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SECURITIES AND EXCHANGE COMMISSION
Washington, DC 20549
FORM 10-K
|X| ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE
ACT OF 1934
FOR FISCAL YEAR ENDED DECEMBER 31, 2002
|_| TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
Commission file number: 811-6268
SBM CERTIFICATE COMPANY
(Exact name of registrant as specified in its charter)
MARYLAND 52-2250397
(State or other Jurisdiction of (I.R.S. Employer
Incorporation or Organization) Identification No.)
5101 RIVER ROAD, SUITE 101, BETHESDA, MARYLAND 20816
(Address of principal executive offices) (Zip Code)
301-656-4200
(Registrant's telephone number, including area code)
Securities registered pursuant to Section 12(b) of the Act: NONE
Securities registered pursuant to Section 12(g) of the Act: NONE
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 of 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 |_| No |X|
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 II of this Form 10-K or any amendment to this
Form 10-K. |_|
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Act). Yes |_| No |X|
As of March 31, 2003, 250,000 shares of the registrant's common stock, $1 par
value, were outstanding. The registrant is a wholly-owned subsidiary and,
therefore, its common stock is not traded on a public market.
DOCUMENTS INCORPORATED BY REFERENCE
None.
EXPLANATORY NOTE
On July 19, 2000, SBM Certificate Company, a Maryland corporation
("SBM-MD") and SBM Certificate Company, a Minnesota corporation ("SBM-MN")
consummated a reverse merger transaction ("the Merger") pursuant to which SBM-MD
became the surviving corporation. As a result of the Merger and in accordance
with the provision of Accounting Principles Board Opinion No. 16, "Business
Combinations", SBM-MD is considered the acquiring enterprise for financial
reporting purposes. Accordingly, this Form 10-K for the year ended December 31,
2002 presents SBM-MD's financial information together with SBM-MN's historical
financial information.
TABLE OF CONTENTS
PART I
Item 1. Business .................................................................. 3
Item 2. Properties ................................................................ 8
Item 3. Legal Proceedings ......................................................... 8
Item 4. Submission of Matters to a Vote of Security Holders ....................... 8
PART II
Item 5. Market for Registrant's Common Equity and Related Stockholder Matters ..... 8
Item 6. Selected Financial Data ................................................... 9
Item 7. Management's Discussion and Analysis of Financial Condition and
Results of Operations ................................................... 10
Item 7A. Quantitative and Qualitative Disclosures About Market Risk ................ 17
Item 8. Financial Statements and Supplementary Data ............................... 18
Item 9. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure .................................................... 18
PART III
Item 10. Directors and Executive Officers of the Registrant ........................ 18
Item 11. Executive Compensation .................................................... 20
Item 12. Security Ownership of Certain Beneficial Owners and Management
and Related Stockholder Matters ......................................... 20
Item 13. Certain Relationships and Related Transactions ............................ 21
Item 14. Controls and Procedures ................................................... 22
PART IV
Item 15. Exhibits, Financial Statement Schedules and Reports on Form 8-K ........... 23
Certification of Chief Executive Officer and Chief Financial Officer ............... 27
2
PART I
ITEM 1. BUSINESS
(a) GENERAL DEVELOPMENT OF BUSINESS
SBM Certificate Company (the "Company") was incorporated in Maryland on
May 24, 2000. It is a wholly-owned subsidiary of State Bond & Mortgage Company,
L.L.C. ("State Bond"), a Maryland limited liability company. The Company's
executive offices are located at 5101 River Road, Suite 101, Bethesda, Maryland
20816; its telephone number is 301-656-4200.
On July 19, 2000, State Bond completed the purchase of all of the
outstanding common stock of SBM Certificate Company, a Minnesota corporation
("SBM MN"), from ARM Financial Group, Inc. ("ARM"), a Delaware corporation (the
"Acquisition"). State Bond effected the Acquisition as assignee under a Stock
Purchase Agreement, dated March 28, 2000, by and among 1st Atlantic Guaranty
Corporation ("1st Atlantic"), a Maryland corporation, and ARM ("Stock Purchase
Agreement"). State Bond is wholly-owned by 1st Atlantic. The Company and 1st
Atlantic are face-amount certificate companies registered as such under the
Investment Company Act of 1940 ("1940 Act").
As part of the Acquisition transactions, SBM MN was merged into the
Company. The Company was formed for purposes of redomestication from Minnesota
to Maryland and had nominal assets when organized. The Company has succeeded SBM
MN, which was a registered face-amount certificate company, as the "registrant"
in all filings made by SBM MN under the Securities Act of 1933 ("1933 Act"),
Securities Exchange Act of 1934 ("1934 Act") and the 1940 Act.
The Company assumed the face-amount certificate business of SBM MN. The
Company's predecessors have issued various series of face-amount certificates of
the fully paid and installment type since 1914. The Company has assumed the
obligations under SBM MN's outstanding face-amount certificates as a result of
the Acquisition.
On December 17, 2000, 1st Atlantic contributed its 100% ownership of
Atlantic Capital Funding Corporation ("ACFC") to the Company. ACFC is a mortgage
broker and lender in conventional and HUD mortgage programs as well as
commercial lending.
Recent Significant Events
In 2002, management of the Company discovered facts that came to its
attention regarding several transactions (the "Questioned Transactions")
involving the Company. The Questioned Transactions raised concerns that the
Company's Chairman of the Board and Chief Executive Officer, John J. Lawbaugh,
failed to comply with provisions of the 1940 Act prohibiting transactions with
affiliated persons of registered investment companies, caused the Company to
fail to comply with disclosure requirements of the 1933 Act and the 1934 Act,
caused the Company to improperly report asset balances, and diverted cash assets
of the
3
Company to himself directly or indirectly during 2000, 2001 and 2002 totaling
$1,768,917, of which $900,000 was repaid by Mr. Lawbaugh to the Company. The
balance of $868,917, together with legal and accounting costs incurred by the
Company because of these matters, which totaled $349,764 as of December 31,
2002, constitute the amounts due from shareholder totaling $1,218,181 on the
December 31, 2002 Consolidating Balance Sheet of the Company. An allowance for
uncollectible amounts due from shareholder has been recorded for the full amount
due from the shareholder with a corresponding charge to operations.
As a result of the Questioned Transactions, on August 16, 2002, the
Company's Board of Directors removed Mr. Lawbaugh from his position as Chairman
of the Board and Chief Executive Officer and suspended his authority to act for
or bind the Company with respect to any transactions and authorized an
investigation into the Questioned Transactions. The investigation was performed
by the Company's management under the supervision of two directors of the Board
(the "Special Committee") and the Company's independent auditors. The Company
filed its Form 8-K Current Report dated October 3, 2002, with the SEC on October
4, 2002. That Form 8-K Current Report describes the findings of the Special
Committee created by the Board of Directors to oversee the investigation of Mr.
Lawbaugh's transactions, summarizes the nature of the transactions and discusses
various related matters. In addition, the Company suspended the sale of its
face-amount certificates on August 16, 2002. The Company restated its financial
statements and amended its Form 10-Q Quarterly Reports and Form 10-K Annual
Reports filed with the Securities and Exchange Commission (the "SEC") for the
periods affected to properly reflect the nature and effect of these
transactions. The Company has not yet resumed sales. An amendment to the
Company's 1933 Act registration statement for its face-amount certificates is
pending at the SEC, but the Company cannot, at this time, state when the sale of
its certificates will resume.
On November 12, 2002, Mr. Lawbaugh resigned from the Board of Directors of
the Company and on November 14, 2002, entered into a Stock Escrow Agreement
("Escrow Agreement"). The Escrow Agreement places Mr. Lawbaugh's shares of 1st
Atlantic capital stock, representing majority ownership of 1st Atlantic, into
escrow and removes his voting rights associated with the shares. The Company
filed a Form 8-K Current Report dated November 12, 2002, with the SEC on
November 27, 2002. That Form 8-K Current Report describes the terms and
conditions of the Escrow Agreement, which, among other things, provides for the
sale of all of Mr. Lawbaugh's shares of 1st Atlantic capital stock. Currently,
the Company is seeking a buyer of Mr. Lawbaugh's shares of 1st Atlantic common
stock. See Note N and Note O of the Notes to Consolidating Financial Statements
of the Company for more disclosure of these events and transactions.
The following summarizes the impact of the Questioned Transactions on the
Company for the respective periods indicated:
4
YEAR ENDED YEAR ENDED YEAR ENDED
DECEMBER 31, 2002 DECEMBER 31, 2001 DECEMEBR 31, 2000 TOTAL
----------------- ----------------- ----------------- -----------
Qualified Assets $ (56,700) $(1,396,907) $(292,236) $(1,745,843)
Additional Paid in Capital $ -- $ (707,550) $ -- $ (707,550)
Shareholder's Equity $(265,762) $(1,146,957) $(292,236) $(1,704,955)
Net Loss $(365,763) $ (439,407) $(292,236) $(1,097,406)
Potential Impact of Certain Regulatory Concerns
Since the filing of its Form 8-K dated August 16, 2002, which reported the
discovery of the Questioned Transactions and the removal of Mr. Lawbaugh from
his positions with the Company, the Company has been engaged in ongoing
discussions with staff members (the "Staff") of the SEC concerning the
Questioned Transactions, the results of the Special Committee's investigation
and various related matters such as are referred to above under "Recent
Significant Events." In addition, the Staff initiated a regulatory examination
of 1st Atlantic in October 2002. In January 2003, the Staff advised 1st Atlantic
that it believed the reserves required to be maintained by 1st Atlantic under
the 1940 Act to support 1st Atlantic's outstanding face-amount certificates were
inadequate. The Company understands that the Staff's position is that certain
transfers of 1st Atlantic's assets to the Company were made without
consideration resulting in a reduction in 1st Atlantic's reserves materially
below the minimum amount required by the 1940 Act. The assets so transferred by
1st Atlantic, through State Bond, to the Company are discussed in Note S of the
Notes to the Consolidating Financial Statements included in this Form 10-K
Annual Report.
1st Atlantic has taken the position that the common stock of the Company
that it owns, through State Bond, and that it owned at the time of the above
transfers, may be treated as a qualified asset for purposes of the certificate
reserve requirements of the 1940 Act. Members of the Staff have stated that they
disagree with 1st Atlantic's position. At the same time, the Company has been
actively seeking a buyer for Mr. Lawbaugh's majority ownership of 1st Atlantic
common stock. The Company understands that its President, Eric M. Westbury and
certain non-affiliated investors propose to form a partnership and obtain
financing sufficient to purchase Mr. Lawbaugh's shares of 1st Atlantic, now held
in escrow, under a plan that, among other things, is intended to address the
Staff's concerns regarding 1st Atlantic's compliance with the reserve
requirements of the 1940 Act. The Company cannot, of course, provide any
assurances in that regard.
On March 17, 2003, the Staff advised 1st Atlantic, through its counsel,
that in the absence of satisfactory evidence of an imminent transaction that
would restore 1st Atlantic's reserves, the Staff would recommend to the
Commission that a civil injunctive action be brought against 1st Atlantic
seeking emergency relief, including among other things, the appointment of a
receiver. 1st Atlantic has informed the Staff regarding the plan of Mr. Westbury
and others to purchase Mr. Lawbaugh's shares as described above. Discussions
with the Staff are continuing as of the date of the filing of this Form 10-K
Annual Report.
5
(b) FINANCIAL INFORMATION ABOUT INDUSTRY SEGMENTS
The Company has two business segments, the face-amount certificate company
segment of SBM and the mortgage company segment of ACFC. The consolidating
financial statements of the Company presented in Item 15 present the detailed
financial information of each separate business segment.
(c) NARRATIVE DESCRIPTION OF BUSINESS
General
The Company is a face-amount certificate company registered under the 1940
Act that issues and services fixed-rate face-amount certificates. A face-amount
certificate is an obligation of the issuer to pay a face, or principal, amount,
plus specified interest, to the holder of the certificate. The face-amount may
be paid at the end of a certificate's "guarantee period" or at its "maturity
date." Lesser amounts are paid at such times if all or part of an investment in
the certificate is withdrawn prior to maturity or the end of any guarantee
period. Interest may be paid quarterly or annually, or may be compounded.
The Company issues various series of single-payment investment
certificates with guarantee periods of three, five, seven and ten years,
respectively. Unless otherwise instructed by the holder, a certificate, by its
terms, automatically continues for another guarantee period of the same duration
until the certificate's maturity date. The certificates mature no later than 30
years from the date they are issued. The Company's face-amount certificate
operations include issuance of single-payment certificates and the servicing of
outstanding single-payment and installment certificates, the investment of
related funds, and other related service activities. As indicated above under
"Recent Significant Events," the Company suspended the sale of its certificates
on August 16, 2002. Any use in this Form 10-K Annual Report of the term "offer,"
"sale" or "issues" and any discussion in that context, is qualified by such
suspension.
The Company periodically declares the interest rates payable for a
certificate's guarantee period. The interest rate declared is applicable for the
entire guarantee period. The prevailing interest rates available on
interest-bearing instruments are a primary consideration in deciding upon the
interest rates declared by the Company. However, the Company has complete
discretion as to what interest rates it declares for the certificates. At the
end of a guarantee period, the interest rates in effect for the succeeding
guarantee period may be greater or lesser than the rates in effect for the
expiring guarantee period.
SBM Certificate Company's gross income is derived primarily from the
margin between earnings on its investments and amounts paid or credited on its
fixed-rate certificate liability ("investment spread"). The Company's net income
is determined by deducting investment and other expenses and federal income
taxes from the investment spread. The investment spread is affected principally
by the Company's investment decisions, general economic conditions, government
monetary policy, the policies of regulatory authorities that influence market
interest
6
rates, and the Company's ability to respond to changes in such rates. Changes in
market interest rates may have a negative impact on its earnings. See "Item 7.
Management's Discussion and Analysis of Results of Operations and Financial
Condition".
The Company accrues liabilities, for which it maintains reserves for its
certificate obligations in accordance with the 1940 Act. In general, the Company
establishes its certificate liability monthly in an amount equal to the
certificates' surrender value. Under provisions of the 1940 Act, the Company is
permitted to invest its reserves only in assets that constitute "qualified
investments" and such other assets as the SEC may permit under the 1940 Act.
ACFC principally is a mortgage lender and mortgage broker of single-family
residential mortgages (conventional and FHA), which are sold to investors. ACFC
is approved as a nonsupervised lender under the HUD Title II program, which has
a required net worth based on a prescribed calculation.
Management of Investments
Subject to the oversight of the Board of Directors, the Company's
management is responsible for selecting and managing the Company's securities
investments to ensure that the Company has, in cash or qualified investments,
assets having an aggregate value not less than that required by applicable law.
Qualified investments are defined as investments of a kind which life insurance
companies are permitted to invest in or hold under provisions of the Insurance
Code of the District of Columbia. Management also is responsible for placing
orders for the purchase and sale of the Company's securities investments with
brokers and dealers. In the future, the Company expects to engage one or more
investment advisers to assist the Company in the management of its securities
investments.
Sale of Certificates and Competition
The Company sells its certificates directly and through broker-dealers who
have entered into selling agreements with the Company. Sales also may be made to
members of affinity groups, including service organizations, non-profit
associations and other types of member organizations.
The Company's face-amount certificate business competes in general with
various types of individual savings products which offer a fixed-rate of return
on investors' money, especially insurance, bank and thrift products. Some of
these other products are insured by governmental agencies or funds or private
third parties. The Company's certificates are not guaranteed or insured by any
governmental agency or fund or independent third party but are supported by
reserves required by law. The Company's ability to offer competitive interest
rates, attractive terms, and efficient service are its primary basis for meeting
competition.
Relationship with State Bond
The Company is an independent operating entity, but relies upon State Bond
and its affiliates to provide it with management, marketing and administrative
services, as well as
7
personnel, for the conduct of the Company's business. See "Item 13. Certain
Relationships and Related Transactions."
Regulation
Like many financial service companies which offer investment opportunities
to the public, the Company is subject to governmental regulation. In particular,
the 1940 Act and rules issued by the SEC specify certain terms for face-amount
certificates, the method for calculating reserve liabilities on outstanding
certificates, the minimum amounts and types of investments to be deposited with
a qualified custodian to support such reserve liabilities, and a variety of
other restrictions. See Note B and Note T of Notes to Consolidating Financial
Statements of the Company for more detail on the policies of the Company related
to these regulations.
(d) FINANCIAL INFORMATION ABOUT FOREIGN AND DOMESTIC OPERATIONS AND EXPORT
SALES
The Company has no foreign operations.
ITEM 2. PROPERTIES
The Company's executive offices are located at 5101 River Road, Suite 101,
Bethesda, Maryland. The executive offices are the primary location for State
Bond's and the Company's investment, accounting, corporate accounting, marketing
activities and various support personnel. These offices are leased by State Bond
which makes them available to the Company under an Administrative Services
Agreement. See "Item 13. Certain Relationships and Related Transactions." The
Company also maintains administrative offices at 125 Minnesota Street, New Ulm,
Minnesota.
ITEM 3. LEGAL PROCEEDINGS
The Company is not a party to, nor is any of its property the subject of,
any material pending legal proceedings, other than ordinary litigation routine
to its business.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Not applicable.
PART II
ITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER
MATTERS
There is no public market or trading in the common stock of the Company.
All of the Company's 250,000 outstanding shares of common stock are owned by
State Bond.
8
Subject to its obligation to maintain investments in qualified assets as
required under Section 28(b) of the 1940 Act, the Company may pay dividends to
its parent as declared by the Company's Board of Directors. The Company,
including its predecessor, paid total dividends in 2001 and 2000 of $579,934 and
$6,513,805, respectively. The dividends in 2000 were primarily in connection
with the Acquisition, as discussed in Note A of the Notes to Consolidating
Financial Statements.
ITEM 6. SELECTED FINANCIAL DATA
The following table contains selected financial data of the Company for
the five years ended December 31, 2002. The financial data was derived from the
Company's audited financial statements. The report of Reznick Fedder &
Silverman, independent auditors, with respect to the years ended December 31,
2002, 2001 and 2000, appear at page F-02 of this Annual Report. The data should
be read in conjunction with "Item 7. Management's Discussion and Analysis of
Financial Condition and Results of Operations" and the financial statements,
related notes, and other financial information included in this Annual Report.
YEAR ENDED DECEMBER 31
--------------------------------------------------------------
2002 2001 2000 1999 1998
------- ------- ------- ------- -------
(in thousands, except per share data)
STATEMENT OF OPERATIONS DATA
Total investment income 2,439 1,615 1,618 2,292 2,827
Interest credited on certificate reserves (1,349) (1,173) (1,523) (1,615) (2,063)
Net investment spread 1,090 442 95 677 763
Total investment and other expenses (2,951) (1,973) (528) (376) (576)
Federal income tax (expense) benefit -- -- 621 102 (54)
Net investment income (loss) (1,861) (1,531) 188 409 134
Net other operating income (loss) 118 (38) -- -- --
Federal income tax (expense) benefit -- 288 -- -- --
Net investment and other operating income (losses) (1,743) (1,281) 188 409 134
Net realized investment gains (losses) 473 69 (429) (373) (103)
Net operating income (loss) (1,270) (1,212) (241) 36 31
Non-operating expense (406) (470) (342) -- --
Net income (loss) (1,676) (1,682) (583) 36 31
Earnings (loss) per share* (6.70) (6.73) (2.33) 0.14 0.12
BALANCE SHEET DATA (END OF PERIOD)
Total assets 35,115 23,881 21,967 34,285 39,354
Total liabilities 38,696 24,152 21,527 30,117 34,068
Shareholder's equity (3,581) (271) 440 4,168 5,028
- ----------
* Earnings (loss) per share based on 250,000 shares issued and outstanding.
9
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
General
The Company's predecessor, SBN MN, was incorporated in June 1990 to assume
the face-amount certificate business of SBM Company ("SBM") which began in 1914.
ARM purchased most of the assets of SBM in June 1995 and continued the issuance
of face-amount certificates through SBM MN, then a wholly-owned subsidiary of
ARM. As a result of the Acquisition, the Company has assumed the obligations of
SBM MN's outstanding face-amount certificates and offers various series of
single-payment face-amount certificates. The Company issues and services fixed
rate face-amount certificates and provides related services to holders of the
certificates. ACFC performs mortgage lender and mortgage broker activities.
The Questioned Transactions involving John J. Lawbaugh, referred to in
"Item 1. Business: Recent Significant Events," that are more fully described in
Note N and Note O of the Notes to Consolidating Financial Statements in "Item 8.
Financial Statements and Supplementary Data," have had a materially adverse
impact upon the Company's financial condition, operations and ability to carry
on the sale of its face-amount certificates, which were suspended on August 16,
2002.
