-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, I16uNAujQ4cJuhxKA8hI9EoYGpQNd2UEtwrjiGc7bWCaE9Mc9bqb0XqheDdYf84o m8AoclOyts7jnkL4Iu/m7g== 0000950168-98-002381.txt : 19980727 0000950168-98-002381.hdr.sgml : 19980727 ACCESSION NUMBER: 0000950168-98-002381 CONFORMED SUBMISSION TYPE: 10-K/A PUBLIC DOCUMENT COUNT: 2 CONFORMED PERIOD OF REPORT: 19971231 FILED AS OF DATE: 19980724 SROS: NASD FILER: COMPANY DATA: COMPANY CONFORMED NAME: HOMEGOLD FINANCIAL INC CENTRAL INDEX KEY: 0000277028 STANDARD INDUSTRIAL CLASSIFICATION: PERSONAL CREDIT INSTITUTIONS [6141] IRS NUMBER: 570513287 STATE OF INCORPORATION: SC FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K/A SEC ACT: SEC FILE NUMBER: 000-08909 FILM NUMBER: 98671168 BUSINESS ADDRESS: STREET 1: 15 SOUTH MAIN ST STE 750 CITY: GREENVILLE STATE: SC ZIP: 29601 BUSINESS PHONE: 8642358056 MAIL ADDRESS: STREET 1: 15 SOUTH MAIN ST STE 750 CITY: GREENVILLE STATE: SC ZIP: 29601 FORMER COMPANY: FORMER CONFORMED NAME: EMERGENT GROUP INC DATE OF NAME CHANGE: 19920703 FORMER COMPANY: FORMER CONFORMED NAME: NRUC CORP DATE OF NAME CHANGE: 19911002 FORMER COMPANY: FORMER CONFORMED NAME: NATIONAL RAILWAY UTILIZATION CORP DATE OF NAME CHANGE: 19840813 10-K/A 1 EMERGENT GROUP, INC. 10-K/A UNITED STATES SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D. C. 20549 FORM 10-K/A [X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 For the fiscal year ended December 31,1997 or [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from _____________________ to _______________________ Commission File No. 0-8909 EMERGENT GROUP, INC. (Exact name of registrant as specified in its charter)
South Carolina 57-0513287 - ------------------------------------------------------------------- ------------------------------------------ (State or other jurisdiction of incorporation or organization) (I.R.S. Employer Identification No.)
15 South Main Street Suite 750 Greenville, South Carolina 29601 (Address of principal executive offices) (Zip Code) Registrant's telephone number, including area code 864-235-8056 Securities registered under Section 12(b) of the Act: Title of Each Class Name of Each Exchange on which registered - --------------------------------- ------------------------------------------ None None Securities registered under Section 12(g) of the Act: Title of Each Class - -------------------------------------------------------------------------------- Common Stock, par value $.05 Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [X] No [ ] Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of the registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [ ] As of March 20, 1998, the aggregate market value of voting stock held by non-affiliates of registrant was approximately $61,362,134. As of March 20, 1998, 9,708,083 shares of the Registrant's common stock were outstanding. DOCUMENTS INCORPORATED BY REFERENCE The Company's Proxy Statement for the Annual Meeting of Shareholders scheduled for June 10, 1998 to be filed not later than 120 days after December 31, 1997 is incorporated by reference into Part III hereof. Item 7 set forth below replaces in its entirety Item 7 set forth in the Company's Form 10-K/A filed with the Securities and Exchange Commission (the "Commission") on April 17, 1998. Item 8 set forth below replaces in its entirety Item 8 set forth in the Company's Form 10-K filed with the Commission on April 15, 1998. ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The discussion should be read in conjunction with the Consolidated Financial Statements and notes of the Company appearing elsewhere in this report. As used herein, "Discontinued Operations" refers to the Company's former transportation and apparel operations. Unless otherwise noted, the discussion contained herein relates to the continuing operations of the Company, which solely consist of its Financial Services operations. FORWARD - LOOKING INFORMATION Certain statements in the financial discussion and analysis by management that reflect projections or expectations of future financial or economic performance of the Company, and statements of the Company's plans and objectives for future operations are "forward-looking" statements. No assurance can be given that actual results or events will not differ materially from those projected, estimated, assumed or anticipated in any such forward-looking statements. Important factors that could result in such differences are many and include: lower origination volume due to market conditions, higher losses due to economic downturn or lower real estate values, loss of key employees, adverse consequences of changes in interest rate environment, deterioration of creditworthiness of borrowers and risk of default, general economic conditions in the Company's markets, including inflation, recession, interest rates and other economic factors, loss of funding sources, loss of ability to sell loans, general lending risks, dependence on Federal programs, impact of competition, regulation of lending activities, and changes in the regulatory environment. GENERAL The Company is a diversified financial services company headquartered in Greenville, South Carolina, which originates, purchases, sells, securitizes and services mortgage and small business loans to sub-prime customers. Prior to March 1998, the Company also originated, securitized and serviced auto loans. The Auto Loan Division was sold in the first quarter of 1998 in order to narrow the Company's financial services focus. The Company commenced its lending operations in 1991 through the acquisition of Carolina Investors, Inc. ("CII"), a small mortgage lending company, which had been in operation since 1963. Since acquisition through December 31, 1997, the Company has experienced a compounded annual growth rate of 84% in loan originations. Since 1996, the Company has been focused principally on expanding its mortgage loan division and small business loan division. During the fourth quarter of 1997, the Company opened its fourth retail mortgage regional operating center and expanded its existing retail mortgage operating centers, in order to increase capacity. As a result of this expansion, the Company will continue to incur significant expansion and start-up costs in the first quarter of 1998. Additionally in the fourth quarter of 1997, the Company restructured its Mortgage Loan Division. Because of this restructuring, the Company anticipates that loan origination volume will be lower in the first quarter of 1998 compared to the last few quarters of 1997. Due to the anticipated higher cost levels and lower volumes, the Company expects to incur a significant loss in the first quarter of 1998. While the above changes will have a negative impact on earnings in the first quarter of 1998, the long-term benefits of these changes are expected to outweigh this negative impact. In order to concentrate effort on the larger retail mortgage operation ("Homegold(R)"), the Company has determined to pursue the divestiture of its smaller retail mortgage origination subsidiary, Sterling Lending Corp. ("SLC"). This subsidiary was started in June 1996 and has originated 2 only a small percentage of total retail loans. This company's first-year start-up cost resulted in a pre-tax loss of approximately $3.7 million in 1997. A primary focus of the Company in 1997, in addition to growing its retail mortgage loan origination business, was to increase its serviced loan portfolio. The Company's total serviced loans receivable increased to $988.7 million at December 31, 1997, from $309.1 million at December 31, 1996. The increase in the serviced mortgage loan portfolio has resulted from both the Company's decision to enter the retail loan origination business and the increase in both the loan volume from existing and new Mortgage Bankers. Small Business Loans have increased due to the opening of additional offices, an increase in the number of commercial loan brokers, which refer loans to the Small Business Loan Division, and new product offerings. Auto Loans increased during all such periods, prior to 1997, principally as a result of an increase in the number of loan production offices and successful efforts at establishing additional dealer relationships. Beginning in September 1996, the Company curtailed the expansion of its Auto Loan operations and, since that time, the Company has experienced a decline in Auto Loan originations. The Company no longer originates Auto Loans. 3 The following table sets forth certain data relating to the Company's loans at and for the periods indicated:
AT AND FOR THE YEARS ENDED DECEMBER 31, 1997 1996 1995 ---- ---- ---- (DOLLARS IN THOUSANDS) MORTGAGE LOANS: Mortgage loans originated $ 1,082,816 $ 328,649 $ 192,800 Mortgage loans sold 435,333 284,794 127,632 Mortgage loans securitized 487,563 -- -- Total mortgage loans owned (period end) 231,145 146,231 88,165 Total serviced mortgage loans (period end) 768,556 146,231 88,165 Total serviced unguaranteed mortgage loans (period end) (1) 700,248 146,231 88,165 Average mortgage loans owned (2) 215,790 97,281 74,158 Average serviced mortgage loans (2) 443,318 97,281 74,158 Average serviced unguaranteed mortgage loans (1) 411,549 97,281 74,158 Average interest earned (2) 10.92 % 11.97 % 12.10 % SMALL BUSINESS LOANS: Small business loans originated $ 81,018 $ 68,210 $ 39,560 Small business loans sold 41,232 33,060 25,423 Small business loans securitized 24,286 12,851 17,063 Total small business loans owned (period 45,186 29,385 20,620 end) Total serviced small business loans (period end) 198,876 140,809 108,696 Total serviced unguaranteed small business loans (period end) (3) 78,822 44,017 24,867 Average small business loans owned (2) 38,427 26,700 23,692 Average serviced small business loans (2) 165,053 125,723 98,753 Average serviced unguaranteed small business loans (2) (3) 61,420 34,442 21,819 Average interest earned (2) 15.89 % 12.61 % 10.39 % AUTO LOANS: Auto loans originated $ 15,703 $ 18,287 $ 17,148 Auto loans securitized -- 16,107 -- Total auto loans owned (period end) 21,284 13,916 17,673 Total serviced auto loans (period end) 21,284 22,033 17,673 Average auto loans owned (2) 17,104 11,917 13,078 Average serviced auto loans (2) 22,267 21,277 13,078 Average interest earned (2) 24.05 % 23.57 % 27.40 % TOTAL LOANS: Total loans receivable (period end) $ 297,615 $ 189,532 $ 126,458 Total serviced loans (period end) 988,716 309,073 214,534 Total serviced unguaranteed loans (period end) (1)(3) 800,354 212,281 130,705
- -------------------------------------------------------------------------------- (1) Excludes loans serviced for others with no credit risk to the Company. (2) Averages are computed using beginning and ending balances for the period presented, except that the 1996 and 1997 averages are calculated based on the daily averages for Small Business Loan Division and Auto Loan Division and monthly averages for Mortgage Loan Division (rather than the beginning and ending balances). (3) Excludes guaranteed portion of SBA Loans. 4 OPERATING CASH FLOW The Company expects to continue to operate on a negative cash flow basis due to the level of cash required to fund the increases in the volume of loans purchased and originated. Currently, the Company's primary operating cash uses include the funding of (i) Mortgage Loan originations and purchases pending their securitization or sale, (ii) interest expense on CII investor savings notes ("CII Notes"), senior unsecured debt and its warehouse credit facilities ("Credit Facilities"), (iii) fees, expenses, overcollateralization and tax payments incurred in connection with the securitization program and (iv) ongoing administrative and other operating expenses. The Company's primary operating sources of cash are (i) cash gains from sale of SBA loan participations and whole-loan mortgage loan sales. (ii) cash payments of contractual and ancillary servicing revenues received by the Company in its capacity as servicer for securitized and subserviced loans, ( nterest income on loans receivable and certain cash balances, (iv) fee income received in connection with its retail mortgage loan originations, and (v) excess cash flow received in each period with respect to interest-only and residual certifica Creating negative cash flow is the requirement to provide overcollateralization of loans as credit enhancement on the mortgage securitization transactions. This will continue to negatively impact the Company's cash flow as additional mortgage securitizations are completed in the future, unless the Company decides to alter its securitization structures or sell its residual interests in the securitization trusts. The Company reduces the negative cash flow impact from the overcollateralization of loans included in securitizations by continuing to sell whole loans on a cash basis. Cash flow is also enhanced by the generation of loan fees in its retail mortgage loan operation and the utilization of a wholesale loan origination strategy whereby loans are generally funded at par, rather than at the significant premiums typically associated with a correspondent-based strategy. The table below summarizes cash flows provided by and used in operating activities:
Years Ended December 31, ------------------------------------------------- 1997 1996 1995 ------------- ------------- --------------- (IN THOUSANDS) OPERATING CASH INCOME: Servicing fees received and excess cash flow from securitization trusts $ 12,498 $ 3,782 $ 1,259 Interest received 31,716 17,392 14,549 Cash gain on sale of loans 14,153 20,862 8,987 Cash loan origination fees received 31,843 4,714 -- Other cash income 1,875 1,266 491 ------------- ------------- --------------- Total operating cash income 92,085 48,016 25,286 OPERATING CASH EXPENSES: Securitization costs (3,646) (849) (266) Securitization hedge losses (2,125) -- -- Cash operating expenses (81,594) (21,625) (9,480) Interest paid (20,980) (11,046) (8,424) Taxes paid (1,581) (322) (267) ------------- ------------- --------------- Total operating cash expenses (109,926) (33,842) (18,437) CASH FLOW (DEFICIT) DUE TO OPERATING CASH INCOME AND EXPENSES (17,841) 14,174 6,849 5 Years Ended December 31, ------------------------------------------------- 1997 1996 1995 ------------- ------------- --------------- (IN THOUSANDS) OTHER CASH FLOWS: Cash used in other payables and receivables $ (4,978) $ (5,959) $ (4,850) Cash used in loans held for sale (114,282) (86,770) (13,767) Net cash provided by operating activities of discontinued operations -- 77 1,592 ------------- ------------- --------------- NET CASH USED IN OPERATING ACTIVITIES $ (137,101) $ (78,478) $ (10,176) ============= ============= ===============
PROFITABILITY The principal components of the Company's profitability are (i) interest, fees and servicing revenues earned on its serviced loans receivable reduced by interest paid on borrowed funds associated with such serviced loans receivable; (ii) gains resulting from the sale and securitization of its loans, including loan origination fees recognized. For the periods indicated, the following table sets forth certain information derived from the Company's Consolidated Financial Statements expressed as a percentage of total revenues.
For the Year Ended December 31, ---------------------------------------- 1997 1996 1995 ---------- ---------- ---------- Interest income 26.8 % 35.5 % 57.8 % Servicing income 6.7 6.5 1.7 Cash gain on sale of loans 11.1 41.4 30.3 Non-cash gain on sale of loans 30.5 5.9 4.6 Loan fee income 23.8 8.2 2.2 Other revenues 1.1 2.5 3.4 ========== ========== ========== Total revenues 100.0 % 100.0 % 100.0 % ========== ========== ========== Interest expense 19.8 % 21.9 % 32.5 % Provision for credit losses 7.9 10.7 9.4 Business development costs 5.9 3.2 2.5 Other general and administrative expenses 60.5 43.4 37.1 Income from continuing operations before income taxes 5.9 20.8 18.5 Income tax expense (benefit) (3.1) 1.4 0.8 Minority interest (0.1) 0.7 (0.3) Income (loss) from discontinued operations -- -- (14.9) ---------- ---------- ---------- Net income 8.9 % 20.1 % 2.5 % ========== ========== ========== The Company's net income, as a percentage of revenues, decreased substantially in 1997 from 1996 as a result of increased expenses associated with the start-up of three new retail mortgage regional operating centers for HomeGold(R), expansion of Sterling Lending Corp. retail mortgage branches to 13, expansion of portfolio management department to handle anticipated increases to the Company's serviced portfolio, and expansion of broker wholesale operations. These significant start-up costs were expensed during 1997 and accordingly, have substantially reduced current operating profit margins. For the fourth quarter of 1997, income from continuing operations decreased to a loss of $457,000 from income of $4.3 million in the third quarter. The profit margin worsened as a result of approximately $500,000 additional reserves taken in the Auto Loan Division (which was sold in March 1998), write-off of approximately $3.0 million for potential loss on a receivable from a former strategic alliance partner, approximately $500,000) of additional costs for the Small Business Loan Division as a result of continued expansion of that business, and approximately $5.3 million in increased costs for the Mortgage Loan Division. Approximately $2.6 million of these increased costs was due to the new Houston Regional Operating Center for HomeGold(R) which was opened on October 1, 1997. Approximately $1.0 million of the increased costs was due to increased personnel and expansion of the broker wholesale operations, which is being increased from 4 regions to 7 regions. The remaining increased costs for the Mortgage Loan Division in the fourth quarter 1997 was due to additional expansion in the other three HomeGold(R) Regional Operating Centers, additional corporate infrastructure for MIS and Training, and continued enhancements and expansion of the portfolio management department. These expansions were partially performed in anticipation of meeting increased origination estimates. Origination volume, however, levelled-off in the fourth quarter of 1997 ($308.4 million in the fourth quarter as compared to $300.2 million in the third quarter), which combined with the continued expansion, contributed to the decreased operating margins. The Company anticipates its efficiency ratios for loans originated per originator to decrease in the first quarter of 1998 as a result of the Company's reorganization and personnel changes, and accordingly will continue to have higher costs relative to revenue during the first part of 1998. Management plans to improve these efficiency ratios, both through evaluating and improving loans originated per originator as well as to cut operating costs where possible to improve operating efficiencies by the end of 1998.
RESULTS OF OPERATIONS YEAR ENDED DECEMBER 31, 1997, COMPARED TO YEAR ENDED DECEMBER 31, 1996 Total revenues increased $76.6 million, or 152%, to $127.0 million in 1997 from $50.4 million in 1996. The higher level of revenues resulted principally from increases in interest income, servicing income, and gain on sale of loans. 6 Interest income increased $16.1 million, or 90%, to $34.0 million in 1997 from $17.9 million in 1996. This growth resulted primarily from the growth experienced by the Mortgage Loan Division. Interest income earned by the Mortgage Loan Division increased $12.6 million, or 92%, to $26.3 million in 1997 from $13.7 million in 1996. This increase was due principally to the growth in the average outstanding loan portfolio in the Mortgage Loan Division, which increased $143.0 million, or 147%, to $240.3 million in 1997 from $97.3 million in 1996, reflecting the increased loan origination levels generated by that Division. Servicing income increased $5.2 million, or 158%, to $8.5 million in 1997 from $3.3 million in 1996. This increase was due principally to the securitization of Mortgage Loans in 1997, for which the Company retained servicing rights. Prior to 1997, the Mortgage Loan Division did not securitize its loans. The Mortgage Loan Division securitized $487.6 million in loans in 1997. The average serviced loan portfolio for the Mortgage Loan Division increased $343.5 million, or 353%, to $440.8 million from $97.3 million. Cash gain on sale of loans decreased $6.7 million, or 32%, to $14.2 million in 1997 from $20.9 million in 1996. The decrease resulted principally from decreased premiums on sales of Mortgage Loans. The weighted average gain on sale of Mortgage Loans decreased 3.3%, or 54%, to 2.8% in 1997 from 6.1% in 1996. This decrease in premiums is due primarily to the product sold in 1997 compared to 1996. In 1996, the majority of loans sold was first mortgage loans. In 1997, most first mortgage loans originated were securitized, while second mortgage loans were whole-loan sold. Mortgage Loans sold increased $150.5 million, or 53%, to $435.3 million in 1997 from $284.8 million in 1996. Non-cash gain on sale of loans increased $35.7 million to $38.7 million in 1997 from $3.0 million in 1996. The increase in non-cash gain on sale of loans was due principally to the securitization of Mortgage Loans in 1997, which was not done prior to 1997. The Mortgage Loan Division securitized $487.6 million in loans in 1997 and recognized a weighted average non-cash gain on sale as a percentage of loans securitized of 7.4%, net of expenses. All non-cash gain on sale of loans in 1996 related to the Small Business Loan Division. Loan fees increased $26.0 million to $30.2 million in 1997 from $4.2 million in 1996. The higher loan fees was due principally to the increase in retail loan originations in the Mortgage Loan Division. The Company receives substantially higher fees on loans it originates through its retail operations than it receives on loans purchased. Retail loan originations increased $493.9 million, or 718%, to $562.7 million in 1997 from $68.8 million in 1996. Loan fees are deferred and recognized as interest income over the life of the loan. All unamortized loan fees, net of origination costs, are realized as part of the gain on sale of loans when the loans are sold or securitized. Other revenues increased $158,000, or 13%, to $1.4 million in 1997 from $1.2 million in 1996. Other revenues are comprised principally of insurance commissions and management fees. The increase of other revenues resulted principally from the increase in the Company's loan originations. Total expenses increased $79.5 million, or 199%, to $119.4 million in 1997 from $39.9 million in 1996. Total expenses are comprised of provision for credit losses, interest expense, business development, and other general and administrative expenses. 7 Interest expense increased $14.1 million, or 128%, to $25.1 million in 1997 from $11.0 million in 1996. The increase in interest expense was due principally to increased borrowings by the Mortgage Loan Division associated with increased loan originations and the offering of the Company's Senior Notes due 2004. Interest expense in the Mortgage Loan Division increased $10.1 million in 1997 from 1996. Average borrowings attributable to the Mortgage Loan Division, both under its warehouse credit facilities and in connection with the sales of notes payable to investors and subordinated debentures, increased $134.6 million, or 105%, to $262.3 million at December 31, 1997 from $127.7 million at December 31, 1996. In September 1997, the Company also completed the $125.0 million offering of the Company's Senior Notes due 2004 with interest payable at 10.75%. Provision for credit losses increased $4.6 million, or 85%, to $10.0 million in 1997 from $5.4 million in 1996. The provision was made to maintain the general reserves for credit losses associated with loans held for investment, as well as to increase specific reserves for possible losses with regard to particular loans. General and administrative expense increased $60.8 million, or 259%, to $84.3 million in 1997 from $23.5 million in 1996. This is a result primarily from the increased personnel costs in the Mortgage Loan Division due to the continued expansion in the portfolio management, underwriting, processing, and closing departments, and the increased expenses associated with the opening of retail lending offices in Greenville and Houston in 1997. General and administrative expenses increased to 13.4% of average serviced loans in 1997 from 9.6% in 1996, principally as a result of the higher costs associated with the retail mortgage origination facilities. Retail production increased 717% in 1997. Net income increased $1.2 million, or 12%, to $11.3 million in 1997 from $10.1 million in 1996. The improvement in income was due principally to the increased growth and profitability of the Small Business Loan Division and a $3.9 million tax benefit recorded in 1997 due to the recognition of the deferred tax benefit associated with the net operating loss carryforward. YEAR ENDED DECEMBER 31, 1996, COMPARED TO YEAR ENDED DECEMBER 31, 1995 Total revenues increased $24.1 million, or 92%, to $50.4 million in 1996 from $26.3 million in 1995. The increase in revenues resulted principally from increases in interest and servicing revenue and gain on sale of loans. Interest income increased $2.7 million, or 18%, to $17.9 million in 1996 from $15.2 million in 1995. This increase was due principally to the growth in the serviced loan portfolio in the Mortgage Loan Division. Interest income earned by the Mortgage Loan Division increased $4.6 million or 51%, to $13.7 million in 1996 from $9.1 million in 1995. Servicing income increased $2.9 million, or 640%, to $3.3 million in 1996 from $446,000 in 1995. This increase was due to the securitizations of Small Business Loans and Auto Loans in 1996, for which the Company retains servicing rights. 