laws in effect prior to 1984.
If this amount was distributed, the additional income tax payable would be
approximately $28.0 million.
Temporary differences which gave rise to a significant portion of deferred
tax assets and liabilities were as follows:
At December 31
-----------------
2000 1999
-------- --------
(In millions)
Deferred Tax Liabilities:
Receivables sold........................................... $ 796.8 $ 689.4
Leveraged lease transactions, net.......................... 385.3 368.8
Deferred loan origination costs............................ 100.8 49.6
Other...................................................... 340.8 297.1
-------- --------
Total deferred tax liabilities........................... $1,623.7 $1,404.9
-------- --------
Deferred Tax Assets:
Credit loss reserves....................................... $ 931.1 $ 854.4
Other...................................................... 290.2 400.9
-------- --------
Total deferred tax assets................................ 1,221.3 1,255.3
-------- --------
Net deferred tax liability at end of year................ $ 402.4 $ 149.6
======== ========
13. Transactions with Parent Company and Affiliates
HFC periodically advances funds to Household International and affiliates
or receives amounts in excess of current requirements. Advances to (from) the
parent company and affiliates consisted of the following:
At December
31
--------------
2000 1999
------ ------
(In millions)
Parent company and other subsidiaries.......................... $ (9.3) $ (9.6)
Household Bank, f.s.b.......................................... 264.7 466.0
Household Global Funding, Inc.................................. 249.2 235.4
------ ------
Advances to parent company and affiliates.................... $504.6 $691.8
====== ======
F-28
HOUSEHOLD FINANCE CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
These advances bear interest at various market interest rates. Net interest
income on advances to (from) the parent company and affiliates was as follows:
Year ended
December 31
-----------------
2000 1999 1998
----- ----- -----
(In millions)
Parent company and other subsidiaries......................... $19.5 $11.5 $ 6.8
Household Bank, f.s.b......................................... 18.0 10.2 1.3
Household Global Funding, Inc................................. 28.4 40.1 12.5
----- ----- -----
Net interest income on advances to (from) parent company and
affiliates................................................. $65.9 $61.8 $20.6
===== ===== =====
Household Bank, f.s.b. ("the Bank") has agreements with our wholly-owned
bank subsidiary to provide loans of up to $450 million to fund their credit
card operations. We have not borrowed against these lines since 1998. Interest
expense on these borrowings totaled $5.8 million in 1998.
The Bank also periodically buys from and sells federal funds to our wholly-
owned bank subsidiary. Sales to our subsidiaries are included in investment
securities while purchases are included in commercial paper, bank and other
borrowings. We had investments of $714.0 million at December 31, 2000 and
borrowings of $606.0 million at December 31, 1999. Net interest income totaled
$37.9, $52.4, and $2.9 million in 2000, 1999 and 1998, respectively.
From June 1994 to May 1997, our bank subsidiary issued new GM Card(R)
accounts though a licensing agreement with Household International. During the
second quarter of 1998, this subsidiary sold its $1.9 billion GM Card(R)
portfolio to Household Bank (SB) ("SB"), a wholly-owned subsidiary of the
Bank. Fees paid to Household International under this arrangement were $12.3
million in 1998 and are recorded in other operating expenses on the
consolidated statements of income. In October 2000, we acquired SB's GM
Card(R) portfolio including $1.0 billion in owned receivables and $5.7 billion
in securitized receivables. The receivables were acquired at fair market
value. SB remains the designated issuer of the GM Card(R). We purchase
additional charges on accounts previously sold daily and new account
originations periodically.
In November 2000, approximately 60 of our agency offices became Household
Bank offices. In conjunction with this transaction, we sold $110.8 million of
unsecured consumer loans, at fair market value, to the Bank.
We have various agreements to purchase receivables, at fair market value,
from the Bank. We purchase private label credit cards at 29 days contractually
past due, other consumer receivables at 90 days contractually past due,
additional charges on previously sold accounts, and receivables for subsequent
securitizations. These purchases totaled $5.9 billion in 2000 and $3.4 billion
in 1999. Included in these purchases were $847.0 million and $335.0 million of
delinquent private label and other unsecured receivables in 2000 and 1999.