Consistent with the terms of the Escrow Agreement, the Company is seeking
a buyer for Mr. Lawbaugh's shares of 1st Atlantic being held in escrow. Mr.
Lawbaugh did not identify a potential purchaser within 60 days as required under
the terms of the Escrow Agreement. The Company is actively seeking a buyer for
Mr. Lawbaugh's shares of 1st Atlantic and is hopeful that a sale, on terms
acceptable to the Board of Directors, may be consummated in the near future. The
Company cannot, however, provide any assurances, nor can it make any
representation, that a buyer will in fact be found and a transaction can be
effected upon satisfactory terms.
Financial Condition, Changes in Financial Condition and Results Of Operations
2002 compared with 2001
During 2002, total assets increased $11.2 million from $23.9 million in
2001 to $35.1 million in 2002, while certificate liability increased $9.4
million from $23.8 million in 2001 to $33.2 million in 2002. The increase in
total assets and certificate liability is primarily due to certificate sales
exceeding certificate maturities, redemptions and early surrenders.
The Company's earnings are derived primarily from net investment income
and net other operating income. Net investment income is income earned from
invested assets less investment and other expenses and interest credited on
certificate reserve liability. Net other operating income is income earned from
the origination of loans in the mortgage lender/broker business less operating
expenses. Changes in net investment income are largely due to changes in the
rate
10
of return on investments. Changes in net other operating income is attributable
to changes in the volume and pricing of loans originated.
The Company had a net loss of $1,676,316 and $1,681,812 for the years
ended December 31, 2002 and 2001, respectively. The net loss for the years ended
December 31, 2002 and 2001, stemmed mainly from the net investment loss before
income tax of $1,861,228 and $1,530,750, respectively, and the reserve for
losses - shareholder receivable of $405,963 and $469,982, respectively. See
"Item 1. Business: Recent Significant Events" to this Form 10-K and Note N and
Note O of the Notes to the Consolidating Financial Statements for further
description of the reserve for losses - shareholder receivable. The net
investment loss before income tax for 2002 and 2001 was due mainly to the
combination of investment and other expenses and interest credited on
certificate liability exceeding the income generated from the investment
portfolio. During 2002 and 2001, the Company held several non-revenue producing
assets, which had a negative impact on the income generated from the investment
portfolio. In addition, high operational costs related to the administrative
services fee, legal fees and advertising resulted in an operating loss. The
reserve for losses - shareholder receivable contributed further to the net loss
for the years ended December 31, 2002 and 2001.
Investment income (excluding realized investment gains and losses) in 2002
was $2,438,503 compared to investment income of $1,615,128 for 2001. Investment
income plus realized investment gains represents annualized investment yields of
10.38% and 7.90% on average cash and investments of $28.0 million and $21.3
million for 2002 and 2001, respectively. The increase in investment income is
attributable to an increase in cash and investments being held by the Company
and an increase in the yield of the investment portfolio. The increase in
investment portfolio yield was primarily due to realized gains totaling $472,721
resulting from the sale of available-for-sale securities.
Net investment spread, which is the difference between investment income
and interest credited on certificate liability, was $1,089,179 for 2002 compared
to $442,576 in 2001. On an annualized yield basis, these amounts reflect net
investment spread for 2002 and 2001 of 3.82% and 1.98%, respectively.
Interest credited on certificate reserves for 2002 and 2001 was $1,349,324
and $1,172,552, respectively. These amounts represent annualized average rates
of interest credited of 4.73% and 5.24% on average certificate liability of
$28.5 million and $22.4 million for 2002 and 2001, respectively. The Company
monitors credited interest rates for new and renewal issues against competitive
products, such as bank certificates of deposit. Credited interest rate
adjustments (up or down) on new face-amount certificates are made by the Company
periodically. In addition, there are surrender charges on new face-amount
certificates resulting in the overall decrease in the average crediting rate.
Investment and other expenses were $2,950,407 and $1,973,326 for 2002 and
2001, respectively. The increase in investment and other expenses was the result
of an increase in the administrative services fee to the Company's parent, State
Bond, and an increase in other operating expenses. The increase in the
administrative services fee was due to the payment of the fee to State Bond in
2002 being classified solely as an administrative services fee, whereas,
11
in 2001, the payment to State Bond was in the form of both an administrative
services fee totaling $1,078,839 and dividends of $579,934. Total dividends paid
plus the administrative services fee in 2002 and 2001 was $1,794,700 and
$1,658,773, respectively. Investment and other expenses were further increased
by higher advertising costs for the year ended December 31, 2002, as compared to
the year ended December 31, 2001. Advertising expense for the year ended
December 31, 2002 was $361,739 as compared to $93,422 for the year ended
December 31, 2001. The increase in advertising expense in 2002 was due to the
Company's advertising campaign associated with its retail sales division.
Net other operating income (loss) before income tax for the years ended
December 31, 2002 and 2001, was $118,154 and ($38,041), respectively. This
consists of the mortgage lender/broker operations of ACFC. For the years ended
December 31, 2002 and 2001, other operating income was $2,261,801 and $897,267,
respectively. This income is derived from loan origination fees, gain on sale to
investor and other processing and underwriting loan fees relating to originating
and brokering loans. The increase in other operating income for the year ended
December 31, 2002 as compared to the year ended December 31, 2001 was due to an
increase in the volume of loans originated. For the years ended December 31,
2002 and 2001, other operating expenses were $2,143,647 and $935,808,
respectively. These expenses consist of salaries and commissions paid in
relation to originating and brokering loans and other costs in operating the
mortgage company. The increase in other operating expenses for the year ended
December 31, 2002 as compared to the year ended December 31, 2001, was mainly
due to higher commissions paid on the increased revenues generated.
Realized investment gains were $472,721 and $68,697 for 2002 and 2001,
respectively. The increase in realized investment gains was due to the sale of
certain available-for-sale securities, which had significant increases in their
market value over their original cost. Realized investment gains and losses are
primarily interest-rate related and attributable to the asset/liability
management strategies of the Company. The Company invests in a mixture of
investments ranging from fixed maturity securities, equity securities, mortgage
notes, real estate, and real estate tax lien certificates. The objective of each
investment is to provide reasonable returns while limiting liquidity and credit
risks.
In the event that the Company experiences higher than historical levels of
certificate surrenders, the Company might need to liquidate investments other
than in accordance with its normal asset/liability management strategy and, as a
result, the Company could experience substantial realized investment losses.
For the year ended December 31, 2002 and 2001, reserve for losses -
shareholder receivable was $405,963 and $469,982, respectively. See "Item 1.
Business: Recent Significant Events" to this Form 10-K and Note O of the Notes
to Consolidating Financial Statements for further descriptions of this item.
2001 compared with 2000
During 2001, total assets increased $1.9 million from $22.0 million in
2000 to $23.9 million in 2001, while certificate liability increased $2.9
million from $20.9 million in 2000 to
12
$23.8 million in 2001. The increase in total assets and certificate liability is
primarily due to certificate sales exceeding certificate maturities, redemptions
and early surrenders.
The Company's earnings are derived primarily from net investment income
and net other operating income. Net investment income is income earned from
invested assets less investment expenses and interest credited on certificate
reserve liability. Net other operating income is income earned from the
origination of loans in the mortgage broker business less operating expenses.
Changes in net investment income are largely due to changes in the rate of
return on investments and changes in the operational costs of the Company.
Changes in net other operating income is attributable to changes in the volume
and pricing of loans originated.
The Company had a net loss of $1,681,812 and $582,879 for the years ended
December 31, 2001 and 2000, respectively. The increase in net loss for 2001
stemmed mainly from the net investment loss before income tax of $1,530,750 for
the period ended December 31, 2001 as compared to net investment loss before
income tax of $433,116 for the period ended December 31, 2000. The increase in
net investment loss before income tax for 2001 was due mainly to an increase in
investment and other expenses.
Investment income (excluding realized investment gains and losses) in 2001
was $1,615,128 compared to investment income of $1,617,929 for 2000. Investment
income plus realized investment gains less realized investment losses represents
annualized investment yields of 7.90% and 4.30% on average cash and investments
of $21.3 million and $27.6 million for 2001 and 2000, respectively. The decrease
in investment income is attributable to a decrease in cash and investments being
held by the Company.
Net investment spread, which is the difference between investment income
and interest credited on certificate liability, was $442,576 for 2001 compared
to $94,760 in 2000. On an annualized yield basis, these amounts reflect net
investment spread for 2001 and 2000 of 1.98% and .37%, respectively.
Interest credited on certificate reserves for 2001 and 2000 was $1,172,552
and $1,523,169, respectively. These amounts represent annualized average rates
of interest credited of 5.24% and 5.97% on average certificate liability of
$22.4 million and $25.5 million for 2001 and 2000, respectively. The Company
monitors credited interest rates for new and renewal issues against competitive
products, such as bank certificates of deposit. Credited interest rate
adjustments (up or down) on new face-amount certificates are made by the Company
periodically, resulting in the overall decrease in the average crediting rate.
Investment and other expenses were $1,973,326 and $527,876 for 2001 and
2000, respectively. The increase in investment and other expenses was the result
of an increase in the administrative services fee paid to the Company's parent,
State Bond, and other expenses. The increase in the administrative services fee
was due to a majority of the payment to State Bond in 2001 being made in the
form of an administrative services fee, whereas, in 2000 the payment to State
Bond was in the form of both an administrative services fee and dividends. Total
dividends paid plus the administrative services fee in 2001 and 2000 was
$1,658,773 and $1,486,344, respectively. The increase in other expenses from
$178,365 in 2000 to $704,864 in 2001 was
13
mainly due to a new policy implemented after the Acquisition as to the payment
of certain direct expenses by the Company. Prior to Acquisition, certain
expenses that are currently paid by the Company were paid by ARM.
Net other operating loss before income tax of $38,041 for the year ended
December 31, 2001, consists of the mortgage broker operations of ACFC, which
became a subsidiary of the Company in December 2000. Other operating income of
$897,267 is derived from loan origination fees, gain on sale to investor and
other processing and underwriting loan fees relating to originating and
brokering loans. Other operating expenses of $935,308 consist of salaries and
commissions paid in relation to originating and brokering loans and other costs
in operating the mortgage company.
Realized investment gains (losses) were $68,697 and ($428,582) for 2001
and 2000, respectively. Realized investment gains and losses are primarily
interest-rate related and attributable to the asset/liability management
strategies of the Company. Realized investment losses in 2000 were due to the
sale of securities as required of SBM MN in the Acquisition transaction. The
Company invests in a mixture of investments ranging from securities with fixed
maturities, mortgage notes and real estate tax lien certificates. The objective
of each investment is to provide reasonable returns while limiting liquidity and
credit risks.
In the event that the Company experiences higher than historical levels of
certificate surrenders, the Company might need to liquidate investments other
than in accordance with its normal asset/liability management strategy and, as a
result, the Company could experience substantial realized investment losses.
For the year ended December 31, 2001 and 2000, reserve for losses -
shareholder receivable was $469,982 and $342,236, respectively. See "Item 1.
Business: Recent Significant Events" to this Form 10-K and Note N and Note O of
the Notes to Consolidating Financial Statements for further descriptions of this
item.
Asset Portfolio Review
The Company invests its assets in accordance with the provisions of the
1940 Act, which permits the investment of reserves only in cash or "qualified
investments." Qualified investments are investments of a kind which life
insurance companies may hold under the Insurance Code of the District of
Columbia, and other such assets as the SEC may permit under the 1940 Act. The
Company's investment policy is to invest reserves in a variety of investments
that diversify risk, provide a reasonable return on investment and allow for
liquidity consistent with the cash requirements of the Company. The Company's
various investment types as of December 31, 2002 are fixed maturity securities,
equity securities, mortgage notes, real estate and real estate tax lien
certificates. The Company monitors its short-term liquidity needs to ensure that
cash flow from investments allows for the payment of all of its obligations due,
including expected cash outflow to certificate holders, with the goal of
maintaining an adequate level of liquidity for maturing face-amount
certificates. In addition, the investment strategy also is designed to provide
protection of the investment portfolio from adverse changes in interest rates.
14
The Company's investments in available-for-sale securities totaled
$9,190,162 at December 31, 2002, 27.45% of the investment portfolio (28.22% at
December 31, 2001). Available-for-sale securities consist of fixed maturity
securities and equity securities. Fixed maturity securities consist of US
Treasuries, municipal bonds, mortgage-backed securities and corporate debt. As
of December 31, 2002, the Company held one fixed maturity security that had
defaulted on interest payments. The market value of available-for-sale
securities fluctuates with changing economic conditions. Fixed maturity
securities are influenced greatly by market interest rates. Corporate debt
market value is also weighed by the performance of the company that issues the
debt. Upgrades or downgrades in the rating of a corporate bond will increase or
decrease the market value of such investment. The Company's investments in
equity securities are subject to market risk and fluctuations in the market
value of the securities. Fluctuations in market value of equity securities
affect the yield on the investment and could result in a reduction in the
principal amount invested in the security. The Company takes into account the
current and expected future market environment in evaluating investment risk and
investment yields.
Based on the provisions of Statement of Financial Accounting Standards
("SFAS") No. 115, "Accounting for Certain Investments in Debt and Equity
Securities," the Company currently classifies its fixed maturity and equity
securities as available-for-sale. Such securities are carried at fair value and
changes in fair value, net of deferred income taxes, are charged or credited
directly to shareholder's equity. During 2002, the fair value of
available-for-sale securities decreased by $2,272,796, resulting in an
unrealized loss, net of tax at December 31, 2002 of $2,055,348. Unrealized gain
net of tax at December 31, 2001 was $217,448. Volatility in reported
shareholder's equity occurs as a result of the application of SFAS No. 115,
which requires some assets to be carried at fair value while other assets and
all liabilities are carried at historical values. As a result, adjusting the
shareholder's equity for changes in the fair value of the Company's
available-for-sale securities without reflecting offsetting changes in the value
of the Company's liabilities or other assets creates volatility in reported
shareholder's equity but does not reflect the underlying economics of the
Company's business.
The Company's investments in residential and commercial real estate
mortgage notes receivable totaled $13,163,828 at December 31, 2002, 39.32% of
the investment portfolio. These real estate mortgage notes accrue interest at
rates ranging from 5.25% to 14.5% per annum and are secured by the underlying
real property. The Company's intention is to sell the mortgage notes held for
sale to a buyer under certain favorable market conditions. See Note F to the
Notes to Consolidating Financial Statements.
The Company's investment in real estate tax lien certificates are
comprised of delinquent real estate tax bills purchased from municipalities at a
premium. They accrue interest at the rate of 20% per annum on the outstanding
principal and are secured by a first lien on the property on which the tax is
owed. In all cases, the certificates are significantly over-collateralized by
the underlying property. As of December 31, 2002, the real estate tax lien
certificates had a balance of $1,632,437, 4.88% of the investment portfolio. See
Note I to the Notes to Consolidating Financial Statements.
15
The Company holds an investment in a residual mortgage certificate with a
principal balance of $4,038,607 as of December 31, 2002, 12.06% of the
investment portfolio. The investment was purchased in July of 2002 and
represents an ownership interest in a trust (the "Trust") that owns a
securitized pool of mortgage loans. The residual interest the Company owns is a
subordinate interest in the Trust. The individual mortgage notes held in the
Trust generate income to the Trust, which then pays certain operating costs of
the Trust and pays the owners with a guaranteed interest in the Trust. Any
excess income generated after these payments is then paid to the Company. The
Company will only receive payments if there is cash generated by the Trust in
excess of operating costs and payments to guaranteed interest holders. The
weighted average coupon rate of the underlying pool of mortgages is
approximately 10.5% and the weighted average pass-through rate paid to
guaranteed interest holders is 4.7%, the difference being the excess income
generated by the Trust to pay operating expenses, cover reserve losses and then
make payments to the Company. See Note J to the Notes to Consolidating Financial
Statements.
The Company also owns two parcels of real estate totaling $2,647,095 as of
December 31, 2002, 7.9% of the investment portfolio. These properties were
acquired through foreclosure of delinquent mortgage notes held by the Company.
The properties are held for sale but there currently is no contract for sale.
Liquidity and Financial Resources
As of December 31, 2002, the Company had $724,163 of qualified assets in
excess of the minimum amount required by the 1940 Act and the rules and
regulations promulgated thereunder by the SEC, as computed in accordance with
the 1940 Act.
The primary liquidity requirement of the Company relates to its payment of
certificate maturities and surrenders and payment of its legal costs and
administrative services fee. The principal sources of cash to meet such
liquidity requirements are investment income and proceeds from maturities and
redemptions of investments. The Company has $1.3 million of certificate
obligation coming due in 2003. In 2002, the Company experienced an 84% renewal
rate; therefore, management expects certificate obligation payments to be
approximately $250,000 in 2003.
At December 31, 2002, cash and cash equivalents totaled $2.2 million, a
decrease of $3.3 million from December 31, 2001. The Company's aim is to manage
its cash and cash equivalents position so as to satisfy short-term liquidity
needs. In connection with this management of cash and cash equivalents, the
Company may invest idle cash in short duration fixed maturities to capture
additional yield when short-term liquidity requirements permit.
Cash flows of ($6.1) million, ($1.2) million, and $1.6 million were
generated from (used in) operating activities in 2002, 2001, and 2000,
respectively. These cash flows resulted principally from investment income, less
management fees, changes in mortgage notes held for sale, and commissions paid.
Proceeds from investing activities generated $8.9 million, $9.7 million and $6.4
million in cash flows during 2002, 2001, and 2000, respectively, which were
offset by purchases of investments of $16.6 million, $7.9 million and $4.8
million, respectively.
16
ITEM 7A.QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Company's investments are represented by a mixture of
available-for-sale securities (comprised of government and corporate bonds,
mortgage-backed securities, and equity securities), mortgage notes, real estate,
and real estate tax lien certificates. Managing interest rates between those
earned on the Company's investments and those paid under the face-amount
certificates is fundamental to the Company's investment decisions. Both rates
are sensitive to changes in the general level of interest rates in the economy,
as well as to competitive factors in the case of the certificates.
Presently, the Company has a portion of its portfolio invested in real
estate and real estate loans, which includes $13.2 million of mortgage notes
held for sale and $2.6 million of real estate owned. Defaults by the borrower on
payments due and fluctuations in the value of the underlying real estate
represent the greatest risk factor for this investment strategy. However, the
Company mitigates the risk associated with the mortgage notes by investing only
in those loans that have a history of producing income, are of high quality by
industry standards or have underlying properties that represent excellent values
and safety relative to the market. The mortgage notes must have a loan to value
ratio no higher than 75% for the investment to be a qualified asset as defined
by the provisions of the Insurance Code at the District of Columbia.
The Company also invests in real estate tax lien certificates, which have
a balance of $1.6 million at December 31, 2002. The greatest risk associated
with this investment is the time and costs of the foreclosure process when
amounts remain unpaid beyond the Company's aging policy. The risk is mitigated
by the Company's first priority lien on the property on which the tax is owed,
and the Company's general policy of securing these investments in most
circumstances only with properties in which the amount advanced by the Company
to acquire the certificates is less than 5% of the market value of the property
that secures the investment.
The Company's ownership of the residual mortgage certificate represents a
subordinate ownership interest in the Trust. The Company assumes the risk of
default on the mortgages held within the Trust. Defaults of principal and
interest by borrowers will adversely affect the Company's return on this
investment. A reserve for defaults was calculated into the original purchase
price to mitigate the risk of loss on the investment. In addition, risk of loss
is lessened by the weighted average loan to value ratio on the underlying
mortgage notes as compared to the real estate securing the note being
approximately 60%.
The Company regularly analyzes interest rate sensitivity and the potential
impact of interest rate fluctuations based on a range of different interest rate
models. These provide "benchmarks" for assessing the impact on Company earnings
if rates moved higher or lower than the expected targets set in our investment
guidelines. The Company will continue to formulate strategies directed at
protecting earnings for the potential negative effects of changes in interest
rates.
17
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The Company's financial statements begin on page F-02. Reference is made
to the Index to Financial Statements on page F-01 of this Annual Report. The
Company's supplementary financial information as required per regulation S-X
begins on page S-01.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
Not applicable.
PART III
ITEM 10. EXECUTIVE OFFICERS AND DIRECTORS
Certain information about the Company's directors and officers, including
their principal occupations for the past five years, is set out below. Members
of the Board who are considered "interested persons" of the Company under the
1940 Act are indicated by an asterisk (*). The Company's directors and officers,
other than directors who are not interested persons of the Company, serve in
such capacities without compensation. Officers are appointed annually at the
annual meeting of the Company's Board of Directors.
Each of the directors named below became directors of the Company in May 2000,
upon the organization of the Company.
Iraline G. Barnes (55) Director Vice President, Property Funding Group, LLC; Special
Counsel, Roseman & Colin (since 1999); Prior to that,
Senior Judge, District of Columbia Superior Court;
Prior to that, Vice President of Corporate Relations,
Potomac Electric Power Co.