8 Cash gain on sale of loans increased $12.9 million, or 161%, to $20.9 million in 1996 from $8.0 million in 1995. The increase resulted principally from increased sales of Mortgage Loans and Small Business Loans associated with the increased loan originations. Mortgage Loans sold increased $157.2 million, or 123%, to $284.8 million in 1996 from $127.6 million in 1995. Small Business Loans sold increased $7.7 million, or 30%, to $33.1 million in 1996 from $25.4 million in 1995. Additionally, the Company received a recoupment of previously shared premiums of $7.3 million in connection with the settlement with First Greensboro Home Equity, Inc. and Amerifund Group, Inc., two strategic alliance partners who terminated their agreements with the Company in 1996. Non-cash gain on sale of loans increased $1.8 million, or 150%, to $3.0 million in 1996 from $1.2 million in 1995. The increase resulted principally from the increase in total loans securitized. In 1995, $17.1 million of Small Business Loans were securitized. In 1996, $29.0 million of Small Business and Auto Loans were securitized. Loan fees increased $3.6 million, or 616%, to $4.2 million in 1996 from $586,000 in 1995. The increase in loan fees was due principally to the increase in loan originations in the Mortgage Loan Division. Other revenues increased $357,000, or 40%, to $1.2 million in 1996 from $884,000 in 1995. Other revenues are comprised principally of insurance commissions and management fees. The increase of other revenues resulted principally from the increase in the Company's loan originations. Total expenses increased $18.5 million, or 86%, to $39.9 million in 1996 from $21.4 million in 1995. Total expenses are comprised of interest expense, provision for credit losses and general and administrative expenses. Interest expense increased $2.5 million, or 29%, to $11.0 million in 1996 from $8.5 million in 1995. The increase was due principally to increased borrowings by the Mortgage and Small Business Loan Divisions associated with increased loan originations. Borrowings attributable to the Mortgage Loan Division, both under its warehouse credit facilities and in connection with the sales of notes payable to investors and subordinated debentures, increased $55.7 million, or 53%, to $160.9 million at December 31, 1996 from $105.2 million at December 31, 1995. Interest expense in the Mortgage Loan Division increased $2.4 million in 1996 from 1995. Total borrowings attributable to the Small Business Loan Division decreased $6.1 million, or 41%, to $8.7 million at December 31, 1996 from $14.8 at December 31, 1995. This decrease in debt resulted principally from cash received from the securitization completed in November 1996, which was used to pay down outstanding debt. Interest expense in the Small Business Loan Division increased $198,000 in 1996 from 1995. There were no borrowings outstanding in the Auto Loan Division as of December 31, 1996, down from $9.9 million at December 31, 1995. This decrease resulted principally from cash received from the securitization transaction completed in March 1996 and from the Company's public offering completed in November 1996. The offering was used to pay outstanding debt. Interest expense in the Auto Loan Division decreased $220,000 in 1996 from 1995. Provision for credit losses increased $2.9 million, or 116%, to $5.4 million in 1996 from $2.5 million in 1995. The provision was made to maintain the general reserves for 9 credit losses associated with loan originations, as well as to increase specific reserves for possible losses with particular loans. General and administrative expense increased $13.1 million, or 126%, to $23.5 million in 1996 from $10.4 million in 1995. This is a result of increased personnel costs in the Mortgage Loan Division due to the continued expansion in the portfolio management and underwriting departments, and the increased expenses associated with the opening of retail lending offices in Indianapolis, Baton Rouge, New Orleans, and Phoenix. General and administrative expenses increased to 9.62% in 1996 from 5.63% of average serviced loans in 1995, principally as a result of the costs associated with the retail mortgage origination facilities, for which the related production was sold on a non-recourse, servicing-released basis, with customary representations and warranties. Accordingly, costs have been increased relative to the serviced portfolio. Net income increased $5.5 million, or 120%, to $10.1 million in 1996 from $4.6 million in 1995. The improvement in income was due principally to the increased growth and profitability of the Mortgage Loan Division, although the Small Business Loan Division's profitability also increased significantly in 1996 from 1995. FINANCIAL CONDITION Net loans receivable increased $103.4 million to $288.4 million at December 31, 1997 from $185.0 million at December 31, 1996. The increase in investment in asset-backed securities of $12.8 million was due primarily to the overcollateralization associated with the retention of the residual interest certificates in the Company's mortgage loan securitizations completed in each quarter of 1997. The interest only strip security increased by $40.1 million to $44.4 million at December 31, 1997, from $4.3 million at December 31, 1996. This increase resulted primarily from the estimated present value of the excess cash flow on mortgage loans sold with servicing retained of $44.1 million, offset by amortization of $4.0 million. Net property, plant and equipment increased by $10.9 million to $18.1 million at December 31, 1997, from $7.2 million at December 31, 1996. The Company purchased additional computer equipment to provide system improvements and equipment supporting electronic document generation, storage, and retrieval. The Company purchased a 100,000 square foot building for approximately $4.5 million in late 1997 in Greenville, South Carolina to facilitate the growth in the Mortgage Loan Division. The Company also purchased additional furniture and office equipment in connection with the continued expansion in the portfolio management, underwriting, processing, and closing departments, and the opening of retail lending offices in Greenville and Houston. Other assets increased by $14.1 million to $17.6 million at December 31, 1997 from $3.5 million at December 31, 1996. The increase results primarily from $4.4 million in debt origination costs incurred in the offering of the Company's Senior Notes due 2004, the recording of a deferred tax asset of approximately $4.2 million, the capitalization of approximately $1.9 million in direct mail advertising costs, and approximately $1.6 million of capitalized costs associated with the implementation of a new loan origination and processing system. The primary source of funding the Company's receivables comes from borrowings issued under various credit arrangements (including the Credit Facilities, CII Notes, 10 and the Company's Senior Notes due 2004). At December 31, 1997, the Company had debt outstanding under warehouse lines of credit to banks of $77.6 million, which compares with $55.5 million at December 31, 1996, for an increase of $22.1 million. During September 1997, the Company issued $125.0 million of Senior Notes due 2004. At December 31, 1997, the Company had $134.3 million of CII Notes outstanding, which compares with $114.1 million at December 31, 1996, for an increase of $20.2 million. Total stockholders' equity at December 31, 1997 was $63.4 million, which compares to $46.6 million at December 31, 1996, an increase of $16.8 million. This increase resulted principally from net income of $11.3 million for the year ended December 31, 1997 and the issuance of stock in the amount of $5.2 million related to the acquisition of the remaining 87% of Reedy River Ventures that the Company did not previously own. DISCONTINUED OPERATIONS TRANSPORTATION SEGMENT In connection with the Company's strategic plan to focus its business efforts on the financial services segment, the Company divested its transportation segment operations during 1994 and 1995. As a result, the transportation segment has been classified as discontinued operations, and accordingly, the Company's Consolidated Financial Statements and the Notes related thereto segregate continuing and discontinued operations. The transportation segment had a loss of $320,000 in 1995. Operating revenues for the transportation segment were $390,000 in 1995. These revenues were due principally to the progressive sale of assets associated with the transportation segment. The Company does not believe that there are material liabilities, contingent or otherwise, with respect to its transportation segment. APPAREL SEGMENT In connection with the Company's strategic plan to focus its business efforts on the financial services segment, the Company sold all of the outstanding stock of Young Generations, Inc. (a former Company subsidiary, which manufactures children's apparel) ("YGI") in exchange for a non-recourse note in September 1995, thereby divesting its apparel segment operations. In connection with the sale of YGI, the Company wrote off all amounts due the Company from YGI as intercompany debt and amounts due to the Company from the purchasers of the YGI stock, which amounts totaled $3.9 million, net of income taxes of $156,000. The Company remains contingently liable for its guarantee of certain bank loans and certain trade accounts payable, which at December 31, 1997 totaled approximately $150,000 and were secured by substantially all of YGI's assets. In 1997 and 1996, the Company loaned additional amounts to YGI, $800,000 of which remained outstanding at December 31, 1997. As a result of the sale of YGI, the operating results of the apparel segment have been classified as discontinued operations. The Company does not anticipate loaning any more money to YGI in the future. The Company may incur additional charges to future earnings as a result of these guarantees and loans to YGI, if YGI is unable to repay the indebtedness. The apparel segment had a net loss of $1.3 million in 1995. The apparel segment had revenues of $7.3 million in 1995. 11 ALLOWANCE FOR CREDIT LOSSES AND CREDIT LOSS EXPERIENCE The Company is exposed to the risk of loan delinquencies and defaults with respect to loans retained in its portfolio. With respect to loans to be sold on a non-recourse basis, the Company is at risk for loan delinquencies and defaults on such loans while they are held by the Company pending such sale. To provide for credit losses, the Company charges against current earnings an amount necessary to maintain the allowance for credit losses at levels expected to cover inherent losses in loans held for investment. The table below summarizes certain information with respect to the Company's allowance for credit losses on the owned portfolio for each of the periods indicated. SUMMARY OF ALLOWANCE FOR CREDIT LOSSES ON OWNED PORTFOLIO
At and For the Year Ended December 31, ------------------------------------------ 1997 1996 1995 ----------- ----------- ------------ (IN THOUSANDS) Allowance for credit losses at beginning of period $ 3,084 $ 1,874 $ 1,730 Net charge-offs (5,166) (2,494) (1,563) Provision charged to expense 10,030 5,416 2,480 Securitization transfers (1,420) (1,712) (773) ----------- ----------- ------------ Allowance for credit losses at the end of the period $ 6,528 $ 3,084 $ 1,874 =========== =========== ============
The Company considers its allowance for credit losses to be adequate in view of the Company's loss experience and the secured nature of most of the Company's outstanding loans. Although management considers the allowance appropriate and adequate to cover inherent losses in the loan portfolio, management's judgment is based upon a number of assumptions about future events, which are believed to be reasonable, but which may or may not prove valid. Thus, there can be no assurance that charge-offs in future periods will not exceed the allowance for credit losses or that additional increases in the allowance for possible credit losses will not be required. In securitization transactions, the interest-only, subordinate and/or residual certificates bear the risk of default for the entire pool of securitized loans to the extent of such certificates' value. Accordingly, the value of the interest-only, subordinate and/or residual certificates retained by the Company would be impaired to the extent losses on the securitized loans exceed the amount estimated when determining the residual cash flows. 12 The table below summarizes certain information with respect to the Company's allowance for losses on the securitization residual assets for each of the periods indicated. SUMMARY OF EMBEDDED ALLOWANCE FOR LOSSES ON SECURITIZATION RESIDUAL ASSETS
At and For the Year Ended December 31, ------------------------------------------ 1997 1996 1995 ------------ ----------- ----------- (IN THOUSANDS) INTEREST-ONLY STRIP SECURITIES: Allowance for losses at beginning of period $ 848 $ -- $ -- Net charge-offs (1,533) (1,155) -- Anticipated losses net against gain 13,278 -- -- Allowance transferred from owned portfolio 1,662 2,003 -- ------------ ----------- ----------- Allowance for losses at the end of the period $ 14,255 $ 848 $ -- ============ =========== =========== ASSET-BACKED SECURITIES: Allowance for losses at beginning of period $ 354 $ 773 -- Net charge-offs (112) (128) -- Transfer from (to) owned portfolio (242) (291) 773 ------------ ----------- ----------- Allowance for losses at end of year $ -- $ 354 $ 773 ============ =========== ===========
The table below summarizes the Company's allowance for credit losses with respect to the Company's total managed portfolio (including both owned and securitized loan pools) for each of the periods indicated. SUMMARY OF ALLOWANCE FOR CREDIT LOSSES ON MANAGED PORTFOLIO
At and For the Year Ended December 31, ------------------------------------------ 1997 1996 1995 ----------- ----------- ------------ (IN THOUSANDS) Allowance for credit losses at beginning of period $ 4,286 $ 2,647 $ 1,730 Net charge-offs (6,811) (3,777) (1,563) Provision charged to expense 10,030 5,416 2,480 Provision netted against gain on securitizations 13,278 -- -- ----------- ----------- ------------ Allowance for credit losses at the end of the period $ 20,783 $ 4,286 $ 2,647 =========== =========== ============ Allowance as a % of total managed portfolio 2.60% 2.02% 2.03% Net charge-offs as a % of average managed portfolio 1.38% 2.47% 1.43% The total allowance for credit losses as shown on the balance sheet is as follows: Allowance for credit losses on loans $ 6,528 $ 3,084 $ 1,874 Allowance for credit losses on asset-backed securities -- 354 773 Allowance for credit losses on interest-only strip security 14,255 848 -- ----------- ----------- ------------ Total allowance for credit losses $ 20,783 $ 4,286 $ 2,647 =========== =========== ============
13 Management closely monitors delinquencies to measure the quality of its loan portfolio and securitized loans and the potential for credit losses. The Company's policy is to generally place a loan on non-accrual status after it becomes 90 days past due, if collection in full is questionable. Collection efforts on charged-off loans continue until the obligation is satisfied or until it is determined that such obligation is not collectible or the cost of continued collection efforts would exceed the potential recovery. Recoveries of previously charged-off loans are credited to the allowance for credit losses. Management monitors securitized pool delinquencies using a static pool analysis by month by pool balance. Since these pools are new, it is anticipated that the delinquencies will ramp up during the first one to two years. Current year results are not necessarily indicative of future performance. The following sets forth the static pool analysis for delinquencies by month in the Mortgage Loan Division's securitized pools.
CURRENT PRINCIPAL BALANCE ---------------------------------------------------------------------------------- MONTHS FROM POOL INCEPTION 1997-1 1997-2 1997-3 1997-4 ---------------------------------------------------------------------------------- 1 77,435,632 120,860,326 130,917,899 118,585,860 2 77,045,312 120,119,653 169,093,916 3 76,709,417 119,364,510 168,182,957 4 75,889,160 118,965,905 166,783,489 5 75,395,969 117,236,893 6 74,630,019 115,870,168 7 73,149,957 113,537,447 8 72,261,386 9 71,342,842 10 70,195,198 DELINQUENCIES > 30 DAYS PAST DUE ---------------------------------------------------------------------------------- MONTHS FROM POOL INCEPTION 1997-1 1997-2 1997-3 1997-4 ---------------------------------------------------------------------------------- 1 -- 515,954 609,201 402,972 2 1,499,056 1,631,017 2,042,757 3 858,311 3,930,423 4,498,266 4 3,760,775 5,399,570 8,546,414 5 5,220,385 7,293,855 6 5,849,574 9,790,731 7 6,777,961 11,933,526 8 8,078,783 9 8,475,207 10 9,911,115 DELINQUENCIES > 30 DAYS PAST DUE AS A PERCENT OF CURRENT BALANCE -------------------------------------------------------------------------------------------------- MONTHS FROM POOL INCEPTION 1997-1 1997-2 1997-3 1997-4 AVERAGE -------------------------------------------------------------------------------------------------- 1 0.00% 0.43% 0.47% 0.34% 0.31% 2 1.94% 1.36% 1.21% 1.50% 3 1.12% 3.29% 2.67% 2.36% 4 4.96% 4.54% 5.12% 4.87% 5 6.92% 6.22% 6.57% 6 7.84% 8.45% 8.14% 7 9.27% 10.51% 9.89% 8 11.18% 11.18% 9 11.88% 11.88% 10 14.12% 14.12% ACTUAL HISTORICAL PREPAYMENT SPEED 11 CPR 9 CPR 5 CPR N/A
14 The following sets forth the static pool analysis for delinquencies by quarter in the Small Business Loan Division's securitized pools.
CURRENT PRINCIPAL BALANCE ---------------------------------------------------------------------------- MONTHS FROM POOL INCEPTION 1995-1 1996-1 1997-1 ---------------------------------------------------------------------------- 1 16,728,904 12,835,117 19,635,971 4 16,293,396 17,198,763 7 15,292,515 17,128,785 10 14,816,770 16,850,017 13 14,147,481 15,768,712 16 13,214,217 19 11,685,931 22 11,367,569 25 10,932,915 28 10,043,467 31 9,263,383 DELINQUENCIES > 30 DAYS ---------------------------------------------------------------------------- MONTHS FROM POOL INCEPTION 1995-1 1996-1 1997-1 ---------------------------------------------------------------------------- 1 388,110 69,463 474,946 4 1,504,537 320,625 7 1,230,648 2,275,021 10 1,160,321 1,602,343 13 1,399,070 1,058,535 16 1,198,855 19 999,427 22 791,103 25 582,389 28 349,993 31 383,049 DELINQUENCIES > 30 DAYS AS A % OF CURRENT BALANCE ------------------------------------------------------------------------------------------ MONTHS FROM POOL INCEPTION 1995-1 1996-1 1997-1 AVERAGE ------------------------------------------------------------------------------------------ 1 2.32% 0.54% 2.42% 1.76% 4 9.23% 1.86% 5.55% 7 8.05% 13.28% 10.66% 10 7.83% 9.51% 8.67% 13 9.89% 6.71% 8.30% 16 9.07% 9.07% 19 8.55% 8.55% 22 6.96% 6.96% 25 5.33% 5.33% 28 3.48% 3.48% 31 4.14% 4.14% ACTUAL HISTORICAL PREPAYMENT SPEED 13 CPR 8 CPR N/A
15 The following table sets forth the Company's allowance for credit losses on the managed portfolio at the end of the periods indicated, the credit loss experience over the periods indicated, and delinquent loan information at the dates indicated for loans receivable at least 30 days past due.
At and For the Year Ended December 31, -------------------------------------- 1997 1996 1995 ---------- --------- --------- ALLOWANCE FOR CREDIT LOSSES AS A % OF SERVICED LOANS (1): Mortgage Loan Division 1.98% 0.80% 0.93% Small Business Loan Division 6.76 3.84 4.50 Auto Loan Division 7.58 6.45 4.03 Total allowance for credit losses as a % of serviced 2.60 2.02 2.03 loans NET CHARGE-OFFS AS A % OF AVERAGE SERVICED LOANS (2): Mortgage Loan Division 0.32 0.81 1.04 Small Business Loan Division 2.74 2.71 1.43 Auto Loan Division 17.17 9.65 3.68 Total net charge-offs as a % of total serviced loans 1.38 2.47 1.43 LOANS RECEIVABLE PAST DUE 30 DAYS OR MORE AS A % OF SERVICED LOANS (1): Mortgage Loan Division 8.00 7.26 14.43 Small Business Loan Division 4.17 7.92 9.69 Auto Loan Division 9.41 17.09 12.83 Total loans receivable past due 30 days or more as a % of total serviced loans 7.66 8.41 13.31 TOTAL ALLOWANCE FOR CREDIT LOSSES AS A % OF SERVICED LOANS PAST DUE 90 DAYS OR MORE (1) 94.33% 88.71% 73.21%
(1) For purposes of these calculations, serviced loans represents all loans for which the Company bears credit risk, and includes all portfolio Mortgage Loans and Auto Loans, all securitized loans, and the Small Business Loans, but excludes the guaranteed portion of the SBA Loans and Mortgage Loans serviced without credit risk. (2) Average serviced loans have been determined by using beginning and ending balances for the period presented except that the 1996 and 1997 averages are calculated based on the daily averages for Small Business Loan Division and Auto Loan Division and monthly averages for the Mortgage Loan Division (rather than the beginning and ending balances). Over the last several years, and more acutely in 1997, the Company has expanded rapidly. The reduction to net charge-offs and loans past due as a percentage of total serviced mortgage loans is due, in part, to the increased origination volume. The Company anticipates that its total charge-offs and delinquencies will generally be higher than they were at December 31, 1997 as the portfolio becomes more seasoned. LIQUIDITY AND CAPITAL RESOURCES The Company's business requires continued access to short- and long-term sources of debt financing and equity capital. The Company's cash requirements arise from loan originations and purchases, repayments of debt upon maturity, payments of operating and interest expenses, expansion activities and capital expenditures. The Company's primary sources of liquidity are cash flow from operations, sales of the loans it originates and purchases, proceeds from the sale of CII Notes, borrowings under the Credit Facilities and proceeds from 16 securitization of loans. While the Company believes that such sources of funds will be adequate to meet its liquidity requirements, no assurance of such fact may be given. Shareholders' equity increased to $63.4 million at December 31, 1997 from $46.6 million at December 31, 1996, and from $9.9 million at December 31, 1995. Each of these increases resulted principally from the retention of income by the Company and, for 1997, the issuance of 494,000 additional shares of common stock at a value of $5.2 million related to the acquisition of the 87% of RRV that the Company did not already own, and for 1996, a public stock offering with proceeds of $26.1 million. Cash and cash equivalents were $7.6 million at December 31, 1997, $1.3 million at December 31, 1996, and $1.3 million at December 31, 1995. Cash used in operating activities increased to $137.1 million for the year ended December 31, 1997, from $78.5 million for the year ended ended December 31, 1996; cash used in investing activities increased to $20.8 million for the year ended December 31, 1997, from cash provided by investing activities of $12.2 million for the year ended ended December 31, 1996; and cash provided by financing activities increased to $164.2 million for the year ended December 31, 1997, from $66.3 million for the year ended ended December 31, 1996. The increase in cash used in operations was due principally to the increase in loan originations during 1997. Cash used in investing activities was principally for the net increase in loans originated for investment purposes. The increase in cash provided by financing activities was due principally to the receipt of approximately $120.6 million in proceeds from the offering of the Company's Senior Notes due 2004 completed in September of 1997. At December 31, 1997, the Company's credit facilities ("Credit Facilities") were comprised principally of credit facilities of $395.0 million for the mortgage loan division (the "Mortgage Loan Division Facility") and credit facilities of $50.0 million for the small business loan division (the "Small Business Loan Division Facility"). Based on the borrowing base limitations contained in the Credit Facilities, at December 31, 1997, the Company had aggregate outstanding borrowings of $63.1 million and aggregate borrowing availability of $55.8 million under the Mortgage Loan Division Facility and aggregate outstanding borrowings of $14.5 million and aggregate borrowing availability of $13.0 million under the Small Business Loan Division Facility. Total Company borrowings and availabilty at December 31, 1997 under the Credit Facilities were $77.6 million and $68.8 million, respectively. The Mortgage Loan Division Facility and the Small Business Loan Division Facility both bear interest at variable rates, ranging from Fed Funds plus 1.875% to the bank's prime rate. The Credit Facilities have original terms ranging from three months to three years and are renewable upon the mutual agreement of the Company and the respective lender. The Credit Facilities contain a number of financial covenants, including, but not limited to, covenants with respect to certain debt to equity ratios, borrowing base calculations and minimum adjusted tangible net worth. The Credit Facilities also contain certain other covenants, including, but not limited to, covenants that impose limitations on the Company and its subsidiaries with respect to declaring or paying dividends and making other distributions, making payments with respect to certain subordinated debt, and making certain changes to its equity capital structure. A majority of the credit facilities included in the Mortgage Loan Division Facility prohibit subsidiaries of the Company, parties to the credit facilities, from paying dividends or distributions to the Company in excess of 50% of such subsidiaries' cummulative net income as determined for the most recent four consecutive completed fiscal quarters, on a cumulative rolling basis and if an event of default exists at the time of, or after giving effect to the dividend or distribution. The Small Business Loan Division Facility contains provisions prohibiting subsidiaries of the Company, parties to the included credit facilities, from paying dividends or distributions to the Company unless such provisions are waived by the lender. The Company believes that it is currently in substantial compliance with the loan covenants. In instances where the Company is not in compliance with such covenants, the Company has obtained a waiver of noncompliance from the bank. 17 During 1997, the Company sold $125.0 million aggregate principal amount of Senior Notes due 2004. The Senior Notes due 2004 constitute unsecured indebtedness of the Company. The Senior Notes due 2004 are redeemable at the option of the Company, in whole or in part, on or after September 15, 2001, at predetermined redemption prices plus accrued and unpaid interest to the date of redemption. This agreement requires, among other matters, a maximum ratio of total liabilities to tangible net worth, limitations on the amount of capital expenditures, and restrictions on the payment of dividends. At December 31, 1997, management believes the Company was in compliance with such restrictive covenants. The Senior Notes due 2004 are fully and unconditionally guaranteed (the "Subsidiary Guarantees") jointly and severally on an unsecured basis (each, a "Guarantee") by certain of the Company's subsidiaries (the "Subsidiary Guarantors"). With the exception of the Guarantee by CII, the Subsidiary Guarantees rank PARI PASSU in right of payment with all existing and future unsubordinated indebtedness of the Subsidiary Guarantors and senior in right of payment to all existing and future subordinated indebtedness of such Guarantors. The Guarantee by CII is equal in priority to CII's notes payable to investors and is senior to CII's subordinated debentures. CII engages in the sale of CII Notes to investors. The CII Notes are comprised of senior notes and subordinated debentures bearing fixed rates of interest which are sold by CII only to South Carolina residents. The offering of the CII Notes is registered under South Carolina securities law and is exempt from Federal registration under the Federal intrastate exemption. CII conducts its operations so as to qualify for the safe harbor provisions of Rule 147 promulgated pursuant to the Securities Act of 1933, as amended (the "Securities Act"). At December 31, 1997, CII had an aggregate of $115.4 million of senior notes outstanding bearing a weighted average interest rate of 7.7%, and an aggregate of $18.9 million of subordinated debentures bearing a weighted average interest rate of 5.0%. The senior notes and subordinated debentures are subordinate in priority to the Mortgage Loan Division Credit Facility. The senior notes rank PARI PASSU with the senior unsecured debt of the Company. Substantially all of the CII Notes have one year maturities. The Company has enhanced its management information systems during 1997, as well as incurring additional other capital expenditures, including the purchase of a 100,000 square foot building in late 1997 in Greenville, South Carolina to facilitate the growth in the Mortgage Loan Division. The Company expects to incur additional capital expenditures in 1998 for improvements to this building, additional Management Information Systems improvements, and other capital additions. LOAN SALES AND SECURITIZATIONS The Company sells or securitizes substantially all of its loans. The Company sells on a whole loan basis a minority of its Mortgage Loans (servicing released), including substantially all of its Mortgage Loans secured by second liens and loans originated through Strategic Alliance Mortgage Bankers, and all of its SBA Loan Participations (servicing retained), principally to secure the additional cash flow associated with the premiums paid in connection with such sales and to eliminate the credit risk associated with the second lien mortgage loans. However, no assurance can be given that the second mortgage loans can be successfully sold. To the extent that the loans are not sold, the Company retains the risk of loss. At December 31, 1997 and 1996, the Company had retained $69.8 million and $28.1 million, respectively, of second mortgage loans on its balance sheet. During 1997, 1996 and 1995, the Company sold $435.3 million, $284.8 million and $127.6 million, respectively, of Mortgage Loans and $41.2 million, $33.1 million, and $25.4 million, respectively, of SBA Loan Participations. 