FIRST AMERICAN CORP - 10-Q Quarterly Report

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-Q

x	QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the quarterly period ended June 30, 2004

¨	TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from to

Commission file number 0-3658

THE FIRST AMERICAN CORPORATION

(Exact name of registrant as specified in its charter)


Incorporated in California		95-1068610
(State or other jurisdiction of incorporation or organization)		(I.R.S. Employer Identification No.)

1 First American Way, Santa Ana, California		92707-5913
(Address of principal executive offices)		(Zip Code)

(714) 800-3000

(Registrant’s telephone number, including area code)

(Former name, former address and former fiscal year, if changed since last report)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No ¨

Indicate by check mark if the registrant is an accelerated filer (as defined in Exchange Act Rule 12b-2). Yes x No ¨

APPLICABLE ONLY TO ISSUERS INVOLVED IN BANKRUPTCY

PROCEEDINGS DURING THE PRECEDING FIVE YEARS:

Indicate by check mark whether the registrant has filed all documents and reports to be filed by Section 12,13 or 15(d) of the Securities Exchange Act of 1934 subsequent to the distribution of securities under a plan confirmed by a court. Yes ¨ No ¨

APPLICABLE ONLY TO CORPORATE ISSUERS:

Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.

$1 par value – 88,584,921 shares as of August 3, 2004

INFORMATION INCLUDED IN REPORT



Part I:	Financial Information

	Item 1.	Financial Statements

		A. Condensed Consolidated Balance Sheets

		B. Condensed Consolidated Statements of Income and Comprehensive Income

		C. Condensed Consolidated Statements of Cash Flows

		D. Notes to Condensed Consolidated Financial Statements

	Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations

	Item 3.	Quantitative and Qualitative Disclosures About Market Risk

	Item 4.	Controls and Procedures

Part II:	Other Information

	Item 1.	Legal Proceedings

	Item 2.	Changes in Securities, Use of Proceeds and Issuer Purchases of Securities

	Item 4.	Submission of Matters to a Vote of Security Holders

	Item 6.	Exhibits and Reports on Form 8-K

		Items 3 and 5 have been omitted because they are not applicable with respect to the current reporting period.

CERTAIN STATEMENTS MADE IN THIS QUARTERLY REPORT ON FORM 10-Q, INCLUDING THOSE RELATING TO ANTICIPATED CASH REQUIREMENTS, ROUTINE LEGAL PROCEEDINGS AND THE NEW YORK CLASS ACTION ARE FORWARD LOOKING. RISKS AND UNCERTAINTIES EXIST WHICH MAY CAUSE RESULTS TO DIFFER MATERIALLY FROM THOSE SET FORTH IN THESE FORWARD-LOOKING STATEMENTS. FACTORS THAT COULD CAUSE THE ANTICIPATED RESULTS TO DIFFER FROM THOSE DESCRIBED IN THE FORWARD-LOOKING STATEMENTS INCLUDE: INTEREST RATE FLUCTUATIONS; CHANGES IN THE PERFORMANCE OF THE REAL ESTATE MARKETS; GENERAL VOLATILITY IN THE CAPITAL MARKETS; CHANGES IN APPLICABLE GOVERNMENT REGULATIONS; CONSOLIDATION AMONG THE COMPANY’S SIGNIFICANT CUSTOMERS AND COMPETITORS; THE COMPANY’S CONTINUED ABILITY TO IDENTIFY BUSINESSES TO BE ACQUIRED; CHANGES IN THE COMPANY’S ABILITY TO INTEGRATE BUSINESSES WHICH IT ACQUIRES; AND OTHER FACTORS DESCRIBED IN THE COMPANY’S ANNUAL REPORT ON FORM 10-K FOR THE YEAR ENDED DECEMBER 31, 2003, FILED WITH THE SECURITIES AND EXCHANGE COMMISSION. THE FORWARD-LOOKING STATEMENTS SPEAK ONLY AS OF THE DATE THEY ARE MADE. THE COMPANY DOES NOT UNDERTAKE TO UPDATE FORWARD-LOOKING STATEMENTS TO REFLECT CIRCUMSTANCES OR EVENTS THAT OCCUR AFTER THE DATE THE FORWARD-LOOKING STATEMENTS ARE MADE.

Part	1: Financial Information

Item	1: Financial Statements

THE FIRST AMERICAN CORPORATION

AND SUBSIDIARY COMPANIES

Condensed Consolidated Balance Sheets

(in thousands, except percentage and share data)

(unaudited)


	June 30, 2004			December 31, 2003
	($000)			($000)
Assets
Cash and cash equivalents	$	1,026,786		$	1,113,530

Accounts and accrued income receivable, net		444,771			347,035

Investments:
Deposits with savings and loan associations and banks		80,067			57,945
Debt securities		359,149			350,475
Equity securities		42,898			45,758
Other long-term investments		254,550			233,794

		736,664			687,972

Loans receivable, net		108,012			105,228

Property and equipment, at cost:
Land		45,636			43,327
Buildings		216,014			187,167
Furniture and equipment		326,080			286,337
Capitalized software		400,902			364,658

		988,632			881,489
Less-accumulated depreciation and amortization		(466,032	)		(403,473	)

		522,600			478,016

Title plants and other indexes		453,576			426,086

Deferred income taxes		123,407			141,622

Goodwill, net		1,465,318			1,253,080

Other assets		417,950			339,542

	$	5,299,084		$	4,892,111

Liabilities and Stockholders’ Equity
Demand deposits	$	69,292		$	76,580

Accounts payable and accrued liabilities		748,834			819,015

Deferred revenue		763,365			719,503

Reserve for known and incurred but not reported claims		471,047			435,852

Income taxes payable		85,644			4,017

Notes and contracts payable		452,408			553,888

Mandatorily redeemable preferred securities of the Company’s subsidiary trust whose sole assets are the Company’s $100,000 8.5% deferrable interest subordinated notes due 2012		100,000			100,000

Minority interests in consolidated subsidiaries		318,402			303,736

Commitments and contingencies
Stockholders’ equity:
Preferred stock, $1 par value Authorized - 500,000 shares; outstanding - none
Common stock, $1 par value Authorized - 180,000,000 shares Outstanding – 88,885,000 and 78,826,000 shares		88,885			78,826
Additional paid-in capital		726,782			463,610
Retained earnings		1,545,879			1,399,940
Accumulated other comprehensive loss		(71,454	)		(62,856	)

		2,290,092			1,879,520

	$	5,299,084		$	4,892,111

See notes to condensed consolidated financial statements.

