-----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, BJ9RnYCY5PQ2SUSaNu3gi7Zqi45YvM908MYUsAvrTl3On8HZ/ZGXVnpiPC6jyqka hSwYZRq6JhEJUAeRWaFu4g== 0000950134-97-005049.txt : 19970701 0000950134-97-005049.hdr.sgml : 19970701 ACCESSION NUMBER: 0000950134-97-005049 CONFORMED SUBMISSION TYPE: 10-K PUBLIC DOCUMENT COUNT: 8 CONFORMED PERIOD OF REPORT: 19970331 FILED AS OF DATE: 19970630 SROS: NONE FILER: COMPANY DATA: COMPANY CONFORMED NAME: SEARCH FINANCIAL SERVICES INC CENTRAL INDEX KEY: 0000318672 STANDARD INDUSTRIAL CLASSIFICATION: SHORT-TERM BUSINESS CREDIT INSTITUTIONS [6153] IRS NUMBER: 411356819 STATE OF INCORPORATION: DE FISCAL YEAR END: 0331 FILING VALUES: FORM TYPE: 10-K SEC ACT: 1934 Act SEC FILE NUMBER: 000-09539 FILM NUMBER: 97633313 BUSINESS ADDRESS: STREET 1: 600 N PEARL STREET STREET 2: SUITE 2500 CITY: DALLAS STATE: TX ZIP: 75201-2899 BUSINESS PHONE: 2149656000 MAIL ADDRESS: STREET 1: 600 N PEARL STREET STREET 2: SUITE 2500 CITY: DALLAS STATE: TX ZIP: 75201-2899 FORMER COMPANY: FORMER CONFORMED NAME: SEARCH CAPITAL GROUP INC DATE OF NAME CHANGE: 19930910 FORMER COMPANY: FORMER CONFORMED NAME: SEARCH NATURAL RESOURCES INC DATE OF NAME CHANGE: 19920703 10-K 1 FORM 10-K FOR YEAR ENDED MARCH 31, 1997 1 [Draft of June 26, 1997/BDO] UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, DC 20549 ---------------- FORM 10-K (Mark One) [X] Annual Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 For the Fiscal Year Ended March 31, 1997 [ ] 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. 0-9539 S E A R C H F I N A N C I A L S E R V I C E S I N C. (F/K/A SEARCH CAPITAL GROUP, INC.) (Exact name of registrant as specified in its charter) DELAWARE 41-1356819 (State or other jurisdiction (IRS Employer of incorporation or organization) Identification No.) 600 NORTH PEARL, SUITE 2500 PLAZA OF THE AMERICAS DALLAS, TEXAS 75201-2899 (Address of principal executive offices) (Zip Code) Registrant's telephone number, including area code: (214) 965-6000 ---------------- Securities registered pursuant to Section 12(b) of the Act: NONE Securities registered pursuant to Section 12(g) of the Act: COMMON STOCK, $.01 PAR VALUE 9%/7% CONVERTIBLE PREFERRED STOCK, $.01 PAR VALUE WARRANTS EXPIRING MARCH 14, 2001 (Title of class) Indicate by check mark whether the Registrant (1) has filed all reports required to be filed by Section 13 or Section 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [X] No [ ] Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of Registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [ ] APPLICABLE ONLY TO REGISTRANTS INVOLVED IN BANKRUPTCY PROCEEDINGS DURING THE PRECEDING FIVE YEARS: Indicate by check mark whether the Registrant has filed all documents and reports required to be filed by Section 12, 13 or 15(d) of the Securities Exchange Act of 1934 subsequent to the distribution of securities under a plan confirmed by a court. Yes [X] No [ ] The aggregate market value of the voting stock of the Registrant held by non-affiliates was approximately $12,395,141 as of June 23, 1997. As of June 23, 1997, 3,016,444 shares of the Registrant's common stock, $.01 par value per share, were outstanding. DOCUMENTS INCORPORATED BY REFERENCE Portions of the Registrant's Annual Report to Stockholders for the fiscal year ended March 31, 1997 are incorporated by reference into Parts II and IV of this Form 10-K. Portions of the Registrant's Proxy Statement for its Annual Meeting of Stockholders scheduled to be held on July 28, 1997 are incorporated by reference into Part III of this Form 10-K. 2 PART I ITEM 1. BUSINESS OVERVIEW OF THE COMPANY Search Financial Services Inc. (herein called "Search" and together with its consolidated subsidiaries called the "Company") is a financial services company specializing in the purchase and management of used motor vehicle receivables, typically those owed by consumer obligors who do not qualify for traditional financing. The Company purchases its receivables either through the purchase of individual receivables from franchise and independent automobile and light truck dealers ("Dealers") or through bulk purchases of receivables from Dealers and other finance companies who originate them in the sale of vehicles. During the year ended March 31, 1997, the Company commenced operations in other consumer lending areas by opening several consumer lending branches. As of May 31, 1997, 11 consumer lending branches were operational. The automobile finance industry is the second largest consumer finance market in the United States totaling over $350 billion as of December 1996, according to the Federal Reserve Board. Automobile financing is usually provided by finance companies affiliated with manufacturers, banks, credit unions and independent finance companies. The financings are generally segmented according to the type of car sold (new or used) and the credit characteristics of the borrower (generally, prime or non-prime). Non-prime borrowers are individuals who, due to either incomplete or imperfect credit histories, are unable to obtain traditional financing through a bank or one of the finance companies affiliated with manufacturers. It is generally believed that non-prime financing currently accounts for approximately 20% of the automobile finance market. Through its wholly-owned subsidiary, Automobile Credit Acceptance Corp., the Company specializes in purchasing receivables secured by used cars and light trucks and owed by non-prime obligors. The Company maintains and monitors standards, both initial and ongoing, that Dealers have to meet before the Company will consider purchasing their receivables. As of March 31, 1997, the Company had approximately 250 Dealers in its dealer network (the "Dealer Network") compared to approximately 50 Dealers in the Dealer Network at March 31, 1996. On February 7, 1997, the Company entered into an agreement to acquire MS Financial, Inc. ("MSF") in a stock- for-stock exchange. MSF, headquartered in Jackson, Mississippi, is a specialized consumer finance company that purchases and services retail installment contracts on new and used cars and light trucks. The acquisition is subject to customary conditions, including approvals of the stockholders of the Company and MSF. MSF's principal stockholders, which together own approximately 77% of MSF's outstanding common stock, have agreed to vote their shares in favor of the acquisition. The affirmative vote of a majority of the outstanding shares of MSF's common stock is required for approval of the acquisition by MSF's stockholders. As of March 31, 1997, MSF had total assets of $91,015,000, total liabilities of $73,852,000 and stockholders equity of $17,162,000. The acquisition is expected to close in late July or early August 1997. DESCRIPTION OF HISTORICAL OPERATIONS AND REORGANIZATION OF FUND SUBSIDIARIES Prior to November 1994, the Company financed the purchase of used motor vehicle receivables through the private and public sale of interest-bearing notes (the "Notes") issued by wholly owned subsidiaries organized specifically for this purpose (the "Fund Subsidiaries") and through reinvestment of operating cash flow. After November 1994, due primarily to higher than expected losses in the collection of its receivables held by these Fund Subsidiaries, the Company, directed by then existing management, abandoned its Note offering activities and sharply reduced all receivables purchasing activities while attempting to evaluate and, where necessary, modify or remedy purchasing and collection procedures. At the same time, the Company's directors began searching for new 3 management which could further identify problems, stabilize operations, and develop a financial plan and strategy for turnaround and future growth. From late 1994 until March 1996, the Company operated under financial constraints and had limited ability to raise new operating capital. The purchasing of receivables for the Fund Subsidiaries was governed by trust indentures which restricted management's ability to alter its receivables purchasing criteria in accordance with stricter standards developed by new management. In addition, the Company's inability to access credit sources due to the historical losses on the Company's receivables portfolio and limitations on investment of funds repaid on existing portfolios dramatically reduced the Company's ability to finance the purchase of new receivables. At the same time, to improve the quality of the Company's portfolio of receivables, purchasing procedures were tightened and management significantly reduced the number of Dealers from whom the Company would purchase receivables. On August 14, 1995, in order to consummate a debt-to-equity conversion plan, each of the Fund Subsidiaries filed for reorganization under Chapter 11 of the U. S. Bankruptcy Code. On March 4, 1996, the Court entered an order (the "Confirmation Order") confirming a Third Amended Joint Plan of Reorganization (the "Joint Plan") for all