Household Tax Masters, Inc. ("Tax Masters"), a wholly-owned subsidiary of
HFC, has an agreement with the Bank who originates Refund Anticipation
products for individuals who qualify and anticipate a tax refund. Tax Masters
purchases the Refund Anticipation products from the Bank within two days of
originating the account. During 2000, we paid $39.6 million in fees on
approximately 6.7 million Refund Anticipation accounts that were purchased
from the Bank. During 1999, we paid $34.3 million in fees on approximately 5.7
million accounts purchased.
Household International has a Regulatory Capital Maintenance/Dividend
Agreement with the Office of Thrift Supervision. Under this agreement, as
amended, as long as Household International is the parent company of the Bank,
Household International and HFC agree to maintain the capital of the Bank at
the required levels.
F-29
HOUSEHOLD FINANCE CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
The agreement also requires that any capital deficiency be cured by Household
International and/or HFC within thirty days. There were no cash capital
contributions made by Household International to the Bank in 2000 and 1999.
HFC and Household Credit Services, Inc., a wholly-owned subsidiary of HFC,
have negotiated a market rate agreement with the Bank for services such as
underwriting, data processing, item processing, check clearing, bank
operations, accounts payable, and payroll processing. Fees for these services
totaled $390.0, $129.2 and $72.3 million during 2000, 1999 and 1998,
respectively.
We were allocated costs incurred on our behalf by Household International
for administrative expenses, including insurance, credit administration, legal
and other fees. These administrative expenses were recorded in other operating
expenses and totaled approximately $41.1, $35.2 and $25.7 million in 2000,
1999 and 1998, respectively.
14. Commitments And Contingent Liabilities
In the ordinary course of business there are various legal proceedings
pending against the company. Management believes the aggregate liabilities, if
any, resulting from such actions would not have a material adverse effect on
our consolidated financial position. However, as the ultimate resolution of
these proceedings is influenced by factors that are outside of our control, it
is reasonably possible our estimated liability under these proceedings may
change. See Note 10 for discussion of lease commitments.
15. Segment Reporting
We have one reportable segment, Consumer, which is managed separately and
characterized by different middle-market consumer lending products,
origination processes, and locations. Our Consumer segment includes our
consumer lending, retail services, credit card services and auto finance
businesses. Our consumer lending business includes our branch based operations
and our mortgage services business, which includes our correspondent business.
Our Consumer segment provides real estate secured, automobile secured and
unsecured loans. Loans are offered with both revolving and closed-end terms
and with fixed or variable interest rates. Loans are originated through branch
locations, direct mail, telemarketing, independent merchants or automobile
dealers. MasterCard and Visa credit cards are also offered via strategic
affinity relationships. We also cross sell our credit cards to existing real
estate secured, private label and Refund Anticipation Loan ("RAL") customers.
All businesses offer products and service customers through the Internet.
Additionally, we purchase loans of a similar nature from other lenders and an
affiliate. The All Other caption includes our insurance and tax services and
commercial businesses, our corporate and treasury activities, and prior to
June 30, 1998, Beneficial's international operations, each of which falls
below the quantitative threshold tests under FAS No. 131 for determining
reportable segments.
The accounting policies of our reportable segment is the same as those
described in the summary of significant accounting policies. For segment
reporting purposes, intersegment transactions have not been eliminated in
accordance with FAS No. 131. We evaluate performance and allocate resources
based on income from operations after income taxes and returns on equity and
managed assets. We generally account for transactions between segments as if
they were with third parties.
