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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the fiscal year ended December 31, 1998
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
Commission File Number.: 1-7614
PMCC FINANCIAL CORP.
(Exact name of registrant as specified in its charter)
Delaware 11-3404072
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
3 Expressway Plaza, Roslyn Heights, New York 11577
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (516) 625-3000
Securities registered pursuant to Section 12(b) of the Act: None.
Securities registered pursuant to Section 12(g) of the Act:
Common Stock, par value $.01 per share
(Title of Class)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes [X] No [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein and will not be contained, to the
best of registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [ ]
The number of shares of common stock outstanding at March 22, 1999 was
3,724,800. As of such date, the aggregate market value of the voting stock held
by non-affiliates, based upon the closing price of these shares on the American
Stock Exchange, was approximately $9,492,200. Information required by Part III
of this Form 10-K is incorporated by reference to the registrant's definitive
proxy statement to be filed with the Commission within 120 days of the end of
the registrant's fiscal year.
Forward Looking Information
The statements included in this Annual Report on Form 10-K regarding future
financial performance and results and the other statements that are not
historical facts are forward-looking statements. The words "expect," "project,"
"estimate," "predict," "anticipate," "believes" and similar expressions are also
intended to identify forward-looking statements. Such statements are subject to
numerous risks, uncertainties and assumptions, including but not limited to, the
uncertainties relating to industry and market conditions and other risks and
uncertainties described in this Annual Report on Form 10-K and in PMCC Financial
Corp.'s other filings with the Securities and Exchange Commission. Should one or
more of these risks or uncertainties materialize, or should underlying
assumptions prove incorrect, actual outcomes may vary materially from those
indicated.
PART I
ITEM 1. BUSINESS
General
PMCC Financial Corp. (the "Company") is a specialty consumer financial
services company providing a broad array of residential mortgage products to
customers ranging from prime credit borrowers seeking "conventional" or FHA/VA
loans to persons who cannot so qualify, i.e., so-called "B," "C" and "D" or
"sub-prime" credit borrowers, seeking "non-conventional" loans. Since mid-1996,
the Company has expanded and diversified its mortgage banking activities by
opening a fully-staffed wholesale division, increasing its subprime mortgage
originations and establishing a program to provide short-term funding to
independent real estate agencies for one to four family residential
rehabilitation properties.
PMCC is a holding company that conducts all of its business through its
wholly-owned subsidiary, PMCC Mortgage Corp. (formerly Premier Mortgage Corp.)
("PMCC"). On February 18, 1998, the shareholders of PMCC exchanged all of their
outstanding common stock for shares of the Company, and the Company completed an
initial public offering of new shares of common stock.
The Company's primary mortgage banking business objectives are to enhance
its growth, to continue to offer a full range of mortgage products to all types
of borrowers and to generate positive cash flow by selling substantially all
originated loans for cash to institutional investors, usually without recourse,
within a short period after such loans are originated, thereby reducing exposure
to interest rate and credit risks.
The Company has experienced growth in its mortgage banking activities in
recent years, originating $47 million in mortgage loans in 1994, $71 million in
mortgage loans in 1995, $133 million in mortgage loans in 1996, $315 million in
mortgage loans in 1997 and $582 million in mortgage loans in 1998. For its
fiscal years ended December 31, 1996, 1997 and 1998, the Company had revenues
from its mortgage banking activities of $6.6 million, $14.2 million, and $22.9
million, respectively.
The Company originates residential first mortgages in New York and New
Jersey by a staff of experienced retail loan officers who obtain customers
through referrals from local real estate agents, builders, accountants,
financial planners and attorneys, as well as from direct customer contact via
advertising, direct mail and promotional materials. The Company's wholesale
division originates mortgage loans through independent mortgage bankers and
brokers, who submit applications to the Company on behalf of a borrower. For the
year ended December 31, 1998, approximately 57% of the Company's mortgage
originations were derived from its retail mortgage operations and approximately
43% from its wholesale operations.
The Company's revenues from mortgage banking activities are primarily
generated from the premiums it receives on the sale of mortgage loans it
originates, and from interest earned during the period the Company holds
mortgage loans for sale. The Company's mortgage loans, together with servicing
rights to these mortgages, are usually sold on a non-recourse basis to
institutional investors, in each case within approximately 7 to 30 days of the
date of origination of the mortgage (30-90 days for sub-prime originations). In
general, when the Company establishes an interest rate at the origination of a
mortgage loan, it attempts to contemporaneously lock in an interest yield to the
institutional investor purchasing that loan from the Company. By selling these
mortgage loans shortly following origination, the Company limits its exposure to
interest rate fluctuations and credit risks. Furthermore, by selling its
mortgage loans on a "servicing-released" basis, the Company avoids the
administrative and collection expenses of managing and servicing a loan
portfolio and it avoids a risk of loss of anticipated future servicing revenue
due to mortgage prepayments in a declining interest rate environment.
The Company also generates income by charging fees for short-term funding
to independent real estate agencies for the purchase, rehabilitation and resale
of vacant one-to-four family residences primarily in New York City and Long
Island, New York. The Company provides this funding to several independent real
estate agencies who specialize in the rehabilitation and marketing of these
properties. As security for providing the independent real estate agencies with
the funding to accomplish the purchase, rehabilitation and resale of the
property, title to the properties is held by the Company. The Company's income
from this activity is limited to the fees and interest charged in connection
with providing the funding and is not related to any gain or loss on the sale of
the property. Since the Company holds the title to these properties, for
financial reporting purposes the Company records as revenue the gross sales
price of these properties when the properties are sold to the ultimate
purchasers and it records cost of sales equal to the difference between such
gross sales price and the amount of its contracted income pursuant to its
contracts with the independent real estate agents. From the commencement of this
activity on September 1, 1996 through December 31, 1996, the Company completed
35 transactions and recorded revenues of $5.1 million and cost of sales of $4.8
million. For the year ended December 31, 1997, the Company completed 169 such
transactions. The Company's revenues and costs of sales from this activity for
the year ended December 31, 1997 were $25.1 million and $23.6 million,
respectively. For the year ended December 31, 1998, the Company completed 231
transactions and recorded revenues and costs of sales of $35.7 million and $32.9
million, respectively. At December 31, 1998, the Company had 147 properties in
various stages of rehabilitation awaiting resale. Although the Company expects
to continue this activity in its markets, there can be no assurance that the
Company's historical rate of growth of this activity will continue in future
periods.
In April 1997, the Company established a sub-prime lending division to meet
increased customer demand for sub-prime mortgage products and the availability
of capital to the Company for these mortgage banking products. In many cases,
subprime credit borrowers have substantial equity in their residences and while
some of these sub-prime customers have impaired credit, such customers also
include individuals who seek an expedited mortgage process, and persons who are
self-employed or, due to other circumstances, have difficulty verifying their
income. The Company believes that the demand for loans by sub-prime credit
customers is less dependent on general levels of interest rates or home sales
and therefore may be less cyclical than conventional mortgage lending. The
Company's sub-prime mortgage lending activity is subject to certain risks,
including risks related to the significant growth in the number of sub-prime
lenders in recent years, risks related to certain potential competition and
risks related to credit-impaired borrowers.
Growth Strategy
The Company's growth strategy includes the following elements:
o increase the Company's wholesale mortgage origination business in New
York and expand into other states. The Company believes that its broad range of
mortgage alternatives for most classifications of borrowers and its ability to
promptly make decisions provides it with the opportunity to increase this aspect
of its business in the New York and New Jersey markets and in other markets in
to which it intends to expand. Prompt and consistent service to independent
mortgage loan brokers who are sources of wholesale loan transactions is a key to
the Company increasing its wholesale mortgage originations and establishes the
basis for repeat business and referrals from these brokers;
o expand the Company's retail mortgage origination business into other
states. The Company has recently opened retail offices in Westchester, New York
and Staten Island, New York. The Company intends to open additional "retail"
sales offices and "net branch" offices to deal directly with potential borrowers
in other states, although it has not yet identified the exact locations of these
additional offices. This expansion activity will be based on the Company's
ability to recruit experienced loan officers and other qualified personnel in
particular markets. The expansion costs for new sales offices are generally
mitigated by leasing short-term executive suite space until revenues are
generated by the office, at which time the Company will lease permanent space.
Controlling the costs of expansion permits the Company to enter and, if
necessary, exit new geographic markets quickly with limited financial impact.
The Company's goal is for each office to achieve break-even operations within
six months after opening;
o expand the Company's residential rehabilitation activities outside of New
York City and Long Island, New York. The Company believes that opportunities
exist in other locations within New Jersey and the New York metropolitan area to
provide fee-based short-term funding for residential rehabilitation properties.
In some cases, this funding would be provided to one of the specialized real
estate companies with which the Company already does business, while in other
cases, the Company may elect to work with companies with which it has not done
business in the past. The Company views its residential rehabilitation
activities as important sources of fee business and follow-on mortgage
origination business; and
o recruit additional key personnel. The Company continues to seek to hire
experienced mortgage loan and operations personnel. The Company views its
employees as key to its growth, and believes it offers compensation packages
that will both attract new employees and retain existing ones.
There can be no assurance as to the specific time-frame concerning when the
Company will implement any elements of its growth strategy, whether the Company
will be successful in implementing this strategy or whether the implementation
of this strategy will result in increased revenue or income to the Company.
Operating Strategy
The Company's operating strategy includes the following elements:
o continue to provide quality service. The Company seeks to provide high
levels of service to its retail customers and the broker network that is a
source of wholesale loan originations. This service includes prompt preliminary
approval of loans, consistent application of the Company's underwriting
guidelines and prompt funding of loans. To provide this level of service, each
loan is handled by a team of professionals that includes experienced loan sales
personnel, processors and underwriters. The Company believes that this
commitment to service provides it with a competitive advantage in establishing
and maintaining a productive sales force and satisfactory broker relationships;
o maintain underwriting standards. The Company's underwriting process is
designed to thoroughly, expeditiously and efficiently review and underwrite each
prospective loan and to insure that each loan can be sold to a third-party
investor by conforming to its requirements. The Company employs eight
underwriters, with an average of twelve years of relevant mortgage loan
experience, to ensure that all originated loans satisfy the Company's
underwriting criteria. Each loan is reviewed and approved by a senior
underwriter. The Company believes that its experienced underwriting staff
provides it with the infrastructure required to manage and sustain the Company's
growth rate while maintaining the quality of loans originated;
o broaden product offerings. The Company frequently reviews its pricing and
loan products relative to its competitors and introduces new loan products in
order to meet the needs of its customers who may be "retail" customers and
brokers who are sources of wholesale loan originations. The Company successfully
negotiates master commitments from its investors for special niche products
which are only offered to a limited number of companies nationwide. The Company
intends to continue to negotiate these specialized master commitments to allow
the Company to offer exceptional niche products that are only offered to a
limited amount of companies nationwide;
o continue delegated underwriting approval status. The Company seeks to
provide a high level of service to its retail and wholesale accounts, by having
internal authority to approve a large portion of the loans it sells. In addition
to FNMA, FHLMC, FHA and jumbo loans, the Company has been delegated authority by
certain institutional investors to approve many of the Company's niche products.