Kumar Barve (44) Director Delegate to the State Senate, Maryland; Prior to that,
Accountant/Chief Financial Officer, Environmental
Management Services, Inc. (Hazardous Waste Disposal and
Environmental Consulting)
Nancy Hopkinson (61) Director Currently Retired (since 1996); prior to that, Teacher and
School Administrator, Montgomery County Public Schools
(Maryland)
Brian Murphy (59)* Director Partner, Griffin, Farmer & Murphy, LLP (law firm)
18
Marialice B. Williams (57) Director President of Risk Mitigation Strategists; Chairman,
District of Columbia Housing Finance Agency; Chairman,
Advisory Committee of WPFW (89.3FM) Radio; Prior to that,
Director, Capital Markets section of the Multifamily
Division of Federal National Mortgage Association. (from
1989-1998)
Eric M. Westbury (39) President President, SBM Certificate Company, (since December 2000,
Executive Vice President before that from November 1999);
Executive Vice President, 1st Atlantic Guaranty Corporation
(since November 1999); prior to that, President and Chief
Operating Officer of The Washington Development Group
(private real estate development and management company),
from September 1997 through November 1999. Prior to that,
Vice-President, Market Executive (commercial and retail
banking) First Union National Bank, Washington, DC.
Trey Stafford (29) Chief Vice President of Finance and Accounting, State Bond and
Financial and Mortgage, L.L.C. (since July 2001); Secretary of Board of
Accounting Directors, ACFC (since December 2001); Audit
Officer Manager/Senior, Reznick Fedder & Silverman, CPA's
(September 1997-July 2001); Staff Accountant, Charles E.
Smith Residential Realty, (September 1996-1997).
Dia H. Snowden (41) Secretary Corporate Secretary, SBM Certificate Company, (since March
2002); Client Services Manager, SBM Certificate Company,
(since July 2000); prior to that, Corporate Administrator,
The Washington Development Group, Inc. (1996-1999) (private
real estate development and management company).
19
Board of Directors
The Board of Directors is responsible for the overall management of the
Company's business. Directors are elected at the Company's annual meeting of
shareholders. Each Director who is not an interested person of the Company
receives an annual retainer of $500, plus a $750 fee for each regular or special
Board meeting he or she attends. The Directors also receive reimbursement for
their expenses incurred in attending any meeting of the Board. The Board
generally meets quarterly.
Audit Committee
The members of the Audit Committee consult with the Company's independent
auditors if the auditors deem it desirable, and meet with the independent
auditors at least once annually to discuss the scope and results of the annual
audit of the Company and such other matters as the Committee members deem
appropriate or desirable. Directors Barnes, Barve and Williams are members of
the Audit Committee.
ITEM 11. EXECUTIVE COMPENSATION
The Company's directors and officers, other than directors who are not
interested persons of the Company, serve in such capacities without
compensation. See "Item 13. Certain Relationships and Related Transactions,"
below.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND
RELATED STOCKHOLDER MATTERS.
The Company is a wholly-owned subsidiary of State Bond, which, in turn, is
wholly-owned by 1st Atlantic. John J. Lawbaugh is the majority shareholder of
1st Atlantic. All of his shares of 1st Atlantic capital stock are currently held
under an Escrow Agreement. See Note O of the Notes to Consolidating Financial
Statements.
20
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Pursuant to an Amended and Restated Administrative Services Agreement
dated as of July 1, 2001 (the "Administrative Services Agreement"), State Bond
provides various administrative services to the Company. Under the terms of that
Agreement, State Bond makes available certain of its property, equipment and
facilities to the Company for use in its business operations. State Bond also
provides the Company with certain administrative and special services, including
personnel and furnishes or otherwise makes available accounting services to the
Company. The annual charge to the Company for the services and facilities
provided by State Bond is 1% of the Company's average certificate liability
balances, or an amount not to exceed $2.5 million. The charge will be determined
monthly by State Bond and Company management. At no time, however, may the
charge cause the Company to have assets of less than the total of the qualified
investments and capital stock required under the 1940 Act. State Bond waived its
fees due under the original Administrative Services Agreement dated July 1, 2000
through September 30, 2000. For the last quarter of 2000 a fee of $112,223 was
charged to the Company, of which $40,289 remained payable at December 31, 2000.
During 2001, a fee totaling $1,078,839 was charged and $1,119,128 was paid by
the Company to State Bond. During 2002, a fee totaling $1,794,700 was charged
and paid to State Bond.
In connection with the Acquisition, certain dividend payments were made by
the Company to its former, and to its current, parent as described in Note A of
the Notes to Consolidating Financial Statements. Also, from time-to-time the
Company may make dividend payments to State Bond, which, in turn, may make
dividend payments to 1st Atlantic, State Bond's parent. During 2001, the Company
paid $579,934 of cash dividends to State Bond. There were no dividends paid in
2002.
On December 17, 2000, 1st Atlantic contributed its 100% ownership interest
in ACFC by assigning its 10,000 shares of ACFC common stock to SBM-MD, along
with two mortgage notes (the "Contribution"). The Contribution resulted in
additional paid-in capital to SBM-MD for the investment in ACFC, which totaled
$573,957.
See Note S of the Notes to Consolidating Financial Statements with respect
to the contribution of a mortgage note and real estate as additional paid-in
capital made by State Bond to the Company on September 30, 2001.
The Company made a mortgage loan to a partnership in which an affiliate
owned a 51% interest. As of December 31, 2001, the outstanding principal balance
of the mortgage note was $378,950 and accrued interest totaled $59,104. In April
2002, the outstanding principal balance of the mortgage note and accrued
interest was paid to the Company in the amount of $533,120.
A director of the Company provided legal services relating to the
Acquisition and throughout 2001. Total costs for services provided during 2001
and 2000 were $8,150 and $61,960, respectively.
Due from shareholder totaling $1,218,181 represents amounts paid to John
J. Lawbaugh, the controlling shareholder of 1st Atlantic, directly or through
companies affiliated with the
21
shareholder and other costs incurred by the Company related to those
transactions. An allowance has been recorded in the full amount due from
shareholder. See Note N and Note O to the Notes to Consolidating Financial
Statements.
Related party receivable and related party payable represents certain
advances made by the Company to affiliates and advances the Company has received
from affiliates. Most advances relate to operational transactions. As of
December 31, 2002 and 2001, related party receivables total $129,351 and $47,787
respectively. As of December 31, 2002 and 2001, related party payables total
$117,925 and $23,211, respectively.
On December 19, 2002, the Company made a mortgage loan in the amount of
$88,638, with interest at the rate of 12.5% per annum, to James M. Barnes,
husband of Iraline G. Barnes, a director of the Company. The loan, by its terms,
matures on May 1, 2003, and is expected to be paid at maturity.
A warehouse line of credit has been established between SBM and ACFC. See
Note H to the Notes to Consolidating Financial Statements.
ITEM 14. CONTROLS AND PROCEDURES
Evaluation of Disclosure Controls and Procedures
The Company's Chief Executive Officer and Chief Financial Officer have
performed an evaluation of the Company's disclosure controls and procedures, as
that term is defined in Rule 13a-14 (c) of the 1934 Act, as amended, within 90
days of the date of this report and each has concluded that such disclosure
controls and procedures are effective to ensure that information required to be
disclosed in our periodic reports filed under the 1934 Act is recorded,
processed, summarized and reported, within the time period specified by the
SEC's rules and regulations.
Changes in Internal Controls
No significant changes in our internal controls or in other factors that
could significantly affect these controls subsequent to the date of the
evaluation, including any corrective actions with regard to significant
deficiencies and material weaknesses, were made as a result of the evaluation.
22
ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
(a) DOCUMENTS FILED AS PART OF THIS REPORT
1. FINANCIAL STATEMENTS.
See financial statements index on page F-01 for a listing of financial
statements and related reports of independent auditors included in this report.
2. FINANCIAL STATEMENT SCHEDULES
The following financial statement schedules of the Company and the related
Report of Independent Auditors are incorporated herein as follows:
Report of Independent Auditors
Schedule I Investment in Securities of Unaffiliated Issuers -
December 31, 2002
Schedule II Investments in and Advances to Affiliates and Income
Thereon - December 31, 2002
Schedule III Mortgage loans on real estate and interest earned on
Mortgages - December 31, 2002
Schedule IV Real Estate Owned and Rental Income - December 31, 2002
Schedule V Qualified Assets on Deposit - December 31, 2002
Schedule VI Certificate Reserves-Year Ended December 31, 2002
Schedule VII Valuation and Qualifying Accounts-December 31, 2002
Schedules required by Article 6 of Regulation S-X for face-amount certificate
investment companies other than those listed are omitted because they are not
required, are not applicable, or equivalent information has been included in the
financial statements and notes thereto, or elsewhere herein.
23
3. EXHIBITS
NUMBER DESCRIPTION
(2) Stock Purchase Agreement dated March 28, 2000 by and among 1st
Atlantic Guaranty Corporation, SBM Certificate Company, and ARM
Financial Group (Exhibits omitted), incorporated by reference to
Exhibit (2) to form 8-K dated March 28, 2000 of 1st Atlantic
Guaranty Corporation (File No. 333-41361).
(3)(a) Articles of Incorporation of the Company, incorporated by reference
to Exhibit (3)(a) of Post-effective Amendment No. 11 to Registration
Statement No. 33-38066 filed on September 28, 2000.
(3)(a)(i) Certificate of Correction of Articles of Incorporation of the
Company incorporated by reference to Exhibit (3)(a) of
Post-effective Amendment No. 13 to Registration Statement No.
33-38066 filed on January 2, 2001.
(3)(b) By-Laws of the Company incorporated by reference to Exhibit (3)(b)
of Post-effective Amendment No. 11 to Registration Statement No.
33-38066 filed on September 28, 2000.
(4)(a) Form of Application, incorporated by reference to Exhibit (4)(a) of
Post-effective Amendment No. 11 to Registration Statement No.
33-38066 filed on September 28, 2000
(4)(b) Form of Account Statement, incorporated by reference to Exhibit
(4)(a) of Post-effective Amendment No. 11 to Registration Statement
No. 33-38066 filed on September 28, 2000.
(10)(a) Amended and Restated Administrative Services Agreement dated as of
the 1st day of July, 2001, by and between the Company and State Bond
& Mortgage Company, L.L.C.
(10)(b) Custody Agreement, as amended and supplemented, between the Company
(as successor to SBM Certificate Company (Minnesota)) and First
Trust National Association (now U.S. Bank Trust N.A.) dated December
20, 1990, incorporated by reference to Exhibit 10(b) to Form S-1
Registration Statement No. 33-38066 filed on January 2, 1991.
(21) Subsidiary
(24) Powers of Attorney, incorporated by reference to Exhibit (24) of
Form 10-K for the year ended December 31, 2001 of SBM Certificate
Company (File No. 811-06268).
24
(99.1) Form 8-K Current Report of the Company, incorporated by reference to
Form 8-K dated October 3, 2002 (File No. 811-06268).
(99.2) Form 8-K November Report of the Company, incorporated by reference
to Form 8-K dated November 12, 2002 (File No. 811-06268).
(99.3) Written Statement of the Chief Executive Officer.
(99.4) Written Statement of the Chief Financial Officer.
(b) REPORTS ON FORM 8-K
SBM filed the following Current Reports on Form 8-K during the quarter
ended December 31, 2002:
Current Report on Form 8-K dated October 3, 2002 described under
Item 5 the findings of the investigation into the Questioned
Transactions.
Current Report on Form 8-K dated November 12, 2002 detailed under
Item 5 the terms and conditions of the Escrow Agreement entered into
by Mr. Lawbaugh.
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange
Act of 1934, the registrant has duly caused this amended report to be signed on
its behalf by the undersigned, thereunto duly authorized, in Bethesda, Maryland,
on this 18th day of April, 2003.
SBM Certificate Company
By: /s/ Eric M. Westbury
------------------------------------
Eric M. Westbury
President
25
Pursuant to the requirements of the Securities Exchange Act of 1934, this
amended report has been signed by the following persons in the capacities and on
the dates indicated:
SIGNATURE CAPACITY DATE
- ------------------------- ------------------------------ --------------
/s/ Eric M. Westbury President (Principal Executive April 18, 2003
- ------------------------- Officer)
Eric M. Westbury
/s/ Trey Stafford Chief Financial and Accounting April 18, 2003
- ------------------------- Officer
Trey Stafford
*
- ------------------------- Director
Iraline G. Barnes
*
- ------------------------- Director
Kumar Barve
*
- ------------------------- Director
Nancy Hopkinson
*
- ------------------------- Director
Brian Murphy
*
- ------------------------- Director
Marialice B. Williams
*By /s/ Eric M. Westbury
---------------------
Eric M. Westbury
Attorney-in-fact
April 18, 2003
26
CERTIFICATION
I, Eric M. Westbury, certify that:
1. I have reviewed this annual report on Form 10-K of SBM Certificate Company;
2. Based on my knowledge, this annual report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
statements made, in light of the circumstances under which such statements were
made, not misleading with respect to the period covered by this annual report;
3. Based on my knowledge, the financial statements, and other financial
information included in this annual report, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this annual report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and have:
a) designed such disclosure controls and procedures to ensure
that material information relating to the registrant,
including its consolidated subsidiaries, is made known to us
by others within those entities, particularly during the
period in which this annual report is being prepared;
b) evaluated the effectiveness of the registrant's disclosure
controls and procedures as of a date within 90 days prior to
the filing date of this annual report (the "Evaluation Date");
and
c) presented in this annual report our conclusions about the
effectiveness of the disclosure controls and procedures based
on our evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on our
most recent evaluation, to the registrant's auditors and the audit committee of
the registrant's board of directors (or persons performing the equivalent
functions):
a) all significant deficiencies in the design or operation of
internal controls which could adversely affect the
registrant's ability to record, process, summarize and report
financial data and have identified for the registrant's
auditors any material weaknesses in internal controls; and
b) any fraud, whether or not material, that involves management
or other employees who have a significant role in the
registrant's internal controls; and
27
6. The registrant's other certifying officers and I have indicated in this
annual report whether there were significant changes in internal controls or in
other factors that could significantly affect internal controls subsequent to
the date of our most recent evaluation, including any corrective actions with
regard to significant deficiencies and material weaknesses.
Date: April 18, 2003
/s/ Eric M. Westbury
----------------------------------------
President
28
CERTIFICATION
I, Trey Stafford, certify that:
1. I have reviewed this annual report on Form 10-K of SBM Certificate Company;
2. Based on my knowledge, this annual report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to make
statements made, in light of the circumstances under which such statements were
made, not misleading with respect to the period covered by this annual report;
3. Based on my knowledge, the financial statements, and other financial
information included in this annual report, fairly present in all material
respects the financial condition, results of operations and cash flows of the
registrant as of, and for, the periods presented in this annual report;
4. The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined in
Exchange Act Rules 13a-14 and 15d-14) for the registrant and have:
d) designed such disclosure controls and procedures to ensure
that material information relating to the registrant,
including its consolidated subsidiaries, is made known to us
by others within those entities, particularly during the
period in which this annual report is being prepared;
e) evaluated the effectiveness of the registrant's disclosure
controls and procedures as of a date within 90 days prior to
the filing date of this annual report (the "Evaluation Date");
and
f) presented in this annual report our conclusions about the
effectiveness of the disclosure controls and procedures based
on our evaluation as of the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on our
most recent evaluation, to the registrant's auditors and the audit committee of
the registrant's board of directors (or persons performing the equivalent
functions):
c) all significant deficiencies in the design or operation of
internal controls which could adversely affect the
registrant's ability to record, process, summarize and report
financial data and have identified for the registrant's
auditors any material weaknesses in internal controls; and
d) any fraud, whether or not material, that involves management
or other employees who have a significant role in the
registrant's internal controls; and
29
6. The registrant's other certifying officers and I have indicated in this
annual report whether there were significant changes in internal controls or in
other factors that could significantly affect internal controls subsequent to
the date of our most recent evaluation, including any corrective actions with
regard to significant deficiencies and material weaknesses.
Date: April 18, 2003
/s/ Trey Stafford
----------------------------------------
Chief Financial and Accounting Officer
30
SBM Certificate Company and Subsidiary
TABLE OF CONTENTS
PAGE
INDEPENDENT AUDITORS' REPORT F-02
FINANCIAL STATEMENTS
CONSOLIDATING BALANCE SHEETS F-03
CONSOLIDATING STATEMENTS OF OPERATIONS F-05
CONSOLIDATING STATEMENTS OF SHAREHOLDER'S EQUITY F-08
CONSOLIDATING STATEMENTS OF CASH FLOWS F-09
NOTES TO CONSOLIDATING FINANCIAL STATEMENTS F-13
SUPPLEMENTAL SCHEDULES
SCHEDULE I - INVESTMENTS IN SECURITIES OF UNAFFILIATED
ISSUERS S-01
SCHEDULE II - INVESTMENTS IN ADVANCES TO AFFILIATES
AND INCOME THEREON S-03
SCHEDULE III - MORTGAGE LOANS ON REAL ESTATE AND
INTEREST EARNED ON MORTGAGES S-04
SCHEDULE IV - REAL ESTATE OWNED AND RENTAL INCOME S-05
SCHEDULE V - QUALIFIED ASSETS ON DEPOSIT S-06
SCHEDULE VI - CERTIFICATE RESERVES S-07
SCHEDULE VII - VALUATION AND QUALIFYING ACCOUNTS S-13
Schedules required by Article 6 of Regulation S-X other than those listed are
omitted because they are not required, are not applicable, or equivalent
information has been included in the financial statements and notes thereto, or
elsewhere herein.
F-01
INDEPENDENT AUDITORS' REPORT
To the Board of Directors
SBM Certificate Company
We have audited the accompanying consolidating balance sheets of SBM
Certificate Company and Subsidiary as of December 31, 2002 and 2001, and the
related consolidating statements of operations, shareholder's equity, and cash
flows for the years ended December 31, 2002, 2001 and 2000. These consolidating
financial statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these consolidating financial
statements based on our audits.
We conducted our audit in accordance with auditing standards generally
accepted in the United States of America. 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 consolidating financial statements referred to above
present fairly, in all material respects, the financial position of SBM
Certificate Company and Subsidiary at December 31, 2002 and 2001, and the
results of their operations and their cash flows for the years ended December
31, 2002, 2001 and 2000, in conformity with accounting principles generally
accepted in the United States of America. Also, in our opinion, the supplemental
financial statement schedules, when considered in relation to the basic
consolidating financial statements taken as a whole, present fairly in all
material respects the information set forth therein.
The accompanying financial statements have been prepared assuming that the
Company will continue as a going concern. As discussed above and in Note O to
the financial statements, the Parent company of SBM Certificate Company (1st
Atlantic Guaranty Corporation) is subject to certain SEC regulatory matters
relating to its reserve requirements and transfers of assets to SBM Certificate
Company. These regulatory matters raise substantial doubt about the Company's
ability to continue as a going concern. As more fully described in Note O, the
Company is actively seeking a buyer to purchase the stock of the Parent Company
and to resolve the regulatory matters. The financial statements do not include
any adjustments that might result from the outcome of this uncertainty.