of the Fund Subsidiaries. The Joint Plan became effective on March 15, 1996 (the "Effective Date"). As a consequence of effectiveness of the Joint Plan, on the Effective Date, the assets of the Fund Subsidiaries (less funding of a litigation trust and professional fees) were transferred to Search by operation of law in exchange for Search Common Stock and 9%/7% Convertible Preferred Stock and cash to be distributed to the former holders of the Notes and the Notes were deemed canceled. AUTOMOBILE FINANCE OPERATIONS SINCE REORGANIZATION OF THE FUND SUBSIDIARIES Since confirmation of the Joint Plan, the Company has implemented new programs intended to expand its receivables purchasing operations into higher credit quality receivables. Although these new programs target the Company's historical market of purchasers with non-standard credit histories, the Company is focusing more on purchasers with job and residence stability, higher income, and re-established positive credit. Receivables purchased under the new programs typically carry interest rates ranging from approximately 18% to 26% and are generally secured by automobiles up to six years in age that have been driven no more than an average of 25,000 miles per year and fewer than 80,000 total miles. The Company's principal market focus has been in the southern and southwestern states where "self-help" repossession laws promote efficient collection efforts with respect to defaulted receivables, and where milder climates generate higher collateral values for used vehicles. However, the Company is currently expanding the marketing of its new programs to include states in other regions of the United States with laws similar to those of the states in which the Company has focused in the past. In connection with the new programs, the Company has established underwriting guidelines to evaluate the quality of receivables, the most significant of which are as follows: o The obligor must show one year verifiable residence and three years traceable residence o The Company must be able to verify one year of employment for each obligor o The obligor must show a positive pay history within the previous two years o The obligor must show gross income of at least $1,200 per month o The maximum payment for the purchased vehicle cannot exceed 20% of the obligor's gross income o The debt-to-income gross ratio of the obligor cannot exceed 50% o The downpayment must be 10% of the retail selling price of the vehicle. For each receivable purchased pursuant to the new programs, the Company generally receives an acquisition fee and purchases the receivables at a discount, ranging from 5% to 10%, depending upon the value of the vehicle and the -2- 4 term of the receivable. As of June 23, 1997, less than 10% of the receivables owned by the Company were purchased using the criteria from the Company's old receivables purchasing programs. The Company purchases receivables from a network of Dealers that originate motor vehicle receivables through the sale of automobiles and light trucks. During the reorganization process, because the Company had abandoned its Note offering activities and sharply reduced all receivables purchasing activities, it also experienced a significant reduction in the size of its Dealer Network. The Company is currently marketing its new programs to Dealers through the efforts of employees and marketing representatives. The marketing representatives include both individuals and organizations specializing in the marketing of financing programs to Dealers. The Dealers are unaffiliated with the Company. Each Dealer enters into an agreement with the Company and agrees to use Company-approved contract forms. Under the dealer agreements, the Company is under no obligation to purchase any receivables from the Dealer and the Dealer is not obligated to submit any contracts to the Company. It is the Company's goal to market the new programs primarily to franchise Dealers and qualified independent Dealers. The Company has set standards for Dealers to qualify as members of the Dealer Network. In most cases, to qualify for membership in the Dealer Network, a Dealer must have been in business at least two years, be in good standing with regulatory and auto-association authorities and meet certain credit standards. The Company generally verifies that a Dealer meets these standards through credit bureau reporting services. Franchise Dealers normally qualify for membership in the Dealer Network. Membership in the Dealer Network can be terminated at the Company's discretion. Company personnel review the receivables submitted by and purchased from each Dealer. Decisions to terminate a Dealer from the Dealer Network are made on a case-by-case basis depending on the past performance of the Dealer and performance of the receivables purchased from the Dealer. Dealers initiate receivable sales transactions directly with the Company's centralized purchasing personnel by faxing a consumer application to the Company. The Company's decision whether to purchase a receivable is typically communicated to the Dealer within approximately one hour, and, if the application is approved, documentation is completed generally within one week. The Company pays the Dealer for the receivable after receipt and review of the original receivable contract and other required documents and after verification procedures are completed. The Company's receivables purchasing personnel review each receivable for compliance with the Company's underwriting criteria, utilizing standard and supporting documentation provided by the selling Dealer and national computerized databases that automatically interact with the Company's proprietary Auto Note Management System Software ("ANMS"). The Company verifies, by reference to published wholesale vehicle value guides, the average wholesale prices of the underlying vehicles. In most instances, the Company performs this pre-purchase receivable evaluation within one hour, thereby assisting the Dealer in the timely sale of the underlying vehicle. This one-hour turnaround time is considered by the Company to be an important competitive factor, and the Company monitors its turnaround time through the ANMS. Once a receivable is purchased, the Company services the receivable out of one of its branch offices. The Company considers its branch office network to be a competitive factor as it facilitates collection and servicing efforts. The Company's underwriting strategy differs from many of its competitors. Many of the Company's competitors make only bulk purchases of receivables and/or retain recourse against the selling Dealer for non-payment of the receivable through quasi-loan arrangements, dealer holdbacks, reserve accounts or other collection collateral or guaranties. Other competitors will only purchase receivables that have existed and performed in an acceptable manner for a period of time. Purchase and credit criteria and verification procedures also differ from competitor to competitor. In addition to the purchases of individually selected receivables, the Company seeks to acquire pools of non-prime automobile receivables ("Bulk Purchases") from Dealers or other finance companies. A Bulk Purchase -3- 5 is analyzed on both an individual receivable and a pooled basis using criteria similar to those used to evaluate individual receivable purchases from Dealers. During the fiscal year ended March 31, 1997, the Company completed Bulk Purchases of approximately $34,518,000 of gross receivables and acquired $27,490,000 of gross receivables in other acquisitions. Following the purchase of each receivable, the Company mails a statement to the obligor a minimum of seven days before each payment becomes due. These statements instruct the obligor to remit payments directly to the Company's post office box or lockbox. Payments may also be made in person at the Company's offices or via Western Union Quick Collect(TM) service or through Ace Cash Express(TM). The Company's principal collection operation is based in Dallas, Texas. The Company has a staff of collection personnel that monitor payments on the Company's receivables and contact obligors via telephone when payments are delinquent. Collections personnel generally have (i) a minimum of one year collection experience, (ii) proven ability to obtain corrective action on delinquent accounts and (iii) knowledge of, and ability to comply with, state and federal debt collection laws. Generally, if a receivable shows any indication of default, the receivable is subjected to enhanced collection efforts, including intensified telephone and written contacts aimed at identifying the likelihood and expected amount of payment on the receivable. At any time after default, the Company may (i) contract with an independent third party repossession firm to locate and peacefully repossess the motor vehicle securing the receivable or (ii) seek and obtain an order of a court of competent