The Company has provided training for its processors and underwriters to
efficiently review each file for compliance with investor guidelines. The
Company believes that its delegated authority to approve most loans provides it
with a competitive advantage because it allows the Company to provide additional
services to its borrowers and correspondents; and
o invest in information systems. In its continued effort to increase
efficiency, the Company plans to upgrade its information systems in 1999. The
Company intends to continually look for ways to improve efficiencies through
automation.
The Company does not currently intend to engage in mortgage securitization
activities.
Mortgage Products Offered
The Company believes it is one of a small group of multi-state mortgage
bankers that offer on a direct (or "retail") basis a broad array of mortgage
products to prime credit borrowers (i.e., a credit-rated borrower seeking a
conventional or FHA/VA insured loan), and borrowers who are unable to qualify
for conforming home mortgages. The Company's experience and expertise in
numerous types of mortgage products also gives it the ability to originate a
full range of mortgage products on a wholesale basis. This broad array of
products allow most prospective borrowers to obtain a mortgage through the
Company.
The following are examples of the more than 200 mortgage programs offered
to prime credit and sub-prime credit borrowers:
o Fixed interest rate mortgages with a fixed monthly payment. This loan is
fully amortizing over a given number of years (for example, 15 or 30 years); a
portion of the monthly payment covers both interest and principal.
o Fixed interest rate balloon mortgages with equal monthly payments based
on a long-term schedule (15 to 30 years), yet payment of the outstanding balance
is due in full at an earlier date (5 to 10 years).
o Adjustable interest rate mortgages ("ARMs") repayable over 7 to 30 years
with monthly payments adjusted on a periodic basis (i.e., 6 months or once a
year) based upon interest rate fluctuations.
o ARMs offer additional alternatives:
o Adjustment period -- This determines when the first interest rate and
payment changes will take place; an ARM could make its initial adjustments after
six months, one year, three years, five years or ten years and subsequent
adjustments take place either every six months or one year thereafter.
o Caps -- "Caps" place limits on payments and interest rate changes per
adjustment period. For example, for an ARM that adjusts every year, the maximum
increase in the interest rate on the adjustment date is typically 200 basis
point per year (i.e., a mortgage would adjust from 7% to 9%) and 600 basis
points for the life of the loan.
o Index -- The index is the basis upon which interest rate adjustments are
made; typically, the index is related to various Treasury bill rates or another
widely published rate such as LIBOR.
Mortgages are also offered with a variety of combinations of interest rates
and origination fees so that its customers may elect to "buy-down" the interest
rate by paying higher points at the closing or pay a higher interest rate and
reduce or eliminate points payable at closing. The Company's mortgage products
are further tailored, i.e., are offered with varying down payment requirements,
loan-to-value ratios and interest rates, to a borrower's profile based upon the
borrower's particular credit classification and the borrower's willingness or
ability to meet varying income documentation standards -- the full income
documentation program pursuant to which a prospective borrower's income is
evaluated based on tax returns, W-2 forms and pay stubs; the limited income
documentation program pursuant to which a prospective borrower's income is
evaluated based on bank statements and profit and loss statements; the stated
income program pursuant to which a prospective borrower's employment, rather
than income, is verified; or the no ratio loan program pursuant to which a
prospective borrower's credit history and collateral values, rather than income
or employment, are verified. These loan variations give the Company the
flexibility to extend mortgages to a wider range of borrowers.
FHA/VA Mortgages. The Company has been designated by the U.S. Department of
Housing and Urban Development ("HUD") as a direct endorser of loans insured by
the Federal Housing Administration ("FHA") and as an automatic endorser of loans
partially guaranteed by the Veterans Administration ("VA"), allowing the Company
to offer so-called "FHA" or "VA" mortgages to qualified borrowers. Generally
speaking, FHA and VA mortgages are available to borrowers with low/middle
incomes and impaired credit classifications for properties within a specific
price range (generally less than $160,950 for one-family residences or $205,912
for two-family residences located in the New York City metropolitan area). FHA
and VA mortgages must be underwritten within specific governmental guidelines,
which include income verification, borrower asset, borrower credit worthiness,
property value and property condition. Because these guidelines require that
borrowers seeking FHA or VA mortgages submit more extensive documentation and
the Company perform a more detailed underwriting of the mortgage than prime
credit mortgages, the Company's revenues from these mortgages are generally
higher than a comparable sized mortgage for a prime credit borrower.
The following table sets forth the Company's mortgage loan production
volume by type of loan for each of the five years ended December 31, 1998.
Years Ended December 31,
($ in thousands)
1994 1995 1996 1997 1998
---- ---- ---- ------- ----
Conventional Loans:
Volume $46,700 $51,300 $75,400 $177,825 $359,143
Percentage of total volume 100% 73% 57% 57% 62%
FHA/VA Loans:
Volume -- $19,400 $57,700 $75,060 $146,628
Percentage of total volume -- 27% 43% 24% 25%
Sub-Prime Loans
Volume * * * $61,675 $76,645
Percentage of total volume * * * 19% 13%
Total Loans:
Volume $46,700 $70,700 $133,100 $314,560 $582,416
Number of Loans 273 470 890 2,160 3,793
Average Loan Size $171 $150 $150 $146 $154
- - ------------
*For the referenced periods, sub-prime loans represented less than five
percent of the Company's loan originations and are included in the Company's
conventional loans.
Operations
Markets. The Company currently services mortgage customers in New York
State (particularly in New York City and throughout Long Island) and New Jersey
through 5 offices. Additionally, the Company has mortgage banking licenses in 37
additional states. The Company intends to open other retail and wholesale
offices as opportunities present themselves. These offices will allow the
Company to focus on developing contacts with individual borrowers, local brokers
and referral sources such as accountants, attorneys and financial planners. The
Company intends to expand its residential rehabilitation activities through its
existing and future agency relations.
The Company also expects to expand into selected geographic markets through
acquisitions of mortgage banking/mortgage broker businesses that have
established niches in such areas. The Company believes these acquisitions are a
cost-effective strategy for increasing mortgage originations.
Retail Mortgage Originations. The Company's typical retail customer is
assigned to one of the Company's mortgage loan officers working at one of the
Company's offices who spends approximately one hour interviewing the applicant
about his/her mortgage borrowing needs and explaining the Company's mortgage
product alternatives. Following this interview, the mortgage loan officer
assists the customer in completing an application and gathering supporting
documentation (a "loan file"). Once the loan file is submitted, a sales manager
reviews the file to verify that the loan complies with a specific product that
the Company can resell to institutional investors. The Company assigns a loan
processor to review a loan file for completeness and requests missing
documentation from the borrower. The Company's review of a loan file and the
related underwriting process generally includes matters such as verification of
an applicant's sources of down payment, review of an applicant's credit report
from a credit reporting agency, receipt of a real estate appraisal, verification
of the accuracy of the applicant's income and other information, and compliance
with the Company's underwriting criteria and those of either FHA and/or
institutional investors. The Company's review/underwriting process allows it to
achieve efficiency and uniformity in processing, as well as quality control over
all loans. In the case of prime and FHA/VA mortgages, the underwriting process
occurs at the Company's offices in Roslyn Heights, New York and Union, New
Jersey, while sub-prime loans are separately processed and underwritten at the
Company's office in Roslyn Heights, New York.
When a loan reaches the underwriting department, the Company's goal is to
promptly evaluate the loan file to reach preliminary decisions within 24 to 48
hours of receipt. After a loan has been approved, the Company issues a written
loan commitment to the applicant which sets forth, among other things, the
principal amount of the loan, interest rate, origination and/or closing fees,
funding conditions and approval expiration dates.
Approved applicants have a choice of electing to "lock-in" their mortgage
interest rate as of the application date or thereafter or to accept a
"prevailing" interest rate. A "prevailing" interest rate is subject to change in
accordance with market interest rate fluctuations and is set by the Company
three to five days prior to closing. At the closing, a Company-retained attorney
or closing agent is responsible for completing the mortgage transaction in
accordance with applicable law and the Company's operating procedures and
completion of appropriate documentation.
As a "retail" mortgage originator, the Company performs all the tasks
required in the loan origination process, thereby eliminating any intermediaries
from the transaction. This permits the Company to maximize fee income and to be
a low cost provider of mortgage loans. This structure provides the Company with
a competitive advantage over mortgage brokers, who must outsource a significant
portion of the loan origination process, and over banks, which usually have
greater overhead expenses than the Company. In addition, handling the entire
loan origination process in-house leads to effective quality control and better
communication among the various personnel involved.
Wholesale Mortgage Operations. Wholesale mortgage originations are the
responsibility of the Company's wholesale division, which solicits referrals of
borrowers from a network of approximately 200 independent mortgage bankers and
brokers located throughout New York and New Jersey. In wholesale originations,
these mortgage bankers and brokers deal directly with the borrowers by assisting
the borrower in collecting all necessary documents and information for a
complete loan application, and serving as a liaison to the borrower throughout
the lending process. The mortgage banker or broker submits this fully processed
loan application to the Company for underwriting determination.
The Company reviews the application of a wholesale originated mortgage with
the same underwriting standards and procedures used for retail loans, issues a
written commitment, and upon satisfaction of all lending conditions, closes the
mortgage with a Company-retained attorney or closing agent who is responsible
for completing the transaction as if it were a "retail" originated loan.
Mortgages originated from the wholesale division are sold to institutional
investors similar to those that purchase loans originated from the Company's
"retail" operation.
Because mortgage brokers may submit individual loan files to several
prospective lenders simultaneously, the Company attempts to respond to an
application as quickly as possible. Since the Company has been delegated
authority from institutional investors to approve most loans, the Company
generally issues an underwriting decision within 24 to 48 hours of receipt of a
file.
The Company works with approximately 200 mortgage bankers and brokers on a
regular basis. The Company conducts due diligence on potential mortgage bankers
and brokers, including verifying financial statements of the company and credit
checks of principals, business references provided by the bankers or brokers and
verifying through the banking department that the mortgage banker or broker is
in good standing. Once approved, the Company requires that each mortgage banker
or broker sign an agreement of purchase and sale in which the mortgage banker or
broker makes representations and warranties governing both the mechanics of
doing business with the Company and the quality of the loan submissions. In
addition, the Company regularly reviews the performance of loans originated
through mortgage bankers and brokers.
Through the wholesale division, the Company can increase its loan volume
without incurring the higher marketing, labor and other overhead costs
associated with increased retail originations because brokers conduct their own
marketing and employ their own personnel to attract customers, to assist the
borrower in completing the loan application and to maintain contact with
borrowers.
Residential Rehabilitation Activities. In September 1996, the Company
commenced a program of providing short-term fee-based funding to several real
estate agencies with specialized expertise in the acquisition, rehabilitation
and resale of vacant one-to-four family residential properties in New York City
and Long Island, New York. These properties are generally offered to the
agencies by banks or other mortgage companies that have acquired title and
possession through a foreclosure proceeding. The Company's process of providing
this short-term funding commences when an agency submits information about a
property to the Company which the agency believes meets the Company's
rehabilitation financing criteria. If the Company agrees to fund the
rehabilitation of the property, it will advance the purchase of the property at
up to 70% of the appraised value. The Company generally does not fund properties
when the purchase price of the property is greater than 70% of the appraised
value. As security for providing these independent real estate agencies with the
funding to accomplish the purchase, residential rehabilitation and resale of the
property, title to these properties is held by the Company. The Company's income
from this activity is limited to the fees and interest charged in connection
with providing the financing and not from any gain or loss on the sale of the
property. The terms of these financing agreements with the agencies (the "Agent
Agreement") provide that all risks relating to the ownership, marketing and
resale of the property are borne by the agencies, including obtaining insurance
on the property, maintaining the property and arranging for all aspects of
offering and selling the property to potential buyers and renovating the
property to the satisfaction of the buyer. The Agent Agreements also provide
that the Company's fee, which averages approximately $9,000-$12,000, is a
priority payment after payment of the funds advanced by the Company, over any
monies paid to the agencies. The agencies and their principals personally
guaranty reimbursement of all costs and the total fee payable to the Company.