THE FIRST AMERICAN CORPORATION

AND SUBSIDIARY COMPANIES

Condensed Consolidated Statements of Income and Comprehensive Income

(in thousands, except per share amounts)

(unaudited)


	For the Three Months Ended June 30						For the Six Months Ended June 30
	2004			2003			2004			2003
Revenues
Operating revenues	$	1,685,098		$	1,503,352		$	3,130,631		$	2,798,310
Investment and other income		36,237			37,992			63,144			72,464
Net realized investment gains		2,718			1,587			4,049			14,132

		1,724,053			1,542,931			3,197,824			2,884,906

Expenses
Salaries and other personnel costs		534,622			439,769			1,008,397			846,986
Premiums retained by agents		458,502			408,784			882,736			774,493
Other operating expenses		372,438			327,804			713,277			621,191
Provision for policy losses and other claims		85,686			79,403			157,107			146,642
Depreciation and amortization		31,326			26,555			60,696			52,570
Premium taxes		13,090			12,010			25,630			22,466
Interest		9,198			8,853			19,660			17,312

		1,504,862			1,303,178			2,867,503			2,481,660

Income before income taxes and minority interests		219,191			239,753			330,321			403,246
Income taxes		79,300			83,100			116,700			139,100

Income before minority interests		139,891			156,653			213,621			264,146
Minority interests		23,365			29,177			42,139			49,090

Net income		116,526			127,476			171,482			215,056

Other comprehensive income, net of tax
Unrealized gain (loss) on securities		(7,585	)		3,653			(5,998	)		3,220
Minimum pension liability adjustment		(650	)		(1,950	)		(2,600	)		(5,050	)

		(8,235	)		1,703			(8,598	)		(1,830	)

Comprehensive income	$	108,291		$	129,179		$	162,884		$	213,226

Net income per share (Note 2):
Basic	$	1.32		$	1.67		$	2.05		$	2.86

Diluted	$	1.27		$	1.47		$	1.90		$	2.53

Cash dividends per share	$	.15		$	.10		$	.30		$	.20

Weighted average number of shares (Note 2):
Basic		88,071			76,420			83,697			75,289

Diluted		92,083			87,915			91,350			86,506

See notes to condensed consolidated financial statements.

THE FIRST AMERICAN CORPORATION

AND SUBSIDIARY COMPANIES

Condensed Consolidated Statements of Cash Flows

(in thousands)

(unaudited)


	For the Six Months Ended June 30,
	2004			2003
Cash flows from operating activities:
Net income	$	171,482		$	215,056
Adjustments to reconcile net income to cash provided by operating activities-
Provision for policy losses and other claims		157,107			146,642
Depreciation and amortization		60,696			52,570
Minority interests in net income		42,139			49,090
Net realized investment gains		(4,049	)		(14,132	)
Other, net		(23,045	)		(30,047	)
Changes in assets and liabilities excluding effects of company acquisitions and noncash transactions-
Claims paid, net of recoveries		(130,072	)		(131,031	)
Net change in income tax accounts		99,692			56,154
Increase in accounts and accrued income receivable		(75,241	)		(93,124	)
(Decrease) increase in accounts payable and accrued liabilities		(40,800	)		85,654
Increase in deferred revenue		42,688			47,011
Other, net		(62,022	)		(21,631	)

Cash provided by operating activities		238,575			362,212

Cash flows from investing activities:
Net cash effect of company acquisitions/dispositions		(186,144	)		(74,974	)
Net decrease (increase) in deposits with banks		(1,915	)		(2,296	)
Net (increase) decrease in loans receivable		(2,784	)		505
Purchases of debt and equity securities		(88,149	)		(128,660	)
Proceeds from sales of debt and equity securities		56,599			69,711
Proceeds from maturities of debt securities		18,440			30,866
Net decrease in other investments		8,461			2,702
Capital expenditures		(76,603	)		(50,900	)
Purchases of capitalized data		(6,959	)		(9,771	)
Proceeds from sale of property and equipment		1,450			649

Cash used for investing activities		(277,604	)		(162,168	)

Cash flows from financing activities:
Net change in demand deposits		(7,288	)		(1,311	)
Proceeds from issuance of debt		22,399			7,748
Repayment of debt		(15,247	)		(21,635	)
Repurchase of company stock		(16,040	)		—
Proceeds from exercise of stock options		14,609			13,526
Proceeds from the issuance of stock to employee benefit plans		3,800			3,159
Distributions to minority shareholders		(24,405	)		(33,614	)
Cash dividends		(25,543	)		(14,962	)

Cash used for financing activities		(47,715	)		(47,089	)

Net (decrease) increase in cash and cash equivalents		(86,744	)		152,955
Cash and cash equivalents - Beginning of year		1,113,530			900,863

- End of the first half	$	1,026,786		$	1,053,818

Supplemental information:
Cash paid during the first half for:
Interest	$	22,828		$	17,152
Premium taxes	$	37,202		$	27,250
Income taxes	$	50,381		$	86,491
Noncash investing and financing activities:
Shares issued for employee benefit plans	$	50,484		$	42,376
Shares issued in repayment of convertible debt	$	205,728			—
Liabilities incurred in connection with company acquisitions	$	140,441		$	61,009
Company acquisitions in exchange for common stock	$	14,650		$	17,680

See notes to condensed consolidated financial statements.