jurisdiction for recovery of the motor vehicle. The decision to repossess a motor vehicle is made on a case-by-case basis by a collections unit manager. Factors considered by these unit managers include recent payments and willingness of the obligor to commit to payment by a date certain. Any delays in repossession expose the Company to the risk of reduced resale value for the vehicle due to additional mileage and the possibility of damage or lack of necessary maintenance or repairs to the vehicle. Current Company policy permits deferment of payments only in very limited instances and only with senior management approval. Following repossession of a vehicle, the Company sells the vehicle on a wholesale basis at the highest available bid at an unaffiliated motor vehicle auction. The Company's collection and repossession activities are administered with use of a data processing and communications system developed by the Norwest Financial Information Services Group (the "Norwest System"). The Company's ability through the ANMS and the Norwest System to relationally cross-reference receivable collection statistics to a vehicle, Dealer, customer and geographic location assists the Company in monitoring receivables and adjusting purchasing procedures and prices. -4- 6 AVERAGE RECEIVABLES CHARACTERISTICS General. Set forth below is a summary of pertinent statistics regarding the average active receivable in the Company's portfolio of motor vehicle receivables, as of March 31, 1997 and March 31, 1996. AVERAGE RECEIVABLE CHARACTERISTICS
AS OF AS OF MARCH 31, 1997 MARCH 31, 1996 -------------- -------------- Average Original Term 38.56 mos. 31.72 mos. Average Remaining Term 22.08 mos. 30.44 mos. Average APR 24.14% 23.94% Average Monthly Payment Amount $ 304.90 $ 299.40 Average Original Balance $ 12,202.36 $ 9,568.99 Average Gross Balance $ 6,602.18 $ 4,638.09 Average Net Receivable $ 5,473.19 $ 3,833.35 Weighted Average APR 22.92% 23.81%
At March 31, 1997, the Company had an aggregate of 9,421 receivables in its portfolio with an aggregate total unpaid balance of $62,325,000, including $10,636,000 in unearned interest and $5,854,000 in credit loss allowance. Additionally, the Company had a total of 458 vehicles held for resale having an estimated value of approximately $1,196,000. Seasonality. The Company's operations are impacted by higher delinquency rates during certain holiday periods. Delinquency. Generally, the Company considers a receivable to be impaired if the contractual delinquency is greater than 60 days or the collateral has been repossessed. Once impaired, the Company places the receivable on nonaccrual status, which stops the recognition of interest income. The following table breaks out the receivables that the Company considers unimpaired or accrual status and impaired or nonaccrual status as of March 31, 1997 and March 31, 1996.
MOTOR VEHICLE RECEIVABLES - AGING AND DELINQUENCIES (Dollars in thousands) AS OF MARCH 31, 1997 AS OF MARCH 31, 1996 ----------------------------------------- ------------------------------------------ Total (1) % of Total Total (1) % of Total Number of Unpaid Unpaid Number of Unpaid Unpaid Contractual Delinquency Receivables Installments Installments Receivables Installments Installments - ----------------------- ----------- ------------ ------------ ----------- ------------ ------------ Accrual Receivables 0 to 30 days past due 8,254 $56,074 90% 6,871 $31,816 86% 31-60 days past due 702 3,982 6% 704 3,179 9% ------------------------------------------------------------------------------------------ Subtotal 8,956 60,056 96% 7,575 34,995 95% ------------------------------------------------------------------------------------------ Nonaccrual Receivables 61-180 days past due 461 2,255 4% 420 2,091 5% 181+ days past due 4 14 0% 1 - - ------------------------------------------------------------------------------------------ Subtotal 465 2,269 4% 421 2,091 5% ------------------------------------------------------------------------------------------ All Receivables (2) 9,421 $62,325 100% 7,996 $37,086 100.0% ========================================================================================== Vehicles held for resale @ collateral value 458 $ 1,196 333 $ 566 - ==========================================================================================
(1) Includes unearned income. (2) Active receivables shown on the face of the Company's balance sheet exclude 452 and 333 accounts that have been reclassified to vehicles held for resale at March 31, 1997 and March 31, 1996, respectively. -5- 7 Receivables will become nonaccrual status due to their contractual delinquency exceeding 60 days or due to repossession of underlying collateral. The Company also considers certain delinquent receivables that are in the contractual status of less than 60 days past due to be potential problem receivables. Uncertainty as to overall economic conditions, regional considerations, and current trends in portfolio growth cause the Company to review these receivables for potential problems. The percentage of contractually delinquent accounts has decreased from March 31, 1996 to March 31, 1997. At the end of March 31, 1996, 5% of the Company's active contracts were greater than 60 days contractually delinquent compared to 4% at March 31, 1997. The decrease in the percentage of contractually delinquent accounts is due primarily to the shift in composition of the receivable portfolio from March 31, 1996 to March 31, 1997 from a lower credit quality customer and lower collateral value to a higher credit quality customer and generally higher collateral value. This was accomplished by tightened purchasing procedures and enhanced collection/repossession efforts. NON-AUTO CONSUMER FINANCE OPERATIONS The Company initiated its activities in non-auto consumer lending with the purchase of consumer loans with gross balances of $432,000 in August 1996. The Company opened its first consumer loan office in November 1996 in Baton Rouge, Louisiana, and as of May 31, 1997, it had established 11 consumer loan offices in Georgia, Louisiana, Oklahoma, Puerto Rico, Tennessee and Texas. Gross non-auto consumer loans exceeded $1.3 million at March 31, 1997 and totaled approximately $2.9 million at May 31, 1997. The Company plans to have opened approximately 20 consumer loan branches by the end of fiscal 1998. The Company's consumer finance offices provide direct personal loans and retail sales finance, home equity and second-mortgage lending services to their customers. Sales finance loans are available to facilitate the purchase of household appliances and furnishings, to make home improvements, to pay for education, vacation and other personal expenses and to consolidate previously incurred indebtedness. Consumer loan customers are developed through the Company's non-prime automobile lending activities, through the acquisition of retail sales finance contracts from retailers and through existing relationships of the Company's branch office personnel. The Company believes that its non-prime automobile lending and retail sales finance contract purchasing activities can be an important source of new direct consumer loan customers and can lead to development of long-term customer relationships. Consumer loans may be secured or unsecured. FINANCING Hibernia Line of Credit. In September 1996, Search Funding II, Inc. ("SFII"), a wholly-owned subsidiary of Search, entered into a revolving credit agreement (the "Line") with Hibernia National Bank. The Line bears interest at the prime rate plus one percentage point, or 9.50% as of June 20, 1997. The Line has a maximum commitment of $25,000,000 and is limited to a percentage of eligible contracts held by SFII. The Line is secured by all SFII assets and expires on September 11, 1999. Search has guaranteed the Line. Search and SFII must comply with covenants under the Line that require the maintenance of certain financial ratios and other financial conditions. Note payable to La Salle Bank, bears interest at prime rate plus 1% (9.50% at March 31, 1997), due monthly, requiring monthly principal payments equal to the positive difference between all cash proceeds received by Search Funding IV ("SFIV") during the month and the sum of all operating expenses incurred by SFIV during the month, with remaining principal due August 2, 1997, collateralized by all assets of SFIV totaling $14,479,000 at March 31, 1997. This debt was assumed by the SFIV in connection with the acquisition of assets from DACC. Subordinated Debt and Warehouse Line. The Company has commenced a private placement of $35,000,000 of senior subordinated notes with warrants to purchase common stock and has signed a letter of intent with respect to a $100 million, two-year revolving warehouse line of credit facility. See "Risk Factors - Availability of Funding" below. Financing with Hall Financial Group, Inc. and Affiliates. In November 1995, Search entered into a Funding