The properties funded by the Company through the residential rehabilitation
program are generally acquired at prices between $60,000 and $100,000 each, and
the renovation/rehabilitation expenses (which are borne by the agencies) are
usually between $10,000 and $20,000 per property. The period during which these
properties are financed generally ranges from three to five months. For
financial reporting purposes, because the Company holds title to these
properties, revenues are recorded at the gross sales price of these properties
when the properties are sold to the ultimate purchasers and it records cost of
sales equal to the difference between such gross sales price and the amount of
its contracted income pursuant to its contracts with the independent real estate
agents.
The Company's arrangement with these agencies is not exclusive, although
the Company does encourage the agencies to provide the Company with a "first
right" of funding each property that each agency has identified. The Company has
investigated each agency and is satisfied that their financial condition and
business reputation is acceptable. As the Company opens additional retail
offices, it will consider funding residential rehabilitation properties in the
areas served by such offices.
The Company believes that its residential rehabilitation program serves as
an additional source of mortgage originations since purchasers of such
properties seek mortgage financings and are encouraged to submit applications to
the Company. Approximately 90% of the buyers of such properties obtained
mortgages originated by the Company. The process by which these mortgages were
processed and underwritten was identical to the Company's procedures for
reviewing and underwriting mortgages originated from retail or wholesale
sources, and each of these mortgages was sold to third party investors in the
normal course of the Company's business.
Loan Funding and Borrowing Arrangements
The Company funds its mortgage banking and residential rehabilitation
financing activities in large part through a warehouse lines of credit,
gestation agreements and its ability to continue to originate mortgage loans and
provide residential rehabilitation financings is dependent on continued access
to capital on acceptable terms.
The Company's committed warehouse lines of credit (the "Warehouse
Facilities"), as amended, with two commercial banks currently allows the Company
to borrow up to $110 million. The Warehouse Facilities expire in 1999 but are
generally renewable. These borrowings are repaid with the proceeds received by
the Company from the sale of its originated loans to institutional investors or,
in the case of residential rehabilitation activities, from the proceeds from the
sale of the properties. The Company is required to comply with certain financial
covenants and the borrowings for residential rehabilitation properties are
guaranteed by Ronald Friedman, the Company's President, Chief Executive Officer
and a director and Robert Friedman, the Company's Chief Operating Officer,
Secretary, Treasurer and Chairman of the Board of Directors.
The Warehouse Facility requires the Company to repay the amount it borrows
to fund a loan generally within 60 to 90 days after the loan is closed or when
the Company receives payment from the sale of the funded loan, whichever occurs
first. Until the loan is sold to an investor and repayment of the loan is made
under the Warehouse Facility, the Warehouse Facility provides that the funded
loan is pledged to secure the Company's outstanding borrowings. Interest payable
is variable based LIBOR plus 1.25% to 2.25% based upon the underlying
collateral.
The Company supplements its Warehouse Facilities through a gestation
agreement (the "Gestation Agreement"), which for financial reporting was
characterized by the Company as a borrowing transaction. The Gestation Agreement
provided the Company with up to $30 million of additional funds for loan
originations through the Company's sale to this bank of originated mortgage
loans previously funded under the Warehouse Facilities and committed to be sold
to institutional investors. The Gestation Agreement does not have an expiration
date but is terminable by either party upon written notice. The Company believes
that other financial institutions provide similar gestation lines of credit.
From time to time, the Company has borrowed funds from a corporation owned
by Robert Friedman, the Chairman of the Board of Directors, Chief Operating
Officer, Secretary and Treasurer of the Company. As of December 31, 1998, $1.2
million remained outstanding, all of which is secured by a mortgage against
certain residential properties in rehabilitation pursuant to a mortgage
agreement. As the residential property is sold, proceeds are used to repay the
mortgage on the particular property. Interest payable pursuant to this agreement
is 10% per year. This borrowing was repaid in full in February 1999.
Sale of Loans
The Company follows a strategy of selling all of its originated loans for
cash to institutional investors, usually on a non-recourse basis. This strategy
allows the Company to (i) generate near-term cash revenues, (ii) limit the
Company's exposure to interest rate fluctuations and (iii) substantially reduce
any potential expense or loss in the event the loan goes into default after the
first month of its origination. The non-recourse nature of the majority of the
Company's loan sales does not, however, entirely eliminate the Company's default
risk since the Company may be required to repurchase a loan from the investor or
indemnify an investor if the borrower fails to make its first mortgage payment
or if the loan goes into default and the Company is found to be negligent in
uncovering fraud in connection with the loan origination process.
Quality Control
In accordance with HUD regulations, the Company is required to perform
quality control reviews of its FHA mortgage originations. The Company's quality
control department examines branch offices and approximately 10% of all mortgage
originations for compliance with federal and state lending standards, which may
involve reverifying employment and bank information and obtaining separate
credit reports and property appraisals. Quality control reports are submitted to
senior management monthly.
Marketing and Sales
The Company has developed numerous marketing programs at both the corporate
and the branch office level. These programs include, among others,
market-sensitive advertising in key newspapers and other publications, public
relations, promotional materials customized for consumers and real estate
professionals, collateral materials supporting particular product promotions,
educational seminars, trade shows, telemarketing, and sponsoring or promoting
other special events. The Company also conducts seminars in conjunction with
other real estate professionals targeting potential home buyers. The Company is
active with local boards of realtors, Better Business Bureaus and the Builders
Association of America. All of the Company's loan representatives support these
activities with extensive personal contact.
Competition
The mortgage banking industry is highly competitive in the states where the
Company conducts business and in the states into which it seeks to expand. The
Company's competitors include financial institutions, such as other mortgage
bankers, state and national commercial banks, savings and loan associations,
credit unions, insurance companies and other finance companies. Many of these
competitors are substantially larger and have considerably greater financial,
technical and marketing resources than the Company.
Competition in the mortgage banking industry is based on many factors,
including convenience in obtaining a loan, customer service, marketing and
distribution channels, amount and term of the loan and interest rates. The
Company believes that its competitive strengths include providing prompt,
responsive service and flexible underwriting to independent mortgage bankers and
brokers. The Company's underwriters apply its underwriting guidelines on an
individual basis but have the flexibility to deviate from such guidelines when
an exception or upgrade is warranted by a particular loan applicant's situation,
such as evidence of a strong mortgage repayment history relative to a weaker
overall consumer-credit repayment history. This provides independent mortgage
bankers and brokers working with the Company the ability to offer loan programs
to a diversified class of borrowers.
Since there are significant costs involved in establishing retail mortgage
offices, there may be potential barriers to market entry for any company seeking
to provide a full range of mortgage banking services. No single lender or group
of lenders has, on a national level, achieved a dominant or even a significant
share of the market with respect to loan originations for first mortgages.
The Company believes that it is able to compete on the basis of providing
prompt and responsive service and offering competitive loan programs to
borrowers.
Information Systems
The Company continues to design and integrate into its operations the
ability to access critical information for management on a timely basis. The
Company uses various software programs designed specifically for the mortgage
lending industry. Each branch office provides senior management with mortgage
originations and other key data. The information system provides weekly and
monthly detailed information on loans in process, fees, commissions, closings,
financial statements and all other aspects of running and managing the business.
Year 2000 Compliance
The Company is currently in the process of evaluating its information
technology infrastructure for the Year 2000 ("Y2000") compliance. The Company
has contacted the vendors of its information systems and has been informed that
these systems are Y2000 compliant. The Company's existing workstations and
fileservers are substantially Y2000 compliant and those workstations that are
not Y2000 compliant will be replaced during 1999. The Company does not believe
that the cost to modify its information technology infrastructure to be material
to its financial condition or results of operations nor does the Company
anticipate any material disruption of its operations as a result of a failure by
the Company to be compliant. However, there can be no assurance that there will
not be a delay in, or increased costs associated with, the need to address Y2000
issues. The Company also relies, directly and indirectly, on other businesses
such as third party service providers, creditors, financial institutions and
governmental entities. Even if the Company's computer systems are not materially
adversely affected by the Y2000 issue, the Company's business and operations
could be materially adversely affected by disruptions in the operations of other
entities with which the Company interacts.
Regulation
The Company's business is subject to extensive and complex rules and
regulations of, and examinations by, various federal, state and local government
authorities. These rules and regulations impose obligations and restrictions on
the Company's loan originations and credit activities. In addition, these rules
limit the interest rates, finance charges and other fees the Company may assess,
mandate extensive disclosure to the Company's customers, prohibit discrimination
and impose qualification and licensing obligations on the Company. The Company's
loan origination activities are subject to the laws and regulations in each of
the states in which those activities are conducted. The Company's lending
activities are also subject to various federal laws, including the Federal
Truth-in-Lending Act and Regulation Z promulgated thereunder, the Homeownership
and Equity Protection Act of 1994, the Federal Equal Credit Opportunity Act and
Regulation B promulgated thereunder, the Fair Credit Reporting Act of 1970, the
Real Estate Settlement Procedures Act of 1974 and Regulation X promulgated
thereunder, the Fair Housing Act, the Home Mortgage Disclosure Act and
Regulation C promulgated thereunder and the Federal Debt Collection Practices
Act, as well as other federal and state statutes and regulations affecting the
Company's activities.
These rules and regulations, among other things, impose licensing
obligations on the Company, establish eligibility criteria for mortgage loans,
prohibit discrimination, provide for inspections and appraisals of properties,
require credit reports on prospective borrowers, regulate payment features,
mandate certain disclosures and notices to borrowers and, in some cases, fix
maximum interest rates, fees and mortgage loan amounts. Failure to comply with
these requirements can lead to loss of approved status by the banking regulators
of the various state governments where the Company operates, demands for
indemnification or mortgage loan repurchases, certain rights of rescission for
mortgage loans, class action lawsuits and administrative enforcement actions by
federal and state governmental agencies.
Although the Company believes that it has systems and procedures to insure
compliance with these requirements and believes that it is currently in
compliance in all material respects with applicable federal, state and local
laws, rules and regulations, there can be no assurance of full compliance with
current laws, rules and regulations or that more restrictive laws, rules and
regulations will not be adopted in the future that could make compliance
substantially more difficult or expensive. In the event that the Company is
unable to comply with such laws or regulations, its business, prospects,
financial condition and results of operations may be materially adversely
affected.