THE FIRST AMERICAN CORPORATION

AND SUBSIDIARY COMPANIES

Notes to Condensed Consolidated Financial Statements

(Unaudited)

Note 1 - Basis of Condensed Consolidated Financial Statements

The condensed consolidated financial information included in this report has been prepared in conformity with the accounting principles and practices reflected in the consolidated financial statements included in the annual report filed with the Securities and Exchange Commission for the preceding calendar year. All adjustments are of a normal recurring nature and are, in the opinion of management, necessary to a fair statement of the consolidated results for the interim periods. This report should be read in conjunction with the Company’s Annual Report on Form 10-K for the year ended December 31, 2003.

Note 2 – Earnings Per Share


*(in thousands, except per share amounts)*	For the Three Months Ended June 30				For the Six Months Ended June 30
	2004		2003		2004		2003
Numerator:
Net Income-numerator for basic net income per share	$	116,526	$	127,476	$	171,482	$	215,056
Effect of dilutive securities Convertible debt - interest expense (net of tax)		464		1,711		2,140		3,434

Net Income - numerator for dilutive net income per share	$	116,990	$	129,187	$	173,622	$	218,490

Denominator
Weighted average shares-denominator for basic net income per share		88,071		76,420		83,697		75,289
Effect of dilutive securities:
Employee stock options		2,097		3,089		2,565		2,792
Convertible debt		1,915		8,406		5,088		8,425

Denominator for diluted net income per share		92,083		87,915		91,350		86,506

Basic net income per share	$	1.32	$	1.67	$	2.05	$	2.86

Diluted net income per share	$	1.27	$	1.47	$	1.90	$	2.53

For the three and six months ended June 30, 2004 and 2003, respectively, 0.8 million and 0.3 million, and 0.6 million and 1.8 million stock options were excluded from the computation of diluted earnings per share due to their antidilutive effect.

Note 3 – Stock Options

Effective December 15, 2002, the Company adopted Statement of Financial Accounting Standards No. 148, “Accounting for Stock-Based Compensation-Transition and Disclosure, which amends Statement of Financial Accounting Standards No. 123, Accounting for Stock-Based Compensation” (SFAS 148). In accounting for its plans, the Company, as allowable under the provisions of SFAS 148, applies Accounting Principles Board Opinions No. 25, “Accounting for Stock issued to Employees.” As a result of this election, the Company does not recognize compensation expense for its stock option plans. Had the Company determined compensation cost based on the fair value for its stock options at grant date, net income and earnings per share would have been reduced to the pro forma amounts as follows:


	For the Three Months Ended June 30				For the Six Months Ended June 30
*(in thousands, except per share amounts)*	2004		2003		2004		2003
Net income:
As reported	$	116,526	$	127,476	$	171,482	$	215,056
Pro forma	$	114,425	$	125,637	$	168,222	$	212,100
Earnings per share:
As reported
Basic	$	1.32	$	1.67	$	2.05	$	2.86
Diluted	$	1.27	$	1.47	$	1.90	$	2.53
Pro forma
Basic	$	1.30	$	1.64	$	2.01	$	2.82
Diluted	$	1.25	$	1.45	$	1.86	$	2.49

Note 4 – Business Combinations

During the six months ended June 30, 2004, the Company completed 35 acquisitions. These acquisitions were not material, individually or in the aggregate. Of these acquisitions, 22 have been included in the Company’s title insurance segment, 3 in the Company’s mortgage information segment and 10 in the Company’s screening information segment. The aggregate purchase price for the 25 acquisitions included in the Company’s title insurance and mortgage information segments was $103.8 million in cash, $61.0 million in notes payable and .5 million shares of the Company’s common stock valued at $12.9 million. The ten acquisitions included in the Company’s screening information segment were completed by the Company’s publicly-traded subsidiary, First Advantage Corporation. The aggregate purchase price for these acquisitions was $44.2 million in cash, $20.3 million in notes payable and .5 million shares, valued at $9.7 million, of First Advantage’s Class A common stock. The purchase price of each acquisition was allocated to the assets acquired and liabilities assumed using a variety of valuation techniques including discounted cash flow analysis. As a result of the 35 acquisitions, the Company recorded approximately $185.5 million of goodwill and $19.3 million of intangible assets with definite lives. The Company is awaiting information necessary to finalize the purchase accounting adjustments for these acquisitions and the final purchase price allocations could change the recorded intangible asset and goodwill amounts. In accounting for the First Advantage shares issued for the acquisitions in the screening information segment, the Company, whose ownership interest was reduced to approximately 75 percent, recorded a pretax gain of $2.2 million.

In April 2004, the Company’s subsidiary, First American Real Estate Solutions LLC, purchased from Transamerica Corporation its 20% interest in the Company’s property data business, First American Real Estate Solutions LP, for a purchase price of $42.7 million in cash. The Company and Transamerica formed this limited partnership in 2000. This acquisition increased goodwill by $21.3 million at the Company’s property information segment.