F-30
HOUSEHOLD FINANCE CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
Reportable Segments
Adjustments/
Total Reconciling Consolidated
Consumer All Other Totals Items Totals
--------- --------- --------- ------------ ------------
(Owned Basis In millions)
For the year ended
December 31, 2000:
Net interest margin and
other
revenues (6)........... $ 5,348.4 $ 207.0 $ 5,555.4 $ (229.9)(1) $ 5,325.5
Intersegment revenues... 224.6 5.3 229.9 (229.9)(1) --
Provision for credit
losses................. 1,580.7 (22.3) 1,558.4 5.8(2) 1,564.2
Depreciation and
amortization........... 185.5 75.9 261.4 -- 261.4
Income taxes............ 731.3 (2.8) 728.5 (86.3)(3) 642.2
Segment net income...... 1,151.6 183.3 1,334.9 (149.4) 1,185.5
Total segment assets.... 52,903.5 13,697.4 66,600.9 (8,009.8)(5) 58,591.1
Total segment assets--
managed................ 71,948.7 13,575.5 85,524.2 (8,009.8)(5) 77,514.4
Expenditures for long-
lived assets (7)....... 35.4 99.7 135.1 -- 135.1
--------- --------- --------- --------- ---------
For the year ended
December 31, 1999:
Net interest margin and
other
revenues (6)........... $ 4,630.6 $ 229.7 $ 4,860.3 $ (144.6)(1) $ 4,715.7
Intersegment revenues... 141.2 3.4 144.6 (144.6)(1) --
Provision for credit
losses................. 1,379.2 .8 1,380.0 27.4(2) 1,407.4
Depreciation and
amortization........... 188.8 65.3 254.1 -- 254.1
Income taxes............ 587.5 36.6 624.1 (73.3)(3) 550.8
Segment net income...... 883.6 245.4 1,129.0 (109.1) 1,019.9
Total segment assets.... 40,579.1 14,507.5 55,086.6 (8,271.4)(5) 46,815.2
Total segment assets--
managed................ 53,431.5 14,366.9 67,798.4 (8,271.4)(5) 59,527.0
Expenditures for long-
lived assets (7)....... 84.7 63.9 148.6 -- 148.6
--------- --------- --------- --------- ---------
For the year ended
December 31, 1998:
Net interest margin and
other
revenues (6)........... $ 4,410.3 $ 596.3 $ 5,006.6 $ (106.4)(1) $ 4,900.2
Intersegment revenues... 102.0 4.4 106.4 (106.4)(1) --
Provision for credit
losses................. 1,137.7 38.3 1,176.0 77.1(2) 1,253.1
Depreciation and
amortization........... 207.6 84.3 291.9 -- 291.9
Income taxes............ 561.9 (132.5) 429.4 (67.6)(3) 361.8
Segment net income...... 880.0 (459.2)(4) 420.8 (115.9) 304.9
Total segment assets.... 36,953.5 8,863.2 45,816.7 (3,453.7)(5) 42,363.0
Total segment assets--
managed................ 49,652.7 8,863.2 58,515.9 (3,453.7)(5) 55,062.2
Expenditures for long-
lived assets (7)....... 24.1 83.5 107.6 -- 107.6
--------- --------- --------- --------- ---------
- --------
(1) Eliminates intersegment revenues.
(2) Eliminates bad debt recovery sales between operating segments.
(3) Tax benefit associated with items comprising adjustments/reconciling items.
(4) Includes merger and integration related costs of approximately $751.0
million after-tax related to the Beneficial merger and the gain on the sale
of Beneficial Canada of $118.5 million after-tax.
(5) Eliminates investments in subsidiaries.
(6) Net interest margin and other revenues, including intersegment revenues,
net of policyholder benefits.
(7) Includes goodwill associated with purchase business combinations and
capital expenditures.
F-31
HOUSEHOLD FINANCE CORPORATION AND SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(Continued)
Geographic Data
All of our identifiable assets and long-lived assets, which represents
properties and equipment, net of accumulated depreciation, and goodwill, net
of accumulated amortization, are located in the United States. The following
summarizes revenues and income before income taxes by material country:
Income Before Income
Revenues Taxes
-------------------------- -------------------------
2000 1999 1998 2000 1999 1998
-------- -------- -------- --------- -------- ------
(In millions)
United States.............. $8,447.1 $7,089.7 $6,874.1 $ 1,824.4 $1,568.1 $661.9
United Kingdom............. -- -- 181.3 -- -- 3.0
Canada..................... 5.3 3.4 16.4 3.3 2.6 .5
Other...................... -- -- 31.5 -- -- 1.3
-------- -------- -------- --------- -------- ------
Total...................... $8,452.4 $7,093.1 $7,103.3 $ 1,827.7 $1,570.7 $666.7
======== ======== ======== ========= ======== ======
F-32
SELECTED QUARTERLY FINANCIAL DATA (UNAUDITED)
2000--Three Months Ended 1999--Three Months Ended