Members of Congress, government officials and political candidates have
from time to time suggested the elimination of the mortgage interest deduction
for federal income tax purposes, either entirely or in part, based on borrower
income, type of loan or principal amount. Because many of the Company's loans
are made to borrowers for the purpose of consolidating consumer debt or
financing other consumer needs, the competitive advantage of tax deductible
interest, when compared with alternative sources of financing, could be
eliminated or seriously impaired by such government action. Accordingly, the
reduction or elimination of these tax benefits could have a material adverse
effect on the demand for mortgage loans of the kind offered by the Company.
Seasonality
The mortgage banking industry is generally subject to seasonal trends.
These trends reflect the general pattern of resales of homes, which sales
typically peak during the spring and summer seasons and decline from January
through March. Refinancings tend to be less seasonal and more closely related to
changes in interest rates.
Environmental Matters
In the course of its business, the Company takes title (for security
purposes) to residential properties intended for near term rehabilitation and
resale. Additionally, the Company may foreclose on properties securing its
mortgage loans. To date the Company has not been required to perform any
investigation or remediation activities, nor has it been subject to any
environmental claims relating to these activities. There can be no assurance,
however, that this will remain the case in the future. Although the Company
believes that the risk of an environmental claim arising from its ownership of a
residential property (whether through residential rehabilitation financing or
through foreclosure) is immaterial, the Company could be required to investigate
and clean up hazardous or toxic substances or chemical releases at a property,
and may be held liable to a governmental entity or to third parties for property
damage, personal injury and investigation and clean up costs incurred by such
parties in connection with the contamination, which costs may be substantial. In
addition, the Company, as the owner or former owner of a contaminated site, may
be subject to common law claims by third parties based on damages and costs
resulting from environmental contamination emanating from such property.
Employees
As of March 22, 1999, the Company had 159 employees, substantially all of
whom were employed full-time. Of these, 116 were employed at the Company's
Roslyn Heights, New York headquarters, and 43 were employed at the Company's
other offices. None of the Company's employees are represented by a union. The
Company considers its relations with its employees to be satisfactory.
ITEM 2. PROPERTIES
The Company's executive and administrative offices are located at Three
Expressway Plaza, Roslyn Heights, New York, where the Company leases
approximately 23,000 square feet of office space at an annual rent of
approximately $475,000. The lease expires in April 2005.
The Company leases 3,000 square feet of general office space in Hauppauge,
New York pursuant to a lease that expires on June, 2002 at an average annual
rent of approximately $40,000. The Company leases office space in Union, New
Jersey pursuant to a lease that expires on February 28, 2002 with annual rent of
$61,762.
ITEM 3. LEGAL PROCEEDINGS
In the ordinary course of its business, the Company is from time to time
subject to various legal proceedings. The Company does not believe that any
routine legal proceedings, individually or in the aggregate, will have a
material adverse affect on the operations or financial condition of the Company.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
PART II
ITEM 5. MARKET FOR REGISTRANTS COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
PRICE RANGE OF COMMON STOCK
Prior to February 18, 1998, the date of the Company's initial public
offering of its common stock (the "Common Stock"), there was no public market
for the Common Stock. The Common Stock is currently quoted on the American Stock
Exchange under the symbol "PFC". The following table sets forth the closing high
and low bid prices for the Common Stock for the fiscal period indicated.
1998 High Low
---- ---- ---
1st Quarter (from February 18, 1998).................................$9.00 $7.00
2nd Quarter.......................................................... 8.875 7.50
3rd Quarter.......................................................... 7.75 5.75
4th Quarter.......................................................... 8.125 6.125
The closing per share bid price of the Common Stock as reported by the
American Stock Exchange on March 22, 1999 was $7.75. As of March 26, 1999, the
Company had approximately 14 shareholders of record and approximately 1,100
beneficial shareholders.
On February 18, 1998, the Company completed an initial public offering of
1.25 million shares of Common Stock at a price of $9.00 per share. After paying
the costs of this offering of approximately $2.1 million, the Company received
approximately $9.2 million. The Company used these net proceeds (a) to increase
its warehouse lines of credit, (b) to increase its purchase and rehabilitation
of residential rehabilitation properties, (c) to fund a distribution of $1
million to existing shareholders, (d) to purchase computers and equipment, (e)
to increase its mortgage originations, and (f) for general working capital
purposes.
Dividend Policy
To date, the Company has not paid a dividend on its Common Stock. The
Company's ability to pay dividends in the future is dependent upon the Company's
earnings, capital requirements and other factors. The Company intends to retain
future earnings for use in the Company's business.
ITEM 6. SELECTED FINANCIAL DATA
Consolidated Statement of Operations Data:
At or for the Years Ended December 31,
---------------- --------------- --------------- --------------- --------------
1994 1995 1996 1997 1998
---------------- --------------- --------------- --------------- --------------
($ in thousands, except per share data)
Revenues $1,187 $3,315 $11,676 $39,364 $58,646
Net income 62 196 1,034 3,701 1,938
Pro forma net income1 517 2,150 2,709
Pro forma net income per share -
diluted2 0.21 0.84 0.75
Operating Data:
Mortgage loans originated:
Conventional 46,700 51,300 75,400 177,825 359,143
FHA/VA - 19,400 57,700 75,060 146,628
Sub Prime3 - - - 61,675 76,645
---------------- =============== =============== =============== ==============
46,700 70,700 133,100 314,560 582,416
=============== =============== =============== ==============
================
Number of loans originated 273 470 890 2,160 3,793
Average principal balance per loan $171 $150 $150 $146 $154
originated
Consolidated Balance Sheet Data:
Receivable from sales of loans - $1,357 $9,838 $35,131 $20,789
Mortgage loans held for sale, net $582 5,537 2,875 18,610 67,677
Residential rehabilitation properties - - 3,246 11,584 16,492
Total assets 1,098 8,232 17,153 68,427 112,809
Borrowings 557 6,476 14,198 59,410 94,674
Shareholders' equity 465 1,114 1,878 4,809 13,033
- - ----------------------------
1 The pro forma presentation of statement of operations data reflects the
provision for income taxes as if the Company had been a C corporation at assumed
effective tax rates ranging from 41%. The pro forma statement of operations data
for 1997 also reflects an increase in officer compensation expense pursuant to
proposed employee contracts.
2 Pro forma net income per share has been computed by dividing pro forma
net income by the pro forma weighted average number of common shares and share
equivalents outstanding.
3 For the years ended December 31, 1995 and 1996, the Company estimates
that the sub-prime loans accounted for less than 5% of the Company's total
originals for those years and are included in conventional loans for those
years.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS.
Results of Operations
Years Ended December 31, 1998 and 1997
Revenues. The following table sets forth the components of the Company's
revenues for the periods indicated:
Years Ended December 31,
---------------------- ---- ----------------------
1998 1997
---------------------- ----------------------
Sales of residential rehabilitation properties $35,731,990 $25,136,099
Gains of sales of mortgage loans, net 17,233,729 11,844,108
Interest earned 5,680,700 2,383,660
---------------------- ----------------------
Total revenues $58,646,419 $39,363,867
====================== ======================
Revenue from the sale of residential rehabilitation properties increased
$10.6 million, or 42%, to $35.7 million for the year ended December 31, 1998
from $25.1 million for the year ended December 31, 1997. This increase was
primarily the result of the increase in the number of residential rehabilitation
properties sold to 231 for the year ended December 31, 1998 from 169 for the
year ended December 31, 1997.
Gains on sales of mortgage loans increased $5.4 million, or 46%, to $17.2
million for the year ended December 31, 1998 from $11.8 million for the year
ended December 31, 1997. This increase was primarily due to (a) increased loan
originations and loan sales from the Company's existing retail offices, and (b)
loan originations and sales by the Company's wholesale division and subprime
divisions. During the fourth quarter of 1998 the Company incurred lower margins
on sub-prime and other mortgages due to the liquidity crisis that occurred in
the capital markets. Mortgage loan originations were $582 million and $315
million for the years ended December 31, 1998 and 1997, respectively. Although
there can be no assurance thereof, the Company expects mortgage originations to
increase and therefore believes its gains on sales of mortgage loans will
increase.
Interest earned increased $3.3 million, or 138%, to $5.7 million for the
year ended December 31, 1998 from $2.4 million for the year ended December 31,
1997. This increase was primarily due to increased mortgage originations for the
year ended December 31, 1998 and an increase in the amount of sub-prime mortgage
originations which generally are held for sale longer than conventional mortgage
originations.
Expenses. The following table sets forth the Company's expenses for the
periods indicated:
Years Ended December 31,
---------------------- ---- -------------------
1998 1997
---------------------- -------------------
Cost of sales-residential rehabilitation properties $32,936,131 $23,621,193
Compensation and benefits 11,035,625 6,995,104
Interest expense 5,831,811 2,745,610
Other general and administrative 4,252,127 2,260,485
-------------------
====================== ===================
Total expenses $54,055,694 $35,622,392
====================== ===================
Although there can be no assurance thereof, the Company believes that the
expected increase in mortgage origination volume and residential rehabilitation
activities will result in increased expenses.
Cost of sales - residential rehabilitation properties increased $9.3
million, or 39%, to $32.9 million for the year ended December 31, 1998 from
$23.6 million for the year ended December 31, 1997. This increase was primarily
due to the increase in the number of properties purchased, rehabilitated and
sold.
Compensation and benefits increased $4.0 million, or 58%, to $11.0 million
for the year ended December 31, 1998 from $7.0 million for the year ended
December 31, 1997. This increase was primarily due to increased sales' salaries
and commission which are based substantially on mortgage loan originations.
Interest expense increased $3.1 million, or 112%, to $5.8 million for the
year ended December 31, 1998 from $2.7 million for the year ended December 31,
1997. This increase was primarily attributable to the increase in mortgage
originations and residential rehabilitation properties funded through the
Company's warehouse facility.
Other general and administrative expense increased $2.0 million, or 88%, to
$4.3 million for the year ended December 31, 1998 from $2.3 million for the year
ended December 31, 1997. This increase was primarily due to increased expenses
incurred in connection with the growth in the operations of the Company
including rent and facilities expense, telephone and marketing.
Years Ended December 31, 1997 and 1996
Revenues. The following table sets for the components of the Company's
revenues for the periods indicated:
Years Ended December 31,
---------------------- ---- ----------------------
1997 1996
---------------------- ----------------------
Sales of residential rehabilitation properties $25,136,099 $5,073,253
Gains of sales of mortgage loans, net 11,844,108 5,867,250
Interest earned 2,383,660 735,802
---------------------- ----------------------
Total revenues $39,363,867 $11,676,305
====================== ======================
Revenue from the sale of residential rehabilitation properties increased
$20.1, or 395% to $25.1 million for the year ended December 31, 1997 from $5.1
million for the year ended December 31, 1995. This was primarily the result of
the increase in the number of residential rehabilitation properties sold to 169
for the year ended December 31, 1997 from 35 for the year ended December 31,
1996.
Gains on sales of mortgage loans increased by $6.0 million, or 102%, to
$11.8 million for the year ended December 31, 1997 from $5.9 million for the
year ended December 31, 1996. This increase was primarily due to (a) increased
loan originations and loan sales from the Company's existing retail offices, and
(b) loan originations and loan sales by the Company's wholesale division and
subprime divisions which commenced operation in 1997. Mortgage loan originations
were $315 million and $133 million for the years ended December 31, 1997 and
1996, respectively.