Note 5 – Segment Information

In January 2004, the Company combined its Title Insurance and Services and Trust and Other Services segments into one segment to better reflect the interaction within these businesses. This presentation is consistent with the way the operations of these businesses are evaluated. The prior year results have been reclassified to reflect the combination of these businesses. After the change, the Company has six reporting segments that fall within two primary business groups, Financial Services and Information Technology. The Financial Services Group includes Title Insurance and Services and Specialty Insurance. The Information Technology Group includes Mortgage Information, Property Information, Credit Information and Screening Information. Selected financial information by reporting segment is as follows:

For the three months ended June 30, 2004


*(in thousands)*	Revenues		Income (loss) before income taxes and minority interests			Depreciation and amortization		Capital expenditures
Financial Services:
Title Insurance and Services	$	1,257,070	$	140,497		$	11,006	$	19,648
Specialty Insurance		54,992		11,653			537		299

		1,312,062		152,150			11,543		19,947

Information Technology:
Mortgage Information		170,081		47,992			6,650		5,047
Property Information		106,577		32,955			5,647		5,847
Credit Information		65,867		12,022			2,461		484
Screening Information		68,916		5,537			3,145		525

		411,441		98,506			17,903		11,903

		1,723,503		250,656			29,446		31,850

Corporate		550		(31,465	)		1,880		9,226

	$	1,724,053	$	219,191		$	31,326	$	41,046

For the three months ended June 30, 2003


*(in thousands)*	Revenues		Income (loss) before income taxes and minority interests			Depreciation and amortization		Capital expenditures
Financial Services:
Title Insurance and Services	$	1,111,186	$	143,037		$	9,485	$	12,924
Specialty Insurance		54,062		8,241			491		596

		1,165,248		151,278			9,976		13,520

Information Technology:
Mortgage Information		160,937		62,653			3,727		5,371
Property Information		105,156		32,390			5,497		1,875
Credit Information		71,781		17,971			2,865		3,257
Screening Information		37,374		3,218			1,785		1,253

		375,248		116,232			13,874		11,756

		1,540,496		267,510			23,850		25,276

Corporate		2,435		(27,757	)		2,705		3,692

	$	1,542,931	$	239,753		$	26,555	$	28,968

For the six months ended June 30, 2004


*(in thousands)*	Revenues			Income (loss) before income taxes and minority interests			Depreciation and amortization		Capital expenditures
Financial Services:
Title Insurance and Services	$	2,304,992		$	199,074		$	21,073	$	35,617
Specialty Insurance		105,718			24,097			1,057		945

		2,410,710			223,171			22,130		36,562

Information Technology:
Mortgage Information		326,706			78,339			12,725		15,190
Property Information		203,870			60,473			11,477		9,320
Credit Information		130,259			27,020			5,075		893
Screening Information		126,359			6,639			5,785		1,600

		787,194			172,471			35,062		27,003

		3,197,904			395,642			57,192		63,565

Corporate		(80	)		(65,321	)		3,504		13,038

	$	3,197,824		$	330,321		$	60,696	$	76,603

For the six months ended June 30, 2003


*(in thousands)*	Revenues		Income (loss) before income taxes and minority interests			Depreciation and amortization		Capital expenditures
Financial Services:
Title Insurance and Services	$	2,065,428	$	232,244		$	19,026	$	22,543
Specialty Insurance		102,646		14,080			913		800

		2,168,074		246,324			19,939		23,343

Information Technology:
Mortgage Information		302,814		108,450			7,522		7,927
Property Information		192,597		55,833			10,979		4,916
Credit Information		149,827		44,578			6,010		4,500
Screening Information		68,992		3,733			3,570		2,757

		714,230		212,594			28,081		20,100

		2,882,304		458,918			48,020		43,443

Corporate		2,602		(55,672	)		4,550		7,457

	$	2,884,906	$	403,246		$	52,570	$	50,900

Note 6 – Goodwill and Other Intangible Assets

The Company’s reporting units for purposes of the annual testing for impairment of goodwill are title insurance, home warranty, property and casualty insurance, trust and other services, mortgage origination products and services, mortgage servicing products and services, property information services, conventional credit information, sub-prime credit information, pre-employment and drug screening, tenant screening and motor vehicle reporting.

A reconciliation of the changes in the carrying amount of net goodwill, by operating segment, for the six months ended June 30, 2004, is as follows:


*(in thousands)*	Balance as of December 31, 2003		Acquired (Disposed of) During the Period		Adjustments		Balance as of June 30, 2004
Financial Services:
Title Insurance and Services	$	260,152	$	98,207		—	$	359,342
Specialty Insurance		19,794		—		—		19,794
Information Technology:
Mortgage Information		545,612		27,455	$	6,524		579,591
Property Information		150,399		21,172		—		171,571
Credit Information		72,450		—		—		72,450
Screening Information		204,673		57,569		1,311		263,553

	$	1,253,080	$	204,403	$	7,835	$	1,465,318

There have been no impairments of goodwill during the six months ending June 30, 2004. The Company had $140.6 million of intangible assets included in “Other assets” at June 30, 2004, with definite lives ranging from three to seven years. These assets, comprised primarily of customer lists and noncompete agreements, are being amortized in a manner consistent with periods prior to the adoption of SFAS 142.

Note 7 – Employee Benefit Plans

In December 2003, the Financial Accounting Standards Board revised Statement of Financial Accounting Standards No. 132, “Employers Disclosures About Pensions and Other Post Retirement Benefits” to require additional interim disclosures. The Company has implemented the revised disclosures in these financial statements.

Net periodic pension cost for the Company’s defined benefit pension and supplemental benefit plans includes the following components:


	For the Three Months Ended June 30						For the Six Months Ended June 30
*(in thousands)*	2004			2003			2004			2003
Expense:
Service Cost	$	3,364		$	3,553		$	8,034		$	7,287
Interest Cost		5,018			4,762			11,372			9,843
Expected return on plan assets		(3,492	)		(3,385	)		(7,884	)		(6,896	)
Amortization of net transition obligation		7			6			—			—
Amortization of prior service cost (benefit)		(993	)		(993	)		(2,182	)		(1,944	)
Amortization of net loss		4,826			961			6,799			2,539

	$	8,730		$	4,904		$	16,139		$	10,829

The Company has contributed $12.3 million to its pension plans for the six months ended June 30, 2004 and expects to contribute an additional $35.3 million during the remainder of 2004. These contributions are both those required by funding regulations as well as discretionary contributions necessary to provide benefit payments to participants of certain of the Company’s non-qualified supplemental benefit plans.