18 On a quarterly basis in 1997, the Company securitized substantial amounts of its Mortgage Loans, totaling $487.6 million. Since 1995, the Company has securitized $54.2 million of loans representing the unguaranteed portions of the SBA Loans and $16.1 million of Auto Loans. Although securitizations provide liquidity, the Company has utilized securitizations principally to provide a lower cost of funds and reduce interest rate risk, while building servicing revenues by increasing the serviced portfolio. In connection with its Mortgage Loan and SBA Loan securitizations, the Company has retained subordinate certificates and interest-only and residual certificates representing residual interests in the trusts. These subordinate and residual interests totaled approximately $63.2 million, net of allowances, at December 31, 1997. A new securitization structure was completed for the fourth quarter Mortgage Loan securitization. This structure utilizes a real estate investment trust ("REIT") and allows sales treatment for financial reporting purposes, but debt treatment for tax purposes. Accordingly, this structure eliminates current taxes payable on the book gain, while maintaining the structural efficiency of tranching, previously only available through a real estate mortgage investment conduit ("REMIC") transaction. Additionally, under this structure, the Company has distributed .46% ownership in the REIT to a certain class of employees, with an initial value of approximately $62,000. In securitizations, the Company sells the loans that it originates or purchases to a trust for cash, and records certain assets and income based upon the difference between all principal and interest received from the loans sold and (i) all principal and interest required to be passed through to the asset-backed bond investors, (ii) all excess contractual servicing fees, (iii) other recurring fees and (iv) an estimate of losses on the loans (collectively, the "Excess Cash Flow"). At the time of the securitization, the Company estimates these amounts based upon a declining principal balance of the underlying loans, adjusted by an estimated prepayment and loss rate, and capitalizes these amounts using a discount rate that market participants would use for similar financial instruments. These capitalized assets are recorded on the Company's balance sheet as interest-only and residual certificates (as "Interest-Only Strip Securities," "Investment in Asset-backed Securities" and "Restricted Cash"), and are aggregated and reported on the income statement as gain on sale of loans, after being reduced (increased) by the costs of securitization and any hedge losses (gains). The Company retains the right to service loans it securitizes. Fees for servicing loans are based on a stipulated percentage (generally 0.50% per annum on mortgage loans and 0.40% per annum on SBA loans) of the unpaid principal balance of the associated loans. On its mortgage loan securitizations, the Company has recognized a servicing asset in addition to its gain on sale of loans. The servicing asset is calculated as the present value of the expected future net servicing income in excess of adequate compensation for a substitute servicer based on common industry assumptions and the Company's historical experience. These factors include default and prepayment speeds. 19 The following sets forth facts and assumptions used by the Company in arriving at the valuation of the interest-only strip securities and asset-backed securities relating to its Mortgage Loan securitizations at December 31, 1997:
1ST QTR. 2ND QTR. 3RD QTR. 4TH QTR. 1997 1997 1997 1997 ---------------- --------------- ---------------- ---------------- Loans securitized $77,526,090 $121,214,000 $131,121,432 $157,779,083 Average stated principal balance 63,288 63,190 68,328 66,039 Weighted average coupon on loans 11.01% 10.80% 11.19% 11.20% Weighted average original term to stated 209 months 200 months 200 months 202 months maturity Weighted average LTV 80.62 75.94 77.38 76.25 % of first mortgage loans 100.00 100.00 100.00 100.00 % secured by primary residence 98.60 98.80 96.19 97.04 Weighted average pass-through rate to 7.40 7.06 6.99 6.86 bondholders Spread of pass-through rate over comparable Treasury rate 0.89 0.78 0.81 1.00 Estimated annual losses 0.60 0.60 0.60 0.60 Ramp period for losses 12 months 12 months 12 months 12 months Cumulative losses as a % of original UPB 2.33 2.24 2.18 2.21 Annual servicing fee 0.50 0.50 0.50 0.50 Servicing asset 0.10 0.10 0.10 0.10 Discount rate implicit in cash flow before overcollateralization 26.00 22.00 20.00 20.00 Discount rate applied to cash flow after overcollateralization 12.00 12.00 12.00 12.00 Prepayment speed: Initial CPR (1) 0 CPR 0 CPR 0 CPR 0 CPR Peak CPR (1) 20 CPR 20 CPR 20 CPR 20 CPR Tail CPR (1) 18/16 CPR 18/16 CPR 18/16 CPR 18/16 CPR CPR ramp period (1) 12 months 12 months 12 months 12 months CPR peak period (1) 24 months 24 months 24 months 24 months CPR tail begins (1) 37/49 months 37/49 months 37/49 months 37/49 months Annual wrap fee and trustee fee 0.285% 0.205% 0.195% 0.187% Initial overcollateralization required (2) 3.25 0.00 0.00 0.00 Final overcollateralization required (2) 6.50 3.75 3.75 3.75
(1) CPR represents an industry standard of calculating prepayment speeds and refers to Constant Prepayment Rate. The Company uses a curve based on various CPR levels throughout the pool's life, based on its estimate of prepayment performance, as outlined in the table above. Typically, high LTV loans (approximately 2/3 of the loans in the Company's securitization transactions) are priced at a slower CPR than traditional home equity loans (22 to 25 CPR) and are expected to have less prepayment volatility under changing interest-rate scenarios. (2) Based on percentage of original principal balance, subject to step-down provisions after 30 months. Each of the Company's Mortgage Loan securitizations have been credit-enhanced by an insurance policy provided through a monoline insurance company to receive ratings of "Aaa" from Moody's Investors Services, Inc. ("Moody's") and "AAA" from Standard & Poor's Ratings Group, a division of The McGraw-Hill Companies, Inc. ("Standard & Poor's"). The Company plans to continue to complete the quarterly securitization of a substantial portion of its Mortgage Loans, principally because the Company believes that securitization is potentially more profitable than whole loan sales and because the Company (as servicer) wants to maintain the relationship with its loan customers. However, the Company may alter this strategy based on cash flow requirements. 20 The Company expects to begin receiving Excess Cash Flow on its Mortgage Loan securitizations approximately 16 months from the date of securitization, although this time period may be shorter or longer depending upon the securitization structure and performance of the loans securitized. Prior to such time, the monoline insurer requires a reserve provision to be created within the securitization trust which uses Excess Cash Flow to retire the securitization bond debt until the spread between the outstanding principal balance of the loans in the securitization trust and the securitization bond debt equals a specified percentage (depending on the structure of the securitization) of the initial securitization principal balance (the "overcollateralization limit"). Once this overcollateralization limit is met, excess cash flows are distributed to the Company. The Company begins to receive regular monthly servicing fees in the month following securitization. The Company originally used 50 basis points annual losses on its first three mortgage securitization transactions, but in the fourth quarter of 1997, changed its loss assumption to 60 basis points per annum as a result of projected higher than anticipated delinquencies within the securitization pools. The Company also modified the estimated prepayment speeds on all of its mortgage loan securitization transactions to peak at 20 CPR, up from the deals' pricing speeds of 18 HEP on the first two deals and 17 HEP on the second two securitizations. Actual prepayment speeds have been running below these assumptions, and the trusts have experienced virtually no losses to date. The impact in the fourth quarter of the changes in these assumptions was to reduce fair value of these residual interests by approximately $1.0 million. These changes were the result of the Company's attempt to refine the modeling of the anticipated cash flows to better match expected future cash flows. The following sets forth facts and assumptions used by the Company in arriving at the valuation of the interest-only strip securities, asset-backed securities and restricted cash relating to its unguaranteed SBA Loan securitizations at December 31, 1997:
JUNE NOVEMBER JANUARY DECEMBER 1995 1996 1997 1997 --------------- ----------------- --------------- --------------- Loans securitized $ 17,063,377 $ 12,850,743 $ 4,626,031 $ 19,659,945 Average stated principal balance 65,377 152,985 210,274 225,976 Weighted average spread over Wall Street Journal Prime Rate 2.71% 2.70% 2.66% 2.48% Weighted average original term to stated maturity 198 months 258 months 256 months 259 months Weighted average LTV 55% 63% 62% 67% Spread under prime rate 1.35% 1.80% 1.80% 2.00% Estimated annual losses 2.25% 1.25% 1.25% 1.25% Annual servicing fee 0.40% 0.40% 0.40% 0.40% Discount rate applied to cash flow after spread account 10.50% 10.50% 10.50% 10.50% Prepayment speed: Initial CPR 0 CPR 0 CPR 0 CPR 0 CPR Peak CPR 15 CPR 12 CPR 12 CPR 12 CPR Tail CPR 14 CPR 11 CPR 11 CPR 11 CPR CPR ramp period 12 months 12 months 12 months 12 months CPR peak period 36 months 36 months 36 months 36 months CPR tail begins 37 months 37 months 37 months 37 months Annual trustee fee $ 8,000 $ 8,000 $ 8,000 $ 8,000 Initial spread account required 2% 2% 2% 2% Final spread account required 4% 4% 4% 6% Subordinate piece retained 10% 9% 9% 10%
21 The gains recognized into income resulting from securitization transactions vary depending on the assumptions used, the specific characteristics of the underlying loan pools, and the structure of the transaction. The Company believes the assumptions it has used are appropriate and reasonable. The Company assesses the carrying value of its interest-only strip securities and servicing assets for impairment. There can be no assurance that the Company's estimates used to determine the gain on sale of loans, interest-only strip securities, and servicing assets valuations will remain appropriate for the life of each securitization. If actual loan prepayments or defaults exceed the Company's estimates, the carrying value of the Company's interest-only strip securities and/or servicing assets may be decreased through a charge against earnings in the period management recognizes the disparity. ACCOUNTING CONSIDERATIONS In June 1997, FASB issued SFAS No. 130 "Reporting Comprehensive Income" which is effective for annual and interim periods beginning after December 15, 1997. This statement requires that all items that are required to be recognized under accounting standards as comprehensive income be reported in a financial statement that is displayed with the same prominence as other financial statements. The adoption of this standard is not expected to have a material effect on the Company's financial reporting. In June 1997, FASB issued SFAS No. 131 "Disclosures about Segments of an Enterprise and Related Information" which is effective for fiscal years beginning after December 15, 1997. This statement establishes standards for the method that public entities report information about operating segments in annual financial statements and requires that those enterprises report selected information about operating segments in interim financial reports issued to shareholders. It also establishes standards for related disclosures about product and services, geographical areas and major customers. The adoption of this standard is not expected to have a material effect on the Company's financial reporting. TAX CONSIDERATIONS--THE NOL As a result of the operating losses incurred by the Company under prior management in its discontinued transportation segment operations, the Company generated an NOL. Federal tax laws provide that net operating loss carryforwards are restricted or eliminated upon certain changes of control. Applicable federal tax laws provide that a 50% "change of control," which is calculated over a rolling three-year period, would cause the loss of substantially all of the NOL. Although the calculation of the "change of control" is factually difficult to determine, the Company believes that it has had a maximum cumulative change of control of 33% during the relevant three-year period. 22 During 1997, the Company eliminated its valuation allowance against its deferred tax asset, resulting in a net deferred tax asset of $4.2 million at December 31, 1997. Management based the decision to eliminate the valuation based on its belief that it is more likely than not that it will realize the benefit of this deferred tax asset, given the levels of historical taxable income and current projections for future taxable income over the periods in which the deferred tax assets would be realized. This resulted in the Company recognizing a deferred tax benefit for 1997 of $3.8 million. The Company had a federal NOL of approximately $13.0 million remaining at December 31, 1997. HEDGING ACTIVITIES The Company's profitability may be directly affected by fluctuations in interest rates. While the Company monitors interest rates and employs a strategy designed to hedge some of the risks associated with changes in interest rates, no assurance can be given that the Company's results of operations and financial condition will not be adversely affected during periods of fluctuations in interest rates. The Company's interest rate hedging strategy currently includes shorting interest rate futures and treasury forwards, and entering into interest-rate lock agreements. Since the interest rates on the Company's warehouse lines of credit used to fund and acquire loans are variable and the rates charged on loans the Company originates are fixed, increases in the interest rates after loans are originated and prior to their sale could have a material adverse effect on the Company's results of operations and financial condition. The ultimate sale of the Company's loans will fix the spread between the interest rates paid by borrowers and the interest rates paid to investors in securitization transactions with respect to such loans, although increases in interest rates may narrow the potential spread that existed at the time the loans were originated by the Company. Without hedging these loans, increases in interest rates prior to sale of the loans may reduce the gain on securitized loan sales earned by the Company. IMPACT OF INFLATION Inflation affects the Company most significantly in the area of loan originations and can have a substantial effect on interest rates. Interest rates normally increase during periods of high inflation and decrease during periods of low inflation. Profitability may be directly affected by the level and fluctuation in interest rates which affect the Company's ability to earn a spread between interest received on its loans and the costs of its borrowings. The profitability of the Company is likely to be adversely affected during any period of unexpected or rapid changes in interest rates. A substantial and sustained increase in interest rates could adversely affect the ability of the Company to originate and purchase loans and affect the mix of first and second mortgage loan products. Generally, first mortgage production increases relative to second mortgage production in response to low interest rates and second mortgage production increases relative to first mortgage production during periods of high interest rates. A significant decline in interest rates could decrease the size of the Company's loan servicing portfolio by increasing the level of loan prepayments. Additionally, to the extent servicing rights, interest-only and residual classes of certificates have been capitalized on the books of the Company, higher than anticipated rates of loan prepayments or losses could require the Company to write down the value of such servicing rights, interest-only and residual certificates, adversely impacting earnings. Fluctuating interest rates may also affect the net interest income earned by the Company resulting from the 23 difference between the yield to the Company on loans held pending sales and the interest paid by the Company for funds borrowed under the Company's warehouse facilities. YEAR 2000 A critical issue has emerged in the financial community and for businesses in general regarding whether existing computer programs and systems, many of which were designed to recognize only two digits in the date field, can be modified in time to accommodate four digits in the date field as is necessary to properly distinguish dates on and after January 1, 2000 from dates between January 1, 1900 and December 31, 1999. The upcoming change in the century is expected to cause many computer applications to create erroneous results or fail completely if the problem is not corrected. The Company has established a Year 2000 team to oversee the identification, correction, reprogramming and testing of the systems and software applications used by the Company and the companies with which it interacts electronically for Year 2000 compliance as well as to identify other possible risks associated with the Year 2000 problem. The Company has hired a Year 2000 coordinator to head this project. The Company has completed a hardware, software and vendor interface inventory to identify all components for testing. It is in the process of replacing and modifying noncompliant systems of which it is aware. The Company has sent letters to vendors to request information on Year 2000 compliance and testing arrangements. A formal test plan is being refined and the Company currently plans to test its systems prior to December 31, 1998. Testing of internally developed software has begun. A risk assessment is being developed by the Year 2000 team as part of the project. This assessment is expected to be completed by July 1, 1998. Although the Company has not yet fully evaluated the cost of modifying and replacing its systems aimed at achieving Year 2000 compliance, such costs are not currently expected to be material to the Company's results of operations and liquidity. The inability of the Company or the parties with whom it electronically interacts to successfully address Year 2000 issues could result in interruptions in the Company's business and have a material adverse effect on its financial condition. 24 ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA The Financial Statements and Supplementary Data are set forth herein commencing on page F-1 of this Report. EMERGENT GROUP, INC. AND SUBSIDIARIES 1997 REPORT ON CONSOLIDATED FINANCIAL STATEMENTS CONTENTS Page Independent Auditors' Report ........................................... F-2 Audited Consolidated Financial Statements Consolidated Balance Sheets..................................... F-3 Consolidated Statements of Income............................... F-5 Consolidated Statements of Shareholders' Equity................. F-6 Consolidated Statements of Cash Flows........................... F-7 Notes to Consolidated Financial Statements ..................... F-8 F-1 INDEPENDENT AUDITORS' REPORT Shareholders and Board of Directors EMERGENT GROUP, INC. AND SUBSIDIARIES Greenville, South Carolina We have audited the accompanying consolidated balance sheets of EMERGENT GROUP, INC. AND SUBSIDIARIES as of December 31, 1997 and 1996, and the related consolidated statements of income, shareholders' equity, and cash flows for the years then ended. These consolidated financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these consolidated financial statements based on our audits. The consolidated financial statements of EMERGENT GROUP, INC. AND SUBSIDIARIES for the year ended December 31, 1995, were audited by other auditors whose report dated January 31, 1996, expressed an unqualified opinion on those statements. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of EMERGENT GROUP, INC. AND SUBSIDIARIES as of December 31, 1997 and 1996, and the results of their operations and their cash flows for the years then ended in conformity with generally accepted accounting principles. /s/ KPMG Peat Marwick LLP - ---------------------------------- Greenville, SC February 27, 1998 F-2 EMERGENT GROUP, INC. AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS
DECEMBER 31, ------------------------------- 1997 1996 ------------- -------------- ASSETS (In thousands) Cash and cash equivalents $ 7,561 $ 1,276 Restricted cash 2,323 5,319 Loans receivable: Loans receivable held for investment 100,379 67,050 Loans receivable held for sale 197,236 122,482 ------------- -------------- Total loans receivable 297,615 189,532 Less allowance for credit losses on loans (6,528) (3,084) Less unearned discount, dealer reserves, and deferred loan costs (2,658) (1,419) ------------- -------------- Net loans receivable 288,429 185,029 Other receivables: Income taxes receivable 1,029 -- Accrued interest receivable 4,407 2,087 Other receivables 9,651 4,459 ------------- -------------- Total other receivables 15,087 6,546 Investment in asset-backed securities 16,439 3,581 Interest-only strip securities 44,440 4,315 Net property and equipment 18,080 7,177 Excess of cost over net assets of acquired businesses, net of accumulated amortization of $978 in 1997 and $781 in 1996 2,874 2,722 Real estate and personal property acquired through foreclosure 3,295 4,720 Other assets 17,624 3,464 ------------- -------------- TOTAL ASSETS $ 416,152 $ 224,149 ============= ==============
F-3 EMERGENT GROUP, INC. AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS
DECEMBER 31, ------------------------------- 1997 1996 ------------- -------------- LIABILITIES AND SHAREHOLDER'S EQUITY (In thousands) Liabilities: Warehouse lines of credit $ 77,605 $ 55,494 Investor savings: Notes payable to investors 115,368 97,987 Subordinated debentures 18,947 16,115 ------------- -------------- Total investor savings 134,315 114,102 Senior unsecured debt 125,000 -- Accounts payable and accrued liabilities 6,517 3,958 Remittances payable 4,591 3,519 Accrued interest payable 4,750 597 ------------- -------------- Total other liabilities 15,858 8,074 ------------- -------------- Total liabilities 352,778 177,670 Minority interest -- (156) Commitments and contingencies Shareholders' equity: Common stock, par value $.05 per share - authorized 100,000,000 shares in 1997 and 30,000,000 shares in 1996, issued and outstanding 9,686,477 shares in 1997 and 9,141,131 shares in 1996 484 457 Capital in excess of par value 38,609 33,150 Retained earnings 24,281 13,028 ------------- -------------- Total shareholders' equity 63,374 46,635 ------------- -------------- TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $ 416,152 $ 224,149 ============= ==============
SEE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, WHICH ARE AN INTEGRAL PART OF THESE STATEMENTS. F-4 CONSOLIDATED STATEMENTS OF INCOME
FOR THE YEARS ENDED DECEMBER 31, ------------------------------------------------------- 1997 1996 1995 --------------- ---------------- ---------------- (In thousands, except share data) REVENUES: Interest income $ 34,008 $ 17,908 $ 15,193 Servicing income 8,514 3,274 446 Gain on sale of loans: Cash gain on sale of loans 14,153 20,862 7,963 Non-cash gain on sale of loans 38,675 2,953 1,206 Loan fee income 30,207 4,150 586 --------------- ---------------- ---------------- Total gain on sale of loans 83,035 27,965 9,755 Other revenues 1,399 1,241 884 --------------- ---------------- ---------------- Total revenues 126,956 50,388 26,278 --------------- ---------------- ---------------- EXPENSES: Interest 25,133 11,021 8,527 Provision for credit losses 10,030 5,416 2,480 Salaries, wages and employee benefits 48,044 13,663 5,691 Business development costs 7,486 1,603 653 Other general and administrative expense 28,754 8,224 4,075 --------------- ---------------- ---------------- Total expenses 119,447 39,927 21,426 --------------- ---------------- ---------------- Income from continuing operations before income taxes and minority interest 7,509 10,461 4,852 Provision (benefit) for income taxes (3,900) 718 190 --------------- ---------------- ---------------- Income from continuing operations before minority interest 11,409 9,743 4,662 Minority interest in (earnings) loss of subsidiaries (156) 352 (81) --------------- ---------------- ---------------- Income from continuing operations 11,253 10,095 4,581 Discontinued transportation and apparel manufacturing segments: Loss from operations, net of income tax -- -- 1,573 Loss on disposal of segments, net of income tax -- -- 2,351 --------------- ---------------- ---------------- -- -- 3,924 =============== ================ ================ NET INCOME $ 11,253 $ 10,095 $ 657 =============== ================ ================ BASIC EARNINGS (LOSS) PER SHARE OF COMMON STOCK: Continuing operations $ 1.20 $ 1.47 $ 0.71 Discontinued operations -- -- (0.61) =============== ================ ================ NET INCOME $ 1.20 $ 1.47 $ 0.10 =============== ================ ================ Basic weighted average shares outstanding 9,406,221 6,852,420 6,464,582 =============== ================ ================ DILUTED EARNINGS (LOSS) PER SHARE OF COMMON STOCK: Continuing operations $ 1.17 $ 1.42 $ 0.69 Discontinued operations -- -- (0.59) =============== ================ ================ NET INCOME $ 1.17 $ 1.42 $ 0.10 =============== ================ ================ Diluted weighted average shares outstanding 9,598,811 7,099,874 6,668,192 =============== ================ ================
SEE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, WHICH ARE AN INTEGRAL PART OF THESE STATEMENTS. F-5 CONSOLIDATED STATEMENTS OF SHAREHOLDERS' EQUITY FOR THE YEARS ENDED DECEMBER 31, 1997, 1996, AND 1995