Interest earned increased $1.6 million, or 224%, to $2.4 million for the
year ended December 31, 1997 from $736,000 for the year ended December 31, 1996.
This increase was primarily attributable to the increase in mortgage
originations for the year ended December 31, and an increase in the amount of
subprime mortgage originations which generally are held for sale longer than
conventional mortgage originations.
Expenses. The following table sets forth the Company's expenses for the
periods indicated:
Years Ended December 31,
---------------------- ---- -------------------
1997 1996
---------------------- -------------------
Cost of sales-residential rehabilitation properties $23,621,193 $4,788,944
Compensation and benefits 6,995,104 3,674,490
Interest expense 2,745,610 839,284
Other general and administrative 2,260,485 1,326,265
-------------------
====================== ===================
Total expenses $35,622,392 $10,628,983
====================== ===================
Cost of sales - residential rehabilitation properties increased $18.8
million, or 393%, to $23.6 million for the year ended December 31, 1997 from
$4.8 million for the year ended December 31, 1996. This increase was primarily
due to the increase in the number of properties purchased, rehabilitated and
sold.
Compensation and benefits increased $3.3 million, or 90%, to $7.0 million
for the year ended December 31, 1997 from $3.7 million for the year ended
December 31, 1996. This increase was primarily attributable to increased sales'
salaries and commissions, which are based substantially on loan production.
Administrative and support personnel increased from 33 employees at December 31,
1996 to 68 employees at December 31, 1997.
Interest expense increased by $1.9 million, or 227%, to $2.7 million for
the year ended December 31, 1997 from $839,000 for the year ended December 31,
1996. This increase was primarily attributable to the increase in the volume of
loans, substantially all of which were funded through the Company's Warehouse
Facility. Approximately $333,000 of this increase related to residential
rehabilitation financing during the period.
Other general administrative expenses increased by $934,000, or 70%, to
$2.3 million for the year ended December 31, 1997 from $1.3 million for the year
ended December 31, 1996. This increase was primarily due to increased expenses
incurred in connection with the growth in the operations of the Company
including rent and facilities expense, telephone and marketing.
Liquidity and Capital Resources
The Company's principal financing needs consist of funding mortgage loan
originations and residential rehabilitation properties. To meet these needs, the
Company currently relies on borrowings under the Warehouse Facilities, a
gestation agreement and cash flow from operations. The amount of outstanding
borrowings under the Warehouse Facilities at December 31, 1998 was $94.4
million. The Warehouse Facilities are secured by the mortgage loans and
residential rehabilitation properties funded with the proceeds of such
borrowings. Borrowings from affiliates are secured by mortgages on the
residential rehabilitation properties for which monies were borrowed.
The interest rate charged for borrowings under the Warehouse Facilities is
variable based on LIBOR plus 1.25% to 2.25% based upon the underlying
collateral. The Warehouse Facilities expire in 1999 and is funded by two
commercial banks. The Warehouse Facilities contains certain covenants limiting
indebtedness, liens, mergers, changes in control and sale of assets, and
requires the Company to maintain minimum net worth and other financial ratios.
The Company expects to be able to renew or replace the Warehouse Facility when
their current terms expires.
The Company's committed Warehouse Facilities allows the Company to borrow
$110 million. These borrowings are to be repaid with the proceeds received by
the Company from the sale of its originated loans to institutional investors or,
in the case of residential rehabilitation activities, from the proceeds from the
sale of the properties. The Warehouse Facilities require the Company to comply
with certain financial covenants, including maintaining a minimum tangible net
worth, levels and ratios of indebtedness, restrictions on the sale or pledge of
any future retained servicing rights, restrictions on the payments of dividends
and distributions and provisions with respect to merger, sale of assets,
acquisitions, change of control and change in senior management. In addition,
borrowings for residential rehabilitations are guaranteed by Ronald Friedman,
President, Chief Executive Officer and a Director of the Company and Robert
Friedman, Chairman of the Board of Directors, Chief Operating Officer, Secretary
and Treasurer of the Company. The Company's Warehouse Facilities is terminable
by the banks at any time without cause, upon 60 days notice to the Company.
The Company supplements the Warehouse Facilities through a Gestation
Agreement, which for financial reporting was characterized by the Company as a
borrowing transaction. The Gestation Agreement provides the Company with up to
$30 million of additional funds for loan originations through the Company's sale
to this bank of originated mortgage loans previously funded under the Warehouse
Facilities and committed to be sold to institutional investors. The Gestation
Agreement does not have an expiration date but is terminable by either party
upon written notice. The Company believes that other financial institutions will
provide it with a gestation line of credit, but no assurance can be made that
the Company will find such financial institution or that the line of credit will
be available on reasonable terms or at all.
Since September 1, 1996, the Company has borrowed funds from a corporation
owned Robert Friedman, the Chairman of the Board of Directors, Chief Operating
Officer, Secretary and Treasurer of the Company, to provide funding for
residential rehabilitation properties and for working capital purposes. At
December 31, 1998 borrowings from affiliates totaled $1.2 million. Interest on
borrowings from affiliates is 10% per annum and the borrowings are secured by
certain of the Company's residential rehabilitation properties. This loan was
repaid in full during February 1999.
The Company sells its loans to various institutional investors. The terms
of these purchase arrangements vary according to each investor's purchasing
requirements; however, the Company believes that the loss of any one or group of
such investors would not have a material adverse effect on the Company.
Net cash used in operations for the year ended December 31, 1998, was $39.3
million. The Company used cash to fund the $50.8 million increase in mortgage
loans held for sale and investment and $4.9 million net increase in residential
rehabilitation properties offset in part by a $14.3 million decrease in
receivables from sales of loans. The increase in these assets was financed by
increased borrowings under the Warehouse Facilities, the Gestation Agreement and
net income.
On February 18, 1998, the Company completed an initial public offering of
1.25 million shares of Common Stock at a price of $9.00 per share. After paying
the costs of this offering of approximately $2.1 million, the Company received
approximately $9.2 million. The Company used these net proceeds (a) to increase
its warehouse lines of credit, (b) to increase its purchase and rehabilitation
of residential rehabilitation properties, (c) to fund a distribution of $1
million to existing shareholders, (d) to purchase computers and equipment, (e)
to increase its mortgage originations, and (f) for general working capital
purposes.
The Company expects to increase its production of mortgage originations
through greater emphasis on expansion of retail and wholesale operations and
expansion into new geographic markets. The Company believes that wholesale
lending represents a cost-effective means by which the Company may expand into,
and develop a presence in new market areas. This anticipated increase in
production of mortgage originations is expected to be funded by additional
borrowings under the Warehouse Facility, increased capital resulting from the
IPO and funds provided from operations. To the extent that additional borrowings
under the Warehouse Facility are not available on satisfactory terms, the
Company will explore alternative means of financing, including raising capital
through additional offerings of securities. The net proceeds of the IPO,
together with the Company's existing capital resources, including the funds from
its Warehouse Facility, are expected to enable the Company to fund its current
mortgage banking and residential rehabilitation operations.
Recent Accounting Pronouncements - SFAS 133 and SFAS 134
In June 1998, the FASB issued SFAS No. 133, "Accounting for Derivative
instruments and Hedging Activities". SFAS No. 133 establishes accounting and
reporting standards for derivative instruments and for hedging activities. It
requires that an entity recognize all derivatives as either assets or
liabilities in the statement of financial condition and measure those
instruments at fair value. The accounting for changes in the fair value of a
derivative (that is, gain and losses) depends on the intended use of the
derivative and the resulting designation. SFAS No. 133 is effective for fiscal
years beginning after June 15, 1999 and does not require restatement of prior
periods. Management is currently assessing the impact of SFAS No. 133 on its
financial condition and results of operations.
In October 1998, the FASB issued Statement of Financial Accounting
Standards No. 134, "Accounting for Mortgage-Backed Securities Retained after the
Securitization of Mortgage Loans Held for Sale by a Mortgage Banking Enterprise
("SFAS No. 134"). SFAS No. 134 conforms the accounting for securities retained
after the securitization of mortgage loans by a mortgage banking enterprise with
the accounting for securities retained after the securitization of other types
of assets by a non-mortgage banking enterprise. SFAS No. 134 is effective for
the first fiscal quarter beginning after December 15, 1998. Management of the
Company believes the implementation of SFAS No. 134 will not have a material
impact on the Company's financial condition or results of operations.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
The response to this item is set forth at the end of this report.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE.
None.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
Information concerning the directors and officers of the Registrant is
contained in the registrant's Proxy Statement to be filed with the Securities
and Exchange Commission pursuant to Regulation 14A no later than 120 days after
the close of the year ended December 31, 1998. Such information is hereby
incorporated herein by reference.
ITEM 11. EXECUTIVE COMPENSATION.
Information concerning Executive Compensation is contained in the
registrant's Proxy Statement to be filed with the Securities and Exchange
Commission pursuant to Regulation 14A no later than 120 days after the close of
the year ended December 31, 1998. Such information is hereby incorporated herein
by reference.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.
Information concerning the security ownership of certain beneficial owners
and management is contained in the registrant's Proxy Statement to be filed with
the Securities and Exchange Commission pursuant to Regulation 14A no later than
120 days after the close of the year ended December 31, 1998. Such information
is hereby incorporated herein by reference.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
Information concerning certain relationships and related transactions is
contained in the registrant's Proxy Statement to be filed with the Securities
and Exchange Commission pursuant to Regulation 14A no later than 120 days after
the close of the year ended December 31, 1998. Such information is hereby
incorporated herein by reference.
ITEM 14. EXHIBITS AND REPORTS ON FORM 8-K
(a) The following exhibits are hereby incorporated by reference from the
corresponding exhibits previously filed by the Company with the Commission:
Exhibit
Number Description
1.1 -- Form of Underwriting Agreement
3.1 -- Form of Certificate of Incorporation
3.2 -- Form of By-Laws
4.1 -- Form of Common Stock Certificate
4.2 -- Form of Representatives' Warrant
10.1 -- 1997 Stock Option Plan
10.2 -- Premier Stock Option Plan
10.3 -- Form of Employment Agreement between the Company and Ronald
Friedman
10.4 -- Form of Employment Agreement between the Company and Robert
Friedman
10.5 -- Form of Contribution Agreement
10.6 -- Form of Tax Indemnification Agreement
10.8 -- Warehousing Credit and Security Agreement and Notes, dated
June 17, 1997, by and among Premier Mortgage Corp. and RF
Properties, PNC Mortgage Bank, N.A. and LaSalle National Bank
10.9 -- Second Amendment to Warehouse Credit and Security Agreement
and Notes, dated September 30, 1997
10.10 -- Mortgage Loan Purchase Agreement between Premier Mortgage
Corp. and PNC Mortgage Securities Corp.
10.11 -- Mortgage and Loan Agreement by and among RF Capital Corp.,
Min Capital Corp., and Hanover Hill Holsteins, Inc. and
Premier Mortgage Corp.
10.12 -- Form of Contractors Agreement
10.13 -- Form of Stockholders' Agreement
10.14 -- Fourth Amendment to Warehousing Credit and Security Agreement,
dated December 29, 1997.
10.15 -- Fifth Amendment to Warehousing Credit and Security Agreement,
dated December 29, 1997.