Agreement (the "Funding Agreement") with Hall Financial Group, Inc. ("HFG"). Pursuant to the Funding Agreement, HFG made loans totaling $2,283,000 (the "HFG Notes") to Search. The HFG Notes could, at the election of HFG or its assignee, be converted into a maximum of 312,500 shares of Search common stock. Effective April 2, 1996, Hall/Phoenix Inwood Ltd. ("HPIL"), as assignee of the HFG Notes, converted the HFG Notes into 312,500 shares of Search common stock. Because the conversion price specified in the HFG Notes for these shares was less than the full amount due under the HFG Notes, Search paid to HPIL the remaining portion of the debt evidenced by the HFG Notes ($567,000) in cash. -6- 8 The Funding Agreement also provided to HFG the option to purchase common stock, 9%/7% convertible preferred stock and Warrants. Effective April 2, 1996, PHIL, as assignee of HFG, fully exercised this purchase option by paying $4,346,000 to Search for 204,800 shares of common stock, 254,100 shares of 9%/7% convertible preferred stock and warrants to purchase 484,522 shares of common stock. In November 1996, the Company repurchased all of its securities owned by HPIL and its affiliates for $4 million in cash and a $5 million subordinated note. Effect of Joint Plan. As a result of the confirmation and effectiveness of the Joint Plan, approximately $69,300,000 of debt owed by the Fund Subsidiaries was canceled. The assets of the Fund Subsidiaries (net of a $350,000 deposit to a litigation trust and $2,000,000 escrowed for payment for professional fees), consisting primarily of approximately $29,000,000 of net receivables and $16,345,000 of cash, were deemed transferred to Search. Following the effectiveness of the Joint Plan, consummation of the transactions with HPIL in April 1996 and repayment of the GECC line of credit, the Company had no borrowed debt, approximately $31,000,000 in net receivables and approximately $21,600,000 in cash. See "Item 8. Financial Statements and Supplementary Data" and "Liquidity and Capital Resources." Future Financings. The Company presently intends to continue purchasing receivables and expand its operations into other consumer lending areas, both of which will require future financing. The Company is currently pursuing several alternatives to meet its needs for liquidity. These financing alternatives include subordinated debt financing, securitizations and bank lines of credit. COMPETITION The Company has numerous competitors engaged in the business of buying non-prime, used motor vehicle receivables and in making consumer loans. The Company in the past had few competitors that purchased receivables from high credit risk individuals who purchased medium-priced, used motor vehicles in the Company's then primary geographic markets consisting generally of the metropolitan areas of Arizona, Georgia, Florida, South Carolina, Oklahoma, Tennessee and Texas. The Company's new programs target receivables whose obligors have somewhat lower credit risk than obligors of receivables previously purchased by the Company. Though the Company expects to market the new programs in a more diverse geographic region, the Company expects to encounter more competition in the purchase of such lower risk receivables. The Company competes to some extent with providers of alternative financing services, such as floor plan lines of credit from financial institutions, lease financing and dealer self-financing, and certain purchasers of receivables for higher-priced, used motor vehicles. National or regional rental car companies, finance companies, used car companies, auction houses, dealer groups or other firms with equal or greater financial resources than the Company could elect to compete with the Company in its market. These competitive factors could have a material adverse effect upon the operations of the Company. The Company believes that the primary methods of competition in the non-prime, used motor vehicle finance industry are establishment of Dealer relationships, receivables purchasing criteria, marketing, receivables purchase response time and purchase agreement provisions, including dealer recourse, reserves or commissions. The Company commenced its non-auto consumer finance business in November 1996. In that business the Company faces intense competition from numerous competitors, many of which have been in business for substantial periods of time and have significantly greater resources than the Company. The Company believes that the primary methods of competition in the consumer finance business are the establishment of relationships with independent dealers and potential borrowers and loan terms. The Company intends to hire experienced individuals with strong customer relationships to manage its consumer lending branches. -7- 9 REGULATION Numerous federal and state consumer protection laws impose requirements upon the origination and collection of consumer receivables. These federal laws and regulations include, among others, the Truth-in-Lending Act, the Equal Credit Opportunity Act, the Federal Trade Commission Act, the Fair Credit Reporting Act, the Fair Indebtedness Collection Practices Act, the Magnuson-Moss Warranty Act and the Federal Reserve Board's Regulation Z. Search believes that it maintains all licenses and permits required for its current operations and is in substantial compliance with all applicable federal, state and local laws. There can be no assurance, however, that Search will be able to maintain all requisite licenses and permits. State laws regulate, among other things, the interest rate chargeable on, and terms and conditions of, motor vehicle retail installment loans. These laws also impose restrictions on consumer transactions and require loan disclosures in addition to those required under federal law. These requirements impose specific statutory liabilities upon creditors who fail to comply with their provisions. As consumer finance companies, Search and MSF are subject to various consumer claims and litigation seeking damages and statutory penalties based upon, among other theories of liability, usury, wrongful repossession, fraud and discriminatory treatment of credit applicants. The Federal Trade Commission ("FTC") has adopted a holder-in-due course rule which has the effect of subjecting persons who finance consumer credit transactions (and certain related lenders and their assignees) to all claims and defenses which the purchaser could assert against the seller of the goods and services. Another FTC rule requires that all sellers of used vehicles prepare, complete and display a "Buyer's Guide" which explains the warranty coverage (if any) for such vehicles. Failure of the Dealers to comply with state and federal credit and trade practice laws and regulations could result in consumers having rights of recission and other remedies that could have an adverse effect on Search and MSF. In the event of default by an obligor on a motor vehicle receivable or consumer loan that is secured, the Company has the remedies of a secured party under the Uniform Commercial Code ("UCC"). The UCC remedies of a secured party include the right to repossession by self-help means, unless such means would constitute a breach of the peace. Unless the obligor voluntarily surrenders a vehicle, self-help repossession, by an independent third-party repossession entity engaged by the Company, is the method usually employed by the Company when an obligor defaults. If a breach of the peace is likely to occur, or if applicable state law so requires, the Company must obtain a court order from the appropriate state court and repossess the vehicle in accordance with that order. In most jurisdictions, including those states in which the Company presently does or intends to do business, the UCC and other state laws require a secured party to provide an obligor with reasonable notice of the date, time and place of any public sale or the date after which any private sale of the collateral may be held. Unless waived after default, an obligor has the right to redeem the collateral prior to actual sale by paying the secured party the unpaid installments (less any required discount for prepayment) of the receivable plus reasonable expenses for repossessing, holding, and preparing the collateral for disposition and arranging for its sale, plus, in some jurisdictions, reasonable attorneys' fees, or, in some states, by payment of delinquent installments. EMPLOYEES As of May 31, 1997 the Company had 175 employees, of which 131 were engaged in receivables purchasing/collections/origination, 30 in administration, seven in asset remarketing and seven in senior management. RISK FACTORS The Company faces certain risks associated with the operation of it business that in some cases have affected, and in the future could affect, the Company's actual results of operations. These risk factors include, but are not limited to, the following matters. -8- 10 Results