Class A Common Stock Common Stock ------------------------- ----------------------------- Capital in Shares Shares Issued Excess of Retained Issued Amount Amount Par Value Earnings Total ------------- ---------- --------------- ------------ ------------ ------------ ----------- (In thousands, except share data) Balance at December 31, 1994 200,575 $ 10 9,803,438 $ 490 $ 6,924 $ 2,276 $ 9,700 Shares issued: Formerly held by subsidiary -- -- 24,700 1 15 -- 16 Purchased through tender offer (19,377) (1) (467,288) (23) (535) -- (559) Retired through reverse stock split (121,204) (6) (6,242,275) (312) 309 -- (9) Exercise of stock options 506 -- 19,662 1 79 -- 80 Two for one stock split in the form of a stock dividend 60,500 3 3,138,237 157 (160) -- -- Net income -- -- -- -- -- 657 657 ------------- ---------- --------------- ------------ ------------ ------------ ----------- Balance at December 31, 1995 121,000 6 6,276,474 314 6,632 2,933 9,885 Shares issued: Exercise of stock options 2,026 -- 110,668 5 156 -- 161 Conversion of Class A Common Stock to Common Stock 6,387,142 319 (6,387,142) (319) -- -- -- Exercise of stock warrants 111,932 6 -- -- 288 -- 294 Issuance of Common Stock 2,519,031 126 -- -- 26,074 -- 26,200 Net income -- -- -- -- -- 10,095 10,095 ------------- ---------- --------------- ------------ ------------ ------------ ----------- Balance at December 31, 1996 9,141,131 457 -- -- 33,150 13,028 46,635 Shares issued: Exercise of stock options 40,667 2 -- -- 227 -- 229 Exercise of restricted stock options 2,900 -- -- -- -- -- -- Employee Stock Purchase Plan 7,534 -- -- -- 67 -- 67 Purchase of Reedy River Ventures LP 494,195 25 -- -- 5,164 -- 5,189 Other shares issued 50 -- -- -- 1 -- 1 Net income -- -- -- -- -- 11,253 11,253 ------------- ---------- --------------- ------------ ------------ ------------ ----------- BALANCE AT DECEMBER 31, 1997 9,686,477 $ 484 -- $ -- $ 38,609 $ 24,281 $ 63,374 ============= ========== =============== ============ ============ ============ ===========
SEE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, WHICH ARE AN INTEGRAL PART OF THESE STATEMENTS. F-6 CONSOLIDATED STATEMENTS OF CASH FLOWS
FOR THE YEARS ENDED DECEMBER 31, ---------------------------------------------------------- 1997 1996 1995 ------------------ ---------------- ---------------- (In thousands) OPERATING ACTIVITIES: Net income $ 11,253 $ 10,095 $ 657 Adjustments to reconcile net income to net cash provided by (used) in operating activities: Depreciation and amortization 2,691 1,334 938 Provision (benefit) for deferred income taxes (3,813) (141) 41 Provision for credit losses 10,030 5,416 2,480 Net (increase) decrease in deferred loan costs (1,573) 145 (171) Net increase (decrease) in unearned discount and other deferrals 2,812 665 (853) Loans originated with intent to sell (1,140,333) (387,600) (173,985) Proceeds from loans sold 517,803 271,858 144,861 Proceeds from securitization of loans 509,781 30,128 15,357 Other (902) (1,481) 125 Changes in operating assets and liabilities (increasing) decreasing cash (44,850) 8,897 374 ------------------- --------------- ---------------- Net cash used in operating activities $ (137,101) $ (78,478) $ (10,176) ------------------- --------------- ---------------- INVESTING ACTIVITIES: Loans originated for investment purposes $ (133,188) $ (49,173) $ (74,363) Principal collections on loans not sold 128,552 61,868 50,329 Principal collections on asset-backed securities 1,123 933 177 Increase in overcollateralization within asset-backed securities (10,311) -- -- Proceeds from sale of real estate and personal property acquired through foreclosure 6,652 3,383 3,401 Purchase of property and equipment (13,222) (4,894) (1,732) Other (382) 76 (1,034) ------------------- --------------- ---------------- Net cash provided by (used in) investing activities (20,776) 12,193 (23,222) ------------------- --------------- ---------------- FINANCING ACTIVITIES: Advances on warehouse lines of credit 1,139,815 509,118 179,381 Payments on warehouse lines of credit (1,117,704) (485,257) (164,989) Net increase in notes payable to investors 17,381 15,855 25,635 Net increase (decrease) in subordinated debentures 2,832 (70) (4,812) Net proceeds from issuance of senior unsecured debt 120,578 -- -- Proceeds from issuance of additional common stock 1,260 26,655 52 Other -- -- (887) ------------------- --------------- ---------------- Net cash provided by financing activities 164,162 66,301 34,380 ------------------- --------------- ---------------- Net increase in cash and cash equivalents 6,285 16 982 CASH AND CASH EQUIVALENTS: BEGINNING OF YEAR 1,276 1,260 278 ------------------- --------------- ---------------- END OF YEAR $ 7,561 $ 1,276 $ 1,260 =================== =============== ================
SEE NOTES TO CONSOLIDATED FINANCIAL STATEMENTS, WHICH ARE AN INTEGRAL PART OF THESE STATEMENTS. F-7 EMERGENT GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 1. SIGNIFICANT ACCOUNTING POLICIES BUSINESS Emergent Group, Inc. and its subsidiaries ("EGI" or "the Company") are primarily engaged in the business of originating, selling, securitizing and servicing first and second residential mortgage loans, commercial loans partially guaranteed by the United States Small Business Administration ("SBA"), commercial loans collateralized by accounts receivable and inventory and mezzanine loans. The funds for these loans are obtained principally through the utilization of various bank warehouse lines of credit, proceeds from securitization of loans, and the issuance of senior unsecured debt, notes payable and subordinated debentures to investors. Substantially all of the Company's loans are made to non-prime borrowers. These borrowers generally have limited access to credit or are otherwise considered to be credit impaired by conventional lenders. CONSOLIDATION The consolidated financial statements include the accounts of the Company and its subsidiaries, each of which is wholly-owned except Sterling Lending Corporation ("Sterling Lending") which is 80% owned. Minority interest represents minority shareholders' proportionate share of the equity and earnings of Sterling Lending. All significant intercompany items and transactions have been eliminated in consolidation. The consolidated financial statements have been prepared in accordance with generally accepted accounting principles. In preparing the consolidated financial statements, management is required to make estimates and assumptions that affect the reported amounts of assets and liabilities as of the date of the balance sheet and revenues and expenses for the period. Actual results could differ from those estimates. These estimates include, among other things, anticipated prepayments on loans sold with servicing retained, valuation of real estate owned, assumptions used to value interest-only strip securities and determination of the allowance for credit losses. ADOPTION OF NEW ACCOUNTING POLICIES Effective January 1, 1997, the Company adopted the Statement of Financial Accounting Standards ("SFAS") No. 125, which supersedes SFAS No. 122 and SFAS No. 77. This statement provides accounting and reporting standards for transfers and servicing of financial assets and extinguishments of liabilities based on consistent application of a financial-components approach that focuses on control. SFAS No. 125 distinguishes transfers of financial assets that are sales from transfers that are secured borrowings. F-8 EMERGENT GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) NOTE 1. SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) ADOPTION OF NEW ACCOUNTING POLICIES (CONTINUED) Securitization of a financial asset, a portion of a financial asset, or a pool of financial assets in which the transferor surrenders control over the assets transferred, is accounted for as a sale under certain circumstances. If the transfer does not qualify as a sale, the transferred assets will remain on the balance sheet and the proceeds raised will be accounted for as a secured borrowing with no gain or loss recognition. The Company's transfers of loans made in connection with its securitizations in 1997 qualify as sales under this pronouncement. After the securitization of mortgage loans held for sale, the asset-backed securities retained by the Company (whether they are subordinate classes or interest-only or residual certificates) are classified as trading securities and reported at fair value under SFAS No. 125 and SFAS No. 115, "Accounting for Certain Investments in Debt and Equity Securities." SFAS No. 125 requires mortgage banking entities that acquire or originate loans and subsequently sell or securitize those loans and retain the mortgage servicing rights to allocate the total cost of the loans to the mortgage servicing rights and the mortgage loans without the mortgage servicing rights. The Company determines fair value based upon the present value of estimated net future servicing revenues less the estimated cost that would fairly compensate a substitute servicer to service the loans. The servicing asset is then recorded on the balance sheet and accounted for under SFAS No. 125 using the allocation of cost relative to fair value approach. Servicing assets are amortized in proportion to, and over the period of, estimated net servicing income (the excess of servicing revenues over servicing costs). SFAS No. 125 also requires impairment evaluations of all amounts capitalized as servicing rights, including those purchased before the adoption of SFAS No. 125, based upon the fair value of the underlying servicing rights. The Company evaluates impairment by stratifying the pools based on date of securitization. The continuing effects of SFAS No. 125 on the Company's financial position and results of operations will depend on several factors, including among other things, the amount of acquired or originated loans sold or securitized, the type, term and credit quality of loans and estimates of future prepayment rates. F-9 EMERGENT GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) NOTE 1. SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) REVENUE RECOGNITION Since 1995, the Company has securitized $16.1 million of automobile loans and $54.1 million of small business loans, with $24.3 million in small business loan securitizations in 1997. The small business loans represent the unguaranteed portion of SBA loans originated or purchased by the Company. These securitization transactions in 1995 and 1996 were accounted for under SFAS No. 77 and were reflected as sales under this pronouncement. In 1997, the Company began securitizing mortgage loans on a quarterly basis. Total mortgage loans securitized in 1997 was $487.6 million. The various securitizations have provided the Company with a source of additional funds. In securitizations, the Company sells the loan that it originates or purchases to a trust for cash, and records certain assets and income based upon the difference between all principal and interest received from the loans sold and (i) all principal and interest required to be passed through to the asset-backed bond investors, (ii) all excess contractual servicing fees, (iii) other recurring fees and (iv) an estimate of losses on the loans (collectively, the "Excess Cash Flow"). At the time of the securitization, the Company estimates these amounts based upon a declining principal balance of the underlying loans, adjusted by an estimated prepayment and loss rate, and capitalizes these amounts using a discount rate that market participants would use for similar financial instruments. These capitalized assets are recorded on the Company's balance sheet as interest-only and residual certificates (as "Interest-Only Strip Securities," "Investment in Asset-backed Securities" and "Restricted Cash"), and are aggregated and reported in the consolidated statement of income as gain on sale of loans, after being reduced (increased) by the costs of securitization and any hedge losses (gains). The Company believes the assumptions it has used are appropriate and reasonable. At each reporting period, the Company assesses the fair value of these residual assets and adjusts the recorded amounts to their estimated fair value. The Company also sells on a whole loan basis a significant amount of its mortgage loans (servicing released), including substantially all of its mortgage loans secured by second liens and loans originated by strategic alliance mortgage brokers, and all of its SBA guaranteed loan participations (servicing retained), principally to secure the additional cash flow associated with the premiums paid in connection with such sales and to eliminate the credit risk associated with the second lien mortgage loans. In addition to the gains recognized from securitizations and whole loan sales, the Company earns the net interest spread on loans receivable held in its portfolio, origination fees on its mortgage loans and servicing fees of 0.50% per annum on the mortgage loans, 0.40% per annum on the SBA loans and 3.00% per annum on the auto loans it services for others. Interest income on loans receivable is recognized using the interest method. Net loan fees and insurance commissions are amortized into income over the life of the loan, using the interest method. Any unamortized net loan fees and insurance commissions are recognized into income at the time the loan is sold. F-10 EMERGENT GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) NOTE 1. SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) REVENUE RECOGNITION (CONTINUED) Under the terms of the Company's strategic alliance mortgage banker agreements, the Company provides funding and secondary marketing activities for its strategic alliance mortgage bankers ("Strategic Alliance Mortgage Banker"). In exchange, the Strategic Alliance Mortgage Bankers agree to provide the Company with all of their mortgage loan production that meets the Company's underwriting criteria. The premiums earned on the secondary market are then split between the Company and its Strategic Alliance Mortgage Banker. The terms of these agreements range from 2 to 5 years. In the event the Strategic Alliance Mortgage Banker terminates the agreement early, the contract generally provides for a termination fee equal to, at a minimum, all of the premium income received by the Strategic Alliance Mortgage Banker over the last twelve months. This termination fee is considered to be a recoupment of previously shared premiums, and accordingly is included in gain on sale of loans in the Statements of Income. For the year ended December 31, 1996, two Strategic Alliance Mortgage Bankers terminated their agreements early. Accordingly, the Company has recognized $7.3 million in gain on sale of loans in 1996 relating to these terminations. No gain on sale was recognized in 1997 related to terminations. CASH AND CASH EQUIVALENTS The Company maintains its primary checking accounts with three principal banks and maintains overnight investments in reverse repurchase agreements with those same banks. The amounts maintained in the checking accounts are insured by the Federal Deposit Insurance Corporation ("FDIC") up to $100,000. At December 31, 1997 and 1996, the amounts maintained in the overnight investments in reverse repurchase agreements, which are not insured by the FDIC, totaled $5.3 million and $282,000, respectively. These investments were collateralized by U. S. Government securities pledged by the banks. RESTRICTED CASH The Company also maintains cash collateral and collection accounts with a trustee in connection with its securitizations totalling $2.3 million and $5.3 million at December 31, 1997 and 1996, respectively. These accounts are shown as restricted cash, and are invested in overnight investments or short-term U.S. Treasury securities. LOANS RECEIVABLE Loans receivable consist primarily of first and second residential mortgage loans, SBA loans, and asset-backed loans. Non-refundable loan fees and direct costs associated with the origination or purchase of loans are deferred and netted against outstanding loan balances. Collateral is often taken to provide an additional measure of security. Generally, the cash flow or earning power of the borrower represents the primary source of repayment and collateral liquidation a secondary source of repayment. The Company determines the need for collateral on a case-by-case or product-by-product basis. Factors considered include the current and prospective creditworthiness of the customer, terms of the instrument and economic conditions. F-11 EMERGENT GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) NOTE 1. SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) LOANS RECEIVABLE (CONTINUED) Interest income on loans receivable is recorded on an accrual basis as earned. Accrual of interest is generally discontinued when a loan is over 90 days past due and the collateral is determined to be inadequate or when foreclosure proceedings begin. Loans receivable held for sale are carried at the lower of aggregate cost or market. There was no allowance for market losses on loans receivable held for sale at December 31, 1997 and 1996. ALLOWANCE FOR CREDIT LOSSES The allowance for credit losses is based on management's ongoing evaluation of the loan portfolio and reflects an amount that, in management's opinion, is adequate to absorb inherent losses in the existing portfolio. In evaluating the portfolio, management takes into consideration numerous factors including delinquencies, current economic conditions, prior loan loss experience, the composition of the serviced loan portfolio, and management's estimate of anticipated credit losses. Loans, including those deemed impaired, are charged against the allowance at such time as they are determined to be uncollectible. Subsequent recoveries are credited to the allowance. Management considers the year-end allowance appropriate and adequate to cover inherent losses in the loan portfolio; however, management's judgment is based upon a number of assumptions about future events, which are believed to be reasonable. Actual results could differ from these estimates. Thus, there can be no assurance that charge-offs in future periods will not exceed the allowance for credit losses or that additional increases in the allowance for credit losses will not be required. ACCOUNTING FOR IMPAIRED LOANS The Company assesses a specific allowance on impaired small business loans, by reviewing on a loan-by-loan basis each month, the risk characteristics of each loan. A general allowance is calculated on a monthly basis using the information described above. A loan's impairment is measured based on the present value of expected future cash flows discounted at the loan's effective interest rate or, as a practical expedient, at the loan's observable market price or the fair value of the collateral if the loan is collateral dependent. The Company's policy is to evaluate impaired loans based on the fair value of the collateral, since the majority of small business loans originated by the Company are collateral dependent. Interest income from impaired loans is recorded using the cash collection method. F-12 EMERGENT GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) NOTE 1. SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) REAL ESTATE ACQUIRED THROUGH FORECLOSURE Real estate acquired through foreclosure represents properties that have been acquired through actual foreclosures or deeds received in lieu of loan payments. These assets are recorded at the lower of the carrying value of the loans or the estimated fair value of the related real estate, net of estimated selling costs. The excess carrying value, if any, of the loan over the estimated fair value of the asset is charged to the allowance for credit losses upon transfer. Costs relating to the development and improvement of the properties are capitalized whereas those costs relating to holding the property are charged to expense. PROPERTY AND EQUIPMENT Property and equipment are stated at cost. Depreciation is computed principally using the straight-line method over the estimated useful lives of the assets. Estimated lives are 15 to 40 years for buildings and improvements, 3 to 7 years for furniture, fixtures and equipment, and the lease period for leasehold improvements. Additions to property and equipment and major replacements or improvements are capitalized at cost. Maintenance, repairs and minor replacements are expensed when incurred. IMPAIRMENT OF LONG-LIVED ASSETS Long-lived assets and identifiable intangibles held and used by the Company are reviewed for impairment whenever management believes events or changes in circumstances indicate that the carrying amount of an asset may not be fully recoverable. No impairment loss was recognized for continuing operations in any of the three years ended December 31, 1997. AMORTIZATION The excess of cost over related net assets of businesses acquired is amortized using the straight-line method principally over 25 years. On a periodic basis, the Company reviews goodwill for events or changes in circumstances that may indicate that the carrying amount of goodwill may not be recoverable. The Company utilizes estimated future cash flows of the purchased subsidiary in determining any impairment on the excess of cost over the related net assets. REMITTANCES PAYABLE The Company retains the servicing rights on SBA guaranteed loan participations sold in the secondary market, for which it earns monthly a minimum of 1% of the outstanding principal balance. The Company receives the payments from the borrowers and records the portion relating to the sold participation as a liability. The Company also retains the servicing rights on its securitization transactions. The Company receives the payments from the borrowers and records a liability until the funds are remitted to the Trustee. F-13 EMERGENT GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) NOTE 1. SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) BORROWER COMMITMENT DEPOSITS The Company generally receives a commitment deposit from its applicants for SBA loans prior to closing. The commitment deposits are recorded as a liability when received, and are reduced for any direct expenses incurred and paid to a third party in making the loan. Any deposit in excess of these direct expenses is refunded to the borrower at the time of, or subsequent to, the loan closing. Borrower commitment deposits are included in accrued liabilities. INCOME TAXES The Company and its subsidiaries file a consolidated Federal income tax return. The Company accounts for income taxes using the asset and liability method. Under the asset and liability method, deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. Deferred income taxes arise principally from depreciation, unrealized gains on loans held for sale, certain securitization transactions, amortization of intangibles, allowances for credit losses, and net operating loss carryforwards. Management believes that it is more likely than not that the results of future operations will generate sufficient taxable income to realize net deferred tax assets. MANAGEMENT FEES The Company serves as investment manager for a venture capital fund for which it receives management fees. The Company recognizes the management fees on the accrual basis. These fees are included in other revenues. ADVERTISING EXPENSE Advertising, promotional, and other business development costs are generally expensed as incurred. External costs incurred in producing media advertising are expensed the first time the advertising takes place. External costs related to direct mailings are capitalized in accordance with Statement of Position 93-7 and amortized over a three-month period. Total expense recognized in 1997 for direct mailings was approximately $5.9 million and the total amount capitalized into other assets on the balance sheet at December 31, 1997 was $1.9 million. F-14 EMERGENT GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) NOTE 1. SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) STATEMENT OF CASH FLOWS The Company considers all highly liquid investments with an original maturity of three months or less to be cash equivalents. The Company foreclosed on, or repossessed property used to collateralize loans receivable in the amount of $5.4 million, $4.5 million, and $4.0 million in 1997, 1996, and 1995, respectively. The Company sold real estate held for sale by issuing loans to the buyers in the amount of $74,000, $40,000, and $689,000 in 1997, 1996, and 1995, respectively. During 1997, the Company transferred approximately $30.0 million of loans receivable held for investment to loans receivable held for sale primarily in connection with the sale of the auto loan division. The Company paid income taxes of $1.6 million, $322,000, and $267,000 in 1997, 1996, and 1995, respectively. The Company paid interest of $21.0 million, $11.0 million, and $8.4 million in 1997, 1996, and 1995, respectively. RISK MANAGEMENT The Company's profitability may be directly affected by fluctuations in interest rates. While the Company monitors interest rates and employs a strategy designed to hedge some of the risks associated with changes in interest rates, no assurance can be given that the Company's results of operations and financial condition will not be adversely affected during periods of fluctuations in interest rates. The Company's interest rate hedging strategy currently includes shorting interest rate futures and treasury forwards, and entering into interest-rate lock agreements. Because the interest rates on the Company's warehouse lines of credit used to fund and acquire loans are variable and the rates charged on loans the Company originates are fixed, increases in the interest rates after loans are originated and prior to their sale could have a material adverse effect on the Company's results of operations and financial condition. The ultimate sale of the Company's loans generally will fix the spread between the interest rates paid by borrowers and the interest rates paid to investors in securitization transactions with respect to such loans, although increases in interest rates may narrow the potential spread that existed at the time the loans were originated by the Company. Without hedging these loans, increases in interest rates prior to sale of the loans may reduce the gain on securitized loan sales earned by the Company. There were no open hedging positions at year-end. EARNINGS PER SHARE Earnings per share ("EPS") are computed in accordance with SFAS No. 128, "EARNINGS PER SHARE". SFAS No. 128 replaces APB Opinon 15, "EARNINGS PER SHARE", and simplifies the computation of EPS by replacing the presentation of primary EPS with a presentation of basic EPS. Basic EPS includes no dilution and is computed by dividing net income by the weighted average number of common shares outstanding for the period. Diluted EPS reflects the potential dilution of securities that could share in the earnings of the Company. Common stock equivalents included in the diluted EPS computation consist of stock options, which are computed using the treasury stock method. F-15 EMERGENT GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) NOTE 1. SIGNIFICANT ACCOUNTING POLICIES (CONTINUED) RECLASSIFICATIONS Certain previously reported amounts have been reclassified to conform to current year presentation. Such reclassifications had no effect on net income or shareholders' equity as previously reported. NOTE 2. LOANS RECEIVABLE The following is a summary of loans receivable by type of loan:
December 31, ------------------------------------------ 1997 1996 ----------------- ---------------- (In thousands) Mortgage Loans: First mortgage residential property $ 152,371 $ 107,246 Second mortgage residential property 69,836 28,090 Real estate loans on rental property 2,609 894 Construction loans 6,329 5,038 ----------------- ------------------ Total mortgage loans 231,145 141,268 ----------------- ------------------ Commercial Loans: Guaranteed portion of SBA loans 10,732 9,662 Unguaranteed portion of SBA loans 6,619 10,503 Commercial loans secured by real estate 1,787 2,253 Asset-based commercial lending 18,798 6,967 Mezzanine lending 7,250 -- ----------------- ------------------ Total commercial loans 45,186 29,385 ----------------- ------------------ Automobile loans 21,284 13,915 Other loans -- 4,964 ----------------- ------------------ Total loans receivable $ 297,615 $ 189,532 ================= ==================