/s/ Reznick Fedder & Silverman
Bethesda, Maryland
February 28, 2002
F-02
SBM Certificate Company and Subsidiary
CONSOLIDATING BALANCE SHEET
December 31, 2002
Atlantic
SBM Certificate Capital Eliminating
Company Funding Corp. Entries Totals
--------------- ------------- ----------- ------------
Qualified assets
Cash and investments
Available-for-sale securities
(amortized cost: $11,245,510) $ 9,190,162 $ -- $ -- $ 9,190,162
Mortgage notes held for sale 7,124,110 6,039,718 -- 13,163,828
Warehouse line of credit receivable 3,008,900 -- (3,008,900) --
Real estate tax lien certificates 1,632,437 -- -- 1,632,437
Residual mortgage certificate 4,038,607 -- -- 4,038,607
Real estate owned 2,188,092 459,003 -- 2,647,095
Escrows 100,000 -- -- 100,000
Certificate loans 77,462 -- -- 77,462
Cash and cash equivalents 1,888,269 342,617 -- 2,230,886
------------ ----------- ----------- ------------
Total cash and investments 29,248,039 6,841,338 (3,008,900) 33,080,477
------------ ----------- ----------- ------------
Receivables
Dividends and interest 360,801 33,948 -- 394,749
------------ ----------- ----------- ------------
Total receivables 360,801 33,948 -- 394,749
------------ ----------- ----------- ------------
Total qualified assets 29,608,840 6,875,286 (3,008,900) 33,475,226
Other assets
Related party receivable 105,000 51,491 (27,140) 129,351
Fixed assets, net of accumulated depreciation
of $38,180 and $7,954 169,834 45,583 -- 215,417
Investment in subsidiary 1,188,857 -- (1,188,857) --
Goodwill 591,463 -- -- 591,463
Deferred acquisition costs, net 581,534 -- -- 581,534
Due from shareholder 1,218,181 -- -- 1,218,181
Allowance - due from shareholder (1,218,181) -- -- (1,218,181)
Other assets 108,923 13,146 -- 122,069
------------ ----------- ----------- ------------
Total assets $ 32,354,451 $ 6,985,506 $(4,224,897) $ 35,115,060
============ =========== =========== ============
Liabilities
Statutory certificate liability $ 31,418,457 $ -- $ -- $ 31,418,457
Additional certificate liability 1,770,369 -- -- 1,770,369
Warehouse line of credit -- 5,551,500 (3,008,900) 2,542,600
Deferred revenue 1,640,425 -- -- 1,640,425
Real estate liabilities 870,317 -- -- 870,317
Accounts payable and other liabilities 208,457 127,425 -- 335,882
Related party payable 27,341 117,724 (27,140) 117,925
------------ ----------- ----------- ------------
Total liabilities 35,935,366 5,796,649 (3,036,040) 38,695,975
------------ ----------- ----------- ------------
Shareholder's equity (deficit)
Common stock, $1 par value; 10,000,000 shares
authorized; 250,000 shares issued and outstanding 250,000 -- -- 250,000
Common stock, $2 par value; 10,000 shares
authorized; 10,000 shares issued and outstanding -- 20,000 (20,000) --
Additional paid-in capital 3,861,818 1,621,481 (1,621,481) 3,861,818
Accumulated comprehensive income (loss), net of taxes (2,055,348) -- -- (2,055,348)
Accumulated deficit (5,637,385) (452,624) 452,624 (5,637,385)
------------ ----------- ----------- ------------
Total shareholder's equity (deficit) (3,580,915) 1,188,857 (1,188,857) (3,580,915)
------------ ----------- ----------- ------------
Total liabilities and shareholder's
equity (deficit) $ 32,354,451 $ 6,985,506 $(4,224,897) $ 35,115,060
============ =========== =========== ============
See accompanying summary of accounting policies and notes to consolidating
financial statements
F-03
SBM Certificate Company and Subsidiary
CONSOLIDATING BALANCE SHEET
December 31, 2001
Atlantic
SBM Certificate Capital Eliminating
Company Funding Corp. Entries Totals
--------------- ------------- ----------- ------------
Qualified assets
Cash and investments
Available-for-sale securities
(amortized cost: $6,440,016) $ 6,774,313 $ -- $ -- $ 6,774,313
Mortgage notes held for sale 4,965,696 470,422 -- 5,436,118
Mortgage notes held for investment 378,750 352,732 -- 731,482
Real estate tax lien certificates 2,628,528 -- -- 2,628,528
Property held for sale 419,923 -- -- 419,923
Escrows 608,037 -- -- 608,037
Certificate loans 98,137 -- -- 98,137
Cash and cash equivalents 4,676,654 861,440 -- 5,538,094
------------ ----------- ----------- ------------
Total cash and investments 20,550,038 1,684,594 -- 22,234,632
------------ ----------- ----------- ------------
Receivables
Dividends and interest 369,046 3,848 -- 372,894
------------ ----------- ----------- ------------
Total receivables 369,046 3,848 -- 372,894
------------ ----------- ----------- ------------
Total qualified assets 20,919,084 1,688,442 -- 22,607,526
Other assets
Related party receivable 80,608 16,744 (49,565) 47,787
Fixed assets, net of accumulated depreciation
of $20,116 and $541 185,788 18,818 -- 204,606
Investment in subsidiary 1,619,007 -- (1,619,007) --
Goodwill, net of accumulated amortization of $61,686 591,463 -- -- 591,463
Deferred acquisition costs 420,093 -- -- 420,093
Due from shareholder 812,218 -- -- 812,218
Allowance - due from shareholder (812,218) -- -- (812,218)
Other assets 5,815 3,404 -- 9,219
------------ ----------- ----------- ------------
Total assets $ 23,821,858 $ 1,727,408 $(1,668,572) $ 23,880,694
============ =========== =========== ============
Liabilities
Statutory certificate liability $ 21,311,350 $ -- $ -- $ 21,311,350
Additional certificate liability 2,509,700 -- -- 2,509,700
Accounts payable and other liabilities 270,881 36,582 -- 307,463
Related party payable 957 71,819 (49,565) 23,211
------------ ----------- ----------- ------------
Total liabilities 24,092,888 108,401 (49,565) 24,151,724
------------ ----------- ----------- ------------
Shareholder's equity (deficit)
Common stock, $1 par value; 10,000,000 shares
authorized; 250,000 shares issued and outstanding 250,000 -- -- 250,000
Common stock, $2 par value; 10,000 shares
authorized; 10,000 shares issued and outstanding -- 20,000 (20,000) --
Additional paid-in capital 3,222,591 1,621,481 (1,621,481) 3,222,591
Accumulated comprehensive income, net of taxes 217,448 -- -- 217,448
Accumulated deficit (3,961,069) (22,474) 22,474 (3,961,069)
------------ ----------- ----------- ------------
Total shareholder's equity (deficit) (271,030) 1,619,007 (1,619,007) (271,030)
------------ ----------- ----------- ------------
Total liabilities and shareholder's
equity (deficit) $ 23,821,858 $ 1,727,408 $(1,668,572) $ 23,880,694
============ =========== =========== ============
See accompanying summary of accounting policies and notes to consolidating
financial statements
F-04
SBM Certificate Company and Subsidiary
CONSOLIDATING STATEMENT OF OPERATIONS
Year ended December 31, 2002
Atlantic
SBM Certificate Capital Eliminating
Company Funding Corp. Entries Totals
--------------- ------------- ----------- -----------
Investment income
Interest and dividend income $ 594,509 $ 5,760 $ -- $ 600,269
Other investment income 46,490 13,613 -- 60,103
Income from investment in subsidiary 190,350 -- (190,350) --
Loan fee income 128,084 -- 128,084
Mortgage interest income 1,589,811 149,457 (89,221) 1,650,047
----------- ---------- --------- -----------
Total investment income 2,549,244 168,830 (279,571) 2,438,503
----------- ---------- --------- -----------
Investment and other expenses
Administrative services fee 1,794,700 -- -- 1,794,700
Legal fees 308,216 -- -- 308,216
Advertising and marketing 361,739 -- -- 361,739
Deferred acquisition cost amortization and
renewal commissions 165,522 -- -- 165,522
Depreciation expense 18,063 7,413 -- 25,476
Other expenses 294,754 -- -- 294,754
----------- ---------- --------- -----------
Total investment and other expenses 2,942,994 7,413 -- 2,950,407
----------- ---------- --------- -----------
Interest credited on certificate liability 1,349,324 -- -- 1,349,324
----------- ---------- --------- -----------
Net investment income (loss) before income taxes (1,743,074) 161,417 (279,571) (1,861,228)
----------- ---------- --------- -----------
Other operating income
Origination fee income -- 435,561 -- 435,561
Gain on sale to investor -- 1,467,825 -- 1,467,825
Other loan fee income -- 358,415 -- 358,415
----------- ---------- --------- -----------
Total other operating income -- 2,261,801 -- 2,261,801
----------- ---------- --------- -----------
Other operating expenses
Salaries and commissions -- 1,620,017 -- 1,620,017
Other expenses -- 507,460 -- 507,460
Warehouse interest expense and charges, net -- 105,391 (89,221) 16,170
----------- ---------- --------- -----------
Total other operating expenses -- 2,232,868 (89,221) 2,143,647
----------- ---------- --------- -----------
Net other operating income before income taxes -- 28,933 89,221 118,154
----------- ---------- --------- -----------
Net investment and other operating income
(loss) before income taxes (1,743,074) 190,350 (190,350) (1,743,074)
Income tax expense -- -- -- --
----------- ---------- --------- -----------
Net investment and other operating income (loss) (1,743,074) 190,350 (190,350) (1,743,074)
----------- ---------- --------- -----------
Realized investment gains 472,721 -- -- 472,721
Income tax expense on realized investment gains -- -- -- --
----------- ---------- --------- -----------
Net realized investment gains 472,721 -- -- 472,721
----------- ---------- --------- -----------
Net operating income (loss) (1,270,353) 190,350 (190,350) (1,270,353)
----------- ---------- --------- -----------
Non operating expense:
Reserve for losses - shareholder receivable (405,963) -- -- (405,963)
----------- ---------- --------- -----------
Net income (loss) $(1,676,316) $ 190,350 $(190,350) $(1,676,316)
=========== ========== ========= ===========
See accompanying summary of accounting policies and notes to consolidating
financial statements
F-05
SBM Certificate Company and Subsidiary
CONSOLIDATING STATEMENT OF OPERATIONS
Year ended December 31, 2001
Atlantic
SBM Certificate Capital Eliminating
Company Funding Corp. Entries Totals
--------------- ------------- ----------- -----------
Investment income
Interest and dividend income $ 910,395 $ 39,653 $ -- $ 950,048
Other investment income 10,060 -- -- 10,060
Loss from investment in subsidiary (21,475) -- 21,475 --
Mortgage interest income 647,200 7,820 -- 655,020
----------- --------- ------- -----------
Total investment income 1,546,180 47,473 21,475 1,615,128
----------- --------- ------- -----------
Investment and other expenses
Administrative services fee 1,078,839 -- -- 1,078,839
Deferred acquisition cost amortization and
renewal commissions 125,422 -- -- 125,422
Amortization of goodwill 43,543 -- -- 43,543
Depreciation expense 20,117 541 -- 20,658
Other expenses 704,864 -- -- 704,864
----------- --------- ------- -----------
Total investment and other expenses 1,972,785 541 -- 1,973,326
----------- --------- ------- -----------
Interest credited on certificate liability 1,172,552 -- -- 1,172,552
----------- --------- ------- -----------
Net investment income (loss) before income taxes (1,599,157) 46,932 21,475 (1,530,750)
----------- --------- ------- -----------
Other operating income
Origination fee income 30,366 421,449 -- 451,815
Gain on sale to investor -- 378,034 -- 378,034
Other loan fee income -- 67,418 -- 67,418
----------- --------- ------- -----------
Total other operating income 30,366 866,901 -- 897,267
----------- --------- ------- -----------
Other operating expenses
Salaries and commissions -- 651,311 -- 651,311
Other expenses -- 283,997 -- 283,997
----------- --------- ------- -----------
Total other operating expenses -- 935,308 -- 935,308
----------- --------- ------- -----------
Net other operating income (loss) before income taxes 30,366 (68,407) -- (38,041)
----------- --------- ------- -----------
Net investment and other operating loss before income taxes (1,568,791) (21,475) 21,475 (1,568,791)
Deferred income tax benefit 288,264 -- -- 288,264
----------- --------- ------- -----------
Net investment and other operating loss (1,280,527) (21,475) 21,475 (1,280,527)
----------- --------- ------- -----------
Realized investment gains 68,697 -- -- 68,697
Income tax expense on realized investment gains -- -- -- --
----------- --------- ------- -----------
Net realized investment gains 68,697 -- -- 68,697
----------- --------- ------- -----------
Net operating loss (1,211,830) (21,475) 21,475 (1,211,830)
Non operating expense:
Reserve for losses - shareholder receivable (469,982) -- -- (469,982)
----------- --------- ------- -----------
Net loss $(1,681,812) $ (21,475) $21,475 $(1,681,812)
=========== ========= ======= ===========
See accompanying summary of accounting policies and notes to consolidating
financial statements
F-06
SBM Certificate Company and Subsidiary
CONSOLIDATING STATEMENT OF OPERATIONS
Year ended December 31, 2000
Atlantic
SBM Certificate Capital Eliminating
Company Funding Corp. Entries Totals
--------------- ------------- ----------- -----------
Investment income
Interest and dividend income $ 1,474,281 $ -- $ -- $ 1,474,281
Other investment income 106,673 -- -- 106,673
Loss from investment in subsidiary (999) -- 999 --
Mortgage interest income 36,975 -- -- 36,975
----------- ----- ---- -----------
Total investment income 1,616,930 -- 999 1,617,929
----------- ----- ---- -----------
Investment and other expenses
Administrative services fee 180,923 -- -- 180,923
Deferred acquisition cost amortization and
renewal commissions 150,445 -- -- 150,445
Amortization of goodwill 18,143 -- -- 18,143
Other expenses 177,366 999 -- 178,365
----------- ----- ---- -----------
Total investment and other expenses 526,877 999 -- 527,876
----------- ----- ---- -----------
Interest credited on certificate liability 1,523,169 -- -- 1,523,169
----------- ----- ---- -----------
Net investment loss before income taxes (433,116) (999) 999 (433,116)
Deferred income tax benefit 621,055 -- -- 621,055
----------- ----- ---- -----------
Net investment income (loss) 187,939 (999) 999 187,939
----------- ----- ---- -----------
Realized investment losses (428,582) -- -- (428,582)
Income tax expense on realized investment losses -- -- -- --
----------- ----- ---- -----------
Net realized investment losses (428,582) -- -- (428,582)
----------- ----- ---- -----------
Net operating loss (240,643) (999) 999 (240,643)
Non operating expense:
Reserve for losses - shareholder receivable (342,236) -- -- (342,236)
----------- ----- ---- -----------
Net loss $ (582,879) $(999) $999 $ (582,879)
=========== ===== ==== ===========
See accompanying summary of accounting policies and notes to consolidating
financial statements
F-07
SBM Certificate Company and Subsidiary
CONSOLIDATING STATEMENTS OF SHAREHOLDER'S EQUITY
Years ended December 31, 2002, 2001 and 2000
SBM CERTIFICATE COMPANY*
------------------------------------------------------------------------------
Accumulated
Common Additional Other Com- Total
Stock Paid-in prehensive Accumulated Shareholder's
Shares Amount Capital Income (Loss) Deficit Equity
------ ------ ------- ------------- ------- ------
Balance at December 31, 1999 250,000 $ 250,000 $ 3,050,000 $ (825,522) $ 1,693,735 $ 4,168,213
Net loss - SBM-MN -- -- -- -- (429,447) (429,447)
Changes in net unrealized gains (losses)
on available-for-sale securities, net of tax -- -- -- 290,115 -- 290,115
-----------
Comprehensive loss (139,332)
Dividends paid -- -- -- -- (3,708,384) (3,708,384)
Sale of SBM-MN as a reverse merger
transaction (July 19, 2000) -- (250,000) (3,050,000) 535,407 2,444,096 (320,497)
-------- ----------- ----------- ----------- ----------- -----------
Balance at July 19, 2000 -- -- -- -- -- --
Issuance of common stock 250,000 250,000 -- -- -- 250,000
Additional paid-in capital -- -- 1,102,500 -- -- 1,102,500
Additional paid in capital - noncash -- -- 573,957 -- -- 573,957
Changes in net unrealized gains (losses)
on available-for-sale securities, net of tax -- -- -- 212,791 -- 212,791
Net loss since Acquisition -- -- -- -- (153,432) (153,432)
-----------
Comprehensive income 59,359
Dividends paid, net -- -- -- -- (2,805,421) (2,805,421)
Certificate liability release, net of tax -- -- -- -- 1,259,530 1,259,530
-------- ----------- ----------- ----------- ----------- -----------
Balance at December 31, 2000 250,000 250,000 1,676,457 212,791 (1,699,323) 439,925
Additional paid-in capital-noncash -- -- 1,546,134 -- -- 1,546,134
Changes in net unrealized gains (losses)
on available-for-sale securities, net of tax -- -- -- 4,657 -- 4,657
Net loss -- -- -- -- (1,681,812) (1,681,812)
-----------
Comprehensive loss (1,677,155)
Dividends paid, net -- -- -- -- (579,934) (579,934)
-------- ----------- ----------- ----------- ----------- -----------
Balance at December 31, 2001 250,000 250,000 3,222,591 217,448 (3,961,069) (271,030)
Additional paid-in capital-noncash -- -- 639,227 -- -- 639,227
Changes in net unrealized gains (losses)
on available-for-sale securities, net of tax -- -- -- (2,272,796) -- (2,272,796)
Net loss -- -- -- -- (1,676,316) (1,676,316)
-----------
Comprehensive loss (3,949,112)
Dividends paid, net -- -- -- -- -- --
-------- ----------- ----------- ----------- ----------- -----------
Balance at December 31, 2002 250,000 $ 250,000 $ 3,861,818 $(2,055,348) $(5,637,385) $(3,580,915)
======== =========== =========== =========== =========== ===========
ATLANTIC CAPITAL FUNDING CORPORATION
--------------------------------------------------------------------
Additional Total
Common Stock Paid-in Accumulated Shareholder's
Shares Amount Capital Deficit Equity
------ ------ ------- ------- ------
Balance at December 31, 1999 -- $ -- $ -- $ -- $ --
Net loss - SBM-MN -- -- -- -- --
Changes in net unrealized gains (losses)
on available-for-sale securities, net of tax -- -- -- -- --
Comprehensive loss
Dividends paid -- -- -- -- --
Sale of SBM-MN as a reverse merger
transaction (July 19, 2000) -- -- -- -- --
--------- ------- ---------- --------- -----------
Balance at July 19, 2000 -- -- -- -- --
Issuance of common stock -- -- -- -- --
Additional paid-in capital -- -- 1,000,000 -- 1,000,000
Additional paid in capital - noncash 10,000 20,000 553,957 -- 573,957
Changes in net unrealized gains (losses)
on available-for-sale securities, net of tax -- -- -- -- --
Net loss since Acquisition -- -- -- (999) (999)
Comprehensive income
Dividends paid, net -- -- -- -- --
Certificate liability release, net of tax -- -- -- -- --
--------- ------- ---------- --------- -----------
Balance at December 31, 2000 10,000 20,000 1,553,957 (999) 1,572,958
Additional paid-in capital-noncash -- -- 67,524 -- 67,524
Changes in net unrealized gains (losses)
on available-for-sale securities, net of tax -- -- -- -- --
Net loss -- -- -- (21,475) (21,475)
Comprehensive loss
Dividends paid, net -- -- -- -- --
--------- ------- ---------- --------- -----------
Balance at December 31, 2001 10,000 20,000 1,621,481 (22,474) 1,619,007
Additional paid-in capital-noncash -- -- -- -- --
Changes in net unrealized gains (losses)
on available-for-sale securities, net of tax -- -- -- -- --
Net loss -- -- -- 190,350 190,350
Comprehensive loss
Dividends paid, net -- -- -- (620,500) (620,500)
--------- ------- ---------- --------- -----------
Balance at December 31, 2002 10,000.00 $20,000 $1,621,481 $(452,624) $ 1,188,857
========= ======= ========== ========= ===========
Total
Consolidating
Eliminating Shareholder's
Entries Equity
------- ------
Balance at December 31, 1999 $ -- $ 4,168,213
Net loss - SBM-MN (429,447)
Changes in net unrealized gains (losses)
on available-for-sale securities, net of tax -- 290,115
-----------
Comprehensive loss (139,332)
Dividends paid -- (3,708,384)
Sale of SBM-MN as a reverse merger
transaction (July 19, 2000) -- (320,497)
----------- -----------
Balance at July 19, 2000 -- --
Issuance of common stock 250,000
Additional paid-in capital (1,000,000) 1,102,500
Additional paid in capital - noncash (573,957) 573,957
Changes in net unrealized gains (losses)
on available-for-sale securities, net of tax -- 212,791
Net loss since Acquisition 999 (153,432)
-----------
Comprehensive income 59,359
Dividends paid, net -- (2,805,421)
Certificate liability release, net of tax -- 1,259,530
----------- -----------
Balance at December 31, 2000 (1,572,958) 439,925
Additional paid-in capital-noncash (67,524) 1,546,134
Changes in net unrealized gains (losses)
on available-for-sale securities, net of tax -- 4,657
Net loss 21,475 (1,681,812)
-----------
Comprehensive loss (1,677,155)
Dividends paid, net -- (579,934)
----------- -----------
Balance at December 31, 2001 (1,619,007) (271,030)
Additional paid-in capital-noncash -- 639,227
Changes in net unrealized gains (losses)
on available-for-sale securities, net of tax -- (2,272,796)
Net loss (190,350) (1,676,316)
-----------
Comprehensive loss (3,949,112)
Dividends paid, net 620,500 --
----------- -----------
Balance at December 31, 2002 $(1,188,857) $(3,580,915)
=========== ===========
* On July 9, 2000 SBM Certificate Company of Maryland purchased SBM
Certificate of Minnesota (see note A)
See accompanying summary of accounting policies and notes to consolidating
financial statements
F-08
SBM Certificate Company and Subsidiary
CONSOLIDATING STATEMENT OF CASH FLOWS
Year ended December 31, 2002
Atlantic
SBM Certificate Capital Eliminating
Company Funding Corp. Entries Totals
--------------- ------------- ----------- ------------
Cash flows from operating activities
Net income (loss) $ (1,676,316) $ 190,350 $ (190,350) $ (1,676,316)
Adjustments to reconcile net income (loss) to net
cash provided by (used in) operating activities
Income from investment in subsidiary (190,350) -- 190,350 --
Interest credited on certificate liability 1,349,324 -- -- 1,349,324
Reserve for losses-shareholder receivable 405,963 -- -- 405,963
Realized investment gains (472,721) -- -- (472,721)
Deferral of revenue 698,073 -- -- 698,073
Deferral of acquisition costs (326,963) -- -- (326,963)
Amortization of deferred acquisition costs and renewal