of Operations. The Company does not have a history of profitable operations. Although the Company had net income before dividends of $1,283,000 for the fiscal year ended March 31, 1997, it had a net loss before dividends of $2,671,000 for the six months ended March 31, 1996 and a net loss after dividends of $4,871,000 for the fiscal year ended March 31, 1997. The lower net loss before dividends for the fiscal year ended March 31, 1997, as compared to prior periods, was due primarily to a net reduction of prior credit losses of approximately $7,000,000 and significant general and administrative expenses incurred during the prior periods related to the reorganization of the Fund Subsidiaries. The reduction in credit losses is not expected to continue at the same level in future periods. The Company's future profitability will be dependent upon the results of operations from its receivables purchasing and management business and other businesses. There can be no assurance that the Company's businesses will be profitable in the future. Availability of Funding. The purchase of receivables and the making of consumer loans requires the Company to raise significant amounts of funds from various sources, including banks, finance companies and other lenders. There can be no assurance that lenders will provide sufficient credit on terms the Company will find acceptable to supplement the Line. The Company has, however, signed a letter of intent with an affiliate of a large Wall Street investment firm with respect to a $100 million, two-year revolving warehouse line of credit facility. The letter of intent is subject to certain conditions, including negotiation and execution of mutually acceptable definitive facility documents and completion of due diligence. The Company's planned financing sources also include (i) a private placement of $35,000,000 of senior subordinated notes with warrants to purchase Common Stock and (ii) securitization of its receivables. The Company will be required to provide adequate collateral in order to securitize its receivables. This collateral may be in one or more of several forms, including third party insurance, cash collateral accounts, over- collateralization and subordinated investment funds. The costs of providing collateral for a securitization may outweigh the benefits that can be obtained from the securitization. The Company's prior securitizations through the Fund Subsidiaries were not successful due to lower than expected collection rates on receivables and lower than expected recoveries on the sale of repossessed vehicles. There can be no assurance that funding will be available to the Company through borrowings, subordinated note offerings or securitizations or, if available, that such funding will be on terms acceptable to the Company. Even if available, there can be no assurance that the future borrowing or securitization activities of the Company will be profitable. Risks in Motor Vehicle Receivables Purchasing and Consumer Finance Businesses. The Company faces all of the risks inherent in the motor vehicle receivables purchasing business and in the consumer finance business. There also can be no assurance that the Company will properly evaluate the receivables that it purchases or the borrowers to whom it makes consumer loans. There can be no assurance that the Company will be able to purchase sufficient receivables and make a sufficient number of consumer loans to profitably employ its capital and borrowed funds. The Company purchases receivables whose obligors, and makes loans to consumers who, do not typically qualify for traditional financing as a result, among other things, of poor credit history, lack of steady employment and/or low income. These individuals generally have higher percentage default rates than individuals with better credit histories. In addition, the vehicles securing the Company's receivables are subject to deterioration in value due to the passage of time or usage by the obligor, and the Company's loans to consumers may be unsecured. The Company has limited historical information related to the quality of receivables it is purchasing under its new receivables purchasing program. There can be no assurance that the Company's efforts to purchase higher credit quality receivables will be successful or profitable. In addition, the Company has little history in the consumer loan business. A general economic downturn could adversely affect the ability of obligors and borrowers to make payments to the Company on its receivables and loans. Substantial unexpected delinquencies or charge-offs on its receivables or loans could have a material adverse effect on the Company's results of operations. As of March 31, 1997, the Company had an allowance for credit losses of $5,854,000, which was approximately 11% of its net receivables, as compared to $13,353,000, or 44% of net receivables, as of March 31, 1996. The decrease is primarily attributable to the significant change in the Company's receivables portfolio from March 31, 1996 to March 31, 1997. All the Company's receivables as of March 31, 1996 were purchased under its prior purchasing program for lower credit quality receivables. Currently, less than 10% of the Company's portfolio is represented by those receivables. The remainder of the portfolio was compiled of new originations under the Company's new receivables purchasing program and receivables acquired in bulk purchases and other acquisitions. There can be no assurance that the provision for credit losses is sufficient to cover all losses that the Company may incur. -9- 11 Acquisition Strategy. The Company intends to continue to pursue its current growth strategy, which includes acquiring portfolios of non-prime used motor vehicle receivables and other non-prime used motor vehicle finance companies. There can be no assurance that the Company will be able to make profitable acquisitions or successfully integrate any businesses that it acquires into its operations without substantial costs, delays or other problems. In addition, there can be no assurance that any acquired businesses will be profitable at the time of their acquisition or will achieve profitability that justifies the investment therein or that the Company will be able to realize expected operating and economic efficiencies following such acquisitions. Acquisitions may involve a number of special risks, including adverse effects on the Company's reported operating results, devotion of management's attention, increased burdens on the Company's management resources and financial controls, dependence on retention and hiring of key personnel, unanticipated problems or legal liabilities and amortization of acquired intangible assets, some or all of which could have a material adverse effect on the Company's results of operations. Leverage. The Company intends to borrow substantial funds to finance its operations. As the Company's debt leverage increases, its vulnerability to adverse general economic conditions and to increased competitive pressures will also increase. Increases in Interest Rates. While the automobile receivables purchased by the Company and the loans it makes in most cases bear interest at a fixed rate, often near the maximum rates permitted by law, the Company will finance a substantial portion of its loans and receivables purchases by incurring indebtedness with floating interest rates. The Company's interest costs will increase during periods of rising interest rates. Such increases may decrease the Company's net interest margins and thereby adversely affect the Company's profitability. Dealers. The Company plans to expand its receivables purchasing activities by re-establishing relationships and establishing new relationships with Dealers. Dealers often already have favorable secondary financing sources, which may restrict the Company's ability to develop Dealer relationships and delay the Company's growth. Competitive conditions in the Company's markets may result in a reduction in the price discounts available from or fees paid by Dealers and a lack of available receivables, which could adversely affect the Company's profitability and its growth plans. Reliance on Information Processing Systems. The Company's business depends upon its ability to store, retrieve, process and manage significant amounts of information. Impairment of data integrity, loss of stored data, interruption, breakdown or malfunction of the Company's information processing systems caused by telecommunications failure, conversion difficulties, undetected data input and transfer errors, unauthorized access, viruses, natural disasters, electrical power outage or disruption or other events could have a material adverse effect on the Company's business, financial condition and results of operations. Geographic Concentration. Currently, the Company is purchasing receivables whose obligors, and making loans to customers who, are located primarily