10.16 -- Third Amendment to Warehousing Credit and Security Agreement,
dated December 29, 1997.
10.17 -- Sixth Amendment to Warehousing Credit and Security Agreement,
dated December 29, 1997.
10.18 -- Financial Advisory Agreement
10.19 -- Seventh Amendment to Warehousing Credit and Security
Agreement, dated February 2, 1998.
10.20 -- Eighth Amendment to Warehousing Credit and Security
Agreement, dated February 20, 1998.
10.21 -- Senior Secured Credit Agreement with Chase Bank of Texas,
National Association.
10.22 -- Mortgage Loan Purchase and Sale Agreement with Prudential
Securities Realty Funding Corporation.
10.23 -- August 1998 Amended and Restated Senior Secured Credit
Agreement with Chase Bank of Texas, National Association and
PNC Bank, N.A.
16.1 -- Letter re: Change in Certifying Accountants
21.1 -- Subsidiaries of Registrant
*27.1 -- Financial Statement Schedule
- - ---------
* Filed herewith.
SIGNATURES
In accordance with Section 13 or 15(d) of the Exchange Act, the Registrant
caused this report to be signed on its behalf by the undersigned, thereunto duly
authorized.
Dated: March 31, 1999
PMCC FINANCIAL CORP.
By /s/ Ronald Friedman
--------------------------
Ronald Friedman, President
In accordance with the Exchange Act, this report has been signed below by
the following persons on behalf of the Registrant and in the capacities and on
the dated indicated.
Signature Title Date
- - ---------------------------------------- ------------------------------------------------------- ---------------------
/s/ Ronald Friedman President, Chief Executive Officer and Director March 31, 1999
- - ----------------------------------------
Ronald Friedman
/s/ Robert Friedman Chairman of the Board of Directors, Chief March 31, 1999
- - ---------------------------------------- Operating Officer, Secretary and Treasurer
Robert Friedman
/s/ Timothy J. Mayette Chief Financial Officer (Principal March 31, 1999
- - ---------------------------------------- Accounting Officer)
Timothy J. Mayette
/s/ Joel L. Gold Director March 31, 1999
- - ----------------------------------------
Joel L. Gold
PMCC FINANCIAL CORP. AND SUBSIDIARY
INDEX
Page No.
Report of Independent Auditors ......................................................... F-2
Consolidated Financial Statements:
Statements of Financial Condition at December 31, 1998 and 1997................... F-3
Statements of Operations for the Years Ended December 31, 1998, 1997
and 1996.......................................................................... F-4
Statements of Changes in Shareholders' Equity for the Years Ended
December 31, 1998, 1997 and 1996.................................................. F-5
Statements of Cash Flows for the Years Ended December 31, 1998, 1997
and 1996.......................................................................... F-6
Notes to Consolidated Financial Statements.............................................. F-8
F-1
Independent Auditors' Report
The Board of Directors
PMCC Financial Corp.:
We have audited the accompanying consolidated statements of financial
condition of PMCC Financial Corp. and subsidiary as of December 31, 1998 and
1997, and the related consolidated statements of operations, changes in
shareholders' equity and cash flows for each of the years in the three-year
period ended December 31, 1998. These consolidated financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these consolidated financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above
present fairly, in all material respects, the financial position of PMCC
Financial Corp. and subsidiary as of December 31, 1998 and 1997, and the results
of their operations and their cash flows for each of the years in the three-year
period ended December 31, 1998, in conformity with generally accepted accounting
principles.
KPMG LLP
Melville, New York
March 23, 1999
F-2
PMCC FINANCIAL CORP. AND SUBSIDIARY
Consolidated Statements of Financial Condition
December 31, 1998 and 1997
Assets 1998 1997
---- ----
Cash and cash equivalents $ 3,596,002 1,713,405
Receivable from sales of loans 20,789,470 35,130,857
Mortgage loans held for sale, net 67,676,679 18,609,569
Mortgage loans held for investment 1,717,228 -
Accrued interest receivable 323,940 312,772
Other receivables 884,514 398,444
Residential rehabilitation properties 16,491,514 11,584,273
Furniture, fixtures and equipment, net 828,226 286,713
Prepaid expenses and other assets 501,587 391,299
----------- ----------
Total assets $ 112,809,160 68,427,332
=========== ==========
Liabilities and Shareholders' Equity
Liabilities:
Notes payable - principally warehouse lines of credit $ 94,673,739 59,116,509
Note payable - shareholder - 293,163
Due to affiliates 1,187,998 3,084,503
Accrued expenses and other liabilities 2,363,149 1,123,948
Deferred income taxes 1,274,000 -
Distribution payable 277,700 -
---------- ----------
Total liabilities 99,776,586 63,618,123
---------- ----------
Shareholders' equity:
Common stock, $.01 par value; 40,000,000 shares
authorized; 3,750,000 and 2,500,000 shares issued 37,500 25,000
Additional paid-in capital 10,846,033 693,025
Retained earnings 2,310,687 4,091,184
Treasury stock (25,200 shares) (161,646) -
---------- ---------
Total shareholders' equity 13,032,574 4,809,209
---------- ---------
Total liabilities and shareholders' equity $ 112,809,160 68,427,332
=========== ==========
See accompanying notes to consolidated financial statements.
F-3
PMCC FINANCIAL CORP. AND SUBSIDIARY
Consolidated Statements of Operations
Years ended December 31, 1998, 1997 and 1996
1998 1997 1996
---- ---- ----
Revenues:
Sales of residential rehabilitation
properties $35,731,990 25,136,099 5,073,253
Gains on sales of mortgage loans, net 17,233,729 11,844,108 5,867,250
Interest earned 5,680,700 2,383,660 735,802
---------- ---------- ----------
58,646,419 39,363,867 11,676,305
---------- ---------- ----------
Expenses:
Cost of sales, residential rehabilitation
properties 32,936,131 23,621,193 4,788,944
Compensation and benefits 11,035,625 6,995,104 3,674,490
Interest expense 5,831,811 2,745,610 839,284
Other general and administrative 4,252,127 2,260,485 1,326,265
---------- ---------- ---------
54,055,694 35,622,392 10,628,983
---------- ---------- ----------
Income before income tax expense 4,590,725 3,741,475 1,047,322
Income tax expense 2,653,000 40,736 13,790
--------- --------- ---------
Net income $ 1,937,725 3,700,739 1,033,532
========= ========= =========
Unaudited pro forma information:
Historical income before income tax expense 4,590,725 3,741,475 1,047,322
Adjustment to compensation expense for
contractual increase in officers' salary - (97,000) (139,000)
--------- --------- ---------
Pro forma net income before income tax expense 4,590,725 3,644,475 908,322
Provision for pro forma income taxes (1,882,000) (1,494,000) (391,000)
--------- --------- --------
Pro forma net income $ 2,708,725 2,150,475 517,322
========= ========= =======
Pro forma net income per share of common stock -
basic $ 0.76 0.86 0.21
==== ==== ====
Pro forma net income per share
of common stock - diluted $ 0.75 0.84 0.21
==== ==== ====
Pro forma weighted average number of shares and
share equivalents outstanding - basic 3,580,199 2,500,000 2,500,000
========= ========= =========
Pro forma weighted average number of shares and
share equivalents outstanding - diluted 3,624,872 2,570,377 2,500,000
========= ========= =========
See accompanying notes to consolidated financial statements.
F-4
PMCC FINANCIAL CORP. AND SUBSIDIARY
Consolidated Statements of Changes in Shareholders' Equity
Years ended December 31, 1998, 1997 and 1996
Unrealized
gains on
Additional securities
Number of Common paid-in Retained available- Treasury
shares stock capital earnings for-sale, net stock Total
--------- ------ --------- -------- ------------- ------- ----------
Balance at December 31, 1995 2,500,000 $ 25,000 693,025 392,758 3,575 - 1,114,358
Net income - - - 1,033,532 - - 1,033,532
Decrease in unrealized gain on securities available-
for-sale, net - - - - (3,575) - (3,575)
Distributions - - - (266,761) - - (266,761)
--------- ------ ------- --------- ------ ------- ---------
Balance at December 31, 1996 2,500,000 25,000 693,025 1,159,529 - - 1,877,554
Net income 3,700,739 - - 3,700,739
Distributions (769,084) - - (769,084)
--------- ------ ------- --------- ------ ------- ---------
Balance at December 31, 1997 2,500,000 25,000 693,025 4,091,184 - - 4,809,209
Issuance of common stock 1,250,000 12,500 9,170,825 - - - 9,183,325
Net income - - - 1,937,725 - - 1,937,725
Reclassification of undistributed S corporation
earnings - - 982,183 (982,183) - - -
Treasury stock purchases - - - - - (161,646) (161,646)
Distributions of S corporation earnings - - - (2,736,039) - - (2,736,039)
--------- -------- ---------- --------- ------ ------- ----------
Balance at December 31, 1998 3,750,000 $ 37,500 10,846,033 2,310,687 - (161,646) 13,032,574
========= ======== ========== ========= ====== ======= ==========
See accompanying notes to consolidated financial statements.
F-5
PMCC FINANCIAL CORP. AND SUBSIDIARY
Consolidated Statements of Cash Flows
Years ended December 31, 1998, 1997 and 1996
1998 1997 1996
---- ---- ----
Cash flows from operating activities:
Net income $ 1,937,725 3,700,739 1,033,532
Adjustments to reconcile net income to net cash
used in operating activities:
Residential rehabilitation properties (exclusive
of cash paid directly to/by independent
contractors):
Contractual fees received (2,795,859) (1,514,906) (284,309)
Proceeds from sales of properties 35,731,990 25,136,099 5,073,253
Cost of properties acquired (37,843,372)(31,959,105)(8,035,305)
Depreciation and amortization 114,960 59,690 47,431
Increase in accrued interest receivable (11,168) (259,611) (43,047)
Decrease (increase) in receivable from sales
of loans 14,341,387 (25,293,020)(8,481,035)
(Increase) decrease in mortgage loans
held for sale, net (50,784,338)(15,734,669) 2,662,400
Increase in other receivables (486,070) (189,675) (76,145)
Increase in prepaid expenses and other (110,288) (216,878) (35,610)
(Decrease) increase in due to affiliates (1,896,505) (2,322,842) 296,303
Increase in accrued expenses and
other liabilities 1,239,201 808,000 140,132
Increase in deferred taxes payable 1,274,000 - -
--------- --------- -------
Net cash used in operating
activities (39,288,337)(43,140,494)(7,702,400)
---------- ---------- ---------
Cash flows from investing activities:
Purchases of furniture, fixtures and equipment,
net of dispositions (656,473) (136,466) (50,477)
Purchases of securities available-for-sale - - (75,000)
Proceeds from sales of securities available
for sale - - 380,525
Principal repayments on mortgage loans
held for investment - 138,052 2,240
------- ------- -------
Net cash provided by (used in)
investing activities (656,473) 1,586 257,288
------- ----- -------
F-6
(Continued)
Cash flows from financing activities:
Distributions to shareholders, net of distribution
payable $ (2,458,339) (769,084) (266,761)
Net (decrease) increase in notes payable- (293,163) 18,163 275,000
Proceeds from issuance of common stock 9,183,325 - -
Net increase in notes payable- principally
warehouse lines of credit 35,557,230 45,193,446 7,446,704
Treasury stock purchased (161,646) - -
---------- ---------- ---------
Net cash provided by financing activi 41,827,407 44,442,525 7,454,943
---------- ---------- ---------
Net increase in cash and cash equivalents 1,882,597 1,303,617 9,831
Cash and cash equivalents at beginning of 1,713,405 409,788 399,957
--------- --------- -------
Cash and cash equivalents at end of year $ 3,596,002 1,713,405 409,788
========= ========= =======
Supplemental information:
Cash paid during the year for:
Interest $ 6,006,203 2,632,270 754,284
========= ========= =======
Income taxes $ 542,188 52,736 8,222
======= ====== =====
Loans transferred from held for sale to held for
investment $ 1,717,228 - -
========= ====== =====
See accompanying notes to consolidated financial statements.