commissions 165,522 -- -- 165,522
Depreciation 18,063 7,413 -- 25,476
Increase in mortgage notes held for sale -- (5,569,296) -- (5,569,296)
(Increase)Decrease in dividends and interest receivable 8,245 (30,100) -- (21,855)
Increase in shareholder receivable (405,963) -- -- (405,963)
Changes in other assets and liabilities (300,150) (14,012) -- (314,162)
------------ ----------- ----------- ------------
Net cash provided by (used in) operating activities (727,273) (5,415,645) -- (6,142,918)
------------ ----------- ----------- ------------
Cash flows from investing activities
Purchases of available-for-sale securities (8,895,620) -- -- (8,895,620)
Sales and redemptions of available-for-sale securities 4,679,696 -- -- 4,679,696
Warehouse line of credit fundings and repayments, net (3,008,900) -- 3,008,900 --
Purchase of mortgage notes receivable (942,340) -- -- (942,340)
Principal payments received on mortgage notes receivable 1,467,840 -- -- 1,467,840
Purchase of residual mortgage certificate (4,500,000) -- -- (4,500,000)
Principal payments received on residual mortgage certificate 461,393 -- -- 461,393
Purchase of real estate tax lien certificates (2,245,527) -- -- (2,245,527)
Proceeds from of real estate tax lien certificates 2,264,828 -- -- 2,264,828
Dividends from subsidiary 620,500 -- (620,500) --
Purchase of fixed assets (2,109) (34,178) -- (36,287)
Repayment of certificate loans, net 20,675 -- -- 20,675
------------ ----------- ----------- ------------
Net cash provided by (used in) investing activities (10,079,564) (34,178) 2,388,400 (7,725,342)
------------ ----------- ----------- ------------
Cash flows from financing activities
Amounts received from face-amount certificate holders 9,878,885 -- -- 9,878,885
Amounts paid to face-amount certificate holders (1,860,433) -- -- (1,860,433)
Warehouse line of credit borrowings, net -- 5,551,500 (3,008,900) 2,542,600
Dividends paid -- (620,500) 620,500 --
------------ ----------- ----------- ------------
Net cash provided by (used in) financing activities 8,018,452 4,931,000 (2,388,400) 10,561,052
------------ ----------- ----------- ------------
NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS (2,788,385) (518,823) -- (3,307,208)
Cash and cash equivalents, beginning 4,676,654 861,440 -- 5,538,094
------------ ----------- ----------- ------------
Cash and cash equivalents, end $ 1,888,269 $ 342,617 $ -- $ 2,230,886
============ =========== =========== ============
Cash paid for interest $ -- $ 195,186 $ -- $ --
============ =========== =========== ============
Supplemental disclosure of significant noncash investing
and financing activities:
Contribution of assets from State Bond $ 639,227 $ -- $ -- $ 639,227
============ =========== =========== ============
Transfer of mortgage note receivable to REO $ 2,188,092 $ 352,732 $ -- $ 2,540,824
============ =========== =========== ============
Sale of property for mortgage note $ 2,232,342 $ -- $ -- $ 2,232,342
============ =========== =========== ============
See accompanying summary of accounting policies and notes to consolidating
financial statements
F-09
SBM Certificate Company and Subsidiary
CONSOLIDATING STATEMENT OF CASH FLOWS
Year ended December 31, 2001
Atlantic
SBM Certificate Capital Eliminating
Company Funding Corp. Entries Totals
--------------- ------------- ----------- -----------
Cash flows from operating activities
Net loss $(1,681,812) $ (21,475) $ 21,475 $(1,681,812)
Adjustments to reconcile net loss to net
cash provided by (used in) operating activities
Loss from investment in subsidiary 21,475 -- (21,475) --
Interest credited on certificate liability 1,172,552 -- -- 1,172,552
Reserve for losses-shareholder receivable 469,982 -- -- 469,982
Realized investment gains (117,674) -- -- (117,674)
Deferred income tax benefit (239,287) -- -- (239,287)
Deferral of acquisition costs (465,079) -- -- (465,079)
Amortization of deferred acquisition costs
and renewal commissions 125,422 -- -- 125,422
Other amortization and depreciation 63,660 541 -- 64,201
Increase in dividends and interest receivable (269,625) (3,848) -- (273,473)
Changes in other assets and liabilities (246,517) 33,636 -- (212,881)
----------- ----------- -------- -----------
Net cash provided by (used in) operating activities (1,166,903) 8,854 -- (1,158,049)
----------- ----------- -------- -----------
Cash flows from investing activities
Sales and redemptions of available-for-sale securities 6,532,248 -- -- 6,532,248
Purchase of mortgage notes held for sale (3,196,222) (332,421) -- (3,528,643)
Investment in mortgage notes held for investment (15,000) -- -- (15,000)
Principal payments received on mortgage notes receivable 1,775,650 135,882 -- 1,911,532
Real estate lien certificates:
Purchases (4,145,261) -- -- (4,145,261)
Repayments of tax lien certificates 1,228,198 -- -- 1,228,198
Investment in subsidiary (67,524) -- 67,524 --
Purchase of fixed assets (137,902) (19,290) -- (157,192)
Repayment of certificate loans, net 11,932 -- -- 11,932
----------- ----------- -------- -----------
Net cash provided by (used in) investing activities 1,986,119 (215,829) 67,524 1,837,814
----------- ----------- -------- -----------
Cash flows from financing activities
Amounts paid to face-amount certificate holders (4,750,988) -- -- (4,750,988)
Amounts received from face-amount certificate holders 6,472,858 -- -- 6,472,858
Capital contributed to company -- 67,524 (67,524) --
Net dividends paid (579,934) -- -- (579,934)
----------- ----------- -------- -----------
Net cash provided by (used in) financing activities 1,141,936 67,524 (67,524) 1,141,936
----------- ----------- -------- -----------
NET INCREASE (DECREASE) IN CASH
AND CASH EQUIVALENTS 1,961,152 (139,451) -- 1,821,701
Cash and cash equivalents, beginning 2,715,502 1,000,891 -- 3,716,393
----------- ----------- -------- -----------
Cash and cash equivalents, end $ 4,676,654 $ 861,440 $ -- $ 5,538,094
=========== =========== ======== ===========
Supplemental disclosure of significant noncash investing
and financing activities:
Contribution of assets from State Bond $ 1,546,134 $ -- $ -- $ 1,546,134
=========== =========== ======== ===========
See accompanying summary of accounting policies and notes to consolidating
financial statements
F-10
SBM Certificate Company and Subsidiary
CONSOLIDATING STATEMENT OF CASH FLOWS
Year ended December 31, 2000
Atlantic
SBM Certificate Capital Eliminating
Company Funding Corp. Entries Totals
--------------- ------------- ------------ ------------
Cash flows from operating activities
Net loss $ (582,879) $ (999) $ 999 $ (582,879)
Adjustments to reconcile net loss to net
cash provided by (used in) operating activities
Loss from investment in subsidiary 999 -- (999) --
Interest credited on certificate liability 1,523,169 -- -- 1,523,169
Reserve for losses-shareholder receivable 342,236 -- -- 342,236
Realized investment losses 428,582 -- -- 428,582
Deferred income tax benefit (621,055) -- -- (621,055)
Deferral of acquisition costs (80,800) -- -- (80,800)
Amortization of deferred acquisition costs
and renewal commissions 150,445 -- -- 150,445
Other amortization and depreciation 18,947 -- -- 18,947
Decrease in dividends and interest receivable 41,252 -- -- 41,252
Changes in other assets and liabilities 375,769 1,890 -- 377,659
------------ ------------ ------------ ------------
Net cash provided by (used in)
operating activities 1,596,665 891 -- 1,597,556
------------ ------------ ------------ ------------
Cash flows from investing activities
Purchases of available-for-sale securities (263,808) -- -- (263,808)
Sales and redemptions of available-for-sale securities 6,434,532 -- -- 6,434,532
Investment in mortgage notes held for investment (375,000) -- -- (375,000)
Investment in subsidiary (1,000,000) -- 1,000,000 --
Purchase of mortgage notes held for sale (2,816,735) -- -- (2,816,735)
Cash paid for SBM (1,350,000) -- -- (1,350,000)
Purchase of computer software (68,003) -- -- (68,003)
Repayment of certificate loans, net 14,864 -- -- 14,864
------------ ------------ ------------ ------------
Net cash provided by investing activities 575,850 -- 1,000,000 1,575,850
------------ ------------ ------------ ------------
Cash flows from financing activities
Amounts paid to face-amount certificate holders (8,718,868) -- -- (8,718,868)
Proceeds from issuance of common stock 250,000 -- -- 250,000
Capital contributed to company 1,102,500 1,000,000 (1,000,000) 1,102,500
Amounts received from face-amount
certificate holders 15,681 -- -- 15,681
Net dividends paid (6,513,805) -- -- (6,513,805)
------------ ------------ ------------ ------------
Net cash provided by (used in)
financing activities (13,864,492) 1,000,000 (1,000,000) (13,864,492)
------------ ------------ ------------ ------------
NET INCREASE (DECREASE) IN CASH
AND CASH EQUIVALENTS (11,691,977) 1,000,891 -- (10,691,086)
Cash and cash equivalents, beginning 14,407,479 -- -- 14,407,479
------------ ------------ ------------ ------------
Cash and cash equivalents, end $ 2,715,502 $ 1,000,891 $ -- $ 3,716,393
============ ============ ============ ============
(continued)
F-11
SBM Certificate Company and Subsidiary
CONSOLIDATING STATEMENT OF CASH FLOWS - CONTINUED
Year ended December 31, 2000
Supplemental disclosure of significant noncash investing and
financing activities:
Release of certificate liability, net of tax $ 1,259,530
============
Acquisition of SBM-MN:
Assets acquired $ 27,390,982
Liabilities assumed (26,557,263)
Legal acquisition costs (136,868)
Goodwill 653,149
------------
Total purchase price $ 1,350,000
============
Contribution of 1st Atlantic ownership to SBM-MD $ 20,000
============
Contribution of mortgage notes from 1st Atlantic to ACFC $ 553,957
============
See accompanying summary of accounting policies and notes to consolidating
financial statements
F-12
SBM Certificate Company and Subsidiary
NOTES TO CONSOLIDATING FINANCIAL STATEMENTS
December 31, 2002, 2001, and 2000
NOTE A - ORGANIZATION AND BUSINESS
Organization and Acquisitions
SBM Certificate Company and Subsidiary (the "Company") consists of SBM
Certificate Company, a Maryland Corporation ("SBM-MD"), and Atlantic
Capital Funding Corporation, a Maryland Corporation ("ACFC"). SBM-MD was
formed on May 24, 2000 under the laws of the State of Maryland. SBM-MD is
a wholly-owned subsidiary of State Bond and Mortgage Company, LLC ("State
Bond"). 1st Atlantic Guaranty Corporation ("1st Atlantic"), a Maryland
Corporation, is the sole member of State Bond. SBM-MD is an issuer of
face-amount certificates and is registered under the Investment Company
Act of 1940 (the "1940 Act").
On July 19, 2000, State Bond completed the purchase of 100% of the issued
and outstanding shares of common stock of SBM Certificate Company, a
Minnesota Corporation ("SBM-MN") (the "Acquisition"), from ARM Financial
Group, Inc. ("ARM"), a Delaware corporation. SBM-MN was a wholly-owned
subsidiary of ARM and an issuer of face-amount certificates under the 1940
Act.
State Bond effected the Acquisition as assignee under a Stock Purchase
Agreement, dated March 28, 2000, by and among 1st Atlantic, SBM-MN and
ARM. State Bond is a 100% owned subsidiary of 1st Atlantic.
The Stock Purchase Agreement provided for a purchase price of $1,400,000,
which allowed for an adjustment to the purchase price based on actual
asset values at the date of the Acquisition. As a result, the purchase
price was reduced to $1,350,000, of which $950,000 was paid directly to
ARM and $400,000 was held by an escrow agent as security for certain
post-closing obligations and liabilities of ARM under the Stock Purchase
Agreement. In October 2001, a final settlement was reached with ARM
relating to these post-closing obligations, whereby, the Company received
$278,333 and the remainder of the escrow monies were released to ARM. The
transaction was accounted for as a reverse merger using the purchase
method of accounting, whereby SBM-MD became the surviving corporation.
The Acquisition was financed by a short-term bank loan made to State Bond,
in the amount of $1,500,000. The loan provided for a floating and
fluctuating rate of interest equal to the prime rate. State Bond's
President, his wife and other officers also personally guaranteed this
loan.
On July 19, 2000, upon completion of the Acquisition, SBM-MD declared and
paid a cash dividend in the amount of $1,500,000 to its parent, State
Bond, which used these proceeds to repay the bank borrowing described
above. Immediately prior to the closing of the sale,
F-13
SBM Certificate Company and Subsidiary
NOTES TO CONSOLIDATING FINANCIAL STATEMENTS - CONTINUED
December 31, 2002, 2001, and 2000
NOTE A - ORGANIZATION AND BUSINESS (Continued)
Organization and Acquisitions (Continued)
SBM-MN paid a dividend to ARM in an amount equal to SBM-MN's shareholders'
equity less (i) $450,000 and (ii) estimated deferred acquisition cost net
of income taxes. The dividend, totaling $3,708,384, was in the form of a
transfer of certain securities, in-kind, and the balance, in cash and cash
equivalents.
As a result of the Acquisition transactions, SBM-MD has succeeded SBM-MN
as the "registrant" in all filings made by SBM-MN under the Securities Act
of 1933, Securities Exchange Act of 1934 and the 1940 Act.
On December 17, 2000, 1st Atlantic contributed its 100% ownership interest
in ACFC by assigning its 10,000 shares of ACFC common stock to SBM-MD,
along with two mortgage notes (the "Contribution"). The Contribution
resulted in additional paid-in capital to SBM-MD for the investment in
ACFC, which totaled $573,957. SBM-MD also invested $1 million into ACFC on
this date. ACFC was formed under the laws of the State of Maryland on
March 27, 1997 and is a wholly-owned subsidiary of SBM-MD.
Nature of Operations
SBM-MD is engaged in the business of issuing and servicing face-amount
certificates. A face-amount certificate is an obligation of the issuer to
pay a face, or principal amount, plus specified interest, to the holder of
the certificate. Under the certificates, the face-amount may be paid at
the end of a certificate's Guarantee Period or at its Maturity Date.
Lesser amounts are paid at such times if all or part of an investment in
the Certificate is withdrawn prior to maturity or the end of any Guarantee
Period. Interest, as described above, may be paid quarterly or annually,
or compounded.
The Company offers various series of single-payment investment
certificates. The Company's face-amount certificate operations include
issuance of single-payment certificates and the servicing of outstanding
single-payment and installment certificates, the investment of related
funds, and other related service activities.
ACFC is a mortgage broker and lender that originates residential and
commercial loans.
F-14
SBM Certificate Company and Subsidiary
NOTES TO CONSOLIDATING FINANCIAL STATEMENTS - CONTINUED
December 31, 2002, 2001, and 2000
NOTE B - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation
The preparation of consolidating financial statements in conformity with
accounting principles generally accepted in the United States of America
requires management to make estimates and assumptions that affect the
reported amounts of assets and liabilities and contingent assets and
liabilities at the date of the financial statements and the reported amounts
of income and expenses during the reporting period. Actual results could
differ from those estimates.
Principles of Consolidating
The consolidating financial statements include the accounts of SBM-MD and
its wholly-owned subsidiary, ACFC. All significant intercompany balances and
transactions have been eliminated.
Reclassification
Certain balances on the December 31, 2001 and 2000 Statements of Operations
have been reclassified to conform to the December 31, 2002 financial
statement presentation.
Cash and Available-for-Sale Securities
Fixed maturities and equity securities are classified as available-for-sale.
Available-for-sale securities are stated at fair value, with the unrealized
gains and losses, net of taxes, reported as a separate component of
shareholder's equity in accordance with Statement of Financial Accounting
Standards ("SFAS") No. 115, "Accounting for Certain Investments in Debt and
Equity Securities." The amortized cost of fixed maturities classified as
available-for-sale is adjusted for amortization of premiums and accretion of
discounts to maturity, or in the case of mortgage-backed securities, over
the estimated life of the security. Such amortization or accretion is
computed using the interest method and is included in investment income.
Anticipated prepayments on mortgage-backed securities are considered in
determining the effective yield on such securities. If a difference arises
between anticipated and actual prepayments, the carrying value of the
investment is adjusted with a corresponding charge or credit to investment
income. Interest and dividends are included in investment income.
F-15
SBM Certificate Company and Subsidiary
NOTES TO CONSOLIDATING FINANCIAL STATEMENTS - CONTINUED
December 31, 2002, 2001, and 2000
NOTE B - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
Cash and Available-for-Sale Securities (Continued)
Cash and cash equivalents consist of highly liquid investments with
maturities of three months or less from the time of purchase. Security
transactions are accounted for on the date the order to buy or sell is
executed. Realized gains and losses on the sale of investments are
determined based upon the specific identification method.
Mortgage Notes Held for Sale
Mortgage notes receivable held for sale are carried at the lower of cost
or market value. Loan origination fees and discount points paid by
borrowers and the incremental direct costs of originating the loans are
capitalized until the loans are sold or paid off. The market value is
determined by evaluating, on a loan by loan basis, the note receivable
expected loan payments and the market value of the real estate securing
the loan.
Mortgage Notes Held for Investment
Mortgage notes held for investment are carried at amortized cost net of
loan origination fees and discount points paid by borrowers and the
incremental direct costs of originating the loans. These fees and costs
are capitalized and amortized through maturity. If necessary, a loan loss
reserve is recognized for management's estimate of unrecoverable amounts.
Unrecoverable balances are determined by management based on an evaluation
of the borrower and the value of the real estate securing the loan.
Property Held for Sale
Property held for sale consists of a 100% beneficial interest in land and
buildings held for sale. The beneficial interest was contributed to 1st
Atlantic in a previous year and subsequently contributed to the Company by
1st Atlantic in September 2001. The Property is owned by a partnership
that is 100% owned and controlled by the shareholders of 1st Atlantic. The
property is carried at the shareholders' cost basis at the date the
beneficial interest in the property was contributed to 1st Atlantic and is
increased by the amount of expenditures subsequent to the contribution to
1st Atlantic. Additional expenditures are related to maintaining the value
of the investment in the property held for sale.
F-16
SBM Certificate Company and Subsidiary
NOTES TO CONSOLIDATING FINANCIAL STATEMENTS - CONTINUED
December 31, 2002, 2001, and 2000
NOTE B - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
Real Estate Tax Lien Certificates
Real estate tax lien certificates are investments comprised of delinquent
real estate tax bills purchased from municipalities. The investments are
secured by a first lien on the respective properties on which the tax is
owed. They are carried at cost and, if necessary, a reserve is recognized
for management's estimates of unrecoverable amounts.
Residual Mortgage Certificate
The residual mortgage certificate represents an ownership interest in a
securitization trust. The assets of the securitization trust consist of
mortgage loans secured by first liens on residential real properties
having original terms to stated maturity of not greater than 30 years.
The residual mortgage certificate represents a subordinate right to
receive excess cash flow, if any, generated by the related mortgage pool.
A holder of a residual mortgage certificate has the right to receive the
difference, if any, between the interest payments due on the mortgage
loans sold to the securitization trust and the interest payments due, at
the pass-through rates, to the holders of the pass-through certificates of
the same series, less contractual servicing fees, trustee fees and any
insurer premiums, reimbursements and other costs and expenses of
administering the securitization trust. The Company will receive cash
payments only if there are any amounts remaining following payment by the
securitization trust of all amounts owing on all other securities issued
by that securitization trust and the payment of expenses.
The excess cash flow of a securitization trust in any month is applied:
o first, to cover any losses on the mortgage loans in the
related mortgage pool;
o second, to reimburse the insurer, if any, of the related
series of pass-through certificates for amounts paid by or
otherwise owing to that insurer;
o third, to build or maintain the overcollateralization for that
securitization trust at the required level by being applied as
an accelerated payment of principal to the holders of the
pass-through certificates of the related series;
o fourth, to reimburse holders of the subordinated certificates
of the related series of pass-through certificates for unpaid
interest and for any losses previously allocated to those
certificates;
o fifth, to the related residual mortgage certificate.