in Texas and certain southeastern states. Although the Company has expanded, and expects to continue to expand, its operations to other geographic areas, the Company's performance may be adversely affected by regional or local economic conditions. The Company may from time to time make acquisitions in regions outside of its current operating areas. There can be no assurance that the Company's expansion into new geographic areas will generate operating profits. Key Officer. The Company's future success depends in some measure upon its Chief Executive Officer, who has significant experience in the consumer finance business. An unexpected loss of services of this officer could have a material adverse effect upon the Company. The Company does not currently maintain key person life insurance on the Chief Executive Officer but intends to seek such coverage. Competition. The Company has numerous competitors engaged in the business of buying non-prime motor vehicle receivables and in making consumer loans. Many of these competitors have significantly greater financial resources and staff than the Company. Some of these competitors may generally be able or willing to accept more risk in their activities than the Company. Competition may reduce the number of suitable receivables offered for -10- 12 sale to the Company and increase the bargaining power of Dealers with which the Company seeks to do business. These competitive factors could have a material adverse effect upon the operations of the Company. Regulation. Numerous federal and state consumer protection laws impose requirements upon the origination and collection of consumer receivables. Federal laws and regulations include, among others, the Truth-in-Lending Act, the Equal Credit Opportunity Act, the Federal Trade Commission Act, the Fair Credit Reporting Act, the Fair Indebtedness Collection Practices Act, the Magnuson-Moss Warranty Act and the Federal Reserve Board's Regulation Z. The Company believes that it maintains all licenses and permits required for its current operations and is in substantial compliance with all applicable federal, state and local laws. There can be no assurance, however, that the Company will be able to maintain all requisite licenses and permits. State laws regulate, among other things, the interest rates chargeable on, and terms and conditions of, motor vehicle retail installment loans. These laws also impose restrictions on consumer loan transactions and require loan disclosures in addition to those required under federal law. These requirements impose specific statutory liabilities upon creditors who fail to comply with their provisions. As a consumer finance company, the Company from time to time may be subject to various consumer claims and litigation seeking damages and statutory penalties based upon, among other theories of liability, usury, wrongful repossession, fraud and discriminatory treatment of credit applicants. The FTC has adopted a holder-in-due-course rule which has the effect of subjecting persons who finance consumer credit transactions (and certain related lenders and their assignees) to all claims and defenses which the purchaser could assert against the seller of the goods and services. Another FTC rule requires that all sellers of used vehicles prepare, complete and display a "Buyer's Guide" which explains the warranty coverage (if any) for such vehicles. Failure of the Dealers to comply with state and federal credit and trade practice laws and regulations could result in consumers having rights of rescission and other remedies that could have an adverse effect on the Company. The failure to comply with legal requirements applicable to its business could have a material adverse effect on the Company's results of operations. Further, the adoption of additional, or the revision of existing, laws and regulations could have a material adverse effect on the Company's business. Industry Considerations. In recent periods, several major used car finance companies have announced major downward adjustments to their financial statements, violations of loan covenants, related litigation and other events. In addition, one of these companies has filed for bankruptcy protection. These announcements have had, and may continue to have, a disruptive effect on the market for securities of non-prime automobile finance companies, are expected to result in a tightening of credit to the non-prime markets and could lead to enhanced regulatory oversight. Furthermore, companies in the used car financing market have been subject to an increasing number of lawsuits brought by customers alleging violations of various federal and state consumer credit and similar laws and regulations. There can be no assurance that similar claims will not be asserted against the Company in the future or that its operations will not be subject to enhanced regulatory oversight. Potential Adverse Effects of Litigation. The Company is a party to two pending lawsuits. Although the Company believes the allegations in these suits are without merit, there can be no assurance a settlement of, or judgment in, these lawsuits will not adversely affect the Company. See Item 3 - Legal Proceedings. ------------------------- SAFE HARBOR STATEMENT UNDER THE PRIVATE SECURITIES LITIGATION REFORM ACT OF 1995 This Report contains certain forward-looking statements, as defined in the Private Securities Litigation Reform Act of 1995, which may be identified by the use of forward-looking terminology such as "may," "will," "expect," "anticipate," "estimate," "project," "goal," "continue," or comparable terminology. Such statements -11- 13 involve risks or uncertainties and are qualified in their entirety by the cautions and risk factors set forth above under "Risk Factors" and contained in other Company documents filed with the Securities and Exchange Commission. ITEM 2. PROPERTIES The Company's principal executive offices are located at 600 North Pearl Street, Dallas, Texas 75201. The Company leases approximately 25,000 square feet of space at this facility under a lease expiring in 2002. The Company leases an additional approximately 6,000 square feet of space in Dallas, Texas that is utilized as the Company's principal collection center under a lease expiring in 2001. The Company also leases 11 consumer lending offices, some of which also serve as remote collection facilities. Generally, these facilities are leased for a period of three to five years and provide for cancellation rights after a prescribed period of time. The Company believes that all of its facilities are suitable and adequate for the Company's purposes. ITEM 3. LEGAL PROCEEDINGS The Company and certain of its former officers and directors are defendants in a case styled Janice and Warren Bowe, et al. v. Search Capital Group, Inc., et al., Cause No. 1:95CSV649BR, filed in the Federal District Court for the Southern District of Mississippi (the "Bowe Action"). The plaintiffs, who are former holders of notes issued by three of the Company's former subsidiaries, allege that the registration statements pursuant to which the notes were sold contained material misrepresentations and omissions of fact with respect to collection rates on contracts, expected repossession rates, the Company's accounting controls and computer systems, the operating results and financial condition of the Company and its subsidiaries and the ability of the subsidiaries to pay the notes at the projected rates of return, and were, therefore, materially false and misleading in violation of the securities laws. The plaintiffs seek unspecified damages, rescission, punitive damages and other relief. The plaintiffs also seek establishment of a class of plaintiffs consisting of all persons who purchased notes issued by the three subsidiaries. While the Company believes the suit is without merit and has been vigorously defending itself, it has also sought to reach a negotiated settlement of all claims of all potential class members in the Bowe Action that would also include a settlement of all claims of the litigation trust (the "Litigation Trust") established under the plan of reorganization of eight of the Company's subsidiaries for the purpose, among other things, of pursuing causes of action of the former holders of notes issued by those subsidiaries who assigned their claims related to the Bowe Action to the Litigation Trust. While a settlement agreement in principle subject to a number of conditions was reached in March 1997 that would have required the Company to pay $350,000 in cash and issue shares of its Common Stock having a value of $1,375,000, the Company suspended further negotiations because of the decline in the market price of the Common Stock during the first half of May. The Company intends to resume negotiations when the market price of the Common Stock recovers to its pre-May trading range, but there can be no assurance that the other parties will be willing to