Included in the above table are notes receivable from related parties of $509,000 and $1.1 million at December 31, 1997 and 1996, respectively. Notes receivable from related parties included advances of $736,000 in 1996 and repayments of $560,000 and $30,000 in 1997 and 1996, respectively. First mortgage residential loans generally have contractual maturities of 12 to 360 months with an average interest rate at December 31, 1997 and 1996 of approximately 11% and 12%, respectively. F-16 EMERGENT GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) NOTE 2. LOANS RECEIVABLE (CONTINUED) Second mortgage residential loans have contractual maturities of 12 to 360 months with an average interest rate at both December 31, 1997 and 1996 of approximately 15%. Construction loans generally have contractual maturities of 12 months with an average interest rate at December 31, 1997 and 1996 of approximately 11%. SBA loans range in maturity from 7 years to 25 years depending on the use of proceeds. Interest rates on SBA loans are variable, adjusted on the first day of each calendar quarter and are generally prime plus 2.00-2.75%. The average interest rate at December 31, 1997 and 1996 for SBA loans approximated 11%. Asset-based loans generally are due on demand and had average interest rates at December 31, 1997 and 1996 of approximately 21% and 24%, respectively. Mezzanine loans have maturities of 5 years and have average interest rates of approximately 13% at December 31, 1997. Automobile loans have maturities generally not exceeding 60 months with fixed interest rates averaging 26% in 1997 and 27% in 1996. At December 31, 1997 and 1996, approximately $1.8 million (net of an allowance for impaired loans of $241,000) and $3.3 million (net of an allowance for impaired loans of $576,000), respectively, of loans receivable were impaired. Impaired loans are considered to be those loans for which it is probable that the Company will be unable to collect all amounts due according to original contractual terms of the loan agreement, based on current information and events. The average impaired loan balance in 1997 was approximately $1,946,000, and the Company recognized into income approximately $173,000 in interest on these loans. Loans sold and serviced for others at December 31, 1997 and 1996 were approximately $691.1 million and $119.5 million, respectively, and are not included in assets in the accompanying balance sheets. The Company's serviced loan portfolio, including loans owned by the Company, consisted of the following at December 31, 1997 (in thousands). Mortgage division $ 768,556 Commercial division 198,876 Auto division 21,284 =================== Total serviced loan portfolio $ 988,716 =================== At December 31, 1997, the Company's serviced mortgage loan portfolio by type of collateral is summarized as follows (in thousands):
First mortgage residential property $ 679,128 88.4 % Second mortgage residential property 70,447 9.2 Real estate loans on rental property 12,652 1.6 Construction loans 6,329 0.8 ----------------- --------------- $ 768,556 100.0 % ================== ===============
Included in first mortgage residential property is $68.3 million related to loans, which are subserviced for others. F-17 EMERGENT GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) NOTE 2. LOANS RECEIVABLE (CONTINUED) At December 31, 1997, the Company's serviced commercial loan portfolio consisted of loans to small businesses in the following industries (in thousands): Limited service lodging $ 65,353 32.9% Services 45,485 22.9 Retail trade 41,052 20.6 Manufacturing 27,582 13.9 Wholesale distribution 11,457 5.7 Other 7,947 4.0 =============== ============= $ 198,876 100.0% =============== ============= The Company services loans in 40 states. South Carolina, North Carolina, and Florida serviced loans represent approximately 19%, 11%, and 10%, respectively, of the Company's total serviced loan portfolio at December 31, 1997. No other state represents more than 10% of total serviced loans. An analysis of the allowance for credit losses is as follows:
Years Ended December 31, ------------------------------------------------------------- 1997 1996 1995 ------------------ ----------------- ------------------ (In thousands) Balance at beginning of year $ 3,084 $ 1,874 $ 1,730 Provision for credit losses 10,030 5,416 2,480 Net charge offs (5,166) (2,494) (1,563) Securitization transfers (1,420) (1,712) (773) ------------------ ----------------- ------------------ Balance at end of year $ 6,528 $ 3,084 $ 1,874 ================== ================= ==================
As of December 31, 1997, 1996, and 1995, loans totaling $8.9 million, $4.9 million, and $5.1 million, respectively, were on non-accrual status. The associated interest income not recognized on these non-accrual loans was approximately $809,000, $593,000, and $164,000 during the years ended December 31, 1997, 1996, and 1995, respectively. The Company is a party to financial instruments with off-balance-sheet risk in the normal course of business to meet the financing needs of its customers. These instruments expose the Company to credit risk in excess of the amount recognized in the balance sheet. F-18 EMERGENT GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) NOTE 2. LOANS RECEIVABLE (CONTINUED) The Company's exposure to credit loss in the event of nonperformance by the other party to the financial instrument for commitments to extend credit is represented by the contractual amount of those instruments. The Company uses the same credit policies in making commitments and conditional obligations as it does for on-balance-sheet instruments. Total credit exposure at December 31, 1997 related to these items is summarized below: Contract Amount ---------------------- (In thousands) Loan commitments: Approved loan commitments $ 77,653 Unadvanced portion of loans 22,640 ---------------------- Total loan commitments $ 100,293 ====================== Loan commitments to extend credit are agreements to lend to a customer as long as there is no violation of any condition established in the contract. Loan commitments generally have fixed expiration dates or other termination clauses and may require payment of a fee. The Company evaluates each customer's creditworthiness on a case-by-case basis. The amount of collateral obtained upon extension of credit is based on management's credit evaluation of the customer. Collateral held is primarily residential property. Interest rates on loan commitments are a combination of fixed and variable. Commitments outstanding at December 31, 1997 consist of adjustable rate commercial loans and fixed rate residential mortgage loans of $70,655 and $29,638, respectively, at rates ranging from 8% to 18%. Commitments to originate loans generally expire within 30 days to 60 days. NOTE 3. SECURITIZATION RESIDUAL ASSETS In connection with its mortgage loan securitizations, SBA loan securitizations and sales, and auto loan securitization, the Company has retained interest-only strip securities, overcollateralization which is included in asset-backed securities and cash spread accounts which are included in restricted cash representing residual interests in the trusts. Collectively, these amounts represent the residual interests in the trusts. The following table sets forth the residual assets broken out by type for the periods indicated. F-19 EMERGENT GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) NOTE 3. SECURITIZATION RESIDUAL ASSETS (CONTINUED)
December 31, --------------------------------------- 1997 1996 ----------------- ------------- (In thousands) Net residual assets resulting from mortgage loan securitizations: Interest-only strip security $ 34,941 $ -- Investment in asset-backed securities 11,653 -- ------------- ------------- 46,594 -- Net residual assets resulting from SBA loan securitizations: Interest-only strip security 9,126 3,940 Restricted cash 2,220 2,312 ------------- ------------- 11,346 6,252 Net residual assets resulting from auto loan securitization: Investment in asset-backed securities -- 752 Restricted cash -- 3,007 ------------- ------------- -- 3,759 ------------- ------------- Total net residual assets resulting from loan securitizations 57,940 10,011 Net residual assets resulting from guaranteed portion of SBA loan sales 373 375 ------------- ------------- Total net residual assets $ 58,313 $ 10,386 ============= =============
NOTE 4. INTEREST-ONLY STRIP SECURITIES The following summarizes activity in the interest-only strip securities:
Years Ended December 31, ---------------------------------------------------- 1997 1996 1995 --- ----------- ----------- ----------- (In thousands) Gross balance, beginning of year $ 5,163 $ 2,054 $ 1,872 Gain on sale of loans 57,516 4,770 1,095 Amortization against servicing revenues (3,984) (1,661) (913) --- ----------- -- ----------- -- ----------- Gross balance, end of year 58,695 5,163 2,054 Less allowance for losses on interest-only strip security (14,255) (848) -- --- ----------- -- ----------- -- ----------- Interest-only strip security, net $ 44,440 $ 4,315 $ 2,054 === =========== == =========== == ===========
F-20 EMERGENT GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) NOTE 4. INTEREST-ONLY STRIP SECURITY (CONTINUED) An analysis of the allowance for losses, which is embedded in the interest- only strip security, is as follows: Years Ended December 31, --------------------------------------- 1997 1996 ------------------ ----------------- (In thousands) Balance at beginning of year $ 848 $ -- Anticipated losses net against gain 13,278 -- Net charge offs (1,533) (1,155) Transfer from loans receivable 1,662 2,003 ------------------ ----------------- Balance at end of year $ 14,255 $ 848 ================== ================= The allowance represents management's estimate of losses to be incurred over the life of the securitized pool. NOTE 5. INVESTMENT IN ASSET-BACKED SECURITIES The activity in the investment in asset-backed securities is summarized as follows:
Years Ended December 31, ---------------------------------------------------- 1997 1996 1995 --------------- --------------- --------------- (In thousands) Gross balance, beginning of year $ 3,935 $ 1,638 $ -- Increase in overcollateralization on mortgage securitization 10,311 -- -- Transfer of loans 3,724 2,768 1,638 Collections, charge-offs, and other dispositions (1,531) (471) -- --------------- -------------- -------------- Gross balance, end of year 16,439 3,935 1,638 Less allowance for losses on asset-backed securities -- (354) (773) --------------- -------------- -------------- Investment in asset-backed securities, net $ 16,439 $ 3,581 $ 865 =============== ============== ==============
F-21 EMERGENT GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) NOTE 5. INVESTMENT IN ASSET-BACKED SECURITIES (CONTINUED) An analysis of the allowance for losses is as follows:
Years Ended December 31, --------------------------------------- 1997 1996 1995 ------------------ ----------------- ---------------- (In thousands) Balance at beginning of year $ 354 $ 773 $ -- Net charge offs (112) (128) -- Transfer from (to) loans receivable (242) (291) 773 ------------------ ----------------- ---------------- Balance at end of year $ -- $ 354 $ 773 ================== ================= ================
NOTE 6. PROPERTY AND EQUIPMENT The following is a summary of property and equipment:
December 31, ---------------------------------------- 1997 1996 ---------------- ------------------- (In thousands) Land $ 1,247 $ 279 Buildings and leasehold improvements 6,106 1,279 Equipment and computers 8,792 4,345 Furniture and fixtures 5,318 2,766 Vehicles 404 206 ---------------- ---------------- Total property and equipment 21,867 8,875 Less accumulated depreciation (3,787) (1,698) ---------------- ---------------- Net property and equipment $ 18,080 $ 7,177 ================ ================
Depreciation expense was $2.2 million, $901,000, and $769,000 in 1997, 1996, and 1995, respectively. NOTE 7. REAL ESTATE AND PERSONAL PROPERTY ACQUIRED THROUGH FORECLOSURE An analysis of real estate and personal property acquired through foreclosure is as follows:
December 31, ------------------------------------- 1997 1996 ---------------- ----------------- (In thousands) Balance at beginning of year $ 4,720 $ 3,742 Loan foreclosures and improvements 5,888 4,782 Dispositions, net (7,313) (3,804) ---------------- ---------------- Balance at end of year $ 3,295 $ 4,720 ================ ================
F-22 EMERGENT GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) NOTE 8. OTHER ASSETS Other assets consists of the following: December 31, ---------------------------------------- 1997 1996 ---------------- ------------------- (In thousands) Debt origination costs $ 4,767 $ 136 Deferred income tax asset 4,151 337 Servicing asset 1,468 -- Prepaid and other assets 7,238 2,991 ---------------- ---------------- Balance at end of year $ 17,624 $ 3,464 ================ ================ NOTE 9. WAREHOUSE LINES OF CREDIT Warehouse lines of credit are summarized as follows:
December 31, ---------------------------------------- 1997 1996 ----------------- ------------------- (In thousands) Warehouse lines of credit to mortgage subsidiaries $ 63,141 $ 46,774 Warehouse lines of credit to small business lending subsidiaries 14,464 8,720 ----------------- ---------------- $ 77,605 $ 55,494 ================= ================
The Company's mortgage lending subsidiaries have three different revolving credit agreements. Emergent Mortgage Corp. ("EMC") has a $200.0 million line of credit with interest at the Federal Funds Rate + 1.875% (7.41% at December 31, 1997) maturing on June 30, 1998. EMC has a second line of credit of $175.0 million with interest at LIBOR + 1.30% (7.12% at December 31, 1997) maturing June 30, 1998. Carolina Investors, Inc. ("CII") has a $20.0 million line of credit with interest at the Federal Funds Rate + 2.25% (7.78% at December 31, 1997) maturing on May 31, 1998. The lines of credit are collateralized by loans receivable. The agreements require, among other matters, a specified debt to net worth ratio, a minimum tangible net worth and limitations on the payment of dividends. The $200 million line of credit also limits loans and advances by EMC to the Company. At December 31, 1997, management believes the Company is in compliance with such restrictive covenants. In instances where the Company is not in compliance with such covenants, the Company has obtained a waiver of noncompliance from the bank. At December 31, 1997, based on available collateral, $55.8 million was available under these lines of credit. F-23 EMERGENT GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) NOTE 9. WAREHOUSE LINES OF CREDIT (CONTINUED) The Company's small business lending subsidiaries may borrow up to a maximum of $50.0 million under various lines of credit with interest at the bank's prime rate (8.50% at December 31, 1997). The lines are limited to and collateralized by 100% of the outstanding balance of the guaranteed portion of SBA 7(a) loans, 80% of the outstanding balance of the unguaranteed portion of SBA 7(a) loans, 80% of asset-based loans, and 80% of SBA 504 loans as defined in the loan agreements. The agreements require, among other matters, minimum tangible net worth ratios, maximum ratios of total liabilities to tangible net worth, minimum interest coverage ratios, limitations on the amount of capital expenditures in any fiscal year, and restrictions on the payment of dividends. At December 31, 1997, management believes these subsidiaries were in compliance with such restrictive covenants. In instances where the Company is not in compliance with such covenants, the Company has obtained a waiver of noncompliance from the bank. At December 31, 1997, based on available collateral, $13.0 million was available under these lines of credit. These agreements mature on December 29, 2000. The auto lending subsidiaries paid off and terminated their warehouse lines of credit in 1997 in anticipation of their sale. See Note 23. Annual aggregate maturities of notes payable at December 31, 1997 are as follows (in thousands): 1998 $ 63,141 1999 -- 2000 14,464 --------------- $ 77,605 =============== NOTE 10. INVESTOR SAVINGS Investor savings are summarized as follows: December 31, ---------------------------------------- 1997 1996 ----------------- ------------------- (In thousands) Notes payable to investors $ 115,368 $ 97,987 Subordinated debentures 18,947 16,115 ----------------- ---------------- $ 134,315 $ 114,102 ================= ================ F-24 EMERGENT GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) NOTE 10. INVESTOR SAVINGS (CONTINUED) Notes payable to investors are issued by a subsidiary company, Carolina Investors, Inc. ("CII"), in any denomination greater than $10,000 and are registered under the South Carolina Uniform Securities Act. The notes mature from one to three years from date of issuance. Interest is payable monthly, quarterly or at maturity at the option of the investors. Interest rates on the notes are fixed until maturity and range from 5% to 9%. At December 31, 1997 and 1996, the weighted average rate was 7.69% and 8.08%, respectively. The notes are subordinated to all bank debt, and are senior to the subordinated debentures. Subordinated debentures are issued by CII in any denomination greater than $100 and are registered under the South Carolina Uniform Securities Act. The subordinated debentures mature one year from date of issuance and have interest rates of 5%. The debentures are subordinated to all bank debt, notes payable to investors, and senior unsecured debt. At December 31, 1997 and 1996, notes payable to investors and subordinated debentures include an aggregate of approximately $26.3 million and $21.0 million, respectively, of individual investments exceeding $100,000. The investor savings at December 31, 1997 mature as follows (in thousands): 1998 $ 98,644 1999 35,671 ---------------- $ 134,315 ================ NOTE 11. SENIOR UNSECURED DEBT AND SUBSIDIARY GUARANTORS In September 1997, the Company sold $125.0 million aggregate principal amount of Senior Notes due 2004 ("Senior Notes"). The Senior Notes constitute unsecured indebtedness of the Company. The Senior Notes mature on September 15, 2004, with interest payable semi-annually at 10.75%. The Senior Notes will be redeemable at the option of the Company, in whole or in part, on or after September 15, 2001, at predetermined redemption prices plus accrued and unpaid interest to the date of redemption. The Senior Notes require, among other matters, a maximum ratio of total liabilities to tangible net worth, limitations on the amount of capital expenditures, and restrictions on the payment of dividends. At December 31, 1997, management believes the Company was in compliance with such restrictive covenants. The Senior Notes are fully and unconditionally guaranteed (the "Subsidiary Guarantees") jointly and severally on an unsecured basis (each, a "Guarantee") by certain of the Company's subsidiaries (the "Subsidiary Guarantors"). With the exception of the Guarantee by the Company's subsidiary Carolina Investors, Inc. ("CII"), the Subsidiary Guarantees rank PARI PASSU in right of payment with all existing and future unsubordinated indebtedness of the Subsidiary Guarantors and senior in right of payment to all existing and future subordinated indebtedness of such Guarantors. The Guarantee by CII is equal in priority to CII's notes payable to investors and is senior to CII's subordinated debentures. F-25 EMERGENT GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) NOTE 11. SENIOR UNSECURED DEBT AND SUBSIDIARY GUARANTORS (CONTINUED) The following tables represent consolidating condensed financial data of the combined Subsidiary Guarantors. The Company believes that providing the condensed consolidating information is of material interest to investors in the Senior Notes and has not presented separate financial statements for each of the Subsidiary Guarantors, because it was deemed that such financial statements would not provide investors with any material additional information. Investments in subsidiaries are accounted for by the Parent and Subsidiary Guarantors on the equity method for the purposes of the consolidating financial data. Earnings of subsidiaries are therefore reflected in the parent's and Subsidiary Guarantor's investment accounts and earnings. The principal elimination entries eliminate investments in subsidiaries and intercompany balances and transactions. Certain sums in the following tables reflect immaterial rounding differences. The Subsidiary Guarantors consisted of the following subsidiaries of the Company as of December 31, 1997: Emergent Mortgage Corp. (100% owned) Emergent Mortgage Corp. of Tennessee (100% owned) Carolina Investors, Inc. (100% owned) Sterling Lending Corporation (80% owned) Sterling Lending Insurance Agency, Inc. (100% owned) Emergent Business Capital, Inc. (100% owned) Emergent Commercial Mortgage, Inc. (100% owned) Emergent Financial Corp. (100% owned) Emergent Equity Advisors, Inc. (100% owned) The Loan Pro$, Inc. (100% owned) Premier Financial Services, Inc. (100% owned) As of December 31, 1997, the Subsidiary Guarantors conduct all of the Company's operations other than its special purpose bankruptcy-remote securitization subsidiaries and its mezzanine lending operations performed through Reedy River Ventures Limited Partnership, a small business investment company. Subsequent to year end, substantially all of the Loan Pro$, Inc. and Premier Financial Services, Inc. were sold resulting in the termination of their Subsidiary Guarantees. F-26 EMERGENT GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) CONSOLIDATING STATEMENTS OF FINANCIAL CONDITION DECEMBER 31, 1997 (Unaudited) (Dollars in thousands)
Combined Combined Non Wholly-Owned Wholly-Owned Combined Parent Guarantor Guarantor Non-Guarantor Company Subsidiaries Subsidiaries Subsidiaries Eliminations Consolidated ----------- ------------- ------------ -------------- ------------- ------------ ASSETS Cash and cash equivalents $ 713 $ 6,411 $ 263 $ $ -- $ 7,561 174 Restricted cash -- 103 -- 2,220 -- 2,323 Loans receivable: Loans receivable held for investment -- 93,129 7,250 -- 100,379 Loans receivable held for sale -- 187,911 9,325 -- -- 197,236 Notes receivable from affiliates 71,854 31,851 -- 25 (103,730) -- -- -------- --- --------- ------------- -- ----------- -- ---------- -- --------- Total loans receivable 71,854 312,891 9,325 7,275 (103,730) 297,615 Less allowance for credit losses on loans -- (6,528) -- -- -- (6,528) Less unearned discount, dealer reserves, and deferrals net of deferred loan costs -- (2,466) (368) (192) -- (2,658) -- -------- --- --------- ------------- -- ----------- -- ---------- -- --------- Net loans receivable 71,854 304,265 8,957 7,083 (103,730) 288,429 Other Receivables: Accrued interest receivable -- 4,250 63 94 -- 4,407 Other receivables 3,678 6,802 496 -- (296) 10,680 -- -------- --- --------- ------------- -- ----------- -- ---------- -- --------- Total other receivables 3,678 11,052 559 94 (296) 15,087 Investment in subsidiaries 108,854 -- -- -- (108,854) -- Investment in asset-backed securities -- 10,139 -- 6,300 -- 16,439 Net interest-only strip security -- 33,337 -- 11,103 -- 44,440 Net property and equipment 1,666 15,086 1,328 -- -- 18,080 Net excess of cost over net assets of acquired businesses 42 3,426 -- 342 (936) 2,874 Real estate and personal property acquired through foreclosure -- 3,295 -- -- -- 3,295 Other assets 8,545 10,324 207 237 (1,689) 17,624 -- -------- --- --------- ------------- -- ----------- -- ---------- -- --------- TOTAL ASSETS 195,352 397,438 11,314 27,553 (215,505) 416,152 ======== ========= ============= =========== ========== ========= LIABILITIES AND SHAREHOLDERS' EQUITY Liabilities: Notes payable to banks -- 77,605 -- -- -- 77,605 Investor savings: Notes payable to investors -- 115,368 -- -- -- 115,368 Subordinated debentures -- 18,947 -- -- -- 18,947 -- -------- --- --------- -------------- -- ----------- -- ---------- -- --------- Total investor savings -- 134,315 -- -- -- 134,315 Senior unsecured debt 125,000 -- -- -- -- 125,000 Accounts payable and accrued liabilities 312 7,408 760 22 (1,985) 6,517 Remittances payable -- 4,591 -- -- -- 4,591 Accrued interest payable 3,645 1,105 -- -- -- 4,750 Due to affiliates 3,021 -- -- 7,057 (10,078) -- -- -------- --- --------- ------------- -- ----------- -- ---------- -- --------- Total other liabilities 6,978 13,104 760 7,079 (12,063) 15,858 Subordinated debt to affiliates -- 63,969 9,544 16,829 (90,342) -- -- -------- --- --------- ------------- -- ----------- -- ---------- -- --------- Total liabilities 131,978 288,993 10,304 23,908 (102,405) 352,778 Shareholders' equity: Common stock 484 4,259 -- 10 (4,269) 484 Preferred stock -- 4,621 5,700 -- (10,321) -- Capital in excess of par value 38,609 64,570 -- 3,102 (67,672) 38,609 Retained earnings 24,281 34,995 (4,690) 533 (30,838) 24,281 -------- --- --------- ------------- ----------- ---------- --------- Total shareholders' equity 63,374 108,455 1,010 3,645 (113,100) 63,374 -- -------- --- --------- ------------- -- ----------- -- ---------- -- --------- TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $ 195,352 $ 397,438 $ 11,314 $ 27,553 $ (215,505) $ 416,152 ======== ========= ============= =========== ========== =========
F-27 EMERGENT GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) CONSOLIDATING STATEMENTS OF FINANCIAL CONDITION DECEMBER 31, 1996 (Unaudited) (Dollars in thousands)
Combined Combined Non Wholly-owned Wholly-Owned Combined Parent Guarantor Guarantor Non-Guarantor Company Subsidiaries Subsidiaries Subsidiaries Eliminations Consolidated ----------- ------------- ------------- -------------- ------------- ------------ ASSETS Cash and cash equivalents $ 192 $ 958 $ 126 $ -- $ -- $ 1,276 Restricted cash -- -- -- 5,319 -- 5,319 Loans receivable: Loans receivable -- 67,050 -- -- -- 67,050 Mortgage loans held for sale -- 122,482 -- -- -- 122,482 Notes receivable from affiliates 2,800 6,501 -- 10 (9,311) -- -- -------- --- --------- -------------- -- ----------- -- ---------- -- --------- Total loans receivable 2,800 196,033 -- 10 (9,311) 189,532 Less allowance for credit losses on loans -- (3,084) -- -- -- (3,084) Less unearned discount, dealer reserves, and deferrals net of deferred loan costs -- (1,419) -- -- -- (1,419) -- -------- --- --------- ------------- -- ----------- -- ---------- -- --------- Net loans receivable 2,800 191,530 -- 10 (9,311) 185,029 Other Receivables: Accrued interest receivable -- 2,083 -- 4 -- 2,087 Other receivables 37 4,360 62 -- -- 4,459 -- -------- --- --------- ------------- -- ----------- -- ---------- -- --------- Total other receivables 37 6,443 62 4 -- 6,546 Investment in subsidiaries 42,634 -- -- -- (42,634) -- Net investment for asset-backed securities -- (354) -- 3,935 -- 3,581 Net interest-only strip security -- 4,315 -- -- -- 4,315 Net property and equipment 526 6,289 362 -- -- 7,177 Net excess of cost over net assets of acquired businesses 45 3,618 -- -- (941) 2,722 Real estate and personal property acquired through foreclosure -- 4,720 -- -- -- 4,720 Other assets 1,311 1,851 302 -- -- 3,464 -- -------- --- --------- ------------- -- ----------- -- ---------- -- --------- TOTAL ASSETS 47,545 219,370 852 9,268 (52,886) 224,149 ======== ========= ============= =========== ========== ========= LIABILITIES AND SHAREHOLDERS' EQUITY Liabilities: Notes payable to banks -- 55,494 -- -- -- 55,494 Investor savings: Notes payable to investors -- 97,987 -- -- -- 97,987 Subordinated debentures -- 16,115 -- -- -- 16,115 -- -------- --- --------- ------------- -- ----------- -- ---------- -- --------- Total investor savings -- 114,102 -- -- -- 114,102 Accounts payable and accrued liabilities 545 3,331 82 -- -- 3,958 Remittances payable 2,573 -- 946 -- 3,519 Accrued interest payable -- 597 -- -- -- 597 Due to affiliates 365 -- -- 8,312 (8,677) -- -- -------- --- --------- ------------- -- ----------- -- ---------- -- --------- Total other liabilities 910 6,501 82 9,258 (8,677) 8,074 Subordinated debt to affiliates -- -- 634 -- (634) -- -- -------- --- --------- ------------- -- ----------- -- ---------- -- --------- Total liabilities 910 176,097 716 9,258 (9,311) 177,670 Minority interest -- -- -- -- (156) (156) Shareholders' equity: Common stock 457 4,258 -- 10 (4,268) 457 Preferred stock -- 150 1,000 -- (1,150) -- Capital in excess of par value 33,150 16,280 -- -- (16,280) 33,150 Retained earnings 13,028 22,585 (864) -- (21,721) 13,028 -------- --------- -------------- ----------- ---------- --------- Total shareholders' equity 46,635 43,273 136 10 (43,419) 46,635 -- -------- --- --------- -------------- ----------- -- ---------- -- --------- TOTAL LIABILITIES AND SHAREHOLDERS' EQUITY $ 47,545 $ 219,370 $ 852 $ 9,268 $ (52,886) $ 224,149 ======== ========= ============== =========== ========== =========