F-7
PMCC FINANCIAL CORP. AND SUBSIDIARY
Notes to Consolidated Financial Statements
December 31, 1998, 1997 and 1996
(1) Organization and Summary of Significant Accounting Policies
PMCC Financial Corp. ('the Company"), a Delaware corporation, was organized
in 1998 to own the stock of PMCC Mortgage Corp. ("PMCC") (formerly Premier
Mortgage Corp.) and its subsidiaries. On February 17, 1998, the Company
completed an initial public offering ("IPO") of common stock through the
issuance of 1,250,000 shares at an initial offering price of $9 per share. Prior
to the IPO, the existing shareholders of PMCC contributed their stock to the
Company in exchange for 2,500,000 shares of common stock of the Company (the
"Reorganization"). Accordingly, the accompanying financial statements reflect
the effect of the Reorganization retroactively to the beginning of 1996. The
Reorganization was accounted for as a reorganization of entities under common
control and, accordingly, retained earnings at the time of the Reorganization
(representing undistributed S corporation earnings) were reclassified to
additional paid-in capital.
The Company is a mortgage banker operating primarily in New York and New
Jersey. The Company's principal business activities are (1) the origination of
residential mortgage loans and the sale of such loans in the secondary market on
a servicing released basis and (ii) commencing in August 1996, the funding of
the purchase, rehabilitation and resale of vacant residential real estate
properties.
(a) Basis of Presentation
The financial statements have been prepared in conformity with generally
accepted accounting principles (GAAP).
In preparing the financial statements, management is required to make
estimates and assumptions that affect the reported amounts of assets and
liabilities as of the date of the financial statements and results of operations
for the periods then ended. Actual results could differ from those estimates.
Certain reclassifications have been made to prior year amounts to conform
to the current year presentation.
(b) Consolidation
The consolidated financial statements of the Company include the accounts
of the Company, PMCC, and its subsidiaries. All significant intercompany
transactions have been eliminated in consolidation.
(c) Cash and Cash Equivalents
For the purposes of reporting cash flows, cash includes cash on hand and
money market accounts with a maturity of three months or less.
(d) Receivables from Sales of Loans
Receivables from the sales of loans represents proceeds due from investors
for loan sales and transactions which closed on or prior to the statement of
financial condition date.
(e) Mortgage Loans Held for Sale
Mortgage loans held for sale, net of any deferred loan origination fees or
costs, are carried at the lower of cost or market value as determined by
F-8
outstanding commitments from investors. Gains resulting from sales of mortgage
loans are recognized as of the date the loans are shipped to permanent
investors. Losses are recognized in the period when market value is less than
cost.
(f) Mortgage Loans Held for Investment
Mortgage loans held for investment are stated at their principal amount
outstanding, net of an allowance for loan losses of $175,000 at December 31,
1998. Loans are generally placed on a non-accrual basis when principal or
interest is past due 90 days or more and when, in the opinion of management,
full collection of principal and interest is unlikely. Income on such loans is
then recognized only to the extent that cash is received and where future
collection of principal is probable. Loan origination fees and certain direct
loan origination costs are deferred and recognized over the lives of the related
loans as an adjustment of the yield.
(g) Residential Rehabilitation Properties
The Company's subsidiaries serve as conduits for funding the acquisition of
residential rehabilitation properties. The properties are acquired and marketed
by various independent contractors, but funded by, and titled in the name of,
one of the subsidiaries. The properties are generally offered to the independent
contractors by banks, other mortgage companies, and government agencies that
have acquired title and possession through a foreclosure proceeding. Upon sale,
the subsidiaries receive an agreed upon fee plus reimbursement for any
acquisition and renovation costs advanced. In the event the properties are not
sold within an agreed-upon time period, generally within three to five months of
acquisition, the subsidiaries are also entitled to receive an additional
interest cost-to-carry. The Company records as revenue the gross sales price of
these properties at such time the properties are sold to the ultimate purchasers
and the Company records cost of sales equal to the difference between the gross
sales price and the amount of its contracted income pursuant to its agreements
with the independent contractors. The residential rehabilitation properties are
carried at the lower of cost or fair value less cost to sell (as determined by
independent appraisals of the properties). The agreements with the independent
contractors contain cross collateralization provisions and personal guarantees
that minimize the risks associated with changing economic conditions and failure
of the contractors to perform.
(h) Furniture, Fixtures and Equipment
Furniture, fixtures and equipment are stated at cost less accumulated
depreciation. The Company provides for depreciation utilizing the straight-line
method over the estimated useful lives of the assets.
(i) Commitment Fees
Commitment fees received, which arise from agreements with borrowers that
obligate the Company to make a loan or to satisfy an obligation under a
specified condition, are initially deferred and recognized as income as loans
are delivered to investors, or when it is evident that the commitment will not
be utilized.
(j) Loan Origination Fees
Loan origination fees received and direct costs of originating loans are
deferred and recognized as income or expense when the loans are sold to
investors. Net deferred origination costs were $2,504,000 and $953,000 at
December 31, 1998 and 1997, respectively.
(k) Income Taxes
Prior to February 18, 1998, certain of PMCC's subsidiaries had elected to
be treated as S corporations for both federal and state income tax purposes. As
a result, the income of the subsidiaries through February 18, 1998 was taxed
directly to the individual shareholders. On February 18, 1998, in conjunction
with the Company's Reorganization and IPO, the S corporation elections were
terminated and PMCC's subsidiaries became C corporations for federal and state
income tax purposes and, as such, became subject to federal and state income
taxes on their taxable income for periods after February 18, 1998. The provision
for income taxes for the year ended December 31, 1998 includes a provision for
deferred income taxes of $1,003,000 related to the temporary differences
existing at the termination of the S corporation elections. Pro forma net income
for the years ended December 31, 1998, 1997 and 1996 include pro forma income
tax, as if the Company had been taxed as a C corporation throughout the periods.
F-9
(l) Earnings Per Share Or Common Stock
Pro forma basic earnings per share (EPS) is determined by dividing pro
forma net income for the period by the weighted average number of common shares
outstanding during the same period. Pro forma diluted EPS reflects the potential
dilution that could occur if securities or other contracts to issue common stock
were exercised or converted into common stock or resulted in the issuance of
common stock which would then share in the earnings of the Company. The
additional number of shares included in the calculation of pro forma diluted EPS
arising from outstanding dilutive stock options and warrants was 44,673 shares,
70,377 shares and 0 shares, respectively, for the years ended December 31, 1998,
1997 and 1996.
Actual earnings per share data for periods prior to February 18, 1998 have
not been presented in the accompanying consolidated statements of operations
because the Company was not a public company. Actual earnings per share data for
the period February 18, 1998 to December 31, 1998 has not been presented in the
accompanying consolidated statements of operations because management believes
that such data would not be meaningful given the less than full time period and
the impact of the recognition of a deferred tax liability in connection with the
change in tax status.
(2) Furniture, Fixtures and Equipment
Furniture, fixtures and equipment and their related useful lives are
summarized as follows at December 31:
1998 1997 Life in years
---- ---- -------------
Furniture and fixtures $ 599,023 229,045 7
Office equipment 363,276 249,084 5
Leasehold improvements 172,303 -
--------- -------
1,134,602 478,129
Accumulated depreciation and amortization (306,376) (191,416)
-------- -------
Furniture, fixtures and equipment, net $ 828,226 286,713
======= =======
Depreciation and amortization expense, included in other general and
administrative expense in the consolidated statements of operations, amounted to
$114,960, $59,690 and $47,431 in 1998, 1997 and 1996, respectively.
(3) Notes Payable
Notes payable consisted of the following at December 31:
1998 1997
---- ----
Warehouse lines of credit $ 94,447,506 58,460,259
Notes payable - other - 656,250
Note payable - shareholder - 293,163
Installment loan payable 226,233 -
---------- ----------
$ 94,673,739 59,409,672
========== ==========
At December 31, 1998 and 1997, substantially all of the mortgage loans held
for sale and investment, receivable from sales of loans and certain residential
rehabilitation properties were pledged to secure notes payable under warehouse
lines of credit agreements. The notes are repaid as the related mortgage loans
or residential rehabilitation properties are sold or collected.
F-10
PMCC maintains two warehouse lines of credit and a gestation facility. The
warehouse lines of credit aggregate $140 million ($110 million committed at
December 31, 1998). Advances for residential mortgage origination are generally
at 98% of the mortgage note amount and for residential rehabilitation properties
the lower of 90% of purchase cost or 70% of appraised value. Interest rates are
variable and are based on LIBOR depending on the type of advance. Interest rates
ranged from 6.80% to 7.80% at December 31, 1998. The warehouse lines expire in
1999 and are funded by two commercial banks. The gestation facility has a
maximum limit of $30 million at December 31, 1998. This line is available
financing only for conventional residential mortgage loans at up to 98% of the
investor committed take-out pricing. Interest is variable based on LIBOR and
ranged from 6.06% to 6.63% at December 31, 1998. The gestation facility does not
have an expiration date but is terminable by either party upon written notice.
The installment loan is secured by certain furniture and equipment and is
payable in monthly installments of $8,219, maturing in July 2001 with interest
at 9.125%.
The notes payable - other was secured by certain residential rehabilitation
properties. The notes were repaid during 1998. The interest rate on such notes
was 16% per annum.
The note payable to shareholder bore interest at an annual rate of 8% and
was paid in full during 1998.
(4) Income Taxes
The following summarizes actual and unaudited pro forma (adjusted for
income taxes that would have been paid had the Company filed income tax returns
as taxable C corporation for each of the years presented) provisions for income
taxes:
Years ended December 31
1998 1997 1996
---- ---- ----
Actual income taxes:
Current:
Federal $ 1,117,000 - -
State and local 262,000 40,736 13,790
Deferred (per note 1(k)) 1,274,000 - -
--------- ------ ------
2,653,000 40,736 13,790
--------- ------ ------
Pro forma income tax adjustments:
Federal (771,000) 1,239,000 327,210
State and local - 214,264 50,000
------- --------- -------
(771,000) 1,453,264 377,210
------- --------- -------
Pro forma income taxes $ 1,882,000 1,494,000 391,000
========= ========= =======
The Company records a deferred tax liability for the tax effect of
temporary differences between financial reporting and tax reporting. The tax
effect of such temporary differences at December 31, 1998 consists of:
Deferred origination costs $ 1,193,000
Other, net 81,000
---------
$ 1,274,000
=========
Pro forma provision for income taxes differs from the amounts computed by
applying federal statutory rates due to:
F-11
Years ended December 31
1998 1997 1996
---- ---- ----
Federal statutory rate of 34% $ 1,561,000 1,272,000 356,000
State income taxes, net of
federal benefit 321,000 222,000 35,000
--------- --------- -------
$ 1,882,000 1,494,000 391,000
========= ========= =======
(5) Non-cancelable Operating Leases
The Company is obligated under various operating lease agreements relating
to branch and executive offices. Lease terms expire during the years 1999 to
2005, subject to renewal options. Management expects that in the normal course
of business, leases will be renewed or replaced by other leases.