Note 8 – Notes Payable

On April 15, 2004, the Company redeemed for cash $1.2 million of the $210.0 million aggregate principal outstanding on its 4.5% Senior Convertible Debentures Due 2008. Prior to the redemption date, holders had converted an aggregate principal amount of $208.8 million of debentures into 7,457,938 common shares of the Company at the fixed conversion price of $28 per share.

Note 9 – Stockholders’ Equity

On May 18, 2004, the Company announced that its board of directors approved the repurchase of up to $100.0 million of the Company’s currently issued and outstanding common shares. For the period ended June 30, 2004, the Company repurchased and retired 625,700 shares of its common stock for a total purchase price of $16.0 million.

Note 10 – Subsequent Events

On July 26, 2004, the Company issued $150,000,000 of 5.70% senior debt. The senior debt matures August 1, 2014. The Company may redeem the senior notes, in whole or in part, from time to time. The Company intends to use the proceeds for general corporate purposes, including working capital, capital expenditures, stock repurchases and future acquisitions. On August 4, 2004, the Company entered into a credit agreement that provides for a $500.0 million line of credit. This agreement supercedes the Company’s prior credit agreement that was due to expire in October 2006. Under the terms of the credit agreement, the Company is required to maintain minimum levels of capital and meet predetermined debt-to-capitalization ratios. The line of credit will remain effective until August 2009.

Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

RESULTS OF OPERATIONS

CRITICAL ACCOUNTING POLICIES

Critical accounting policies are those policies used in the preparation of the Company’s financial statements that require management to make estimates and judgments that affect the reported amounts of certain assets, liabilities, revenues, expenses and related disclosure of contingencies. A summary of these policies can be found in Management’s Discussion and Analysis in the Company’s Annual Report on Form 10-K for the year ended December 31, 2003.

OVERVIEW

Mortgage originations, particularly refinance transactions, decreased in the fourth quarter of 2003 as a result of higher interest rates. This, coupled with adverse weather conditions in December 2003, as well as in January and February 2004, provided a typical seasonal pattern of real estate activity for the first quarter of 2004 not seen in the past few years. However, as a result of an increase in the average revenues per order closed by the Company’s direct title operations, operating revenues for the first quarter of 2004 increased when compared with the same period of the prior year. March new order counts for the Company’s direct title operations improved significantly as a result of solid residential and commercial purchase transactions. This resulted in a 26% increase in closed title orders in the second quarter of 2004 when compared with the first quarter of 2004. The increase in closings, as well as continued increases in the average revenues per order closed by the Company’s direct title operations, resulted in strong revenues and profits for the current quarter. Net income for the three and six months ended June 30, 2004, were $116.5 million, or $1.27 per diluted share, and $171.5 million, or $1.90 per diluted share, respectively. Net income for the three and six months ended June 30, 2003, were $127.5 million, or $1.47 per diluted share, and $215.1 million, or $2.53 per diluted share, respectively.

OPERATING REVENUES

Set forth below is a summary of operating revenues for each of the Company’s segments.


			Three Months Ended June 30							Six Months Ended June 30
			($000)							($000)
	2004		%	2003		%	2004		%	2003		%
Financial Services:
Title Insurance:
Direct operations	$	659,945	39	$	581,965	39	$	1,175,451	38	$	1,066,273	38
Agency operations		574,338	34		508,758	34		1,091,148	35		957,754	34

		1,234,283	73		1,090,723	73		2,266,599	73		2,024,027	72
Specialty Insurance		51,847	3		50,889	3		98,339	3		97,033	4

		1,286,130	76		1,141,612	76		2,364,938	76		2,121,060	76

Information Technology:
Mortgage Information		167,649	10		157,256	10		322,584	10		296,364	11
Property Information		99,525	6		98,022	7		191,502	6		180,302	6
Credit Information		62,912	4		69,116	5		125,364	4		131,644	5
Screening Information		68,882	4		37,346	2		126,243	4		68,940	2

		398,968	24		361,740	24		765,693	24		677,250	24

Total	$	1,685,098	100	$	1,503,352	100	$	3,130,631	100	$	2,798,310	100

Financial Services. Operating revenues from direct title operations increased 13.4% and 10.2% for the three and six months ended June 30, 2004, respectively, when compared with the same periods of the prior year. These increases were primarily due to an increase in the average revenues per order closed, offset in part by a decrease in the number of title orders closed by the Company’s

direct operations. The average revenues per order closed were $1,273 and $1,266 for the three and six months ended June 30, 2004, respectively, increases of 16.6% and 17.4% when compared with the same periods of the prior year. These increases were primarily due to a decreased mix of lower-premium refinance transactions, an increase in higher-premium commercial activity and appreciating home values. The Company’s direct operations closed 518,500 and 928,800 title orders during the current three and six month periods, respectively, decreases of 2.7% and 6.1% when compared with the same periods of the prior year. These decreases were primarily due to the decline in refinance activity and the more typical seasonal pattern of real estate activity experienced during the respective periods. Operating revenues from agency operations increased 12.9% and 13.9% for the three and six months ended June 30, 2004, respectively, when compared with the same periods of the prior year. These fluctuations were primarily due to the same factors affecting direct title operations as well as the timing of the reporting of agency remittances.