F-28 EMERGENT GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) CONSOLIDATING STATEMENTS OF INCOME YEAR ENDED DECEMBER 31, 1997 (Unaudited) (Dollars in thousands)
Combined Combined Non Wholly-Owned Wholly-Owned Combined Parent Guarantor Guarantor Non-Guarantor Company Subsidiaries Subsidiaries Subsidiaries Eliminations Consolidated ----------- ------------- ------------- -------------- ------------- ----------- REVENUES: Interest income $ 2,620 $ 33,753 $ 50 $ 423 $ (2,838) $ 34,008 Servicing income -- 8,514 -- -- -- 8,514 Gain on sale of loans: Cash gain on sale of loans -- 12,734 1,419 -- -- 14,153 Non-cash gain on sale of loans -- 38,675 -- -- -- 38,675 Loan fee income -- 28,024 2,137 46 -- 30,207 -- -------- --- --------- --------- ----------- -- ---------- -- --------- Total gain on sale of loans -- 79,433 3,556 46 -- 83,035 Other revenues 253 923 11 405 (193) 1,399 -- -------- --- --------- --------- ----------- -- ---------- -- --------- Total revenues 2,873 122,623 3,617 874 (3,031) 126,956 EXPENSES: Interest 4,436 23,308 193 203 (3,007) 25,133 Provision for credit losses -- 10,030 -- -- -- 10,030 Salaries, wages and employee benefits 4,421 40,032 3,591 -- -- 48,044 Business development costs 25 7,206 255 -- -- 7,486 Other general and administrative expense (5,026) 30,390 3,302 116 (28) 28,754 -------- --- --------- --------- ----------- ---------- --------- Total expenses 3,856 110,966 7,341 319 (3,035) 119,447 -------- --------- --------- ----------- ---------- --------- Income before income taxes, minority interest, and equity in undistributed earnings of subsidiaries (983) 11,657 (3,724) 555 4 7,509 Equity in undistributed earnings of subsidiaries 8,302 -- -- -- (8,302) -- -------- --------- --------- ----------- ---------- --------- Income before income taxes and minority interest 7,319 11,657 (3,724) 555 (8,298) 7,509 Provision (benefit) for income taxes: (3,917) (106) 101 22 -- (3,900) -------- --------- --------- ----------- ---------- --------- Income before minority interest 11,236 11,763 (3,825) 533 (8,298) 11,409 Minority interest in (earnings) loss of subsidiaries 17 (173) -- -- -- (156) -- -------- --- --------- --------- -- ----------- -- ---------- -- --------- NET INCOME $ 11,253 $ 11,590 $ (3,825) $ 533 $ (8,298) $ 11,253 == ======== === ========= ========= == =========== == ========== == =========
F-29 EMERGENT GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) CONSOLIDATING STATEMENTS OF INCOME YEAR ENDED DECEMBER 31, 1996 (Unaudited) (Dollars in thousands)
Combined Combined Non Wholly-Owned Wholly-Owned Combined Parent Guarantor Guarantor Non-Guarantor Company Subsidiaries Subsidiaries Subsidiaries Eliminations Consolidated ----------- ------------- ------------- -------------- ------------- ------------ REVENUES: Interest income $ 88 $ 18,277 $ 19 $ -- $ (476) $ 17,908 Servicing income -- 3,274 -- -- -- 3,274 Gain on sale of loans: Cash gain on sale of loans -- 20,846 16 -- -- 20,862 Non-cash gain on sale of loans -- 2,953 -- -- -- 2,953 Loan fee income -- 4,078 72 -- -- 4,150 -------- ------------- -------- -------------- ------------- ------------ Total gain on sale of loans -- 27,877 88 -- -- 27,965 Other revenues 406 835 -- -- -- 1,241 -------- ------------- -------- -------------- ------------- ------------ Total revenues 494 50,263 107 -- (476) 50,388 EXPENSES: Interest 457 11,019 21 -- (476) 11,021 Provision for credit losses -- 5,416 -- -- -- 5,416 Salaries, wages and employee benefits 1,931 11,221 511 -- -- 13,663 Business development costs 17 1,557 29 -- -- 1,603 Other general and administrative expense (1,717) 9,469 472 -- -- 8,224 -------- ------------- -------- -------------- ------------- ------------ Total expenses 688 38,682 1,033 -- (476) 39,927 -------- ------------- -------- -------------- ------------- ------------ Income before income taxes, minority interest, and equity in undistributed earnings of subsidiaries (194) 11,581 (926) -- -- 10,461 Equity in undistributed earnings of subsidiaries 10,116 -- -- -- (10,116) -- -------- ------------- -------- -------------- ------------- ------------ Income before income taxes and minority interest 9,922 11,581 (926) -- (10,116) 10,461 Provision (benefit) for income taxes 6 774 (62) -- -- 718 -------- ------------- -------- -------------- ------------- ------------ Income before minority interest 9,916 10,807 (864) -- (10,116) 9,743 Minority interest in (earnings) loss of subsidiaries 179 173 -- -- -- 352 -------- ------------- -------- -------------- ------------- ------------ NET INCOME $ 10,095 $ 10,980 $ (864) $ -- $ (10,116) $ 10,095 ======== ============= ======== ============== ============= ============
F-30 EMERGENT GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) CONSOLIDATING STATEMENTS OF INCOME YEAR ENDED DECEMBER 31, 1995 (Unaudited) (Dollars in thousands)
Combined Combined Non Wholly-Owned Wholly-Owned Combined Parent Guarantor Guarantor Non-Guarantor Company Subsidiaries Subsidiaries Subsidiaries Eliminations Consolidated ----------- ------------- ------------- -------------- ------------- ------------ REVENUES: Interest income $ 313 $ 15,015 $ -- $ -- $ (135) $ 15,193 Servicing income -- 446 -- -- -- 446 Gain on sale of loans: Cash gain on sale of loans -- 7,963 -- -- -- 7,963 Non-cash gain on sale of loans -- 1,206 -- -- -- 1,206 Loan fee income -- 586 -- -- -- 586 ---------- -------------- --------------- -------------- -------------- ----------- Total gain on sale of loans -- 9,755 -- -- -- 9,755 Other revenues (11) 895 -- -- -- 884 ---------- -------------- --------------- -------------- -------------- ----------- Total revenues 302 26,111 -- -- (135) 26,278 EXPENSES: Interest 152 8,510 -- -- (135) 8,527 Provision for credit losses -- 2,480 -- -- -- 2,480 Salaries, wages and employee benefits 899 4,792 -- -- -- 5,691 Business development costs -- 653 -- -- -- 653 Other general and administrative expense (425) 4,500 -- -- -- 4,075 ---------- -------------- ---------------- -------------- -------------- ---------- Total expenses 626 20,935 -- -- (135) 21,426 ---------- -------------- ---------------- -------------- -------------- ---------- Income before income taxes, minority interest, and equity in undistributed earnings of subsidiaries (324) 5,176 -- -- -- 4,852 Equity in undistributed earnings of subsidiaries 4,935 -- -- -- (4,935) -- ---------- -------------- ---------------- -------------- -------------- ---------- Income before income taxes and minority interest 4,611 5,176 -- -- (4,935) 4,852 Provision (benefit) for income taxes 30 160 -- -- -- 190 ---------- -------------- ---------------- -------------- -------------- ---------- Income before minority interest 4,581 5,016 -- -- (4,935) 4,662 Minority interest in (earnings) loss of subsidiaries -- (81) -- -- -- (81) ---------- -------------- ---------------- -------------- -------------- ---------- Income from continuing operations 4,581 4,935 -- -- (4,935) 4,581 Discontinued transportation and apparel manufacturing segments: Loss from operations, net of tax (1,573) -- -- -- -- (1,573) Loss on disposal of segments (2,351) -- -- -- -- (2,351) ---------- -------------- ---------------- -------------- -------------- ---------- (3,924) -- -- -- -- (3,924) ---------- -------------- ---------------- -------------- -------------- ---------- NET INCOME $ 657 $ 4,935 $ -- $ -- $ (4,935) $ 657 ========== ============== ================ ============== ============== ==========
F-31 EMERGENT GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) CONSOLIDATING STATEMENT OF CASH FLOWS YEAR ENDED DECEMBER 31, 1997 (Unaudited) (Dollars in thousands)
Combined Combined Wholly-owned Non Wholly-owned Combined Parent Guarantor Guarantor Non-Guarantor Company Subsidiaries Subsidiaries Subsidiaries Eliminations -------------- -------------- ----------------- -------------- -------------- OPERATING ACTIVITIES: Net income $ 11,253 $ 11,590 $ (3,825) $ 533 $ (8,298) Adjustments to reconcile net income to net cash provided by (used in) operating activities: Equity in undistributed earnings of subsidiaries (8,302) -- -- -- 8,302 Depreciation and amortization 304 2,009 375 7 (4) Provision for deferred income taxes (3,292) (853) 331 -- -- Provision for credit losses -- 10,030 -- -- -- Loans originated with intent to sell -- (1,098,826) (41,507) -- -- Principal proceeds from sold loans -- 485,622 32,181 -- -- Proceeds from securitization of loans -- 509,781 -- -- -- Other 16 (238) 368 192 -- Changes in operating assets and liabilities increasing (decreasing) cash: Restricted cash -- (103) -- 3,099 -- Other receivables (3,602) (1,187) (434) -- -- Interest only strip security -- (29,022) -- (11,103) -- Accrued interest receivable -- (2,139) (63) (90) -- Other assets 911 (7,468) (52) (237) -- Remittance due loan participants -- 2,018 -- (946) -- Accrued interest payable 3,645 508 -- -- -- Other liabilities (234) 1,280 347 22 -- Intercompany transfers 2,655 (1,385) -- (1,270) -- -------------- -------------- ------------ -------------- -------------- Net cash provided by (used 3,354 (118,383) (12,279) (9,793) -- in) operating activities INVESTING ACTIVITIES: Loans originated for investment purposes -- (124,938) -- (8,250) -- Principal collections on loans not sold -- 127,552 -- 1,000 -- Principal collections on asset-backed -- -- -- 1,123 -- securities Increase in overcollateralization -- (8,797) -- (1,514) -- from excess spread Additional investment in subsidiary (54,168) 53,389 -- 779 -- Proceeds from sale of real estate and personal property acquired through foreclosure -- 6,652 -- -- -- Purchase of property and equipment (1,438) (10,591) (1,193) -- -- Other (11) (371) -- -- -- -------------- -------------- ------------ -------------- -------------- Net cash used in investing activities (55,617) 42,896 (1,193) (6,862) -- FINANCING ACTIVITIES: Advances on notes payable to banks -- 1,139,815 -- -- -- Payments on notes payable to banks -- (1,117,704) -- -- -- Net increase in notes payable to investors -- 17,381 -- -- -- Net (decrease) increase in -- 2,832 -- -- -- subordinated debentures Advances (to) from subsidiary (69,054) 38,616 13,609 16,829 -- Proceeds from issuance of senior 120,578 -- -- -- -- unsecured debt Proceeds from issuance of 1,260 -- -- -- -- additional common stock -------------- -------------- ------------ -------------- -------------- Net cash provided by (used in) 52,784 80,940 13,609 16,829 -- financing activities -------------- -------------- ------------ -------------- -------------- Net increase (decrease) in cash and cash equivalents 521 5,453 137 174 -- CASH AND CASH EQUIVALENTS, BEGINNING OF YEAR 192 958 126 -- -- ============== ============== ============ ============== ============== CASH AND CASH EQUIVALENTS, END OF YEAR $ 713 $ 6,411 $ 263 $ 174 $ -- ============== ============== ============ ============== ==============
Consolidated ------------- OPERATING ACTIVITIES: Net income $ 11,253 Adjustments to reconcile net income to net cash provided by (used in) operating activities: Equity in undistributed earnings of subsidiaries -- Depreciation and amortization 2,691 Provision for deferred income taxes (3,814) Provision for credit losses 10,030 Loans originated with intent to sell (1,140,333) Principal proceeds from sold loans 517,803 Proceeds from securitization of loans 509,781 Other 338 Changes in operating assets and liabilities increasing (decreasing) cash: Restricted cash 2,996 Other receivables (5,223) Interest only strip security (40,125) Accrued interest receivable (2,292) Other assets (6,846) Remittance due loan participants 1,072 Accrued interest payable 4,153 Other liabilities 1,415 Intercompany transfers -- ------------- Net cash provided by (used (137,101) in) operating activities INVESTING ACTIVITIES: Loans originated for investment purposes (133,188) Principal collections on loans not sold 128,552 Principal collections on asset-backed 1,123 securities Increase in overcollateralization (10,311) from excess spread Additional investment in subsidiary -- Proceeds from sale of real estate and personal property acquired through foreclosure 6,652 Purchase of property and equipment (13,222) Other (382) ------------- Net cash used in investing activities (20,776) FINANCING ACTIVITIES: Advances on notes payable to banks 1,139,815 Payments on notes payable to banks (1,117,704) Net increase in notes payable to investors 17,381 Net (decrease) increase in 2,832 subordinated debentures Advances (to) from subsidiary -- Proceeds from issuance of senior 120,578 unsecured debt Proceeds from issuance of 1,260 additional common stock ------------- Net cash provided by (used in) 164,162 financing activities ------------- Net increase (decrease) in cash and cash equivalents 6,285 CASH AND CASH EQUIVALENTS, BEGINNING OF YEAR 1,276 ============= CASH AND CASH EQUIVALENTS, END OF YEAR $ 7,561 =============
F-32 EMERGENT GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) CONSOLIDATING STATEMENT OF CASH FLOWS YEAR ENDED DECEMBER 31, 1996 (Unaudited) (Dollars in thousands)
Combined Combined Wholly-owned Non Wholly-owned Combined Parent Guarantor Guarantor Non-Guarantor Company Subsidiaries Subsidiaries Subsidiaries Eliminations -------------- -------------- ----------------- -------------- ------------ OPERATING ACTIVITIES: Net income $ 10,095 10,980 (864) -- (10,116) Adjustments to reconcile net income to net cash provided by (used in) operating activities: Equity in undistributed earnings of subsidiaries (10,120) -- -- -- 10,120 Depreciation and amortization 72 1,162 104 -- (4) Provision for deferred income taxes 76 (218) 1 -- -- Provision for credit losses -- 5,416 -- -- -- Loans originated with intent to sell -- (386,405) (1,195) -- -- Principal proceeds from sold loans -- 270,663 1,195 -- -- Proceeds from securitization of loans -- 30,128 -- -- -- Other -- (671) -- -- -- Changes in operating assets and liabilities increasing (decreasing) cash: Restricted cash -- -- -- (4,407) -- Other receivables -- (2,921) (63) -- -- Interest only strip security -- (3,109) -- -- -- Accrued interest receivable 51 (567) -- -- -- Other assets (334) (405) (391) -- -- Remittance due loan participants -- 2,331 -- -- -- Accrued interest payable -- (24) -- -- -- Other liabilities (362) 1,146 81 -- -- Intercompany transfers -- (4,082) -- 4,082 -- Net cash provided by operating activities of discontinued operations 77 -- -- -- -- -------------- -------------- ------------- -------------- -------------- Net cash provided by (used (445) (76,576) (1,132) (325) -- in) operating activities INVESTING ACTIVITIES: Loans originated for investment purposes (513) (48,660) -- -- -- Principal collections on loans not sold -- 61,868 -- -- -- Principal collections on asset-backed securities -- 608 -- 325 -- Additional investment in subsidiary (18,825) 18,825 -- -- -- Proceeds from sale of real estate and personal property acquired through foreclosure -- 3,383 -- -- -- Purchase of property and equipment (532) (3,985) (377) -- -- Other -- 76 -- -- -- -------------- -------------- ------------- -------------- -------------- Net cash used in investing activities (19,870) 32,115 (377) 325 -- FINANCING ACTIVITIES: Advances on notes payable to banks -- 509,118 -- -- -- Payments on notes payable to banks -- (485,257) -- -- -- Net increase in notes payable to investors -- 15,855 -- -- -- Net (decrease) increase in subordinated -- (70) -- -- -- debentures Advances (to) from subsidiary (6,511) 4,876 1,635 -- -- Proceeds from issuance of additional common stock 26,655 -- -- -- -- -------------- -------------- ------------- -------------- -------------- Net cash provided by (used in) financing activities 20,144 44,522 1,635 -- -- -------------- -------------- ------------- -------------- -------------- Net increase (decrease) in cash and cash equivalents (171) 61 126 -- -- CASH AND CASH EQUIVALENTS, BEGINNING OF YEAR 363 897 -- -- -- -------------- -------------- ------------- -------------- -------------- CASH AND CASH EQUIVALENTS, END OF YEAR $ 192 $ 958 $ 126 $ -- $ -- ============== ============== ============= ============== ==============
Consolidated ----------- OPERATING ACTIVITIES: Net income 10,095 Adjustments to reconcile net income to net cash provided by (used in) operating activities: Equity in undistributed earnings of subsidiaries -- Depreciation and amortization 1,334 Provision for deferred income taxes (141) Provision for credit losses 5,416 Loans originated with intent to sell (387,600) Principal proceeds from sold loans 271,858 Proceeds from securitization of loans 30,128 Other (671) Changes in operating assets and liabilities increasing (decreasing) cash: Restricted cash (4,407) Other receivables (2,984) Interest only strip security (3,109) Accrued interest receivable (516) Other assets (1,130) Remittance due loan participants 2,331 Accrued interest payable (24) Other liabilities 865 Intercompany transfers -- Net cash provided by operating activities of discontinued operations 77 ------------- Net cash provided by (used (78,478) in) operating activities INVESTING ACTIVITIES: Loans originated for investment purposes (49,173) Principal collections on loans not sold 61,868 Principal collections on asset-backed securities 933 Additional investment in subsidiary -- Proceeds from sale of real estate and personal property acquired through foreclosure 3,383 Purchase of property and equipment (4,894) Other 76 ------------- Net cash used in investing activities 12,193 FINANCING ACTIVITIES: Advances on notes payable to banks 509,118 Payments on notes payable to banks (485,257) Net increase in notes payable to investors 15,855 Net (decrease) increase in subordinated (70) debentures Advances (to) from subsidiary -- Proceeds from issuance of additional common stock 26,655 ------------- Net cash provided by (used in) financing activities 66,301 ------------- Net increase (decrease) in cash and cash equivalents 16 CASH AND CASH EQUIVALENTS, BEGINNING OF YEAR 1,260 ------------- CASH AND CASH EQUIVALENTS, END OF YEAR $ 1,276 =============
F-33 EMERGENT GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) CONSOLIDATING STATEMENT OF CASH FLOWS YEAR ENDED DECEMBER 31, 1995 (Unaudited) (Dollars in thousands)
Combined Combined Wholly-owned Non Wholly-owned Combined Parent Guarantor Guarantor Non-Guarantor Company Subsidiaries Subsidiaries Subsidiaries Eliminations -------------- -------------- ----------------- -------------- -------------- OPERATING ACTIVITIES: Net income $ 657 $ 4,935 $ -- $ -- $ (4,935) Adjustments to reconcile net income to net cash provided by (used in) operating activities: Equity in undistributed earnings of subsidiaries (4,935) -- -- -- 4,935 Depreciation and amortization 253 685 -- -- -- Provision for deferred income taxes -- 41 -- -- -- Provision for credit losses -- 2,480 -- -- -- Loans originated with intent to sell -- (173,985) -- -- -- Principal proceeds from sold loans -- 144,861 -- -- -- Proceeds from securitization of loans -- 15,357 -- -- -- Other -- (899) -- -- -- Changes in operating assets and liabilities increasing (decreasing) cash: Restricted cash -- -- -- (912) -- Other receivables -- (1,034) -- -- -- Interest only strip security -- (183) -- -- -- Accrued interest receivable (51) (593) -- -- -- Other assets 293 (223) -- -- -- Remittance due loan participants -- 505 -- -- -- Accrued interest payable -- 103 -- -- -- Other liabilities (274) 1,151 -- -- -- Intercompany transfers 732 (1,467) -- 735 -- Net cash provided by activities of discontinued operations 1,592 -- -- -- -- -------------- -------------- ----------- -------------- -------------- Net cash provided by (used in) operating activities (1,733) (8,266) -- (177) -- INVESTING ACTIVITIES: Loans originated for investment purposes -- (74,363) -- -- -- Principal collections on loans not sold -- 50,329 -- -- -- Principal collections on asset-backed -- -- -- 177 -- securities Additional investment in subsidiary (1,384) (1,384) -- -- -- Proceeds from sale of real estate and personal property acquired through foreclosure -- 3,401 -- -- -- Purchase of property and equipment (25) (1,707) -- -- -- Other (255) (779) -- -- -- -------------- -------------- ------------ -------------- -------------- Net cash used in investing activities (1,104) (24,503) -- 177 -- FINANCING ACTIVITIES: Advances on notes payable to banks -- 179,381 -- -- -- Payments on notes payable to banks (279) (164,710) -- -- -- Net increase in notes payable to investors -- 25,635 -- -- -- Net (decrease) increase in subordinated debentures -- (4,812) -- -- -- Advances (to) from subsidiary 1,677 (1,677) -- -- -- Proceeds from issuance of additional common stock 52 -- -- -- -- Other (568) (319) -- -- -- -------------- -------------- ------------ -------------- -------------- Net cash provided by (used in) financing activities 882 33,498 -- -- -- -------------- -------------- ------------ -------------- -------------- Net increase (decrease) in cash and 253 729 -- -- -- cash equivalents CASH AND CASH EQUIVALENTS, BEGINNING OF YEAR 110 168 -- -- -- -------------- -------------- ------------ -------------- -------------- CASH AND CASH EQUIVALENTS, END OF YEAR $ 363 $ 897 $ -- $ -- $ -- ============== ============== ============ ============== ==============
Consolidated ------------- OPERATING ACTIVITIES: Net income $ 657 Adjustments to reconcile net income to net cash provided by (used in) operating activities: Equity in undistributed earnings of subsidiaries -- Depreciation and amortization 938 Provision for deferred income taxes 41 Provision for credit losses 2,480 Loans originated with intent to sell (173,985) Principal proceeds from sold loans 144,861 Proceeds from securitization of loans 15,357 Other (899) Changes in operating assets and liabilities increasing (decreasing) cash: Restricted cash (912) Other receivables (1,034) Interest only strip security (183) Accrued interest receivable (644) Other assets 70 Remittance due loan participants 505 Accrued interest payable 103 Other liabilities 877 Intercompany transfers -- Net cash provided by activities of discontinued operations 1,592 ------------- Net cash provided by (used in) operating activities (10,176) INVESTING ACTIVITIES: Loans originated for investment purposes (74,363) Principal collections on loans not sold 50,329 Principal collections on asset-backed 177 securities Additional investment in subsidiary -- Proceeds from sale of real estate and personal property acquired through foreclosure 3,401 Purchase of property and equipment (1,732) Other (1,034) ------------- Net cash used in investing activities (23,222) FINANCING ACTIVITIES: Advances on notes payable to banks 179,381 Payments on notes payable to banks (164,989) Net increase in notes payable to investors 25,635 Net (decrease) increase in subordinated debentures (4,812) Advances (to) from subsidiary -- Proceeds from issuance of additional common stock 52 Other (887) ------------- Net cash provided by (used in) financing activities 34,380 ------------- Net increase (decrease) in cash and 982 cash equivalents CASH AND CASH EQUIVALENTS, BEGINNING OF YEAR 278 ------------- CASH AND CASH EQUIVALENTS, END OF YEAR $ 1,260 =============
F-34 EMERGENT GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) NOTE 12. LEASES The Company leases various property and equipment, office space and automobiles under operating leases. The following is a schedule by year of future minimum rental payments for all operating leases that have initial or remaining noncancellable terms in excess of one year (in thousands): 1998 $ 2,712 1999 1,992 2000 1,642 2001 1,216 2002 264 ---------------- $ 7,826 ================ Total rental expense was approximately $2.1 million in 1997, $843,000 in 1996, and $901,000 in 1995. NOTE 13. MANAGEMENT AGREEMENTS The Company manages a venture capital fund. The Company receives management fees of $320,000 annually. Prior to June 1997, the Company also received management fees for managing a mezzanine level fund, in which it was a general partner. During 1995, the Company made a $1.0 million investment into the partnership. In June 1997, the Company purchased the remaining interests of the partnership. The Company received management fees of $426,000, $514,000, and $570,000 from the managed funds during 1997, 1996, and 1995 respectively. The Company may also receive incentive management fees of 15% of the net portfolio profits of the venture capital fund, as defined. F-35 EMERGENT GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) NOTE 14. OTHER GENERAL AND ADMINISTRATIVE EXPENSES Other general and administrative expenses for the years ended December 31, 1997, 1996, and 1995 consist of the following:
YEARS ENDED DECEMBER 31, ------------------------------------------------------------- 1997 1996 1995 ------------------ ------------------- ----------------- Depreciation expense $ 2,220 $ 901 $ 383 Amortization expense 471 433 314 Legal and professional fees 6,749 1,026 687 Travel and entertainment 3,493 1,116 420 Office rent and utilities 2,206 750 324 Telephone 3,411 697 270 Office supplies 2,322 590 216 Other 7,882 2,711 1,461 ------------------ ------------------- ----------------- TOTAL OTHER GENERAL AND ADMINISTRATIVE $ 28,754 $ 8,224 $ 4,075 ================== =================== =================