F-17
SBM Certificate Company and Subsidiary
NOTES TO CONSOLIDATING FINANCIAL STATEMENTS - CONTINUED
December 31, 2002, 2001, and 2000
NOTE B - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
Residual Mortgage Certificate (Continued)
The fair value of a residual mortgage certificate is determined by using
certain assumptions regarding the underlying mortgage loans. These
estimates primarily include: future rate of prepayment, credit losses, and
the discount rate used to calculate present value. The value of the
residual mortgage certificate represents the discounted future cash flows
from such certificate based upon management's best estimate. Management
monitors the performance of the loans underlying each certificate and any
changes in the estimates and assumptions (and consequent changes in value
of the certificate) is reflected in interest income in the quarter in
which any such change in estimate is made. Although management believes
that the assumptions it uses are reasonable, there can be no assurance as
to accuracy of the assumptions or estimates. Interest is recognized based
on an effective yield over the estimated life of the certificate. Cash in
excess of the income earnings under the effective yield is deferred and
reflected as deferred revenue on the balance sheet.
Real Estate Owned
Real estate properties acquired through, or in lien of, loan foreclosure
are initially recorded at the lower of cost or market value at the date of
foreclosure. After foreclosure, valuation analyses are periodically
performed by management to determine whether subsequent write-downs to the
carrying value are necessary. Additional expenditures related to
maintaining the value of the property are capitalized to the basis of the
real estate. Real estate owned by the Company is held for sale.
Deferred Acquisition Costs
Costs of issuing new face-amount certificates, principally commissions,
have been deferred. These costs are amortized on a straight-line basis
over the initial maturity period of the certificates.
F-18
SBM Certificate Company and Subsidiary
NOTES TO CONSOLIDATING FINANCIAL STATEMENTS - CONTINUED
December 31, 2002, 2001, and 2000
NOTE B - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
Certificate Liability
Face-amount certificates issued by the Company entitle certificate
holders, who have made either single or installment payments, to receive a
definite sum of money at maturity. The certificate liability accrues
interest, and cash surrender values are less than the accumulated
certificate liability prior to maturity dates. The certificate liability
accumulation rates, cash surrender values, certificate liability and
certificate reserves, among other matters, are governed by the 1940 Act.
Following the Acquisition, a methodology for calculating the certificate
liability was adopted and implemented, whereby the certificate liability
is carried at the certificate's surrender value. This methodology is in
accordance with Section 28 of the 1940 Act. Application of this method of
calculating the liability resulted in a reduction of the certificate
liability, net of tax, of $1,259,530 at Acquisition. This amount is
reflected as an adjustment to accumulated deficit in the statement of
shareholder's equity.
Income Taxes
The Company accounts for income taxes using the asset and liability
approach, which requires the recognition of deferred tax assets and
liabilities for the expected future tax consequences of temporary
differences between the carrying and tax bases of assets and liabilities.
A valuation allowance is recorded if, based upon the evidence available,
it is more likely than not that some portion or all of the deferred tax
assets will not be realized.
Goodwill
Goodwill resulted from the Acquisition transaction. Beginning in fiscal
year 2002 with the adoption of SFAS No. 142, goodwill and intangible
assets that have indefinite useful lives will not be amortized but rather
will be tested at least annually for impairment. The Company adopted the
provisions of SFAS No. 142 on January 1, 2002.
F-19
SBM Certificate Company and Subsidiary
NOTES TO CONSOLIDATING FINANCIAL STATEMENTS - CONTINUED
December 31, 2002, 2001, and 2000
NOTE B - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (Continued)
Fixed Assets
Fixed assets are carried at cost and depreciated using the straight-line
method over the estimated useful lives of the assets.
Revenue Recognition
The Company recognizes interest and dividend income on investments and
mortgage interest income when earned on an accrual basis. Revenue earned
from the origination and brokering of loans is recognized upon the sale of
the loan to an investor or third party. Gains and losses from the sales of
investments are recognized at the date of sale of the investment.
Advertising Costs
The Company expenses the costs of advertising as incurred. Advertising
expense for the years ended December 31, 2002, 2001 and 2000 was $361,739,
$93,422 and $0, respectively.
F-20
SBM Certificate Company and Subsidiary
NOTES TO CONSOLIDATING FINANCIAL STATEMENTS - CONTINUED
December 31, 2002, 2001, and 2000
NOTE C - AVAILABLE-FOR-SALE SECURITIES
The amortized cost and estimated fair values of available-for-sale
securities were as follows:
Gross Gross
December 31, 2002 Cost Unrealized Gain Unrealized Loss Fair Value
----------- --------------- --------------- ----------
Fixed Maturities
Corporate debt securities $ 4,063,076 $ -- $ 504,361 $3,558,715
U.S. Treasury securities
and obligations of U.S.
government agencies 366,298 1,997 -- 368,295
Obligations of state and
political subdivisions 70,156 5,096 -- 75,252
----------- -------- ---------- ----------
Total fixed maturities 4,499,530 7,093 504,361 4,002,262
Equity Securities 6,745,980 -- 1,558,080 5,187,900
----------- -------- ---------- ----------
Total available-for-sale
securities $11,245,510 $ 7,093 $2,062,441 $9,190,162
=========== ======== ========== ==========
December 31, 2001
Fixed Maturities
Mortgage-backed
securities $ 2,390,095 $209,896 $ 43,772 $2,556,219
Corporate securities 3,656,575 317,534 161,888 3,812,221
U.S. Treasury securities
and obligations of U.S.
government agencies 265,110 16,420 10,747 270,783
Foreign governments --
Asset-backed securities --
Obligations of state and
political subdivisions 128,236 10,764 3,910 135,090
----------- -------- ---------- ----------
Total available-for-sale
securities $ 6,440,016 $554,614 $ 220,317 $6,774,313
=========== ======== ========== ==========
F-21
SBM Certificate Company and Subsidiary
NOTES TO CONSOLIDATING FINANCIAL STATEMENTS - CONTINUED
December 31, 2002, 2001, and 2000
NOTE C - AVAILABLE-FOR-SALE SECURITIES (Continued)
The amortized cost and estimated fair value of fixed maturity
available-for-sale securities by contractual maturity are shown below.
Expected maturities will differ from contractual maturities because
borrowers may have the right to call or repay obligations with or without
call or prepayment penalties and because mortgage-backed securities
provide for periodic payments throughout their life.
December 31, 2002 December 31, 2001
-------------------------- --------------------------
Estimated Estimated
Cost fair value Cost fair value
---------- ---------- ---------- ----------
FIXED MATURITIES
Due in one year
or less $ 780,640 $ 749,768 $ -- $ --
Due after one year
through five years 1,291,607 1,382,023 951,380 1,010,344
Due after five years
through ten years 51,360 56,735 937,420 1,028,602
Due after ten years 2,375,923 1,813,736 2,161,121 2,179,148
Mortgage-backed
securities -- -- 2,390,095 2,556,219
---------- ---------- ---------- ----------
Total fixed maturities $4,499,530 $4,002,262 $6,440,016 $6,774,313
========== ========== ========== ==========
Gains (losses) of $389,709, $64,966, and ($443,445) were realized on sales of
fixed maturities classified as available-for-sale for the years ended December
31, 2002, 2001, and 2000, respectively.
Gains of $83,012, $3,731 and $14,863 were recognized on equity securities sold
during 2002, 2001 and 2000, respectively.
F-22
SBM Certificate Company and Subsidiary
NOTES TO CONSOLIDATING FINANCIAL STATEMENTS - CONTINUED
December 31, 2002, 2001, and 2000
NOTE D - COMPREHENSIVE INCOME
Comprehensive income is the change in equity of a business enterprise
during a period from transactions and other events and circumstances from
non-owner sources, including net income and the change in unrealized gains
or losses on the Company's available-for-sale securities.
The following table shows, for available-for-sale securities, a
reconciliation of the net unrealized gain (loss) arising during the period
and the change in net unrealized gains (losses) as reported on the
accompanying consolidating statements of shareholder's equity. Amounts are
reported net of related tax.
Year Ended December 31,
--------------------------------------
2002 2001 2000
----------- -------- ---------
Net unrealized gain (loss)
arising during period on
available-for-sale securities $(1,985,559) $ 50,079 $ 221,294
Reclassification adjustment
for net realized (gains)
losses included in net
income (287,237) (45,422) (8,503)
----------- -------- ---------
Change in net unrealized gains
(losses) on available-for-
sale securities $(2,272,796) $ 4,657 $ 212,791
=========== ======== =========
F-23
SBM Certificate Company and Subsidiary
NOTES TO CONSOLIDATING FINANCIAL STATEMENTS - CONTINUED
December 31, 2002, 2001, and 2000
NOTE E - FIXED ASSETS
Fixed assets are as follows as of December 31, 2002 and 2001:
2002 2001
-------- --------
Land and building $129,887 $129,887
Furniture and fixtures 23,512 18,066
Computer equipment 108,152 77,311
-------- --------
Total cost 261,551 225,264
Less accumulated depreciation 46,134 20,658
-------- --------
$215,417 $204,606
======== ========
NOTE F - MORTGAGE NOTES HELD FOR SALE
At December 31, 2002 the Company held residential and commercial mortgage
notes receivable for sale of $13,163,828, net of capitalized origination
fees of $153,509 and deferred direct loan costs of $48,204. Mortgage notes
held for sale totaling $5,568,543 have purchase commitments from investors
and in 2003 the Company sold these mortgage notes. As a result of the sale
of these mortgage notes, the Company received funds totaling $5,635,891
from the sale, recognized income in the amount of $67,438, and repaid
borrowings from the warehouse lines of credit of $5,551,500. The remaining
$7,595,285 of mortgage notes held for sale do not have purchase
commitments from investors, but our intention is to sell the notes to a
buyer under certain favorable market conditions. At December 31, 2001, the
Company held residential and commercial mortgage notes receivable for sale
of $5,436,118, net of capitalized origination fees of $214,012 and
deferred direct loan costs of $9,834. The notes accrue interest at rates
ranging from 5.25% to 14.5%, are secured by real property and have
maturity dates through February 2032.
F-24
SBM Certificate Company and Subsidiary
NOTES TO CONSOLIDATING FINANCIAL STATEMENTS - CONTINUED
December 31, 2002, 2001, and 2000
NOTE G - MORTGAGE NOTES HELD FOR INVESTMENT
The Company held two mortgage notes receivable as of December 31, 2001 and
2000 as long-term investments. During 2002, one of the mortgage notes with
a carrying value of $378,750 was repaid in full. The other mortgage note
with a carrying value of $352,732 was foreclosed on and is now classified
as real estate owned. As of December 31, 2002, the Company had no mortgage
notes classified as held for investment.
NOTE H - WAREHOUSE FACILITIES
As part of its mortgage lender operations, ACFC has established warehouse
lines of credit . The warehouse facilities provide funds to ACFC to
purchase mortgage notes in connection with ACFC's mortgage lender
operations.
SBM Certificate Company
A warehouse line of credit was established on May 21, 2002 between SBM and
ACFC. The available line of credit is for an amount up to $4,500,000.
Interest is payable at the Wall Street Journal's Prime plus 2% (prime was
4.25% at December 31, 2002). Borrowings under the line are secured by the
mortgage note receivable purchased with the funds advanced. Borrowings are
repaid to SBM when ACFC sells the loans to investors. As of December 31,
2002, the outstanding principal on the line of credit is $3,008,900.
Mortgage notes receivable held for sale with an aggregate carrying value
of $3,021,233 are collateral for the line of credit.
Provident Bank
ACFC established a warehouse line of credit with Provident Bank for an
amount up to $6,000,000. Interest is payable at the earlier of 45 days
from when funded or when the mortgage notes are sold. Interest is payable
at the 30-day LIBOR Rate plus 2% (30-day LIBOR Rate was 1.38% at December
31, 2002). As of December 31, 2002, the outstanding balance of this
warehouse line of credit is $2,542,600, which is secured by mortgage notes
held for sale with an aggregate carrying value of $2,547,954.
F-25
SBM Certificate Company and Subsidiary
NOTES TO CONSOLIDATING FINANCIAL STATEMENTS - CONTINUED
December 31, 2002, 2001, and 2000
NOTE I - REAL ESTATE TAX LIEN CERTIFICATES
The Company held investments in real estate tax lien certificates at
December 31, 2002 in the amount of $1,632,437. These certificates are
purchased at a premium and interest is earned based on a fixed rate of 20%
on the outstanding taxes owed. Interest income on these investments for
the year ended December 31, 2002 was $259,768 and accrued interest at
December 31, 2002 was $195,877. The Company recovers the cost of its
investment plus unpaid accrued interest from pass through payments from
the municipality, which receives payments directly from the taxpayers. The
Company may also recover the cost of its investment plus accrued interest
by exercising its rights to foreclose on the underlying properties within
a two-year period from the date of investment purchase.
NOTE J - RESIDUAL MORTGAGE CERTIFICATE
The Company holds a residual mortgage certificate in the amount of
$4,038,607 as of December 31, 2002. The fair value of the investment
represents the discounted cash flows the Company expects to receive in the
future from the investment based on management's best estimate. The
primary factors in determining future cash flows are future rate of
prepayment of the mortgage loans in the securitization trust, credit
losses on these mortgage loans, the unpaid principal balance of the
mortgage loans, and the discount rate used to calculate present value.
Interest income from the residual mortgage certificate for the year ended
December 31, 2002 was $501,174. Interest is calculated based on the
Company's estimates of the effective yield of the investment. Factors in
determining the effective yield include the weighted average coupon rate
of the underlying mortgage notes, the interest rate of the pass-through
certificates in the securitization trust, and the rate of default on
interest payments. Cash received from the securitization trust in excess
of the estimated effective yield is recorded as deferred revenue. As of
December 31, 2002, the Company has $698,073 of deferred revenue relating
to the residual mortgage certificate.
NOTE K - REAL ESTATE OWNED
As of December 31, 2002, the Company has real estate owned consisting of
two properties with a total carrying value of $2,647,095. These properties
are held for sale.
F-26
SBM Certificate Company and Subsidiary
NOTES TO CONSOLIDATING FINANCIAL STATEMENTS - CONTINUED
December 31, 2002, 2001, and 2000
NOTE L - PROPERTY HELD FOR SALE
On September 30, 2001, State Bond through its sole member, 1st Atlantic,
contributed beneficial interest in a property consisting of land and
building held for sale as addition paid in capital to the Company which
totaled $410,087 at the date of contribution to the Company. The basis in
the property at the contribution date is the original cost basis of the
shareholders of 1st Atlantic at the date of the original contribution to
1st Atlantic (September 30, 1998), increased for the expenditures made by
1st Atlantic and subsequently by the Company in connection with the
investment in the property held for sale. As of December 31, 2001, the
carrying amount of the property is $419,923.
On December 31, 2002, the Company closed on a contract to an unrelated
third party for the sale of this property, which had a carrying value of
$524,648 at December 31, 2002. Under the terms of the contract, the sales
price was $2,332,000. Proceeds were received in the form of mortgage notes
of $1,742,000 and $490,000 and cash held in an escrow in the amount of
$100,000. In connection with the sale, the Company expects to pay
approximately $865,000 for real estate tax liens and other costs in 2003.
This amount has been accrued as a real estate liability at December 31,
2002. In addition, the gain on the sale of the property of $942,352 has
not been realized and is classified as deferred revenue as of December 31,
2002 in accordance with SFAS 66, "Accounting for Sales of Real Estate."
The gain will be recognized under the installment method as cash is
received in accordance with SFAS 66. The mortgage notes mature on March
31, 2003, but have an option to be extended through December 31, 2003.
NOTE M - GOODWILL
In accordance with SFAS 142, the Company ceased amortizing goodwill, which
totaled $591,463 as of January 1, 2002, and there was no charge to
goodwill as a result of the implementation of SFAS 142. The goodwill was
initially derived from the Acquisition.
NOTE N - DUE FROM SHAREHOLDER
During 2002, members of management of the Company discovered facts
regarding several transactions which raised concerns that certain conduct
by the Company's Chairman of the Board and Chief Executive Officer, John
J. Lawbaugh, failed to comply with provisions of the 1940 Act prohibiting
transactions with affiliated persons of registered investment companies,
caused the Company to fail to comply with disclosure requirements of the
Securities Act of 1933 and the Securities Exchange Act of 1934, and
diverted cash assets of
F-27
SBM Certificate Company and Subsidiary
NOTES TO CONSOLIDATING FINANCIAL STATEMENTS - CONTINUED
December 31, 2002, 2001, and 2000
NOTE N - DUE FROM SHAREHOLDER (Continued)
the Company during 2000, 2001, and 2002 to himself directly or indirectly
in the amount of approximately $1,769,000, of which $900,000 was repaid by
him to the Company.
As a result, on August 16, 2002, the Board of Directors removed Mr.
Lawbaugh from his position as Chairman of the Board and Chief Executive
Officer and suspended his authority to act for or bind the Company with
respect to any transactions. The Company filed its Form 8-K, Current
Report dated October 3, 2002, with the SEC on October 4, 2002. The Form
8-K summarizes the nature of the transactions and discusses various
related matters. The financial statements for 2001 and 2000 were reissued
to give effect to the transactions discussed below in the financial
statements of the respective years.
Due from shareholder represents amounts paid to John J. Lawbaugh, directly
or through companies affiliated with Mr. Lawbaugh and other costs incurred
by the Company as a result of these transactions. As of December 31, 2002,
and 2001, these amounts totaled $1,218,181 and $812,218, respectively. An
allowance for uncollectible amounts due from shareholder has been recorded
for the full amount due with a corresponding charge to operations. As of
December 31, 2002, and 2001, the allowance totaled $1,218,181, and
$812,218, respectively.
Due from shareholder consists of the following transactions:
(a) During 2002, origination and other fees totaling $56,700 were paid
to other entities controlled by Mr. Lawbaugh with respect to two
loans held by the Company. $16,500 was previously recorded in the
mortgage notes receivable balance and was adjusted as a reduction of
the mortgage notes held for sale and a corresponding amount due from
shareholder. The remaining $40,200 was credited to income and a
corresponding amount due from shareholder.
(b) During 2001, origination and other fees totaling $154,952 were paid
to other entities controlled by Mr. Lawbaugh with respect to two
loans originated by the Company. The amounts were previously
recorded in the mortgage notes receivable balance and are adjusted
to record a reduction of the mortgage notes held for sale and a
corresponding amount due from shareholder.
F-28
SBM Certificate Company and Subsidiary
NOTES TO CONSOLIDATING FINANCIAL STATEMENTS - CONTINUED
December 31, 2002, 2001, and 2000
NOTE N - DUE FROM SHAREHOLDER (Continued)
(c) During 2001, pursuant to the instructions of Mr. Lawbaugh, a cash
payment of $84,000 was made to Mr. Lawbaugh's personal bank account
by an escrow agent from funds provided by the Company to the escrow
agent for the purchase of a mortgage note. The amounts were
previously recorded in the mortgage notes receivable balance and are
adjusted to record a reduction of the mortgage notes held for sale
and a corresponding amount due from shareholder. With respect to the
origination fees of $111,279 on one of the loans discussed in (b)
above and the $84,000 discussed in (c) above, the borrower sold the
property out of bankruptcy court to an unrelated third party in
2002. The Company entered into a new loan agreement with the
purchaser in the amount of $1,050,000. This note was subsequently
paid in full in 2003.
(d) An interest escrow account was established for the benefit of a
borrower in the amount of $42,286. This amount was funded by the
Company in connection with a mortgage loan at the closing of the
loan. Mr. Lawbaugh subsequently transferred the interest escrow
account to his personal control. The liability to the borrower was
previously omitted from the Company's financial statements and is
adjusted to record an amount due from shareholder and a
corresponding liability for the benefit of the borrower.
(e) Cash payments of $188,744 were made to a bank account controlled by
Mr. Lawbaugh in connection with the purchase of real estate tax lien
certificates held for investment by the Company. The payment was
made to an account controlled by Mr. Lawbaugh by the settlement
agent pursuant to the instructions of Mr. Lawbaugh. The amount was
previously recorded as an investment in real estate tax lien
certificates and is adjusted to record a reduction of the tax lien
certificates and a corresponding amount due from shareholder.
(f) During 2000, an escrow held by a title company in the amount of
$250,000 was transferred, pursuant to the instructions of Mr.
Lawbaugh, to a bank account controlled by Mr. Lawbaugh. The amount
was reflected as a cash escrow as of December 31, 2000 and was
adjusted to record a reduction of the escrow and a corresponding
amount due from shareholder.