Information Technology. Mortgage information operating revenues increased $10.4 million and $26.2 million for the three and six months ended June 30, 2004, respectively, when compared with the same periods of the prior year. Excluding $48.2 million and $87.5 million of operating revenues contributed by new acquisitions for the respective periods, mortgage information operating revenues decreased $37.8 million, or 24.0% for the three months ended June 30, 2004, and $61.3 million, or 20.7% for the six months ended June 30, 2004, when compared with the same periods of the prior year. These decreases were primarily attributable to the decline in refinance transactions period over period and the re-emergence of seasonal patterns. Operating revenues for the property information segment increased $1.5 million, or 1.5% and $11.2 million, or 6.2%, for the three and six months ended June 30, 2004, respectively, when compared with the same periods of the prior year. These increases were primarily due to $4.7 million and $10.9 million of operating revenues contributed by new acquisitions for the respective periods and the continued strength in this segment’s subscription-based information businesses, reduced by the affects of the slowdown in refinance activity. Operating revenues for the credit information segment decreased $6.2 million, or 9.0% and $6.3 million, or 4.8% for the three and six months ended June 30, 2004, respectively, when compared with the same periods of the prior year. These decreases were primarily due to the decline in mortgage related credit products as a result of the decrease in refinance activity. Screening information operating revenues increased $31.5 million, or 84.4% and $57.3 million, or 83.1% for the three and six months ended June 30, 2004, respectively, when compared with the same periods of the prior year. These increases were primarily due to $23.1 million and $40.3 million of operating revenues contributed by new acquisitions for the respective periods.

INVESTMENT AND OTHER INCOME

Investment and other income totaled $36.2 million and $63.1 million for the three and six months ended June 30, 2004, respectively, representing decreases of $1.8 million, or 4.6%, and $9.3 million, or 12.9%, when compared with the same periods of the prior year. These decreases resulted primarily from a decrease in earnings from unconsolidated affiliates, which are accounted for under the equity method of accounting.

NET REALIZED INVESTMENT GAINS

Net realized investment gains totaled $2.7 million and $4.0 million for the three and six months ended June 30, 2004, respectively, compared with gains totaling $1.6 million and $14.1 million for the three and six months ended June 30, 2003. The prior year six-month period included a $13.1 million realized investment gain associated with the merger of the Company’s Credit Online business with DealerTrack Holdings, Inc.

TOTAL OPERATING EXPENSES

Financial Services. Salaries and other personnel costs for the Financial Services group, which primarily reflects the title insurance segment, were $388.0 million and $716.9 million for the three and six months ended June 30, 2004, respectively, increases of $68.5 million, or 21.4%, and $102.7 million, or 16.7%, when compared with the same periods of the prior year. These increases were primarily due to $34.3 million and $59.2 million of personnel expenses associated with new acquisitions, as well as incremental costs incurred at the title insurance segment to service the more labor intensive higher mix of resale and commercial title orders processed during the respective periods.

Agents retained $458.5 million and $882.7 million of title premiums generated by agency operations for the three and six months ended June 30, 2004, respectively, which compares with $408.8 million and $774.5 million for the same periods of the prior year. The percentage of title premiums retained by agents ranged from 79.8% to 80.9% due to regional variances (i.e., the agency share varies from region to region and thus the geographical mix of agency revenues causes this variation).

Other operating expenses for the Financial Services group, which primarily reflect the title insurance segment, were $209.3 million and $391.9 million for the three and six months ended June 30, 2004, respectively, increases of $21.5 million, or 11.5%, and $42.3 million, or 12.1%, when compared with the same periods of the prior year. These increases were primarily due to $20.3 million and $35.9 million of other operating expenses associated with new acquisitions.

The provision for policy losses and other claims primarily represents title insurance claims, home warranty claims and property and casualty insurance claims. For the title insurance segment, the claims provision as a percentage of title insurance operating revenues was 4.1% for the current six-month period and for the same period of the prior year. For the home warranty business, the claims provision as a percentage of home warranty operating revenues was 47.2% for the current six-month period and 45.8% for the same period of the prior year. This increase in rate was primarily due to a increase in the average cost per claim, which was primarily attributable to geographic expansion. For the property and casualty business, the claims provision as a percentage of property and casualty insurance operating revenues was 57.8% for the current six-month period and 73.7% for the same period of the prior year. This decrease in rate was due to high claims activity experienced primarily during the first quarter of 2003 resulting from insured property damaged in Southern California as a result of extraordinarily high wind conditions.

Premium taxes, which relate to the title insurance and specialty insurance segments, were $25.6 million and $22.5 million for the six months ended June 30, 2004 and 2003, respectively. Premium taxes as a percentage of title insurance and specialty insurance operating revenues were 1.1% for both the current six-month period and for the same period of the prior year.

Information Technology. Information technology personnel and other operating expenses were $284.3 million and $562.8 million for the three and six months ended June 30, 2004, respectively, increases of $44.6 million and $98.5 million when compared with the same periods of the prior year. Excluding acquisition activity, information technology personnel and other operating expenses decreased $9.0 million, or 3.8% for the current three-month period and $5.6 million, or 1.2% for the current six-month period. These decreases were primarily related to a decrease in incremental costs associated with the decline in business volume, offset in part by costs incurred at the Company’s tax service division to integrate new customers and costs incurred to integrate new acquisitions.

INCOME BEFORE INCOME TAXES AND MINORITY INTERESTS

Set forth below is a summary of income before income taxes and minority interests for each of the Company’s segments (in thousands except percentages).


	Three Months Ended June 30								Six Months Ended June 30
	($000)								($000)
	2004			%	2003			%	2004			%	2003			%
Financial Services:
Title Insurance	$	140,497		56	$	143,037		54	$	199,074		50	$	232,244		51
Specialty Insurance		11,653		5		8,241		3		24,097		6		14,080		3

		152,150		61		151,278		57		223,171		56		246,324		54

Information Technology:
Mortgage Information		47,992		19		62,653		23		78,339		20		108,450		23
Property Information		32,955		13		32,390		12		60,473		15		55,833		12
Credit Information		12,022		5		17,971		7		27,020		7		44,578		10
Screening Information		5,537		2		3,218		1		6,639		2		3,733		1

		98,506		39		116,232		43		172,471		44		212,594		46

Total before corporate expenses		250,656		100		267,510		100		395,642		100		458,918		100

Corporate expenses		(31,465	)			(27,757	)			(65,321	)			(55,672	)