NOTE 15. SHAREHOLDERS' EQUITY On May 21, 1981, the shareholders approved an employee stock option plan and on May 22, 1984, the shareholders approved an increase in the number of shares of common stock, which may be granted from 250,000 to 500,000. Under the terms of the plan, the Company may grant options to key employees and directors to purchase up to a total of 500,000 shares of its $.05 par value common stock. The option price is the fair market value at date of grant. The options expire five years from date of grant, are not transferable other than on death, and are exercisable 20% on the date of grant and 20% per year on a cumulative basis for each year subsequent to the date of grant. No shares are available for grant under this stock option plan, and there are 18,668 unexercised options outstanding at December 31, 1997, of which 10,668 are exercisable. On June 9, 1995, the shareholders approved a stock option plan under which the Board of Directors may issue 566,668 shares of common stock. In May 1997, the shareholders approved an increase in the number of shares of common stock, which may be granted to 716,668. Under the terms of the plan, the Company may grant options to key employees to purchase up to a total of 716,668 shares of its $.05 par value common stock. The option price is the fair market value at date of grant. Prices for incentive stock options granted to employees who own 10% or more of the Company's stock are at 110% of market value at date of grant. The options expire five to ten years from date of grant, are not transferable other than on death, and are exercisable 20% on the date of grant and 20% per year on a cumulative basis for each year subsequent to the date of grant. The remaining options available for grant under the plan consist of 265,664 common stock options at December 31, 1997, and there are 459,042 unexercised options outstanding at December 31, 1997, of which 180,240 are exercisable. F-36 EMERGENT GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) NOTE 15. SHAREHOLDERS' EQUITY (CONTINUED) Also on June 9, 1995, the shareholders approved a stock option plan under which each non-employee member of the Board of Directors receives options to purchase 666 shares of common stock each December 31 beginning in 1995 through 1999. Under the terms of the plan, the Company may grant options totaling 33,333. The terms of the plan are identical to the employee stock option plan approved on June 9, 1995. The remaining options available for grant under this plan consist of 26,673 common stock options at December 31, 1997, and there are 6,261 unexercised options outstanding at December 31, 1997, of which 2,931 are exercisable. On April 18, 1996, the shareholders approved a restricted stock agreement plan to provide additional incentives to members of the Board of Directors of the Company who are not employees of the Company. Shares that may be issued pursuant to the Restricted Stock Agreements under the Plan shall not exceed 50,000 shares in the aggregate. The Plan provides that, on each grant date, each eligible director will automatically receive from the Company an Agreement to purchase for $.05 per share that number of shares having a fair market value equal to $12,000. For purposes of the Plan, the grant date is January 31 of each calendar year commencing with the 1996 calendar year. At December 31, 1997, there were 14,500 agreements granted under this plan with 11,600 unexercised agreements outstanding, all of which are exercisable. Shares subject to a Restricted Stock Agreement are initially non-transferable and subject to forfeiture. Shares granted to a recipient become freely transferable and no longer subject to forfeiture at a rate of 20% of the total number of shares covered by such agreement on each of the five anniversaries of the grant date, beginning with the first anniversary of such grant. The Company offered to buy from the shareholders up to 1,000,000 shares of common stock for the period March 31, through May 8, 1995 at a price of $1.15 per share. As a result of this offer, the Company purchased approximately 487,000 shares of common stock at an aggregate cost of approximately $560,000. On June 9, 1995 the shareholders of the Company approved a one-for-three reverse split of the Common Stock. The certificates for previously issued common stock were canceled and were forfeited by the holder in order for the holder to receive replacement certificates for the after reverse split shares. The shareholders also authorized the increase of post reverse split authorized shares of common stock to 4,000,000 shares. The Company issued to all shareholders certificates for one-third of their common shares as of June 9, 1995, upon the shareholder presenting their existing shares. No fractional shares were issued as a result of the one-for-three reverse stock split. All fractional shares were redeemed at an equivalent price of $1.25 per share. The Articles of Incorporation of the Company were amended by vote of the shareholders at the Annual Meeting of Shareholders on April 18, 1996. The Class A Common Stock, $0.05 par value, was converted to common stock on a one-for-one basis effective April 19, 1996. All authorized but unissued shares of Class A Common Stock were canceled. The number of authorized shares of common stock was increased from 4,000,000 to 30,000,000 shares. By vote of the shareholders at the Annual Meeting of Shareholders on May 27, 1997, the number of authorized shares of common stock was increased from 30,000,000 to 100,000,000. F-37 EMERGENT GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) NOTE 15. SHAREHOLDERS' EQUITY (CONTINUED) The Company filed a registration statement with the Securities and Exchange Commission on September 20, 1996, for the issuance of 3,000,000 shares of common stock of which 2,119,031 shares were offered by the Company and 880,969 shares were offered by certain selling shareholders. No officers or directors of the Company sold any shares in connection with the offering. The offering was effective on November 8, 1996, as the Company's common stock was listed on the NASDAQ Stock Market's National Market under the trading symbol, "EMER." On December 11, 1996, the underwriters of the public offering exercised the option to purchase an additional 400,000 shares of common stock in accordance with the terms of the registration statements. Total gross proceeds of approximately $28,969,000 were raised as a result of the issuance of stock, which was offset by approximately $2,769,000 in costs and expenses relating to the transaction. F-38 EMERGENT GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) NOTE 15. SHAREHOLDERS' EQUITY (CONTINUED) Activity in stock options is as follows:
Years Ended December 31, ----------------------------------------------------- 1997 1996 1995 ---------------- -------------- -------------- Options outstanding, beginning of year 487,638 339,000 140,000 Issued at: Date of Grant - -------------------- --------- $1.0825 per share 02-17-94 -- -- -- $l.32 per share 01-13-95 -- -- 80,006 $4.625 per share 10-31-95 -- -- 124,000 $5.09 per share 10-31-95 -- -- 32,000 $9.435 per share 12-18-95 -- -- 2,664 $10.38 per share 12-18-95 -- -- 666 $12.25 per share 11-11-96 -- 258,000 -- $11.25 per share 12-15-96 -- 3,330 -- $13.50 per share 02-11-97 1,000 -- -- $13.00 per share 05-02-97 10,000 -- -- $14.25 per share 08-06-97 5,000 -- -- $13.50 per share 09-26-97 21,000 -- -- ------------- -------------- -------------- Total Granted 37,000 261,330 239,336 Exercised: Expired or canceled -- -- -- $1.0825 per share (17,336) (74,197) (29,800) $1.32 per share (13,332) (29,335) (1,336) $4.625 per share (9,600) (9,160) (3,200) $5.09 per share -- -- (6,000) $10.380 per share (266) -- -- $11.250 per share (133) -- -- ------------- -------------- --- -------------- Total exercised canceled or expired 40,667 112,692 40,336 ------------- -------------- -------------- Options end of year 483,971 487,638 339,000 ============= ============== ============== Exercisable, end of year 193,839 98,973 83,532 ============= ============== ============== Available for grant, end of year 292,340 179,340 440,671 ============= ============== ==============
F-39 EMERGENT GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) NOTE 15. SHAREHOLDERS' EQUITY (CONTINUED) At December 31, 1995, 121,742 warrants were outstanding; 111,932 of these warrants were exercised during 1996 for $2.625 per share. The remaining warrants expired as of December 31, 1996. Accordingly, no warrants are outstanding at December 31, 1997. The Company has adopted the disclosure-only provisions of SFAS No. 123, "ACCOUNTING FOR STOCK-BASED COMPENSATION." Accordingly, no compensation cost has been recognized for the stock option plans. Had compensation cost for the Company's stock option plans been determined based on the fair value at the grant date for awards in 1997, 1996, and 1995 consistent with the provisions of SFAS No. 123, the Company's net income and earnings per share would have been reduced to the pro forma amounts indicated below:
1997 1996 1995 --------------- -------------- -------------- (In thousands, except per share data) Net income - as reported $ 11,253 $ 10,095 $ 657 Net income - pro forma 10,969 9,875 616 Diluted earnings per share - as reported 1.17 1.42 0.10 Diluted earnings per share - pro forma 1.14 1.39 0.09
The fair value of each option grant is estimated on the date of grant using a Black-Scholes valuation model with the following weighted average assumptions: dividend yield of 0%, expected volatility of 64.0%; risk-free interest rate of approximately 5.7%, and expected lives of 3 years. The pro forma amounts disclosed above may not be representative of the effects on reported net income for future periods. The Company implemented an Employee Stock Purchase Plan ("ESPP") in 1997. The ESPP allows eligible employees the right to purchase common stock at the end of each of two six-month offering periods (January 1 through June 30 and July 1 through December 31). Eligible employees must work 20 or more hours per week and have been employed for a period of 1 year. The stock is purchased at 85% of the lower of the market price at the beginning or ending of each six-month offering period. A liability will be recorded for ESPP withholdings not yet applied towards the purchase of common stock. The Company's Board of Directors has authorized 200,000 shares to be issued under the ESPP. NOTE 16. DISCONTINUED OPERATIONS In connection with the Company's strategic plan to focus its business efforts on financial services, the Company's operations in the Apparel and Transportation segments were discontinued during 1995. The Company divested its apparel segment operations, which was comprised solely of the operations of Young Generations, Inc. ("YGI"). On September 30, 1995, the Company sold all of the outstanding stock (the "stock sale") of YGI to fifteen individuals (the "Buyers"), who were members of YGI's management team. As a result, the loss on the sale of the stock and operating results of the apparel segment have been classified as discontinued operations. F-40 EMERGENT GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) NOTE 16. DISCONTINUED OPERATIONS (CONTINUED) The Company sold the stock for $600,000 under a non-recourse promissory note from the buyers. As a result of the sale, the Company wrote-off all amounts due from YGI resulting in a charge of $3.6 million, net of income taxes of $67,700, reported as a loss from discontinued operations. The Company remains contingently liable for its guarantee of certain bank loans and certain trade accounts payable, which at December 31, 1997 totaled approximately $150,000 and were secured by substantially all of YGI's assets. In 1996 and 1997, the Company loaned additional amounts to YGI, $800,000 of which remained outstanding at December 31, 1997. The Apparel segment, which consists solely of the operations of YGI, had net losses of $1.3 million for the nine months ended September 30, 1995. YGI had revenues of $7.3 million for the nine months ended September 30, 1995. In July 1994 the Company sold an operating railroad for $940,000. In connection with this sale, the Company received $20,000 cash, and a note receivable of $920,000, payable in semi-annual payments over five years, with an interest rate of 10%. In November 1994, the Company assigned the rights to boxcars in a lease with a Class I railroad for $1.2 million cash. The Company sold additional railcars in June 1995 for $111,000 cash. At December 31, 1995, the Company had remaining net assets in the transportation segment of $77,000, the majority of which the Company sold during 1996. Revenues applicable to the discontinued operations were:
Years Ended December 31, ------------------------------------------------------ 1997 1996 1995 ---------------- ---------------- -------------- (in thousands) Apparel manufacturing $ -- $ -- $ 7,263 Transportation -- -- 390 Income from operations and gain (loss) on disposal attributable to the discontinued segments is reported net of income tax expense of: Years Ended December 31, ------------------------------------------------------ 1997 1996 1995 ---------------- ---------------- -------------- (in thousands) Apparel manufacturing $ -- $ -- $ (22) Transportation -- -- (53)
F-41 EMERGENT GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) NOTE 16. DISCONTINUED OPERATIONS (CONTINUED) Gain (loss) from operations, net of income tax, consists of the following:
Years Ended December 31, ------------------------------------------------------ 1997 1996 1995 ---------------- ---------------- -------------- (in thousands) Apparel manufacturing segment $ -- $ -- $ (1,253) Transportation segment -- -- (320) ---------------- ---------------- -------------- -- -- (1,573) ---------------- ---------------- -------------- Gain (loss) on disposal of segments, net of income taxes, consists of the following: Years Ended December 31, ------------------------------------------------------ 1997 1996 1995 ---------------- ---------------- -------------- (in thousands) Apparel manufacturing segment $ -- $ -- $ (2,324) Transportation segment -- -- (27) ---------------- ---------------- -------------- -- -- (2,351) ---------------- ---------------- -------------- NOTE 17. INCOME TAXES Total income tax expense was allocated as follows: Years Ended December 31, ------------------------------------------------------ 1997 1996 1995 ---------------- ---------------- -------------- (in thousands) Income from continuing operations $ (3,900) $ 718 $ 190 Discontinued operations -- -- (75) ---------------- ---------------- -------------- $ (3,900) $ 718 $ 115 ---------------- ---------------- --------------
F-42 EMERGENT GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) NOTE 17. INCOME TAXES (CONTINUED) A reconciliation of the provision for Federal and state income taxes and the amount computed by applying the statutory Federal income tax rate to income before income taxes and minority interest are as follows:
Years Ended December 31, ------------------------------------------------------ 1997 1996 1995 ---------------- ---------------- -------------- (in thousands) Statutory Federal rate of 34% applied to pre-tax income from continuing operations before minority interest $ 2,553 $ 3,557 $ 1,650 State income taxes, net of federal income tax benefit (16) 350 3 Change in the beginning of the year balance of the valuation allowance for deferred tax assets allocated to income tax expense (7,508) (3,229) (1,566) Nondeductible expenses 107 17 5 Amortization of excess cost over net assets of acquired businesses 66 64 62 Other, net 898 (41) 36 ---------------- ---------------- -------------- $ (3,900) $ 718 $ 190 ---------------- ---------------- -------------- Provision (benefit) for income taxes from continuing operations is comprised of the following: Years Ended December 31, ------------------------------------------------------ 1997 1996 1995 ---------------- ---------------- -------------- (in thousands) Current Federal $ 289 $ 199 $ 100 State and local (376) 660 49 ---------------- ---------------- -------------- (87) 859 149 Deferred Federal (4,165) (11) 27 State and local 352 (130) 14 ---------------- ---------------- -------------- (3,813) (141) 41 Total Federal (3,876) 188 127 State and local (24) 530 63 ---------------- ---------------- -------------- $ (3,900) $ 718 $ 190 ---------------- ---------------- --------------
F-43 EMERGENT GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) NOTE 17. INCOME TAXES (CONTINUED) Deferred income taxes reflect the net tax effects of (a) temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes, and (b) operating loss carryforwards. The tax effects of significant items comprising the Company's net deferred tax asset are as follows:
December 31, ------------------------------------- 1997 1996 ---------------- ---------------- (In thousands) Deferred tax liabilities: Differences between book and tax basis of property $ (796) $ (372) REIT adjustment (3,849) -- Deferred loan fees (608) -- Other (90) -- ---------------- ---------------- Total gross deferred tax liabilities (5,343) (372) ---------------- ---------------- Deferred tax assets: Differences between book and tax basis of deposit base intangibles 216 205 Allowance for credit losses 3,525 1,672 AMT credit carryforward 608 568 Operating loss carryforward 4,171 4,590 Unrealized gain on loans to be sold 909 1,182 Other 65 -- ---------------- ---------------- Total gross deferred tax assets 9,494 8,217 Less valuation allowance -- (7,508) ---------------- ---------------- Net deferred tax asset $ 4,151 $ 337 ================ ================
The valuation allowance at December 31, 1996 consisted of Alternative Minimum Tax Credit carryforwards, net operating loss carryforwards, and deductible temporary differences primarily for Federal income tax purposes. Management believes that it is more likely than not that the results of future operations will generate sufficient taxable income to realize net deferred tax assets. Accordingly, there is no valuation allowance recorded at December 31, 1997. As of December 31, 1997, the Company has available Federal net operating loss ("NOL") carryforwards expiring as follows (in thousands): 1999 $ 7,463 2000 3,297 2001 1,911 2002 and after 362 ------- $13,033 ======= There are no known significant pending assessments from taxing authorities regarding taxation issues at the Company or its subsidiaries. F-44 EMERGENT GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) NOTE 18. STATEMENT OF CASH FLOWS The following information relates to the Statement of Cash Flows for the years ended December 31, 1997, 1996 and 1995:
YEARS ENDED DECEMBER 31, ---------------------------------------------------------- 1997 1996 1995 ---------------- ----------------- ----------------- (In thousands) Changes in operating assets and liabilities increasing (decreasing) cash: Restricted cash $ 2,996 $ (4,407) $ (912) Interest-only strip security (40,125) (3,109) (183) Accrued interest receivable (2,292) (516) (644) Other receivables (5,223) (2,984) (1,034) Other assets (6,846) (1,130) 70 Remittance due to loan participants 1,072 2,331 505 Accrued interest payable 4,153 (24) 103 Other liabilities 1,415 865 877 Net cash provided by operating activities of discontinued operations -- 77 1,592 ---------------- ----------------- ----------------- $ (44,850) $ 8,897 $ 374 ================ ================= =================
F-45 EMERGENT GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) NOTE 19. TRANSACTIONS WITH RELATED PARTIES The Company engaged in the following related party transactions: The Company obtains legal services from a firm, certain members of which, when considered in the aggregate, may be deemed to beneficially own 596,351 shares of the Company's capital stock. Total charges for these services were approximately $308,000 in 1997, $756,000 in 1996, and $234,000 in 1995. The Company provided management services to a mezzanine level small business investment company partnership fund with significant common shareholders for which it received fees of $175,000 in 1996 and $250,000 in 1995. Notes payable to investors and subordinated debentures include amounts due to officers, directors and key employees of approximately $660,000 and $694,000 at December 31, 1997 and 1996, respectively. The Company also had notes receivable from related parties at December 31, 1997 and 1996 of approximately $509,000 and $1.1 million, respectively. NOTE 20. EMPLOYEE RETIREMENT PLAN The Company has a matched savings plan under Section 401(k) of the Internal Revenue Code covering employees meeting certain eligibility requirements. The plan allows employees who have completed 30 days of service to participate in the plan and provides for Company contributions, subject to certain limitations. Company matching contributions are 50% of employee contributions to a maximum of 6% of compensation for each employee. The Company's contributions under the plan totaled approximately $761,000 in 1997, $60,000 in 1996, and $76,000 in 1995. F-46 EMERGENT GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) NOTE 21. RECENTLY ISSUED ACCOUNTING STANDARDS In June 1997, FASB issued SFAS No. 130 "REPORTING COMPREHENSIVE INCOME," which is effective for annual and interim periods beginning after December 15, 1997. This statement requires that all items that are required to be recognized under accounting standards as comprehensive income be reported in a financial statement that is displayed with the same prominence as other financial statements. In June 1997, FASB issued SFAS No. 131 "DISCLOSURES ABOUT SEGMENTS OF AN ENTERPRISE AND RELATED INFORMATION," which is effective for annual and interim periods beginning after December 15, 1997. This statement establishes standards for the method that public entities report information about operating segments in annual financial statements and requires that those enterprises report selected information about operating segments in interim financial reports issued to shareholders. It also establishes standards for related disclosures about product and services, geographical areas, and major customers. The adoption of this standard is not expected to have a material effect on the Company's financial reporting. NOTE 22. CONTINGENCIES From time to time, the Company or its subsidiaries are defendants in legal actions involving claims arising in the normal course of its business. The Company believes that, as a result of its legal defenses and insurance arrangements, none of these actions, if decided adversely, would have a material effect on the business, financial condition, results of operations or cash flows of the Company taken as a whole. The Company may from time to time enter into forward commitments to sell residential first mortgage loans to reduce risk associated with originating and holding loans for sale. At December 31, 1997, the Company had no outstanding forward commitment contracts. NOTE 23. SUBSEQUENT EVENTS On March 19, 1998, the Company sold substantially all of the assets of its auto loan division for book value, which approximated $20.4 million. No gain or loss was recognized on this transaction. On January 29, 1998, the Company announced plans to seek a strategic acquirer of Sterling Lending. F-47 EMERGENT GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) NOTE 24. SUPPLEMENTAL QUARTERLY RESULTS OF OPERATIONS (UNAUDITED) The quarterly results of operations for the year ended December 31, 1997, are as follows:
Quarter Ended -------------------------------------------------------------------------------- March 31, June 30, September 30, December 31, 1997 1997 1997 1997 --------------- ----------------- ------------------ ------------------ (in thousands, except share data) REVENUES: Interest income $ 6,207 $ 8,817 $ 10,842 $ 8,142 Servicing income 1,145 1,940 2,920 2,509 Gain on sale of loans: Cash gain on sale of loans 1,803 5,493 4,552 2,305 Non-cash gain on sale of loans 4,415 6,396 10,122 17,742 Loan fee income 5,878 7,337 8,852 8,140 ----------------- ----------------- ------------------ ------------------ Total gain on sale 12,096 19,226 23,526 28,187 Other revenues 237 196 328 638 ----------------- ----------------- ------------------ ------------------ Total revenues 19,685 30,179 37,616 39,476 EXPENSES: Interest 3,727 6,055 6,953 8,398 Provision for credit losses 2,073 2,599 2,415 2,943 Salaries, wages and employee benefits 8,045 10,715 13,825 15,459 Business development costs 1,213 1,806 1,980 2,487 General and administrative 4,027 5,908 8,173 10,646 ----------------- ----------------- ------------------ ------------------ Total expenses 19,085 27,083 33,346 39,933 ----------------- ----------------- ------------------ ------------------ Income before income taxes and minority interest 600 3,096 4,270 (457) Provision for income taxes 42 (1,667) (350) (1,925) Minority interest in earnings of subsidiaries (156) -- -- -- ----------------- ----------------- ------------------ ------------------ Net income $ 402 $ 4,763 $ 4,620 $ 1,468 ----------------- ----------------- ------------------ ------------------ Basic earnings per share $ 0.04 $ 0.52 $ 0.48 $ 0.15 ----------------- ----------------- ------------------ ------------------ Basic weighted average shares outstanding 9,143,17666 9,147,570 9,651,566 9,674,044 ----------------- ----------------- ------------------ ------------------ Diluted earnings per share $ 0.04 $ 0.51 $ 0.47 $ 0.15 ----------------- ----------------- ------------------ ------------------ Diluted weighted average shares outstanding 9,351,103 9,310,153 9,861,750 9,885,032 ================= ================= ================== ==================
F-48 EMERGENT GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) NOTE 24. SUPPLEMENTAL QUARTERLY RESULTS OF OPERATIONS (UNAUDITED) The quarterly results of operations for the year ended December 31, 1996, are as follows:
Quarter Ended -------------------------------------------------------------------------------- March 31, June 30, September 30, December 31, 1996 1996 1996 1996 -------------- ----------------- ------------------ ------------------ (in thousands, except share data) REVENUES: Interest income $ 4,324 $ 4,051 $ 4,219 $ 5,314 Servicing income 536 1,027 924 787 Gain on sale of loans: Cash gain on sale of loans 3,018 4,450 7,870 5,525 Non-cash gain on sale of loans -- -- -- 2,953 Loan fee income 221 205 902 2,821 --------------- ----------------- ---------------- -------------- Total gain on sale of loans 3,239 4,655 8,772 11,299 Other revenues 183 293 655 110 --------------- ----------------- ---------------- ---------------- Total Revenues 8,282 10,026 14,570 17,510 EXPENSES: Interest 2,741 2,837 2,603 2,840 Provision for credit losses 911 621 1,569 2,315 Salaries, wages and employee benefits 1,824 2,497 3,791 5,551 Business development costs 108 223 456 816 General and administrative 1,295 1,675 1,811 3,444 --------------- ----------------- ---------------- -------------- Total expenses 6,879 7,853 10,230 14,966 --------------- ----------------- ---------------- -------------- Income before income taxes and minority interest 1,403 2,173 4,340 2,544 Provision for income taxes 42 77 129 470 Minority interest in earnings of subsidiaries (12) (10) 90 285 --------------- ----------------- ---------------- -------------- Net income $ 1,349 $ 2,086 $ 4,301 $ 2,359 =============== ================= ================ ============== Basic earnings per share $ 0.21 $ 0.32 $ 0.66 $ 0.30 =============== ================= ================ ============== Basic weighted average shares outstanding 6,461,357 6,520,064 6,529,745 7,890,652 =============== ================= ================ ============== Diluted earnings per share $ 0.20 $ 0.31 $ 0.63 $ 0.29 =============== ================= ================ ============== Diluted weighted average shares outstanding 6,735,996 6,785,457 6,777,439 8,100,302 =============== ================= ================ ==============
F-49 EMERGENT GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) NOTE 25. EARNINGS PER SHARE The Company's shareholders approved a one-for-three reverse split of the Company's Common and Class A Common Stock in June 1995. Effective January 29, 1996, the Company declared a two-for-one stock split effected in the form of a 100% stock dividend on the Common Stock and Class A Common Stock. The weighted average number of shares of Common and Class A Common Stock have been restated for all periods presented to reflect these stock splits. In 1996, the Company's shareholders approved the conversion of all Class A Common Stock to Common Stock on a one-for-one basis. Accordingly, at December 31, 1997 and 1996, there was no Class A Common Stock outstanding. The following table is a reconciliation of the numerators and denominators of the basic and diluted EPS from continuing operations computations (income in thousands).