(g) During 2000, origination fees totaling $42,236 with respect to two
loans originated by the Company were diverted from the Company to
bank accounts controlled by Mr. Lawbaugh. The amounts were
previously recorded in the mortgage notes receivable balance and are
adjusted to record a reduction of the mortgage notes held for sale
and mortgage notes held for investment and a corresponding amount
due from shareholder.
F-29
SBM Certificate Company and Subsidiary
NOTES TO CONSOLIDATING FINANCIAL STATEMENTS - CONTINUED
December 31, 2002, 2001, and 2000
NOTE N - DUE FROM SHAREHOLDER (Continued)
(h) During 2000, extension fees of $50,000 paid by a borrower related to
the purchase of a mortgage loan from a third party by the Company
were diverted from the Company and deposited to a bank account
controlled by Mr. Lawbaugh. An adjustment has been made to record
the fees as income to the Company during 2000 with a corresponding
amount due from shareholder.
(i) The Company has incurred legal, accounting and other costs in
connection with the above transactions. These costs total $349,263
and have been billed to Mr. Lawbaugh and recorded to due from
shareholder.
The following summarizes the impact of those transactions on the Company
for the respective periods:
YEAR ENDED YEAR ENDED YEAR ENDED
DECEMBER 31, 2002 DECEMBER 31, 2001 DECEMEBR 31, 2000 TOTAL
----------------- ----------------- ----------------- -----------
Qualified Assets $ (56,700) $(1,396,907) $(292,236) $(1,745,843)
Additional Paid in
Capital $ -- $ (707,550) $ -- $ (707,550)
Shareholder's Equity $ 265,762 $(1,146,957) $(292,236) $(1,704,955)
Net Loss $(365,763) $ (439,407) $(292,236) $(1,097,406)
NOTE O - SIGNIFICANT EVENTS
During 2002, management of the Company discovered facts that came to its
attention regarding several transactions involving the Company (See Note
N). Due to the discovery of these transactions, on August 16, 2002, the
Company's Board of Directors removed Mr. Lawbaugh from his position as
Chairman of the Board and Chief Executive Officer. The Board of Directors
also authorized an investigation to determine the scope and impact of the
transactions on the financial statements and to determine if there were
any other inappropriate transactions involving the Company. The
investigation was performed by the Company's management and overseen by
two directors and the Company's independent auditors. As a result of this
investigation, it was determined that assets of the Company were diverted
to Mr. Lawbaugh, directly or indirectly, in the amount of approximately
$1,769,000, of which $900,000 was repaid by Mr. Lawbaugh to the Company,
and certain federal securities laws were violated (See Note N).
F-30
SBM Certificate Company and Subsidiary
NOTES TO CONSOLIDATING FINANCIAL STATEMENTS - CONTINUED
December 31, 2002, 2001, and 2000
NOTE O - SIGNIFICANT EVENTS (Continued)
Based on these facts, the Company amended and restated its financial
statements for the years ended December 31, 2001 and 2000, and amended all
annual and quarterly SEC filings affected to properly disclose the nature
and affects of these transactions. Also, due to the discovery of these
transactions, the Company suspended the sale of its face-amount
certificates on August 16, 2002 and sales have not yet resumed.
On November 14, 2002, Mr. Lawbaugh entered into an Escrow Agreement with
1st Atlantic and an escrow agent, pursuant to which the shares of 1st
Atlantic common stock that Mr. Lawbaugh owns (the "Shares") have been
delivered to the escrow agent to be held pending their sale to an
independent third party which has no affiliation with Mr. Lawbaugh. Under
the terms of the Escrow Agreement, Mr. Lawbaugh relinquished his voting
rights associated with the Shares to the Board of Directors of 1st
Atlantic and agreed to an initial period of 60 days to sell his Shares.
There was an option whereby this period could have been extended by 1st
Atlantic's Board of Directors for another 30 days if Mr. Lawbaugh was
engaged in good faith efforts to sell his Shares, with any further
extensions granted at the discretion of 1st Atlantic's Board. After the
initial 60-day period, the Board of Directors did not elect to grant any
extensions. Currently, the Company is seeking a buyer of the Shares. The
Board of Directors of 1st Atlantic has full power and authority to vote
the Shares, subject to the terms of the Escrow Agreement.
Upon the sale of the Shares, cash proceeds from the sale will first be
paid to 1st Atlantic and the Company to satisfy claims by those companies
against Mr. Lawbaugh. Any proceeds remaining after the payment of such
claims shall be paid to Mr. Lawbaugh.
Pursuant to the terms of the Escrow Agreement, Mr. Lawbaugh has resigned
from the Boards of Directors of the Company and 1st Atlantic.
In October 2002, SEC staff members (the "Staff") initiated a regulatory
examination of 1st Atlantic, the Company's parent. In January 2003, the
Staff advised 1st Atlantic that it believed that the reserves required to
be maintained by 1st Atlantic under the 1940 Act to support its
outstanding face-amount certificates were inadequate. The Company
understands that the Staff's position is that certain transfers of 1st
Atlantic's assets to the Company were made without consideration resulting
in a reduction in 1st Atlantic's reserves materially below the minimum
amount required by the 1940 Act. 1st Atlantic has taken the position that
the common stock of the Company that it owns, through State Bond, and that
it owned at the time of the transfers, may be treated as a qualified asset
for purposes of the certificate reserve requirements of the 1940 Act. The
Staff disagrees with 1st Atlantic's position. On March 17,
F-31
2003, the Staff advised 1st Atlantic that if satisfactory evidence of an
imminent transaction that would restore 1st Atlantic's reserves was not
provided, the Staff would recommend to the SEC that a civil injunctive
action be brought against 1st Atlantic. Among other things, the action
would seek the appointment of a receiver for 1st Atlantic. Since March 17,
2003, the Company has attempted to negotiate a resolution with the Staff
that would avoid such an action against 1st Atlantic. Management cannot
predict the impact upon the Company of any such action that may be brought
by the SEC.
The Company has been actively seeking a buyer for Mr. Lawbaugh's shares of
1st Atlantic and a plan has been presented to the Staff whereby shares of
1st Atlantic's common stock would be purchased by an investment group that
includes the Company's President. The plan would, among other things,
provide additional capital to 1st Atlantic to address the Staff's concerns
regarding 1st Atlantic's reserve requirements. The sale of the Shares is
subject to the availability of financing being sought and the approval of
the 1st Atlantic Board of Directors, which except for one member is the
same as the Company's Board of Directors. The Company has been informed
that this plan will be submitted to the Boards of Directors for their
consideration at meetings to be held on April 24, 2003.
F-32
SBM Certificate Company and Subsidiary
NOTES TO CONSOLIDATING FINANCIAL STATEMENTS - CONTINUED
December 31, 2002, 2001, and 2000
NOTE P - CERTIFICATE LIABILITY
The Company's certificate liability consists of the statutory certificate
liability and the additional certificate liability. The statutory
certificate liability is calculated based on Section 28(a) of the 1940
Act. The Company maintains an additional certificate liability amount in
excess of the statutory liability. This additional liability plus the
statutory liability is equal to the certificates' surrender value.
The total certificate liability at December 31 is summarized as follows:
2002 2001 Average
Interest Rate
----------- ----------- --------------
Fully-paid certificates:
Single-payment series 503 $31,477,064 $22,011,880 6.19%
Installment 1,148,426 1,226,036 6.19%
Optional settlement 157,767 161,607 6.19%
----------- -----------
32,783,257 23,399,523
----------- -----------
Installment certificates:
Reserves to mature, by series
120 and 220 323,515 336,000 6.19%
315 82,054 85,527 6.19%
----------- -----------
405,569 421,527
----------- -----------
Total certificate liability $33,188,826 $23,821,050
=========== ===========
F-33
SBM Certificate Company and Subsidiary
NOTES TO CONSOLIDATING FINANCIAL STATEMENTS - CONTINUED
December 31, 2002, 2001, and 2000
NOTE Q - FAIR VALUES OF FINANCIAL INSTRUMENTS
The following disclosure of the estimated fair values of financial
instruments is made in accordance with the requirements of SFAS No. 107,
"Disclosures About Fair Value of Financial Instruments." The estimated
fair value amounts have been determined using available market information
and appropriate valuation methodologies. However, considerable judgment
was required to develop these estimates. Accordingly, the estimates are
not necessarily indicative of the amounts which could be realized in a
current market exchange. The use of different market assumptions or
estimation methodologies may have a material effect on the estimated fair
value amounts.
December 31, 2002 December 31, 2001
----------------------------- -----------------------------
Carrying Estimated Carrying Estimated
Value Fair Value Value Fair Value
----------- ----------- ----------- -----------
Assets
Available-for-sale
Securities $ 9,190,162 $ 9,190,162 $ 6,774,313 $ 6,774,313
Mortgage notes held
for sale 13,163,828 13,389,186 5,436,118 5,436,118
Mortgage notes held
for investment -- -- 731,482 731,482
Real estate tax lien
certificates 1,632,437 1,632,437 2,628,528 2,628,528
Residual mortgage
certificates 4,038,607 4,038,607 -- --
Real estate owned 2,647,095 2,805,000 -- --
Property held for sale -- -- 419,923 1,911,000
Certificate loans 77,462 77,462 98,137 98,137
Cash and cash
equivalents 2,230,886 2,230,886 5,538,094 5,538,094
Liabilities
Certificate liability 33,188,826 33,188,826 23,821,050 23,821,050
The following methods and assumptions were used in estimating fair values:
Available-for-sale Securities
Fair values for investments in securities are based on quoted market
prices, where available. For available-for-sale securities for which a
quoted market price is not available, fair values are estimated using
internally calculated estimates or quoted market prices of comparable
instruments.
F-34
SBM Certificate Company and Subsidiary
NOTES TO CONSOLIDATING FINANCIAL STATEMENTS - CONTINUED
December 31, 2002, 2001, and 2000
NOTE Q - FAIR VALUES OF FINANCIAL INSTRUMENTS (Continued)
Certificate Loans
The carrying value of certificate loans approximates their fair value.
Mortgate Notes Held for Sale
Fair value is estimated by evaluating, on a loan-by-loan basis, the note
receivable's expected loan payments and the market value of the real
estate securing the loan.
Mortgate Notes Held for Investment
Estimated fair value of mortgage notes held for investment approximates
their carrying value.
Real Estate Tax Lien Certificates
Estimated fair value of real estate tax lien certificates approximates
their carrying value.
Residual Mortgage Certificate
Estimated fair value of the residual mortgage certificate approximates its
carrying value.
Real Estate Owned
Fair value is estimated based on the appraised market value of the real
estate.
Property Held for Sale
Estimated fair value of property held for sale is based on a contract for
the sale of the property to an unrelated third party.
Cash and Cash Equivalents
The carrying amounts of cash and cash equivalents approximate their fair
value given the short-term nature of these assets.
Certificate Liability
The fair value and carrying value of the certificate liability is based on
the surrender value of the applicable certificate prospectus.
F-35
SBM Certificate Company and Subsidiary
NOTES TO CONSOLIDATING FINANCIAL STATEMENTS - CONTINUED
December 31, 2002, 2001, and 2000
NOTE R - INCOME TAXES
Deferred income taxes reflect the net tax effects of (i) temporary
differences between the carrying amounts of assets and liabilities for
financial reporting purposes and the amounts used for income tax purposes,
and (ii) operating and capital losses. Significant components of the
deferred tax liabilities and assets as of December 31, 2002 and 2001 were:
2002 2001
----------- -----------
Deferred tax liabilities
Net unrealized gains on available-for-sale
securities $ -- $ 116,849
Certificate liability 859,894 640,269
----------- -----------
Total deferred tax liabilities 859,894 757,118
----------- -----------
Deferred tax assets
Investments -- 185,644
Mortgage notes 74,131 --
Capital loss carryover 218,026 381,925
Net operating loss carryforward 2,086,460 967,671
----------- -----------
Total deferred tax assets 2,378,617 1,535,240
Valuation allowance for deferred tax assets (1,518,723) (778,122)
----------- -----------
Net deferred tax assets 859,894 757,118
----------- -----------
Deferred tax liabilities shown on the
accompanying balance sheets $ -- $ --
=========== ===========
In 2002 and 2001, the Company has provided a valuation allowance for
deferred tax assets for net operating loss carryforwards and capital loss
carryforwards in which realization of these future benefits cannot be
reasonably assured as a result of recurring operating losses and the
uncertainty of the Company's ability to realize the capital loss
carryforwards. If the Company has capital gains, these capital loss
carryforwards would be available to offset such gain, subject to certain
limitations. If the Company achieves profitability, these deferred tax
assets would be available to offset future income tax liabilities and
expense, subject to certain limitations.
F-36
SBM Certificate Company and Subsidiary
NOTES TO CONSOLIDATING FINANCIAL STATEMENTS - CONTINUED
December 31, 2002, 2001, and 2000
NOTE R - INCOME TAXES (Continued)
At December 31, 2002 and 2001, the Company had net operating loss
carryforwards of approximately $5,405,336 and $2,506,919, respectively,
for income tax purposes which expire in various years through 2022. The
Company had capital loss carryforwards at December 31, 2002 and 2001 of
approximately $564,833 and $988,930, respectively, which expire in various
years through 2006.
The components of the provision for federal income tax expense consist of
the following:
Year Ended December 31,
------------------------------
2002 2001 2000
----- --------- ---------
Current $ -- $ -- $ --
Deferred -- (288,264) (621,055)
----- --------- ---------
Total federal income tax benefit $ -- $(288,264) $(621,055)
===== ========= =========
Federal income tax expense differs from that computed by using the income
tax rate of 35%, as shown below.
Year Ended December 31,
-----------------------------------
2002 2001 2000
--------- --------- ---------
Income tax benefit at
statutory rate $(915,618) $(441,577) $(309,977)
State tax benefit, net of federal
tax benefit (188,510) (86,968) (24,277)
Increase in valuation allowance
related to capital loss and
NOL carryovers 740,601 571,667 206,455
Decrease in contingent tax liability -- -- --
Dividend received deduction -- -- --
Certificate liability adjustment 289,396 (287,735) (615,904)
Mortgage notes marked to market 74,131 -- 38,136
Tax-exempt interest -- (12,000) (12,000)
Other -- (31,651) 96,512
--------- --------- ---------
Total federal income tax benefit $ -- $(288,264) $(621,055)
========= ========= =========
F-37
SBM Certificate Company and Subsidiary
NOTES TO CONSOLIDATING FINANCIAL STATEMENTS - CONTINUED
December 31, 2002, 2001, and 2000
NOTE S - RELATED PARTY TRANSACTIONS
State Bond provides the Company with administrative services pursuant to
an Administrative Services Agreement. This agreement stipulates that State
Bond shall provide certain administrative and support services for the
Company. Services include use of State Bond's property and equipment,
facilities and personnel needed for SBM-MD's daily operations. For
providing such services, State Bond earns an annual fee from the Company
calculated at either 1% of the Company's average certificate liability
balances, or an amount not to exceed $2.5 million. The charge is
determined monthly by State Bond and the Company's management. During
2002, 2001 and 2000, a fee was charged totaling $1,794,700, $1,078,839 and
$112,223, respectively. Management fees paid in 2002, 2001 and 2000 were
$1,794,700, $1,119,128 and $71,934, respectively.
On September 30, 2001, State Bond contributed as additional paid in
capital a mortgage note to the Company which totaled $1,136,047 at that
date.
On September 30, 2001, State Bond through its sole member, 1st Atlantic,
contributed as additional paid in capital to the Company a beneficial
interest in a property consisting of land and building held for sale which
totaled $410,087 at the date of the contribution. The basis in the
property at the contribution date is the original cost basis of the
shareholders of 1st Atlantic at the date of the original contribution to
1st Atlantic (September 30, 1998), increased for the expenditures made by
1st Atlantic and subsequently by the Company in connection with the
investment in the property held for sale. As of December 31, 2001, the
carrying amount of the property was $419,923. On December 31, 2002, this
property was sold (See Note L).
The Company made a mortgage loan to a partnership in which an affiliate
owned a 51% interest. As of December 31, 2001, the outstanding principal
balance of the mortgage note was $378,950 and accrued interest totaled
$59,104. In April 2002, the outstanding principal balance of the mortgage
note and accrued interest was paid in full satisfaction on the receivable
in the amount of $533,120.
A director of the Company provided legal services relating to the
Acquisition and throughout 2001. Total costs for services provided during
2001 and 2000 were $8,150 and $61,960, respectively.
Due from shareholder totaling $1,218,181 represents amounts paid to John
J. Lawbaugh, the majority shareholder of 1st Atlantic, directly or through
companies affiliated with the shareholder and other costs incurred by the
Company related to those transactions. An allowance has been recorded in
the full amount due from shareholder (See Notes N and O).
F-38
SBM Certificate Company and Subsidiary
NOTES TO CONSOLIDATING FINANCIAL STATEMENTS - CONTINUED
December 31, 2002, 2001, and 2000
NOTE S - RELATED PARTY TRANSACTIONS (Continued)
Related party receivable and related party payable represents certain
advances made by the Company to affiliates and advances the Company has
received from affiliates. Most advances relate to operational
transactions. As of December 31, 2002 and 2001, related party receivables
total $129,351 and $47,787 respectively. As of December 31, 2002 and 2001,
related party payables total $117,925 and $23,211, respectively.
A warehouse line of credit has been established between SBM and ACFC (See
Note H).
NOTE T - SHAREHOLDER'S EQUITY AND REGULATORY MATTERS
The Company is subject to restrictions relating to its regulatory capital
requirements under the 1940 Act. The Company is required to establish and
maintain qualified assets (as defined in Section 28(b) of the 1940 Act)
having a value not less than the aggregate of certificate reserves (as
calculated under Section 28(a)) plus $250,000 ($31.6 million and $21.5
million at December 31, 2002 and 2001, respectively). The Company had
qualified assets (at amortized cost) of $32.3 million and $22.2 million at
those respective dates.
For purposes of determining compliance with the foregoing provisions,
qualified assets are valued in accordance with District of Columbia
Insurance Laws (the "D.C. Laws") as required by the 1940 Act. Qualified
assets for which no provision for valuation is made in the D.C. Laws are
valued in accordance with rules, regulations, or orders prescribed by the
SEC. These values are the same as the financial statement carrying values,
except that for financial statement purposes, available-for-sale
securities are carried at fair value. For qualified asset purposes,
available-for-sale securities are valued at amortized cost.
Pursuant to the required calculations of various states, the provisions of
the certificates, depository agreements, and the 1940 Act, qualified
assets of the Company were deposited with independent custodians and
invested in certain investments to meet certificate liability requirements
as of December 31, 2002 and 2001, as shown in the following table. Certain
assets on deposit are not considered qualified assets for the purposes of
this calculation because they are reserved for the repayment of existing
liabilities. Certificate loans, secured by applicable certificate
liabilities, are deducted from certificate reserves in computing deposit
requirements.
F-39
SBM Certificate Company and Subsidiary
NOTES TO CONSOLIDATING FINANCIAL STATEMENTS - CONTINUED
December 31, 2002, 2001, and 2000
NOTE T - SHAREHOLDER'S EQUITY AND REGULATORY MATTERS (Continued)
December 31,
----------------------------
2002 2001
------------ ------------
Qualified assets on deposit:
Central depositories $ 35,182,213 $ 21,904,193
State governmental authorities 270,899 270,899
------------ ------------
Total qualified assets on deposit $ 35,453,112 $ 22,175,092
Less: Qualified assets reserved by
Provident warehouse line $ (2,547,954) $ --
Less: Qualified assets reserved for
real estate liens (590,000) --
------------ ------------
Total Qualified assets $ 32,315,158 $ 22,175,092
============ ============
Certificate reserve under Section 28(a) $ 31,418,457 $ 21,311,350
Less: Certificate loans (77,462) (98,137)
Plus: Base capital requirement 250,000 250,000
------------ ------------
Required deposits $ 31,590,995 $ 20,160,120
============ ============
NOTE U - CONCENTRATIONS
During 2002, the Company had selling agreements in place with nine
broker-dealer firms to sell the face-amount certificates of the Company.
Of the Company's $9,878,885 of new certificate sales, $3,556,399, or 36%,
were sold by one broker-dealer, ARM Securities. This percentage
significantly decreased from 2001 during which 65% of sales were by ARM
Securities. During 2002, prior to the suspension of sales, the Company
executed new selling agreements and began extensive marketing to other
broker-dealers with which it had selling agreements to mitigate this
concentration.