Total	$	219,191			$	239,753			$	330,321			$	403,246

In general, the title insurance business is a lower profit margin business when compared to the Company’s other segments. The lower profit margins reflect the high cost of producing title evidence whereas the corresponding revenues are subject to regulatory and competitive pricing restraints. Due to this relatively high proportion of fixed costs, title insurance profit margins generally improve as closed order volumes increase. In addition, title insurance profit margins are affected by the composition (residential or commercial) and type (resale, refinancing or new construction) of real estate activity. Profit margins from resale and new construction transactions are generally higher than from refinancing transactions because in many states there are premium discounts on, and cancellation rates are higher for, refinance transactions. Title insurance profit margins are also affected by the percentage of operating revenues generated by agency operations. Profit margins from direct operations are generally higher than from agency operations due primarily to the large portion of the premium that is retained by the agent. Most of the businesses included in the Information Technology group are database intensive, with a relatively high proportion of fixed costs. As such, profit margins generally improve as revenues increase. Revenues for the mortgage information segment, like the title insurance segment, are primarily dependent on the level of real estate activity and the cost and availability of mortgage funds. Revenues for the property information segment are, in part,

dependent on real estate activity, but are less cyclical than title insurance and mortgage information revenues as a result of a significant subscription-based revenue stream. Revenues for the credit information segment are in part impacted by real estate activity, but also by the consumer and automobile sectors. Corporate expenses totaled $31.5 million and $65.3 million for the three and six months ended June 30, 2004, respectively, increases of $3.7 million and $9.6 million when compared with the same periods of the prior year. A portion of these increases were due to the additional costs associated with the implementation of the provisions of Section 404 of the Sarbanes Oxley Act, with increased internal audit costs as well as increased costs associated with our outside independent accountants to comply with the act. Further increases reflect the costs of servicing our expanded revenue base from acquisitions.

INCOME TAXES

The effective income tax rate (income tax expense as a percentage of pretax income after minority interest expense) was 40.5% for the six months ended June 30, 2004, and 39.3% for the same period of the prior year. The increase in effective rate was primarily attributable to changes in the ratio of permanent differences to pretax profits. A large portion of the Company’s minority interest expense is attributable to a limited liability company subsidiary which, for tax purposes, is treated as a partnership. Accordingly, no income taxes have been provided for that portion of the minority interest expense.

MINORITY INTERESTS

Minority interest expense was $23.4 million and $42.1 million for the three and six months ended June 30, 2004, respectively, decreases of $5.8 million and $7.0 million when compared with the same periods of the prior year. These decreases were primarily attributable to the decrease in operating results of the Company’s joint venture with Experian.

NET INCOME

Net income for the three and six months ended June 30, 2004, was $116.5 million, or $1.27 per diluted share, and $171.5 million, or $1.90 per diluted share, respectively. Net income for the three and six months ended June 30, 2003, was $127.5 million, or $1.47 per diluted share, and $215.1 million, or $2.53 per diluted share, respectively.

LIQUIDITY AND CAPITAL RESOURCES

Total cash and cash equivalents decreased $86.7 million for the six months ended June 30, 2004, and increased $153.0 million for the six months ended June 30, 2003. The decrease for the current year period was primarily due to capital expenditures, cash paid for company acquisitions, cash dividends and payments to minority shareholders, offset in part by cash provided by operating activities and proceeds received from the exercise of stock options. The increase for the prior year period was due primarily to cash provided by operating activities, offset in part by capital expenditures, cash paid for company acquisitions, payments to minority shareholders and cash dividends.

Notes and contracts payable as a percentage of total capitalization declined to 17.5% at June 30, 2004 from 23.0% at December 31, 2003. This decline was primarily due to a decrease in notes payable as a result of the redemption of the Company’s senior convertible debentures (see Note 8), as well as an increase in equity attributable to net income for the current period.

On July 26, 2004, the Company issued $150,000,000 of 5.70% senior debt at an issue price of 99.720% of the maturity value. The senior debt matures August 1, 2014. The Company may redeem the senior notes, in whole or in part, from time to time. The Company intends to use the proceeds for general corporate purposes, including working capital, capital expenditures, stock repurchases and future acquisitions.

Management believes that all of its anticipated operating cash requirements for the immediate future will be met from internally generated funds and from the proceeds of the Company’s 5.70% senior debt issuance.

Item 3 – Quantitative and Qualitative Disclosures About Market Risk

The Company’s primary exposure to market risk relates to interest rate risk associated with certain financial instruments. Although the Company monitors its risk associated with fluctuations in interest rates, it does not currently use derivative financial instruments to hedge these risks.

The Company is also subject to equity price risk as related to its equity securities. Although the Company has operations in certain foreign countries, these operations, in the aggregate, are not material to the Company’s financial condition or results of operations.

There have been no material changes in the Company’s risk since filing its Form 10-K for the year ended December 31, 2003.

Item 4 – Controls and Procedures

The Company’s President and Chief Financial Officer, after evaluating the effectiveness of the Company’s disclosure controls and procedures, as defined in Rule 13a-15(e) of the Securities Exchange Act of 1934, as amended, have concluded that, as of the end of the fiscal quarter covered by this report on Form 10-Q, the Company’s disclosure controls and procedures were effective to provide reasonable assurances that information required to be disclosed in the reports filed or submitted under such Act is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission’s rules and forms.

There was no change in the Company’s internal control over financial reporting during the quarter ended June 30, 2004 that has materially affected, or is reasonably likely to materially affect, the Company’s internal control over financial reporting.

PART II: Other Information

Item 1. Legal Proceedings.

The Company is involved in numerous routine legal proceedings related to its operations. While the ultimate disposition of each proceeding is not determinable, the Company does not believe that any of such proceedings will have a material adverse affect on its financial condition or results of operations.

A subsidiary of the Company is a defendant in a class action lawsuit that is pending in New York state court. The plaintiffs allege that our subsidiary charged improper rates for title insurance policies issued in connection with refinance transactions. The action seeks refunds of the premiums charged and punitive damages. The Company does not believe that the ultimate resolution of this action will have a material adverse affect on its financial condition or results of operations.