For the Year Ended December 31, 1997 ---------------------------------------------------------------- Income Shares Per-share (Numerator) (Denominator) Amount ----------------- ------------------------ -------------- BASIC EPS Income from continuing operations $ 11,253 9,406,221 $ 1.20 EFFECT OF DILUTIVE SECURITIES Stock options 192,590 ----------------- ------------------------ DILUTED EPS Income from continuing operations + assumed conversions $ 11,253 9,598,811 $ 1.17 ================= ======================== ============== For the Year Ended December 31, 1996 ---------------------------------------------------------------- Income Shares Per-share (Numerator) (Denominator) Amount ----------------- ------------------------ -------------- BASIC EPS Income from continuing operations $ 10,095 6,852,420 $ 1.47 EFFECT OF DILUTIVE SECURITIES Stock options 247,454 ----------------- ------------------------ DILUTED EPS Income from continuing operations + assumed conversions $ 10,095 7,099,874 $ 1.42 ================= ======================== ==============
F-50 EMERGENT GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) NOTE 25. EARNINGS PER SHARE (CONTINUED)
For the Year Ended December 31, 1995 ---------------------------------------------------------------- Income Shares Per-share (Numerator) (Denominator) Amount ----------------- ------------------------ -------------- BASIC EPS Income from continuing operations $ 4,581 6,464,582 $ 0.71 EFFECT OF DILUTIVE SECURITIES Stock options 203,610 ----------------- ------------------------ DILUTED EPS Income from continuing operations + assumed conversions $ 4,581 6,668,192 $ 0.69 ================= ======================== ==============
NOTE 26. FAIR VALUE OF FINANCIAL INSTRUMENTS SFAS 107, "Disclosures about Fair Value of Financial Instruments" requires disclosure of fair value information whether or not recognized in the balance sheet, when it is practicable to estimate the fair value. SFAS 107 defines a financial instrument as cash, evidence of an ownership interest in an entity or contractual obligations which require the exchange of cash or financial instruments. Certain items are specifically excluded from the disclosure requirements, including the Company's common stock, property and equipment and other assets and liabilities. The following methods and assumptions were used to estimate the fair value of each class of financial instrum ents for which it is practicable to estimate that value: CASH AND CASH EQUIVALENTS AND RESTRICTED CASH For these short-term instruments, the carrying amount is a reasonable estimate of fair value. LOANS RECEIVABLE HELD FOR INVESTMENT For residential mortgage loans, commercial loans and automobile loans fair value is estimated using the market prices received on recent sales or securitizations of these loans in the secondary market. LOANS RECEIVABLE HELD FOR SALE Fair value for mortgage loans held for sale is determined using the anticipated price to be derived from the sale of the mortgage loans in the secondary market. F-51 EMERGENT GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) NOTE 26. FAIR VALUE OF FINANCIAL INSTRUMENTS (CONTINUED) INTEREST-ONLY STRIP SECURITY The fair value of the interest-only strip security is calculated using prepayment, default and interest rate assumptions that the Company believes market participants would use for similar instruments at the time of sale. Projected performance is monitored on an ongoing basis. INVESTMENT IN ASSET-BACKED SECURITIES Fair value of the investment in asset-backed securities approximates the carrying amount. INVESTOR SAVINGS Due to their short-term maturity, usually one year, the fair value of the notes due investors and subordinated debentures is the current carrying amount. NOTES PAYABLE TO BANKS AND OTHER The fair value of notes payable to banks and other approximates the carrying amount. Rates with similar terms and maturities currently available to the Company are used to estimate fair value of existing debt. COMMITMENTS TO EXTEND CREDIT The fair value of commitments to extend credit is determined by using the anticipated market prices that the loans will generate in the secondary market. F-52 EMERGENT GROUP, INC. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED) NOTE 27. FAIR VALUE OF FINANCIAL INSTRUMENTS (CONTINUED) The estimated fair values of the Company's financial instruments at December 31 were as follows:
1997 1996 --------------------------------- --------------------------------- CARRYING FAIR CARRYING FAIR AMOUNT VALUE AMOUNT VALUE --------------- -------------- -------------- --------------- (IN THOUSANDS) Financial Assets: Cash and cash equivalents $ 7,561 $ 7,561 $ 1,276 $ 1,276 Restricted cash 2,323 2,323 5,319 5,319 Loans receivable, net 91,193 94,841 62,547 65,881 Mortgage loans held for sale 197,236 200,736 122,482 127,381 Interest-only strip security, net 44,440 44,440 4,315 4,700 Investment in asset-backed securities, net 16,439 16,439 3,581 3,935 Financial Liabilities: Notes payable to banks and other $ 77,605 $ 77,605 $ 55,494 $ 55,494 Investor savings: Notes due to investors 115,368 115,368 97,987 97,987 Subordinated debentures 18,947 18,947 16,115 16,115 Senior unsecured debt 125,000 125,000 -- -- Commitments to extend credit 100,293 105,308 129,431 136,628
F-53 STERLING LENDING CORPORATION AND SUBSIDIARY (A majority-owned subsidiary of Emergent Group, Inc.) Consolidated Financial Statements Year Ended December 31, 1997 and Period from August 1, 1996 (date of inception) through December 31, 1996 Contents Independent Auditors' Report..............................................F-55 Consolidated Balance Sheets...............................................F-56 Consolidated Statements of Income.........................................F-57 Consolidated Statements of Shareholder's Equity...........................F-58 Consolidated Statements of Cash Flows.....................................F-59 Notes to Consolidated Financial Statements................................F-60 F-54 INDEPENDENT AUDITORS' REPORT ---------------------------- The Board of Directors Sterling Lending Corporation and subsidiary Greenville, South Carolina We have audited the accompanying consolidated balance sheets of Sterling Lending Corporation and subsidiary, a majority-owned subsidiary of Emergent Group, Inc., as of December 31, 1997 and 1996 and the related consolidated statements of income, shareholders' equity and cash flows for the year ended December 31, 1997 and the period from August 1, 1996 (date of inception) through December 31, 1996. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the consolidated financial statements referred to above presents fairly, in all material respects, the financial position of Sterling Lending Corporation and subsidiary, a majority-owned subsidiary of Emergent Group, Inc., as of December 31, 1997 and 1996, and the results of their operations and their cash flows for the periods then ended in conformity with generally accepted accounting principles. /s/ KPMG Peat Marwick LLP - ----------------------------------- Greenville, SC February 27, F-55 Sterling Lending Corporation and Subsidiary (A majority-owned subsidiary of Emergent Group, Inc.) Consolidated Balance Sheets December 31, 1997 and 1996 December 31, ----------------------------- 1997 1996 ------------ ------------- ASSETS Cash and cash equivalents $ 262,612 $ 125,799 Mortgage loans held for sale 9,325,758 -- Less net deferred loan fees (368,274) -- ------------ ------------- Net mortgage loans held for sale 8,957,484 -- Other receivables 558,703 62,534 Property and equipment, net 1,327,532 361,578 Other assets 207,338 302,251 ------------ ------------- Total assets $ 11,313,669 $ 852,162 ============ ============= LIABILITIES AND SHAREHOLDERS' EQUITY Accounts payable and accrued liabilities $ 760,257 $ 81,976 Subordinated debt to affiliates, due on demand 9,543,337 634,616 ------------ ------------- Total liabilities 10,303,594 716,592 Shareholders' equity: Common stock, no par value -- -- Additional paid-in capital 5,700,000 1,000,000 Accumulated deficit (4,689,925) (864,430) ------------ ------------- Total shareholders' equity 1,010,075 135,570 ------------ ------------- Total liabilities and shareholders' equity $ 11,313,669 $ 852,162 ============ ============= See accompanying Notes to Consolidated Financial Statements, which are an integral part of these statements F-56 Sterling Lending Corporation and Subsidiary (A majority-owned subsidiary of Emergent Group, Inc.) Consolidated Statements of Income Year Ended December 31, 1997 and Period from August 1, 1996 (date of inception) through December 31, 1996 Periods Ended December 31, -------------------------- 1997 1996 ----------- ----------- REVENUES: Interest income $ 50,091 $ 19,397 Gain on sale of loans 1,419,421 16,282 Loan fee income 2,137,048 71,852 Other revenues 10,768 -- ----------- ----------- Total revenues 3,617,328 107,531 ----------- ----------- EXPENSES: Interest 192,904 21,496 Salaries, wages and employee benefits 3,590,559 510,923 Management fee to Parent 780,000 125,000 Legal, audit, and professional fees 632,321 74,639 Rent and utilities 452,454 36,694 Telephone 310,119 19,430 Travel and entertainment 280,544 36,680 Business development costs 255,497 28,747 Other general and administrative expenses 847,005 179,751 ----------- ----------- Total expenses 7,341,403 1,033,360 ----------- ----------- Loss before income taxes (3,724,075) (925,829) Provision (benefit) for income taxes 101,420 (61,399) ----------- ----------- Net loss $(3,825,495) $ (864,430) =========== =========== See accompanying Notes to Consolidated Financial Statements, which are an integral part of these statements F-57 Sterling Lending Corporation and Subsidiary (A majority-owned subsidiary of Emergent Group, Inc.) Consolidated Statements of Shareholders' Equity Year Ended December 31, 1997 and Period from August 1, 1996 (date of inception) through December 31, 1996
Common Additional Accumulated Stock Paid-in Deficit Total Capital ------- ----------- ----------- ----------- Initial cash investment by Parent $ -- $ 1,000,000 $ -- $ 1,000,000 Net loss from inception to December 31, 1996 -- -- (864,430) (864,430) ------- ----------- ----------- ----------- Balance at December 31, 1996 -- 1,000,000 (864,430) 135,570 Cash investment by Parent -- 4,700,000 -- 4,700,000 Net loss -- -- (3,825,495) (3,825,495) ------- ----------- ----------- ----------- Balance at December 31, 1997 $ -- $ 5,700,000 $(4,689,925) $ 1,010,075 ======= =========== =========== ===========
See accompanying Notes to Consolidated Financial Statements, which are an integral part of these statements F-58 Sterling Lending Corporation and Subsidiary (A majority-owned subsidiary of Emergent Group, Inc.) Consolidated Statements of Cash Flows Year Ended December 31, 1997 and Period from August 1, 1996 (date of inception) through December 31, 1996
Periods Ended December 31, ----------------------------- 1997 1996 ------------- ------------- OPERATING ACTIVITIES: Net loss $ (3,825,495) $ (864,430) Adjustments to reconcile net loss to net cash used in operating activities: Depreciation and amortization 374,620 103,701 Provision for deferred income taxes 331,348 1,135 Increase in deferred loan fees 368,274 -- Principal proceeds from loans sold and securitized 32,181,128 1,195,255 Loans originated with intent to sell (41,506,886) (1,195,255) Changes in operating assets and liabilities (201,691) (372,485) ------------- ------------- Net cash used in operating activities (12,278,702) (1,132,079) ------------- ------------- INVESTING ACTIVITIES: Purchase of property and equipment (1,193,206) (376,738) ------------- ------------- Net cash used in investing activities (1,193,206) (376,738) ------------- ------------- FINANCING ACTIVITIES: Cash investment from Parent 4,700,000 1,000,000 Net cash received on intercompany borrowings 8,908,721 634,616 ------------- ------------- Net cash provided by financing activities 13,608,721 1,634,616 ------------- ------------- Net increase in cash and cash equivalents 136,813 125,799 Cash and cash equivalents at beginning of year 125,799 -- ------------- ------------- Cash and cash equivalents at end of year $ 262,612 $ 125,799 ============= =============
See accompanying Notes to Consolidated Financial Statements, which are an integral part of these statements F-59 Sterling Lending Corporation and Subsidiary (A majority-owned subsidiary of Emergent Group, Inc.) Notes to Consolidated Financial Statements Note 1. Summary of Significant Accounting and Reporting Policies Organization and Business Activity Sterling Lending Corporation ("Sterling Lending" or "the Company") is an 80% owned subsidiary of Emergent Group, Inc. ("Parent Company"). Sterling Lending was organized on March 6, 1996 as Emergent Lending Corp., and the named was changed to Sterling Lending Corporation on July 24, 1996. Operations began August 1, 1996. Sterling Lending is primarily engaged in the business of originating residential mortgage loans. The funds for these loans are obtained principally through Emergent Mortgage Corp., who purchases the loans at closing. Due to the fact that the Company serves as an originating source for Emergent Mortgage Corp., it is not subject to credit risk or interest rate risk. The Company earns origination fees from the borrower at the time the loan is closed, and also shares in the gain on sale with Emergent Mortgage Corp. when it is sold to outside parties. Substantially all of the Company's mortgage loans are made to non-prime borrowers. These borrowers generally have limited access to credit or are otherwise considered to be credit-impaired by conventional lenders such as thrift institutions and commercial banks. Basis of Financial Statement Presentation The accompanying consolidated financial statements include the accounts of Sterling Lending and Sterling Insurance Agency ("Sterling Insurance") (100% owned) (collectively known as the "Company"). All significant intercompany balances and transactions between Sterling Lending and its subsidiary have been eliminated in consolidation. The consolidated financial statements have been prepared in accordance with generally accepted accounting principles. In preparing the consolidated financial statements, management is required to make estimates and assumptions that affect the reported amounts of assets and liabilities as of the date of the balance sheet and revenues and expenses for the period. Actual results could differ from those estimates. Cash and Cash Equivalents The Company considers all highly liquid investments with an original maturity of three months or less to be cash equivalents. Cash equivalents include amounts invested in overnight reverse repurchase agreements. Such agreements are collateralized by U.S. Government securities pledged by the banks. F-60 Sterling Lending Corporation and Subsidiary (A majority-owned subsidiary of Emergent Group, Inc.) Notes to Consolidated Financial Statements (continued) Note 1. Summary of Significant Accounting and Reporting Policies (continued) Mortgage Loans Held for Sale Mortgage loans held for sale consist primarily of first and second residential mortgages on one to four family residences located throughout the United States. Mortgage loans held for sale are carried at the lower of aggregate cost or market. There was no allowance for market losses on mortgage loans held for sale at December 31, 1997 and 1996. Non-refundable loan fees and direct costs associated with the origination or purchase of loans are deferred and netted against outstanding loan balances. In many lending transactions, collateral is taken to provide an additional measure of security. Generally, the cash flow or earning power of the borrower represents the primary source of repayment and collateral liquidation a secondary source of repayment. The Company determines the need for collateral on a case-by-case or product-by-product basis. Factors considered include the current and prospective creditworthiness of the customer, terms of the instrument and economic conditions. Interest income on loans receivable is recorded on an accrual basis as earned. Accrual of interest is generally discontinued when a loan is over 90 days past due and the collateral is determined to be inadequate or when foreclosure proceedings begin. Loan fees and deferred insurance premiums are amortized into income using the interest method over the life of the loan. Property and Equipment Property and equipment are stated at cost less accumulated depreciation and amortization. Depreciation is calculated using the straight-line method over the estimated useful lives of the related assets. Estimated lives are 3 to 7 years for furniture, fixtures and equipment. Leasehold improvements are amortized on a straight-line basis over the lesser of the estimated useful life of the improvement or the terms of the respective lease. Additions to property and equipment and major replacements or improvements are capitalized at cost. Maintenance, repairs and minor replacements are expensed when incurred. Impairment of Long-Lived Assets Long-lived assets held and used by the Company are reviewed for impairment whenever management believes events or changes in circumstances indicate that the carrying value of an asset may not be fully recoverable. No impairment loss was recognized in 1997 or 1996. F-61 Sterling Lending Corporation and Subsidiary (A majority-owned subsidiary of Emergent Group, Inc.) Notes to Consolidated Financial Statements (continued) Note 1. Summary of Significant Accounting and Reporting Policies (continued) Advertising Expense Advertising, promotional, and other business development costs are generally expensed as incurred. External costs incurred in producing media advertising are expensed the first time the advertising takes place. Income Taxes The Company is included in the consolidated Federal income tax return of its Parent Company. The tax sharing agreement with the Parent Company provides for the Company to compute its taxes on a separate return basis, and allows the Company to reduce its taxes to the extent of available net operating loss (NOL) carryforwards of its Parent Company. The Company uses Statement of Financial Accounting Standards ("SFAS") No. 109, Accounting for Income Taxes, which requires accounting for income taxes using the asset and liability method. Under the asset and liability method of Statement 109, deferred tax assets and liabilities are recognized for the future tax consequences attributable to differences between the financial statement carrying amounts of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates expected to apply to taxable income in the years in which those temporary differences are expected to be recovered or settled. Deferred income taxes result primarily from differences in financial and income tax reporting of depreciation. At December 31, 1997 and 1996, the Company had a net deferred tax liability of $332,483 and $1,135, respectively, which is included in accrued liabilities in the accompanying consolidated balance sheet. Note 2. Mortgage Loans Held for Sale The following is a summary of mortgage loans held for sale by type of loan at December 31, 1997. First mortgage residential property $8,391,144 Second mortgage residential property 934,614 ---------- Total $9,325,758 ========== First mortgage residential loans generally have contractual maturities of 12 to 360 months with average interest rates of approximately 11%. Second mortgage residential loans have contractual maturities of 12 to 360 months with average interest rates of approximately 15%. F-62 Sterling Lending Corporation and Subsidiary (A majority-owned subsidiary of Emergent Group, Inc.) Notes to Consolidated Financial Statements (continued) Note 2. Mortgage Loans Held for Sale (continued) The Company currently originates loans in six states. The following is a summary of mortgage loans held for sale by state at December 31, 1997. Loan Percentage Balance of total ------- ---------- Florida $4,033,515 43.2% Louisiana 2,181,330 23.4% Mississippi 1,509,854 16.2% Georgia 797,758 8.6% Tennessee 568,904 6.1% North Carolina 234,397 2.5% ---------- ----- Total $9,325,758 100.0% ========== ====== There was no allowance for loan losses recorded at December 31, 1997 as the mortgage loans are held for sale and recorded at lower of aggregate cost or market value. Note 3. Property and Equipment Property and equipment at December 31, 1997 and 1996 consists of the following:
December 31, ----------------------- 1997 1996 ---------- ---------- Office equipment and computers $ 648,116 $ 65,938 Leasehold improvements 16,394 729 Furniture, fixtures and equipment 905,434 210,071 ---------- ---------- 1,569,944 276,738 Less accumulated depreciation and amortization 242,412 15,160 ---------- ---------- Property and equipment, net $1,327,532 $ 361,578 ========== ==========
Depreciation expense in 1997 and 1996 was $227,252 and $15,160, respectively. Note 4. Subordinated Debt to Affiliates From time to time, the Company borrows money from the Parent Company and other affiliated companies as subordinated debt which is payable on demand. Subordinated debt to affiliates at December 31, 1997 consists of $4,750,000 to the Parent Company and $4,793,337 to Carolina Investors, Inc. ("CII"), an affiliate of the Company, both with interest payable based on the Wall Street Journal Prime Rate + 2%, (10.50% at December 31, 1997). Subordinated debt to affiliates at December 31, 1996 consists of $624,871 to Emergent Mortgage Corporation and $9,745 to CII, both with interest payable based on the Wall Street Journal Prime Rate + 2%. Interest expense on these borrowings in 1997 and 1996 was $192,343 and $21,496, respectively. F-63 Sterling Lending Corporation and Subsidiary (A majority-owned subsidiary of Emergent Group, Inc.) Notes to Consolidated Financial Statements (continued) Note 5. Income Taxes Income tax expense (benefit) for the periods ended December 31, 1997 and 1996, consists of the following:
Periods Ended December 31, ------------------------- 1997 1996 ---------- ----------- Current: Federal $ (46,698) $ (18,501) State and local (183,230) (44,033) ---------- ----------- Total current (229,928) (62,534) Deferred: Federal 297,107 324 State and local 34,241 811 ---------- ----------- Total deferred 331,348 1,135 Total: Federal 250,409 (18,177) State and local (148,989) (43,222) ---------- ----------- Total income tax expense (benefit) $ 101,420 $ (61,399) ========== ===========
Deferred income taxes reflect the net effects of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes. The tax effects of significant items comprising the Company's net deferred tax liability are as follows:
December 31, --------------------------- 1997 1996 ------------ ----------- Deferred tax assets: Amortization of organizational costs $ 65,740 $ -- Net operating loss carryforward 1,767,687 301,204 Other 3,218 -- ------------ ----------- Total deferred tax assets 1,836,645 301,204 Less: valuation allowance (1,767,687) (301,204) ------------ ----------- Net deferred tax assets 68,958 -- Deferred tax liabilities: Differences between book and tax basis of property (39,042) (1,135) Deferred loan costs (76,000) -- Difference between book and tax basis of the interest- only strip security associated with the Company's investment in the Real Estate Investment Trust (286,399) -- ------------ ----------- Total deferred tax liabilities (401,441) (1,135) ------------ ----------- Net deferred tax liability $ (332,483) $ (1,135) ============ ===========
The net deferred tax liability is included in accounts payable and accrued liabilities on the balance sheet. F-64 Sterling Lending Corporation and Subsidiary (A majority-owned subsidiary of Emergent Group, Inc.) Notes to Consolidated Financial Statements (continued) Note 5. Income Taxes (continued) Income tax expense differs from tax benefit computed by applying the statutory Federal income tax rate, 34%, to loss before income taxes. The reasons for these differences for the periods ended December 31, 1997 and December 31, 1996 are as follows:
Periods Ended December 31, --------------------------- 1997 1996 ------------ ------------ Tax benefit at statutory Federal rate of 34% $(1,266,185) $ (314,782) Differences result from: Nondeductible expense 9,400 51 Increase in valuation allowance 1,466,483 301,204 State income taxes, net of federal income tax benefit (98,333) (28,526) Other (9,945) (19,346) ------------ ------------ $ 101,420 $ (61,399) ============ ============
There are no known significant pending assessments from taxing authorities regarding taxation issues at the Parent Company or its subsidiaries. Note 6. Statement of Cash Flows The following information relates to the Statements of Cash Flows for the periods ended December 31, 1997 and 1996: Periods Ended December 31, -------------------------- 1997 1996 ----------- ----------- Changes in operating assets and liabilities increasing (decreasing) cash: Other receivables (496,169) (62,534) Other assets (52,455) (390,792) Accounts payable and accrued liabilities 346,933 80,841 ----------- ----------- $(201,691) $(372,485) =========== =========== Supplemental disclosures of cash flow information: Interest paid $ 192,904 $ 21,496 =========== =========== Income taxes paid $ -- $ -- =========== =========== F-65 Sterling Lending Corporation and Subsidiary (A majority-owned subsidiary of Emergent Group, Inc.) Notes to Consolidated Financial Statements (continued) Note 7. Retirement Plan The Company participates in the Parent Company's Matched Savings Plan under Section 401(k) of the Internal Revenue Code. To be eligible, employees must be at least 21 years old, have completed at least 30 days of service, and be considered full-time employees. Under this plan, the Company contributes a matching contribution of 50% of employee contributions to a maximum of 6% of compensation for each employee. The Company's contribution to the plan totaled $55,724 for the year ended December 31, 1997. No contributions were made to the plan in 1996. Note 8. Related Parties The Company was charged management fees of $780,000 and $125,000 in 1997 and 1996, respectively, by the Parent Company for support services, including accounting and management information systems. The amount charged is determined at the discretion of the Parent Company's management based on budgeted loan volume and payroll costs for each of the Parent Company's subsidiaries. Additionally, the Company obtains legal services from a firm considered to be a related party. Total charges for these services were $1,658 and $39 in 1997 and 1996, respectively. Note 9. Operating Leases The Company leases office space, and office equipment under operating leases. Future minimum lease payments are as follows: 1998 $ 553,659 1999 527,781 2000 482,122 2001 422,024 2002 55,739 ------------ 2,041,325 ============ Total rent expense was $448,480 and $36,694 in 1997 and 1996, respectively. Note 10. Dependency on Parent Due to the Company being in its early stages of operations, loan volumes have not reached a profitable level as of December 31, 1997. As a result, the Company is dependent on its Parent Company or affiliated companies for funding of its operations either through capital contributions or additional subordinated debt to affiliates. F-66 Sterling Lending Corporation and Subsidiary (A majority-owned subsidiary of Emergent Group, Inc.) Notes to Consolidated Financial Statements (continued) Note 11. Contingencies and Loan Commitments In the normal course of business, the Company makes commitments to extend credit that are not presented in the accompanying financial statements. Commitments outstanding at December 31, 1997 aggregated approximately $709,000. There were no commitments outstanding at December 31, 1996. From time to time, the Company or its subsidiaries are defendants in legal actions involving claims arising in the normal course of its business. The Company believes that, as a result of its legal defenses and insurance arrangements, none of these actions, if decided adversely, would have a material effect on its business or financial condition taken as a whole. In September 1997, the Parent Company made an offering of $125 million of Senior Notes due 2004. The purpose of the offering was to provide the Parent Company's group of companies with additional funds with which to continue to expand its business, particularly its residential mortgage loan business. Most of the Parent Company's subsidiaries, including SLC, guarantee payment of the Senior Notes. Note 12. Subsequent Event On January 29, 1998, the Parent Company engaged an investment advisor to seek a strategic acquirer of the Company. F-67 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. EMERGENT GROUP, INC. -------------------------------------- Registrant July 24, 1998 /s/ John M. Sterling, Jr. - --------------------------- -------------------------------------- (Date) John M. Sterling, Jr. Chairman of the Board of Directors and Chief Executive Officer EX-23 2 EXHIBIT 23.2 INDEPENDENT AUDITOR'S CONSENT The Board of Directors Emergent Group, Inc. We consent to incorporation by reference in the registration statements on Form S-8 (No. 333-07925) 1995 Director Stock Option Plan Stock Plan, (No. 333-07927) 1995 Restricted Stock Agreement Plan, (No. 333-07923) 1995 Officer and Employee Stock Option Plan and (No. 333-20179) Employee Stock Purchase Plan of Emergent Group, Inc. of our report dated February 27, 1998, relating to the consolidated balance sheets of Emergent Group, Inc. and subsidiaries (the "Company") as of December 31, 1997 and 1996 and the related consolidated statements of income, shareholders' equity, and cash flows for the years then ended, which report appears in the 1997 Annual Report on Form 10-K of the Company. /s/ KPMG Peat Marwick LLP ------------------------- KPMG Peat Marwick LLP Greenville, South Carolina July 24, 1998 -----END PRIVACY-ENHANCED MESSAGE-----