----------------------------------- -----------------------------------
Dec. Sept. June March Dec. Sept. June March
-------- -------- -------- -------- -------- -------- -------- --------
(All dollar amounts are stated in millions)
Finance income.......... $1,817.1 $1,671.6 $1,528.4 $1,421.2 $1,373.7 $1,321.0 $1,264.9 $1,180.2
Other interest income... 19.5 13.7 13.0 11.8 14.4 18.9 17.4 16.6
Interest expense........ 851.9 767.3 679.8 596.2 570.6 551.5 523.9 506.7
-------- -------- -------- -------- -------- -------- -------- --------
Net interest margin..... 984.7 918.0 861.6 836.8 817.5 788.4 758.4 690.1
Provision for credit
losses on owned
receivables............ 430.9 363.1 349.6 420.6 376.7 372.8 326.2 331.7
-------- -------- -------- -------- -------- -------- -------- --------
Net interest margin
after provision for
credit losses.......... 553.8 554.9 512.0 416.2 440.8 415.6 432.2 358.4
-------- -------- -------- -------- -------- -------- -------- --------
Securitization revenue.. 321.2 210.0 200.8 200.8 235.1 211.9 155.7 192.2
Insurance revenue....... 106.9 104.6 91.6 91.7 88.6 88.8 88.3 92.0
Investment income....... 43.6 40.8 38.1 36.5 37.1 41.4 38.4 37.5
Fee income.............. 105.8 88.2 73.0 94.0 114.6 105.6 94.3 99.6
Other income............ 4.2 20.0 25.6 58.7 37.9 29.7 26.6 70.7
-------- -------- -------- -------- -------- -------- -------- --------
Total other revenues.... 581.7 463.6 429.1 481.7 513.3 477.4 403.3 492.0
-------- -------- -------- -------- -------- -------- -------- --------
Salaries and fringe
benefits............... 257.2 239.3 233.4 225.5 224.9 203.5 203.3 192.8
Sales incentives........ 47.7 50.7 54.3 40.9 35.3 41.0 35.4 28.7
Occupancy and equipment
expense................ 58.9 60.3 59.8 60.0 57.1 53.7 54.6 53.4
Other marketing
expenses............... 38.0 47.1 53.3 52.9 40.6 42.2 33.7 42.1
Other servicing and
administrative
expenses............... 60.0 31.6 43.2 72.5 26.9 57.7 72.5 94.9
Amortization of acquired
intangibles and
goodwill............... 35.4 35.4 35.4 40.8 35.9 35.4 35.9 36.1
Policyholders' benefits. 59.1 60.5 55.5 56.6 56.4 50.8 58.7 58.8
-------- -------- -------- -------- -------- -------- -------- --------
Total costs and
expenses............... 556.3 524.9 534.9 549.2 477.1 484.3 494.1 506.8
-------- -------- -------- -------- -------- -------- -------- --------
Income before income
taxes.................. 579.2 493.6 406.2 348.7 477.0 408.7 341.4 343.6
Income taxes............ 207.9 174.9 141.2 118.2 167.0 144.8 117.2 121.8
-------- -------- -------- -------- -------- -------- -------- --------
Net income.............. $ 371.3 $ 318.7 $ 265.0 $ 230.5 $ 310.0 $ 263.9 $ 224.2 $ 221.8
======== ======== ======== ======== ======== ======== ======== ========
F-33
EXHIBIT INDEX
DESCRIPTION
xhibitENo.
3(i) Restated Certificate of Incorporation of Household Finance
Corporation, as amended (incorporated by reference to Exhibit 3(i)
of our Quarterly Report on Form 10-Q for the quarter ended March 31,
1997).
3(ii) Bylaws of Household Finance Corporation (incorporated by reference
to Exhibit 3(b) of our Annual Report on Form 10-K for the fiscal
year ended December 31, 1992).
4(a) Standard Multiple-Series Indenture Provisions for Senior Debt
Securities dated as of June 1, 1992 (incorporated by reference to
Exhibit 4(b) of our Registration Statement on Form S-3, No. 33-48854
filed on June 26, 1992).
4(b) Indenture dated as of December 1, 1993 for Senior Debt Securities
between HFC and The Chase Manhattan Bank (National Association), as
Trustee (incorporated by reference to Exhibit 4(b) of our
Registration Statement on Form S-3, No. 33-55561 filed on September
20, 1994).
4(c) The principal amount of debt outstanding under each other instrument
defining the rights of holders of our long-term debt does not exceed
10 percent of our total assets on a consolidated basis. We agree to
furnish to the Securities and Exchange Commission, upon request, a
copy of each instrument defining the rights of holders of our long-
term debt.
12 Statement of Computation of Ratios of Earnings to Fixed Charges and
to Combined Fixed Charges and Preferred Stock Dividends.
23 Consent of Arthur Andersen LLP, Certified Public Accountants.
99.1 Ratings of Household Finance Corporation and its significant
subsidiaries.