Item	2. Changes in Securities, Use of Proceeds and Issuer Purchases of Equity Securities.


Period	(a) Total Number of Shares Purchased	(b) Average Price Paid per Share		(c) Total Number of Shares Purchased as Part of Publicly Announced Plans or Programs	(d) Maximum Approximate Dollar Value of Shares that May Yet Be Purchased Under the Plans or Programs
April 1 to April 30, 2004	0		n/a	n/a		n/a
May 1 to May 31, 2004	128,000	$	25.74	128,000	$	96,705,472
June 1 to June 30, 2004	497,700	$	25.61	497,700	$	83,960,460
Total	625,700	$	25.63	625,700	$	83,960,460

The foregoing table describes purchases of the Company’s Common shares which settled during each period set forth in the table. Prices in column (b) include commissions. Purchases described in column (c) were made pursuant to the share repurchase program announced by the Company on May 18, 2004. Under this plan, which has no expiration date, the Company may repurchase up to $100 million of the Company’s issued and outstanding Common shares.

Item 4. Submission of Matters to a Vote of Security Holders.

(a)

The annual meeting of shareholders of the Company was held on Thursday, May 13, 2004.

(b)

The names of the persons who were nominated to serve as directors of the Company for the ensuing year are listed below, together with a tabulation of the results of the voting with respect to each nominee. All nominees were elected.


Name of Nominee	Votes For	Votes Withheld
Gary J. Beban	74,259,730	471,041
J. David Chatham	71,248,507	3,482,264
William G. Davis	72,567,465	2,163,306
James L. Doti	72,007,896	2,722,874
Lewis W. Douglas, Jr.	72,576,849	2,153,922
Paul B. Fay, Jr.	71,902,334	2,828,436
D. P. Kennedy	72,432,491	2,298,280
Parker S. Kennedy	72,365,041	2,365,730
Frank O’Bryan	69,296,292	5,434,479
Roslyn B. Payne	72,581,760	2,149,011
D. Van Skilling	71,383,624	3,347,147
Herbert B. Tasker	72,376,054	2,354,717
Virginia Ueberroth	72,677,411	2,053,359

No other matters were voted upon at the meeting or during the quarter for which this report is filed.

Item 6. Exhibits and Reports on Form 8-K.

(a) Exhibits


(4	)(a)	Form of Underwriting Agreement, incorporated by reference herein from Exhibit 1.1 of Pre-effective Amendment No. 2 to Registration Statement No 333-116855 on Form S-3 dated July 19, 2004.

(4	)(b)	Form of First Supplemental Indenture, incorporated by reference herein from Exhibit 4.2 of Registration Statement 333-116855 on Form S-3 dated June 25, 2004.

(4	)(c)	Form of Senior Note, incorporated by reference herein from Exhibit 4.3 of Registration Statement 333-116855 on Form S-3 dated June 25, 2004.

(10	)	Credit Agreement, dated as of August 4, 2004 between The First American Corporation, JP Morgan Chase Bank, as Administrative Agent, and certain other Lenders party thereto.

(31	)(a)	Certification by Chief Executive Officer Pursuant to Rule 13a-14(a) under the Securities Exchange Act of 1934.

(31	)(b)	Certification by Chief Financial Officer Pursuant to Rule 13a-14(a) under the Securities Exchange Act of 1934.

(32	)(a)	Certification by Chief Executive Officer Pursuant to 18 U.S.C. Section 1350.

(32	)(b)	Certification by Chief Financial Officer Pursuant to 18 U.S.C. Section 1350.

(b) Reports on Form 8-K

During the quarterly period covered by this report, the Company filed reports on Form 8-K dated April 15, 2004 (announcing that the holders of all but $1,176,000 of the $210,000,000 aggregate principal amount of the Company’s outstanding 4.50% Senior Debenture Due 2008 had converted such debentures into Common shares of the Company and that the remainder of the debentures had been redeemed by the Company) and on May 18, 2004 (announcing the $100,000,000 stock repurchase program). The Company furnished a report on Form 8-K dated April 21, 2004 (reporting on first quarter 2004 earnings).

SIGNATURES

Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.


		THE FIRST AMERICAN CORPORATION
		(Registrant)

		/s/ Thomas A. Klemens
		Thomas A. Klemens
		Senior Executive Vice President,
		Chief Financial Officer

		/s/ Max O. Valdes
		Max O. Valdes
		Vice President,
Date: August 9, 2004		Chief Accounting Officer

EXHIBIT INDEX


Exhibit No.	Description	Sequentially Numbered Page
(4)(a)	Form of Underwriting Agreement, incorporated by reference herein from Exhibit 1.1 of Pre-effective Amendment No. 2 to Registration Statement No 333-116855 on Form S-3 dated July 19, 2004.

(4)(b)	Form of First Supplemental Indenture, incorporated by reference herein from Exhibit 4.2 of Registration Statement 333-116855 on Form S-3 dated June 25, 2004.

(4)(c)	Form of Senior Note, incorporated by reference herein from Exhibit 4.3 of Registration Statement 333-116855 on Form S-3 dated June 25, 2004.

(10)	Credit Agreement, dated as of August 4, 2004 between The First American Corporation, JP Morgan Chase Bank, as Administrative Agent, and certain other Lenders party thereto.

(31)(a)	Certification by Chief Executive Officer Pursuant to Rule 13a-14(a) under the Securities Exchange Act of 1934

(31)(b)	Certification by Chief Financial Officer Pursuant to Rule 13a-14(a) under the Securities Exchange Act of 1934

(32)(a)	Certification by Chief Executive Officer Pursuant to 18 U.S.C. Section 1350.

(32)(b)	Certification by Chief Financial Officer Pursuant to 18 U.S.C. Section 1350.

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