The following schedule represents future minimum rental payments required
under noncancelable operating leases for office space and equipment as of
December 31, 1998:
Year ending December 31:
1999 $ 577,000
2000 647,000
2001 695,000
2002 645,000
2003 635,000
Thereafter 881,000
-------
Total minimum payments required $ 4,080,000
=========
Total rent expense for the years ended December 31, 1998, 1997 and 1996 was
approximately $379,000, $200,000 and $109,000, respectively.
(6) Employee Benefits
The Company maintains a 401(k) Profit Sharing Plan (the 401(k) Plan) which
was created effective January 1, 1994 for all employees who have completed three
months of continuous service. The Company matches 50% of the first 2.5% of each
employee's contribution. The Company's 401(k) Plan expense was approximately
$79,800, $35,400 and $18,600 in 1998, 1997 and 1996, respectively.
(7) Stock Option Plans
The Company has two stock option plans in which 750,000 common shares have
been reserved for issuance. Under the plans, the exercise price of any incentive
stock option will not be less than the fair market value of the common shares on
the date of grant. The term of any option may not exceed ten years from the date
of grant.
F-12
Option activity since the first plan was adopted in 1997 was as follows:
Number Weighted average
of shares exercise price
Options outstanding at December 31, 1996 - $ -
Activity during 1997:
Granted 375,000 6.00
Expired - -
-------
Options outstanding at December 31, 1997 375,000 6.00
Activity during 1998:
Granted 337,600 7.68
Expired - -
Forfeited (238,750) 6.37
-------
Options outstanding at December 31, 1998 473,850 7.01
=======
Options exercisable at December 31, 1998 - -
=======
In accordance with SFAS No. 123, Accounting for Stock-Based Compensation,
the Company applied the intrinsic value method of accounting, as described in
Accounting Principles Board Opinion No. 25, Accounting for Stock Issued to
Employees, to its stock-based compensation. Accordingly, no compensation expense
has been charged against income for stock option grants. Had compensation
expense been determined based on the fair value at the 1997 and 1998 grant
dates, consistent with the fair value methodology of SFAS No. 123, the Company's
pro forma net income would have been $2,460,421 and $2,083,021, pro forma basic
EPS would have been $0.69 and $0.83 and pro forma diluted EPS would have been
$0.68 and $0.81 for the years ended December 31, 1998 and 1997, respectively.
The fair value of each option grant was estimated on the date of grant
using the Black-Scholes option pricing model. The fair value of options granted
in 1998 and 1997 are $2.86 and $2.24 per share, respectively. The weighted
average assumptions used in valuing the option grants for the years ended
December 31, 1998 and 1997 are expected life of 5 years, interest rate of 5.7%
and volatility (the measure by which the stock price has fluctuated and will be
expected to fluctuate during the period) of 30%.
(8) Related-Party Transactions
In the normal course of business, advances are made by and to the Company
with affiliates. At December 31, 1998 and 1997, the Company had a net payable of
$1,187,998 and $3,084,503, respectively, due to affiliates. In February 1999,
the Company repaid the amount due in full. Such transactions are made on
substantially the same terms and conditions, including interest rate and
collateral, as those prevailing at the same time for comparable transactions
with unrelated third-parties. The interest rate on such transactions is 10% per
annum.
In conjunction with the Company's Reorganization and initial public
offering, a portion of the undistributed S corporation earnings were distributed
to the existing shareholders in the form of cash and the 10% promissory note
payable in four equal quarterly installments, with the final installment due
February 1999.
(9) Financial Instruments With Off-Balance Sheet Risk and Concentrations of
Credit Risk
In the normal course of the Company's business, there are various financial
instruments which are appropriately not recorded in the financial statements.
The Company's risk of accounting loss, due to the credit risks and market risks
associated with these off-balance sheet instruments, varies with the type of
financial instrument and principal amounts, and are not necessarily indicative
of the degree of exposure involved. Credit risk represents the possibility of a
loss occurring from the failure of another party to perform in accordance with
the terms of a contract. Market risk represents the possibility that future
changes in market prices may make a financial instrument less valuable or more
onerous.
F-13
In the ordinary course of business, the Company had issued commitments to
borrowers to fund approximately $14.3 million and $48.9 million of mortgage
loans at December 31, 1998 and 1997, respectively. Of these commitments to fund,
$22.6 million and $2.9 million, respectively relate to commitments to fund at
locked-in rates and $120.8 million and $46 million, respectively relate to
commitments to fund at floating rates.
In the normal course of its mortgage banking activities, the Company enters
into optional commitments to sell the mortgage loans that it originates. The
Company commits to sell the loans at specified prices in future periods,
generally ranging from 30 to 120 days from date of commitment directly to
permanent investors. Market risk is associated with these financial instruments
which results from movements in interest rates and is reflected by gains or
losses on the sale of the mortgage loans determined by the difference between
the price of the loans and the price guaranteed in the commitment.
The Company may be exposed to a concentration of credit risk from a
regional economic standpoint as loans were primarily originated in the New York
Metropolitan area.
(10) Disclosures About Fair Value of Financial Instruments
SFAS No.107, Disclosures About Fair Value of Financial Instruments,
requires the Company to disclose the fair value of its on-and off-balance sheet
financial instruments. A financial instrument is defined in SFAS No.107 as cash,
evidence of an ownership interest in an entity, or a contract that creates a
contractual obligation or right to deliver or receive cash or another financial
instrument from a second entity on potentially favorable or unfavorable terms.
SFAS No.107 defines the fair value of a financial instrument as the amount at
which the instrument could be exchanged in a current transaction between willing
parties, other than in a forced or liquidation sale.
The estimated fair value of all of the Company's financial assets and
financial liabilities is the same as the carrying amount.
The following summarizes the major methods and assumptions used in
estimating the fair values of the financial instruments:
Financial Assets
Cash and cash equivalents - The carrying amounts for cash and cash
equivalents approximate fair value as they mature in 30 days or less and do not
present unanticipated credit concerns.
Receivable from sales of loans and mortgage loans held for sale, net - Fair
value is estimated based on current prices established in the secondary market
or, for those loans committed to be sold, based upon the price established in
the commitment.
Mortgage loans held for investment - Fair value is based on management's
analysis of estimated cash flows discounted at rates commensurate with the
credit risk involved.
Accrued Interest Receivable - The fair value of the accrued interest
receivable balance is estimated to be the carrying value.
Financial Liabilities
Notes payable-warehouse and installment - The fair value of the notes
payable is based on discounting the anticipated cash flows using rates which
approximate the rates offered for borrowings with similar terms.
Note payable-shareholder - The fair value of the note payable-shareholder
is estimated by management to be the carrying value.
Due to affiliates - The fair value of the due to affiliates balance is
estimated to be the carrying value.
Limitations - SFAS No.107 requires disclosures of the estimated fair value
of financial instruments. Fair value estimates are made at a specific point in
time, based on relevant market information about
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the financial instrument. These estimates do not reflect any premium or
discount that could result from offering for sale at one time the Company's
entire holdings of a particular financial instrument nor the resultant tax
ramifications or transaction costs. These estimates are subjective in nature and
involve uncertainties and matters of significant judgment and therefore cannot
be determined with precision. Changes in assumptions could significantly affect
the estimates.
(11) Contingencies
Litigation
In the normal course of business, there are various outstanding legal
proceedings. In the opinion of management, after consultation with legal
counsel, the Company will not be affected materially by the outcome of such
proceedings.
(12) Segment Information
The Company's operations consist of two principal activities (a) mortgage
banking and (b) funding the purchase, rehabilitation and resale of residential
real estate. The following table sets forth certain information concerning these
activities (in thousands):
Years Ended December 31,
1998 1997 1996
---- ---- ----
Revenues:
Residential rehabilitation properties $ 35,732 25,136 5,073
Mortgage banking 22,914 14,228 6,603
------ ------ -----
$ 58,646 39,364 11,676
====== ====== ======
Less: (1)
Expenses allocable to residential rehabilitation
properties (cost of sales, interest expense and
compensation and benefits) 34,718 24,331 4,896
Expenses allocable to mortgage banking (all other) 19,338 11,292 5,733
------ ------ -----
$ 54,056 35,623 10,629
====== ====== ======
Operating profit:
Residential rehabilitation properties 1,014 805 177
Mortgage banking 3,576 2,936 870
----- ----- ---
$ 4,590 3,741 1,047
===== ===== =====
Identifiable assets:
Residential rehabilitation properties 16,492 11,584 3,246
Mortgage banking 96,317 56,843 13,907
------ ------ ------
$ 112,809 68,427 17,153
======= ====== ======
(1) In managing its business, the Company does not allocate corporate
expenses other than interest and compensation and benefits to its various
activities.
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(13) Shareholders' Equity
In connection with the IPO, the Company granted to the underwriters an
option exercisable within 45 days after the IPO, to purchase an additional
187,500 shares of common stock at the IPO price. The option expired unused. The
Company also sold to the underwriters' representatives, for nominal
consideration, warrants to purchase up to an aggregate of 125,000 shares of
common stock exercisable at a price of $12.60 per share for a period of four
years commencing at the beginning of the second year after February 18, 1998.
In December 1998 the Company entered into a Financial Advisory and
Investment Banking Agreement with an investment bank under which the investment
bank is to provide regular and customary consulting advice to the Company over
an agreed period of time. In connection with this agreement, the Company sold to
the investment bank, for a nominal consideration, warrants to purchase 125,000
shares of common stock as a price of $6.75 per share. These warrants are
exercisable over a five-year period commencing December 1, 1999. The fair value
of each warrant was estimated at the date of grant using the Black-Scholes
option-pricing model at $1.14. Such fair value is being expensed by the Company
over the agreed period of service.
(14) Quarterly Financial Data (Unaudited)
The following table is a summary of unaudited financial data by quarter for
the years ended December 31, 1998 and 1997:
1998
1st 2nd 3rd 4th
Quarter Quarter Quarter Quarter
(in thousands, except per share data)
Revenues $ 12,158 13,673 15,848 16,967
Expenses 11,399 12,532 14,238 15,887
Pro forma net income (1) 448 673 950 637
Pro forma net income per
share (1) 0.14 0.18 0.25 0.17
1997
1st 2nd 3rd 4th
Quarter Quarter Quarter Quarter
(in thousands, except per share data)
Revenues $ 6,120 7,454 13,330 12,460
Expenses 5,936 6,671 11,783 11,232
Pro forma net income (1) 97 428 904 721
Pro forma net income per
share (1) 0.04 0.17 0.36 0.27
(1) Pro forma income and pro forma income per share based on pro forma
provision for taxes.
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