F-40
SBM Certificate Company and Subsidiary
SUPPLEMENTAL SCHEDULES
SCHEDULE I - INVESTMENTS IN SECURITIES OF UNAFFILIATED ISSUERS
December 31, 2002
PRINCIPAL
NAME OF ISSUER AND TITLE OF ISSUE AMOUNT COST VALUE
- --------------------------------- --------- ---------- ----------
AVAILABLE-FOR-SALE SECURITIES
U.S. TREASURY SECURITIES
U.S. Treasury Note, 5.625%, due 5/15/2008 $ 50,000 $ 51,360 $ 56,735
U.S. Treasury Note, 7.25%, due 8/15/2004 200,000 213,750 218,750
---------- ----------
265,110 275,485
---------- ----------
OBLIGATIONS OF STATE AND POLITICAL
SUBDIVISIONS
Belmont County, Ohio, Sanitary Sewer District #3
Waterworks Revenue Bonds, 4.25%, due 4/01/2004 5,000 5,000 5,002
Yuba County California, Water Agency Bonds, 4%,
due 3/01/2016 75,000 65,156 70,250
---------- ----------
70,156 75,252
---------- ----------
CORPORATE DEBT SECURITIES
FINANCIAL INSTITUTIONS
Central Fidelity Cap. I, Series A, 7.18%, due 4/15/2027 950,000 926,188 868,946
Citigroup Inc., 7%, due 12/01/2025 300,000 317,250 340,731
---------- ----------
1,243,438 1,209,677
---------- ----------
PUBLIC UTILITIES
MCI Communications Corp., 7.75%, due 3/15/2024 900,000 973,619 441,000
---------- ----------
INDUSTRIAL:
USX Corp., 6.65%, due 2/1/2006 750,000 723,829 820,020
---------- ----------
CONVERTIBLE DEBT SECURITIES:
Verizon Communications Inc.,
Reverse Exchangeable Securities, Medium-Term Notes
Series A, 11.5%, due 5/22/2003 261,000 257,085 244,035
AT&T, Reverse Exchangeable Securities
Medium-Term Notes, Series A, 11.5%, due 5/27/03 25,000 21,875 19,525
Citigroup Inc., Reverse Exchangeable Securities
Medium-Term Notes, Series A, 10.5%, due 7/3/2003 293,000 293,000 286,408
The Home Depot, Inc., Reverse Exchangeable Securities
Medium-Term Notes, Series A, 11.5%, due 7/24/2003 222,000 208,680 199,800
Intel Corporation, Reverse Exchangeable Securities
Medium-Term Notes, Series A, 14%, due 3/18/02004 330,000 341,550 338,250
---------- ----------
1,122,190 1,088,018
---------- ----------
TOTAL CORPORATE DEBT SECURITIES $4,063,076 $3,558,715
---------- ----------
(continued)
S-01
SBM Certificate Company and Subsidiary
SUPPLEMENTAL SCHEDULES - CONTINUED
SCHEDULE I - INVESTMENTS IN SECURITIES OF UNAFFILIATED ISSUERS - CONTINUED
December 31, 2002
PRINCIPAL
NAME OF ISSUER AND TITLE OF ISSUE AMOUNT COST VALUE
- --------------------------------- --------- ----------- ----------
CORPORATE EQUITY SECURITIES
SPDR Trust Series 1 30,000 3,344,830 2,646,900
Diamonds Trust, Series 1 10,000 1,027,450 835,100
Nasdaq 100 Trust Shares 70,000 2,373,700 1,705,900
----------- ----------
6,745,980 5,187,900
----------- ----------
MORTGAGE-BACKED SECURITIES
Government National Mortgage Association
11.5%, due 4/15/2013 322 322 376
11.5%, due 5/15/2015 122 140 143
5.375%, due 1/20/2026 89,947 100,726 92,291
----------- ----------
101,188 92,810
----------- ----------
TOTAL AVAILABLE-FOR-SALE SECURITIES $11,245,510 $9,190,162
=========== ==========
S-02
SBM Certificate Company and Subsidiary
SUPPLEMENTAL SCHEDULES - CONTINUED
SCHEDULE II - INVESTMENTS IN AND ADVANCES TO AFFILIATES AND INCOME THEREON
Year ended December 31, 2002
AMOUNT OF DIVIDENDS OR INTEREST
----------------------------------------
CARRYING INCOME
VALUE OF FROM
PAR VALUE INVESTMENT INVESTMENT
NAME OF INVESTMENT IN NUMBER OF OF SHARES IN CREDITED TO IN SUBSIDIARY
SUBSIDIARY SHARES HELD HELD SUBSIDIARY INCOME OTHER FOR PERIOD
--------------------- ----------- --------- ---------- ----------- -------- -------------
Atlantic Capital Funding Corporation 10,000 $20,000 $1,188,857 $ -- $620,500 $190,350
======= ========== ==== ======== ========
S-03
SBM Certificate Company and Subsidiary
SUPPLEMENTAL SCHEDULES - CONTINUED
SCHEDULE III - MORTGAGE LOANS ON REAL ESTATE AND INTEREST EARNED ON MORTGAGES
Year ended December 31, 2002
AMOUNT OF PRINCIPAL UNPAID
AT CLOSE OF PERIOD
----------------------------
INTEREST INTEREST
AMOUNT OF DUE AND INCOME
CARRYING SUBJECT TO MORTGAGES ACCRUED AT EARNED
AMOUNT OF DELINQUENT BEING END OF APPLICABLE
DESCRIPTION PRIOR LIENS ASSET TOTAL INTEREST FORECLOSED PERIOD TO PERIOD
----------- ----------- ----------- ----------- ---------- ---------- ---------- ----------
LIENS ON:
RESIDENTIAL NONE $ 7,622,690 $ 7,758,923 $ 618,578 $ -- $38,773 $ 858,795
COMMERCIAL NONE 5,541,138 5,630,263 1,196,681 1,196,681 49,765 290,078
RESIDUAL MORTGAGE
CERTIFICATE NONE 4,038,607 -- -- -- -- 501,174
----------- ----------- ---------- ---------- ------- ----------
TOTAL $ -- $17,202,435 $13,389,186 $1,815,259 $1,196,681 $88,538 $1,650,047
===== =========== =========== ========== ========== ======= ==========
S-04
SBM Certificate Company and Subsidiary
SUPPLEMENTAL SCHEDULES - CONTINUED
SCHEDULE IV - REAL ESTATE OWNED AND RENTAL INCOME
December 31, 2002
Cost of Carrying Reserve for Total Rental
Property Type Encumbrances Initial Cost Improvements Value Losses Rents Due Income
------------- ------------ ------------ ------------ ---------- ----------- --------- ------------
Farms $-- $ -- $ -- $ -- $-- $-- $--
Residential -- -- -- -- -- -- --
Apartments and
business -- 330,750 128,253 459,003 -- -- --
Unimproved -- 1,831,968 356,124 2,188,092 -- -- --
--- ---------- ---------- ---------- --- --- ---
Total $-- $2,162,718 $ 484,377 $2,647,095 $-- $-- $--
=== ========== ========== ========== === === ===
Rent from properties
sold during period $-- $ -- $ -- $ -- $-- $-- $--
--- ---------- ---------- ---------- --- --- ---
Total $-- $ -- $ -- $ -- $-- $-- $--
=== ========== ========== ========== === === ===
S-05
SBM Certificate Company and Subsidiary
SUPPLEMENTAL SCHEDULES - CONTINUED
SCHEDULE V - QUALIFIED ASSETS ON DEPOSIT
December 31, 2002
FIRST
MORTGAGES
AND OTHER
INVESTMENTS FIRST LIENS
IN SECURITIES ON REAL OTHER
NAME OF DEPOSITORY CASH (a) ESTATE (b) REAL ESTATE TOTAL
------------------ ---------- ------------- ----------- -------- ----------- -----------
State governmental authorities
Securities Department of Illinois $ -- $ 265,110 $ -- $ 5,789 $ 270,899
Central depositories
US Bank 1,546,826 10,980,400 16,286,918 388,960 2,647,095 31,850,199
Provident Bank 35,909 -- 2,547,954 -- -- 2,583,863
Bank of America 514,107 -- -- -- -- 514,107
Chase Manhattan 105,031 -- -- -- -- 105,031
Chevy Chase 26,617 -- -- -- -- 26,617
National Title Corporation 100,000 -- -- -- -- 100,000
Wells Fargo 2,396 -- -- -- -- 2,396
---------- ----------- ----------- -------- ---------- -----------
Total qualified assets on deposit $2,330,886 $11,245,510 $18,834,872 $394,749 $2,647,095 $35,453,112
========== =========== =========== ======== ========== ===========
(a) Represents amortized cost of bonds and securities.
(b) Represents dividend and interest receivable on qualified assets.
S-06
SBM Certificate Company and Subsidiary
SUPPLEMENTAL SCHEDULES - CONTINUED
SCHEDULE VI - CERTIFICATE RESERVES
PART I - SUMMARY OF CHANGES
Year ended December 31, 2002
BALANCE AT BEGINNING OF YEAR
-------------------------------------
RESERVES
(INCLUDING
NUMBER OF ADVANCE
ACCOUNTS PAYMENTS
WITH AMOUNT OF WITH
YIELD SECURITY MATURITY ACCRUED
DESCRIPTION PERCENT HOLDERS VALUE INTEREST)
----------- ------- -------- ----------- -----------
Reserves to mature, installment certificates
Series 120 6.19 7 $ 40,000 $ 127,519
Series 220 6.19 13 71,000 208,481
Series 315 6.19 16 61,600 85,527
Single payment certificates
Series 503 6.19 1,348 17,840,500 17,513,457
Series 505 6.19 152 2,441,879 1,406,613
Series 507 6.19 68 798,935 531,595
Series 510 6.19 189 3,761,918 2,560,215
Fully paid installment certificates - (Paid Up Bonds) 6.19 391 2,006,476 1,226,036
Optional settlement certificates
Paid-up certificate (Special Maturity) 6.19 3 575 498
Annuities 6.19 18 161,109 161,109
Due to unlocated certificate holders -- --
----- ----------- -----------
Total 2,205 $27,183,992 $23,821,050
===== =========== ===========
Total charged to income, per above
Less reserve recoveries from terminations prior to maturity
Interest credited on certificate reserves,
per statement of operations and comprehensive income (loss)
ADDITIONS
-----------------------------------------------------
RESERVE
PAYMENTS
BY CHARGED TO
CHARGED TO CERTIFICATE OTHER
DESCRIPTION INCOME HOLDERS ACCOUNTS (a) Adjustment
----------- ----------- ---------- ------------ ----------
Reserves to mature, installment certificates
Series 120 $ 6,022 $ 1,064 $-- $ --
Series 220 10,009 2,862 -- --
Series 315 4,340 2,930 -- --
Single payment certificates
Series 503 1,011,916 4,760,455 -- 153,148
Series 505 87,064 2,000,733 -- 179,492
Series 507 26,986 485,415 -- 12,740
Series 510 148,426 2,625,426 -- 75,539
Fully paid installment certificates - (Paid Up Bonds) 59,050 -- -- 4,446
Optional settlement certificates
Paid-up certificate (Special Maturity) 12 -- -- --
Annuities 7,395 -- -- 28,512
Due to unlocated certificate holders -- -- -- --
----------- ---------- --- --------
Total $ 1,361,220 $9,878,885 $-- $453,877
=========== ========== === ========
Total charged to income, per above $ 1,361,220
Less reserve recoveries from terminations prior to maturity (11,896)
-----------
Interest credited on certificate reserves,
per statement of operations and comprehensive income (loss) $ 1,349,324
===========
(continued)
S-07
SBM Certificate Company and Subsidiary
SUPPLEMENTAL SCHEDULES - CONTINUED
SCHEDULE VI - CERTIFICATE RESERVES - CONTINUED
PART I - SUMMARY OF CHANGES - CONTINUED
Year ended December 31, 2002
DEDUCTIONS
------------------------------------------------------------
CASH
SURRENDERS
PRIOR TO OTHER NOTE OTHER NOTE
DESCRIPTION MATURITIES MATURITY (a) (b)
----------- ---------- ---------- ---------- ----------
Reserves to mature, installment certificates
Series 120 $ -- $ 13,236 $ -- $ --
Series 220 -- 19,206 -- --
Series 315 -- 6,630 4,113 --
Single payment certificates
Series 503 450,493 776,374 295,906 172,862
Series 505 -- 14,238 462 36,990
Series 507 -- -- -- 12,320
Series 510 -- 169,712 52,642 108,262
Fully paid installment certificates - (Paid-up bonds) 4,680 56,727 79,699 --
Optional settlement certificates
Paid-up certificate (Special Maturity) -- -- -- --
Annuities 115,867 -- -- --
Due to unlocated certificate holders -- -- -- --
-------- ---------- -------- --------
Total $571,040 $1,056,123 $432,822 $330,434
======== ========== ======== ========
BALANCE AT END OF YEAR
---------------------------------------------
RESERVES
(INCLUDING
NUMBER OF ADVANCE
ACCOUNTS PAYMENTS)
WITH AMOUNT OF WITH
SECURITY MATURITY ACCRUED
DESCRIPTION HOLDERS VALUE INTEREST
----------- --------- ----------- -----------
Reserves to mature, installment certificates
Series 120 6 $ 32,000 121,369
Series 220 12 59,000 202,146
Series 315 14 53,900 82,054
Single payment certificates
Series 503 1,627 23,692,260 21,732,002
Series 505 276 4,147,235 3,621,656
Series 507 98 1,243,089 1,044,416
Series 510 304 6,059,720 5,078,990
Fully paid installment certificates - (Paid-up bonds) 371 1,905,776 1,148,426
Optional settlement certificates
Paid-up certificate (Special Maturity) -- -- --
Annuities 17 157,767 157,767
Due to unlocated certificate holders -- -- --
----- ----------- -----------
Total 2,725 $37,350,747 $33,188,826
===== =========== ===========
NOTE (a) - Rolled to other product in the Company
NOTE (b) - Direct interest payment to certificate holders
(continued)
S-08
SBM Certificate Company and Subsidiary
SUPPLEMENTAL SCHEDULES - CONTINUED
SCHEDULE VI - CERTIFICATE RESERVES - CONTINUED
PART II - INFORMATION REGARDING INSTALLMENT CERTIFICATES
CLASSIFIED BY AGE GROUPINGS
Year ended December 31, 2002
BALANCE AT BEGINNING OF YEAR
-------------------------------------
NUMBER OF
ACCOUNTS
AGE WITH AMOUNT OF
GROUPING IN SECURITY MATURITY AMOUNT OF
YEARS HOLDERS VALUE RESERVES
----------- --------- --------- ---------
Series 120 23 0 $ -- $ --
24 1 6,000 15,917
25 1 8,000 12,645
31 0 -- --
32 0 -- --
33 1 5,000 16,224
34 0 -- --
35 0 -- --
36 2 12,000 41,137
37 1 3,000 11,827
38 0 -- --
40 1 6,000 25,847
Interest reserve
Accrued interest payable 3,922
-- -------- ---------
Total 7 $ 40,000 $ 127,519
== ======== =========
Series 220 23 0 $ -- $ --
24 1 12,000 18,270
29 0 -- --
30 1 4,000 9,684
31 0 -- --
32 1 6,000 16,759
33 4 21,000 63,297
34 3 14,000 47,622
35 3 14,000 48,400
Interest reserve
Accrued interest payable 4,449
-- -------- ---------
Total 13 $ 71,000 $ 208,481
== ======== =========
(continued)
S-09
SBM Certificate Company and Subsidiary
SUPPLEMENTAL SCHEDULES - CONTINUED
SCHEDULE VI - CERTIFICATE RESERVES - CONTINUED
PART II - INFORMATION REGARDING INSTALLMENT CERTIFICATES
CLASSIFIED BY AGE GROUPINGS - CONTINUED
Year ended December 31, 2002
DEDUCTIONS BALANCE AT END OF YEAR
---------------------- ----------------------------------------------------
NUMBER OF
CASH ACCOUNTS
SURRENDERS AGE WITH AMOUNT OF
PRIOR TO GROUPING IN SECURITY MATURITY AMOUNT OF
MATURITY OTHER YEARS HOLDERS VALUE RESERVES
---------- ----- ----------- --------- ---------- ---------
Series 120 23 1 $ 6,000 $ 18,249
13,237 24 0 -- --
25 0 -- --
31 0 -- --
32 0 -- --
33 0 -- --
34 1 5,000 17,685
35 0 -- --
36 0 -- --
37 2 12,000 45,262
38 1 3,000 12,653
40 1 6,000 27,520
Interest
reserve
Accrued
interest
payable
-------- --- -- ------- --------
Total $ 13,237 $-- 6 $32,000 $121,369
======== === == ======= ========
Series 220 23 0 $ -- $ --
19,206 24 0 -- --
29 0 -- --
30 0 -- --
31 1 4,000 10,453
32 0 -- --
33 2 10,000 30,771
34 3 17,000 56,229
35 2 14,000 34,718
Interest 36 3 9,000 52,479
reserve 38 1 5,000 17,496
Accrued
interest
payable
-------- --- -- ------- --------
Total $ 19,206 $-- 12 $59,000 $202,146
======== === == ======= ========
(continued)
S-10
SBM Certificate Company and Subsidiary
SUPPLEMENTAL SCHEDULES - CONTINUED
SCHEDULE VI - CERTIFICATE RESERVES - CONTINUED
PART II - INFORMATION REGARDING INSTALLMENT CERTIFICATES
CLASSIFIED BY AGE GROUPINGS
Year ended December 31, 2002
BALANCE AT BEGINNING OF YEAR
-------------------------------------
NUMBER OF
ACCOUNTS
AGE WITH AMOUNT OF
GROUPING IN SECURITY MATURITY AMOUNT OF
YEARS HOLDERS VALUE RESERVES
----------- --------- --------- ---------
Series 315 12 0 $ -- $ --
13 0 -- --
14 2 7,700 6,829
15 0 -- --
16 4 20,900 23,035
17 2 4,400 5,797
18 1 2,200 3,526
19 6 24,200 38,555
20 1 2,200 3,932
Interest reserve 2,302
Accrued interest payable 1,551
-- -------- --------
Total 16 $ 61,600 $ 85,527
== ======== ========
(continued)
S-11
SBM Certificate Company and Subsidiary
SUPPLEMENTAL SCHEDULES - CONTINUED
SCHEDULE VI - CERTIFICATE RESERVES - CONTINUED
PART II - INFORMATION REGARDING INSTALLMENT CERTIFICATES
CLASSIFIED BY AGE GROUPINGS - CONTINUED
Year ended December 31, 2002
DEDUCTIONS BALANCE AT END OF YEAR
---------------------- ----------------------------------------------------
NUMBER OF
CASH ACCOUNTS
SURRENDERS AGE WITH AMOUNT OF
PRIOR TO GROUPING IN SECURITY MATURITY AMOUNT OF
MATURITY OTHER YEARS HOLDERS VALUE RESERVES
---------- ------ ----------- --------- ---------- ---------
Series 315 12 0 $ -- $ --
13 0 -- --
6,630 14 2 7,700 8,335
15 0 -- --
16 4 17,600 24,205
17 1 2,200 3,268
18 1 2,200 3,952
19 6 24,200 42,294
4,113 20 0 -- --
Interest
reserve
Accrued
interest
payable
-------- ------ -- -------- --------
Total $ 6,630 $4,113 14 $ 53,900 $ 82,054
======== ====== == ======== ========
S-12
SBM Certificate Company and Subsidiary
SUPPLEMENTAL SCHEDULES - CONTINUED
SCHEDULE VII - VALUATION AND QUALIFYING ACCOUNTS
ADDITIONS
-----------------------------
CHARGED TO
BEGINNING CHARGED TO OTHER
DESCRIPTION OF YEAR EXPENSE ACCOUNTS DEDUCTIONS END OF YEAR
----------- ---------- ---------- ------------ ---------- -----------
Valuation allowance on
deferred tax assets
year ended
December 31,
2002 $ 778,122 $ -- $ 740,600(1) $-- $1,518,722
2001 $ 206,455 $ -- $ 571,667(1) $-- $ 778,122
2000 $ -- $ -- $ 206,455(1) $-- $ 206,455
1999 $ 120,000 $ 140,981 $ 261,163(2) $-- $ 522,144
Valuation allowance on
shareholder receivable
year ended
December 31,
2002 $ 812,218 $ 405,963(3) $ -- $-- $1,218,181
2001 $ 342,236 $ 469,982(3) $ -- $-- $ 812,218
2000 $ -- $ 342,236(3) $ -- $-- $ 342,236
(1) The valuation allowance was increased as a result of establishing a full
valuation allowance on deferred tax assets for capital loss carryforwards
and NOL carryforwards.
(2) The valuation allowance was increased as a result of establishing a full
valuation allowance on deferred tax assets for unrealized losses on assets
available-for-sale. The increase in valuation allowance resulted in a
reduction of shareholders' equity.
(3) See Note N of the Notes to the Consolidating Financial Statements for the
year ended December 31, 2002.
S-13