resume negotiations or that a settlement on terms acceptable to the Company will be concluded. The court had dismissed the plaintiffs' motion for class certification, without prejudice and subject to renewal and final disposition, pending the outcome of settlement discussions. The Company has a reserve of $500,000 related to the Bowe Action. A settlement or judgment in excess of this reserve could adversely effect the Company. The Company and its wholly-owned subsidiary, Automobile Credit Acceptance Corp. ("ACAC"), are defendants in a pending civil action filed in the 153rd Judicial District Court, Tarrant County, Texas, styled Autostar Solutions, Inc. v. Tim Clothier and Automobile Credit Acceptance Corp., Cause No. 153-144940. The plaintiff alleges the existence of a partnership between the plaintiff and another defendant and seeks damages, actual and exemplary, and an injunction for alleged conversion and misappropriation of certain property, including computer programs, allegedly owned by the plaintiff. In this action, the plaintiff alleges that ACAC wrongfully assisted its co-defendant and tortiously interfered with the plaintiff's contracts and business and has claimed, as actual damages, -12- 14 $680,000. The Company believes that these allegations are without merit. The case has been set for trial in July 1997. The Company intends to vigorously defend itself at the trial. The Company is from time to time involved in litigation that is incidental to its business. There are, however, no other legal proceedings presently threatened or pending relating to the Company which would, in the opinion of management, have a material impact on the financial condition or results of operations of the Company. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS None ITEM 4 X. BUSINESS HISTORIES OF EXECUTIVE OFFICERS GEORGE C. EVANS, 62, joined the Company as President, Chief Executive Officer and director in January 1995. In May 1995, Mr. Evans became Chairman of the Board of Directors and Chairman of the Executive Committee of the Board of Directors. He relinquished the President's title in May 1997. Mr. Evans has over 30 years' experience in the consumer lending and financial services industry. During 1992 and 1993, Mr. Evans was President and Chief Executive Officer of Century Acceptance Corporation, a 32-state operation engaged in consumer and automobile financing. Previously, he served as President and Chief Operating Officer of Associates Financial Services Company, Inc., Vice Chairman of Associates Corporation of North America and Chairman of Associates' International subsidiaries, where his responsibilities included 6,000 employees and $3.5 billion in receivables, with 1,100 branches and annual earnings in the $100 million range. ANTHONY J. DELLAVECHIA, 61, became associated with the Company as an independent consultant in August 1995. He was elected Senior Executive Vice President, Operations Director in January 1996, President and Chief Operating Officer in May 1997 and a director in June 1997. Mr. Dellavechia has over 30 years' experience in the consumer lending and financial services industry. Prior to his becoming associated with the Company, Mr. Dellavechia was an independent financial services consultant. Mr. Dellavechia served in several executive capacities, including Senior Executive Vice President, Operations Director, with Associates Financial Services Company, Inc. from 1979 until his retirement in 1985. He was named President of U.S. Consumer Operations in 1983. JAMES F. LEARY, 67, became a director of the Company in May 1995 and Vice Chairman-Finance in September 1995. Mr. Leary was a founder and general partner of Sunwestern Investment Group, an investment advisory and venture capital management firm. He previously served as director, Chief Financial Officer and Senior Executive Vice President for Associates Corporation of North America. He also founded, and was responsible for, the Venture Capital Department of CIT Financial Corporation. ROBERT D. IDZI, 52, joined the Company as Chief Financial Officer in October 1994. He was elected Senior Vice President in November 1994, Treasurer in December 1994, Executive Vice President in February 1996 and Senior Executive Vice President, Administration in August 1996. Mr. Idzi served as Vice President, Treasurer, Chief Financial Officer and director of Unilease Computer Corporation, which engaged in the leasing of mainframe computers and peripheral equipment, from 1986 until 1987. From 1987 until 1992, Mr. Idzi was Senior Vice President and Chief Financial Officer of Equator Holdings, Ltd., a U.S.-based merchant bank subsidiary of the Hongkong Shanghai Banking Group. ELLIS A. REGENBOGEN, 50, joined Search as Senior Vice President, General Counsel and Secretary in August 1996. He was elected Executive Vice President in January 1997. Mr. Regenbogen has more than 25 years' experience as a corporate securities, finance and mergers and acquisitions attorney with major law firms and corporations. Prior to joining Search, he was Vice President/Law & Administration, General Counsel and Secretary -13- 15 of Orthofix, Inc., a manufacturer of advanced medical devices. Prior thereto, he was a Partner in Jones, Day, Reavis & Pogue, an international law firm. ANDREW L. TENNEY, 66, joined Search as Operations Director in January 1995. In March 1995, he was elected Executive Vice President. Mr. Tenney has over 30 years' experience in the consumer lending and financial services industry. Prior to joining Search, he was Executive Vice President of Century Acceptance Corporation. Previously, he was employed at Associates Financial Services Company, Inc. as Senior Vice President, Marketing, and Executive Vice President in Consumer Operations. TIMOTHY G. VORBECK, 46, joined Search as Executive Vice President, Operations in July 1996. Mr. Vorbeck has 25 years' experience in the consumer lending and financial services industry. He was Vice President, Operations of Fidelity Acceptance Corp. from November 1993 until he joined Search and was Director of Operations of American General Finance Company prior thereto. CAROLYN MALONE, 54, was among the Company's original management staff. As director of human resources, Ms. Malone was promoted to Vice President in November 1994 and to Senior Vice President in February 1997. Prior to her affiliation with the Company, she spent 15 years with an oil and gas exploration entrepreneur and seven years with McCommons Oil Company. For the past 30 years, her business career has involved human resources, office management and administration. ANDREW D. PLAGENS, 29, joined the Company in May 1994 as Accounting Manager. He was promoted to Assistant Controller and Analyst in March 1995, became Controller in July 1995, was elected Vice President in January 1996 and was elected Senior Vice President in May 1997. Prior to joining the Company, Mr. Plagens was employed by Hein + Associates and Baird, Kurtz & Dobson, independent certified public accountants. PART II ITEM 5. MARKET FOR THE COMPANY'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS The information appearing under the heading "Stock Market Information" on page 40 of the Company's 1997 Annual Report to Stockholders (the "Annual Report") is incorporated herein by reference. On February 13, 1997, the Company issued warrants to purchase an aggregate of 122,500 shares of its Common Stock to the Company's non-employee directors in connection with their services as directors. The warrants will expire on February 13, 2007 and are exercisable at $6.125 per share. The issuance of these warrants was exempt from registration pursuant to Section 4(2) of the Securities Act of 1933, as amended. ITEM 6. SELECTED FINANCIAL DATA The information appearing under the heading "Selected Consolidated Financial Information" on page 34 of the Annual Report is incorporated herein by reference. ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS Management's Discussion and Analysis of Financial Condition and Results of Operations on pages 35 through 40 of the Annual Report is incorporated herein by reference. -14- 16 ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA The Report of Independent Certified Public Accountants, the Consolidated Financial Statements and the Notes to Consolidated Financial Statements on pages 14 through 33 of the Annual Report are incorporated herein by reference. ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE None PART III ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE COMPANY The information under the headings "Election of Directors" and "Section 16(a) Beneficial Ownership Reporting Compliance" on pages 3 through 6 and 15 to 16, respectively, of the Proxy Statement for the Annual Meeting of Stockholders of the Company scheduled to be held on July 28, 1997 (the "Proxy Statement") is incorporated herein by reference. ITEM 11. EXECUTIVE COMPENSATION COMPENSATION OF EXECUTIVE OFFICERS The information under the heading "Compensation of Directors" on pages 5 and 6, and the information under the headings "Executive Compensation -- Summary Compensation Table," "-- Stock Options and Warrants," "-- Agreements with Executive Officers" and "-- Compensation Committee Interlocks and Insider Participation" on pages 7 through 9, of the Proxy Statement is incorporated herein by reference. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT The information under the heading "Principal Holders of Capital Stock" on page 2 of the Proxy Statement is incorporated herein by reference. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS The information under the heading "Election of Directors - Certain Relationships and Transactions" on page 6 of the Proxy Statement is incorporated herein by reference. -15- 17 PART IV ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K (a) (1) Financial Statements The following report and financial statements are included in the Annual Report and incorporated by reference in this Report: Report of Independent Certified Public Accountants Consolidated Balance Sheets as of March 31, 1997 and March 31, 1996 Consolidated Statements of Operations for the year ended March 31, 1997, the six months ended March 31, 1996 and the year ended September 30, 1995 Consolidated Statements of Changes in Stockholders' Equity (Capital Deficit) for the period from October 1, 1994 through March 31, 1997 Consolidated Statements of Cash Flows for the year ended March 31, 1997, the six months ended March 1996 and the year ended September 30, 1995 Notes to Consolidated Financial Statements (2) Financial Statement Schedules All financial statement schedules are omitted because they are not applicable, not required or the information required to be set forth therein is included in the financial statements or the notes thereto. (3) Exhibits Exhibit Number Description ------- ----------- 2.1 Third Amended Joint Plan of Reorganization (incorporated herein by reference to Exhibit 2.1 to the Company's Current Report on Form 8-K dated April 17, 1996 (the "April 8-K")) 2.2 Modification to Third Amended Joint Plan of Reorganization (incorporated herein by reference to Exhibit 2.2 to the April 8-K) 2.3 Order Confirming Third Amended and Supplemented Joint Plan, Pursuant to 11 U.S.C. Section 1129 (incorporated herein by reference to Exhibit 2.3 to the April 8-K) 2.4 Chapter 11 Post-Confirmation Order (incorporated by reference to Exhibit 2.4 to the April 8-K) 2.5 Order Regarding Entry Date of Order Confirming Third Amended and Supplemented Joint Plan Pursuant to 11 U.S.C. Section 1129 (incorporated by reference to Exhibit 2.5 to the April 8- K) 2.6 Order Granting Second Motion for Technical, Non-Material Modification to the Third Amended and Supplemented Joint Plan of Reorganization (incorporated by reference to Exhibit 2.6 to the April 8-K) 3.2 Restated Certificate of Incorporation of the Company (incorporated herein by reference to Exhibit 3.1 to the Company's Transition Report on Form 10-K for the transition period ended March 31, 1996) -16- 18 Exhibit Number Description ------- ----------- 3.3 Certificate of Amendment of Certificate of Designation of 9%/7% Convertible Preferred Stock (incorporated herein by reference to Exhibit 3.1 to the Company's Quarterly Report on Form 10- Q for the quarter ended September 30, 1996 (the "September 10-Q") 3.4 Certificate of Correction to the Restated Certificate of Incorporation of the Company (incorporated herein by reference to Exhibit 3.3 to the September 10-Q) 3.5 Certificate of Amendment of Certificate of Designation of 9%/7% Convertible Preferred Stock (incorporated herein by reference to Exhibit 3.4 to the September 10-Q) 3.6 Certificate of Amendment of Restated Certificate of Incorporation of the Company (incorporated herein by reference to Exhibit 4.7 to the Company's Registration Statement on Form S-3 (Registration No. 333-20551) (the "Form S-3")) 3.7 Certificate of Elimination of Series B 9%/7% Convertible Preferred Stock (incorporated herein by reference to Exhibit 4.8 to the Form S-3) 3.8 Certificate of Ownership and Merger Merging ELIR Corp. into Search Capital Group, Inc. 3.9 Bylaws of the Company 4.1 Warrant Agreement dated as of March 27, 1996 between the Company and American Securities Transfer & Trust, Inc., as Warrant Agent (incorporated herein by reference to Exhibit 4.2 to the Company's Current Report on Form 8-K dated March 15, 1996) 4.2 First Amendment to Warrant Agreement dated as of July 18, 1996 between the Company and American Securities Transfer & Trust, Inc. and Hall Phoenix/Inwood, Ltd. (incorporated herein by reference to Exhibit 4.10 to the Form S-3) 4.3 Second Amendment to Warrant Agreement dated as of November 22, 1996 between the Company and American Securities Transfer & Trust, Inc. (incorporated herein by reference to Exhibit 4.11 to the Form S-3) 4.4 Loan Agreement dated September 11, 1996 between Search Funding II, Inc. and Hibernia National Bank (incorporated herein by reference to Exhibit 4.7 to the Form S-4) 4.5 Commercial Security Agreement dated September 11, 1996 between Search Funding II, Inc. and Hibernia National Bank (incorporated herein by reference to Exhibit 4.8 to the Form S-4) 4.6 Commercial Guaranty dated September 11, 1996 between the Company and Hibernia National Bank (incorporated herein by reference to Exhibit 4.9 to the Form S-4) 4.7 Promissory Note dated September 11, 1996 in the principal amount of $25,000,000 payable to Hibernia National Bank (incorporated herein by reference to Exhibit 4.10 to the Form S-4) -17- 19 Exhibit Number Description ------- ----------- 4.8 Other than the indebtedness evidenced by the agreements listed in Exhibit 4.4 and 4.7 above and Exhibit 10.25 below, none of the outstanding long-term debt of the Company and its consolidated subsidiaries exceeds ten percent (10%) of the total assets of the Company and its consolidated subsidiaries, and, except for Exhibit 10.17, copies of the constituent instruments defining the rights of the holders of such debt are not included as exhibits to this Report. The Company agrees to furnish copies of such instruments to the Commission upon request. 10.1 Agreement and Plan of Merger dated as of February 7, 1997 among the Company, Search Capital Acquisition Corp. and MS Financial, Inc. ("MSF") (incorporated herein by reference to Exhibit 2.1 to the Company's Current Report on Form 8-K dated February 7, 1997 (the "February 8-K")) 10.2 Stockholders Agreement dated as of February 7, 1997, between the Company and certain stockholders of MSF (incorporated by reference to Exhibit 2.2 to the February 8-K) 10.3 Form of Escrow Agreement between the Company, MSF, certain stockholders of MSF and U.S. Trust Company of Texas, N.A., as escrow agent (incorporated herein by reference to Exhibit 10.2 to the Form S-4) 10.4 Form of Warrant to purchase shares of Common Stock of the Company issued to directors containing a cashless exercise feature (incorporated herein by reference to Exhibit 10.9 to the Form S-4) 10.5 1994 Employee Stock Option Plan, as amended and adjusted (incorporated herein by reference to Exhibit 4.1 of the Company's Registration Statement on Form S-8 (Registration No. 333-22315)) 10.6 Letter Agreement dated May 16, 1996 between the Company and Alex. Brown & Sons Incorporated and Addenda A, D and E thereto (incorporated herein by reference to Exhibit 10.14 to the Form S-4) 10.7 Employment Letter Agreement between George C. Evans and the Company dated January 20, 1995 (incorporated herein by reference to Exhibit 10.21 to the Company's Annual Report on Form 10-K for the year ended September 30, 1995 (the "1995 10-K")) 10.8 Amendment to Employment Letter Agreement of George c. Evans dated May 10, 1995 (incorporated herein by reference to Exhibit 10.22 to the 1995 10-K) 10.9 Amendment to Employment Letter Agreement of George C. Evans dated March 20, 1996 (incorporated herein by reference to Exhibit 10.17 to the Form S-4) 10.10 Amendment to Employment Letter Agreement of George C. Evans dated February 13, 1997 (incorporated herein by reference to Exhibit 10.18 to the Form S-4) 10.11 Employment Letter Agreement between the Company and James F. Leary dated May 1, 1996 (incorporated herein by reference to Exhibit 10.21 to the Company's Transition Report on Form 10-K for the transition period ended March 31, 1996) 10.12 Letter agreement between the Company and Inter-Atlantic Securities Corp. dated August 23, 1996 (incorporated herein by reference to Exhibit 10.20 to the Form S-4) 10.13 Letter agreement between the Company and Inter-Atlantic Securities Corp. dated September 6, 1996 (incorporated herein by reference to Exhibit 10.21 to the Form S-4) -18- 20 Exhibit Number Description ------- ----------- 10.14 Compromise and Settlement Agreement by and among Craig Hall, Larry Levey, Hall Financial Group, Inc., Phoenix/Inwood Corp. and Hall Phoenix/Inwood, Ltd. and the Company effective as of November 21, 1996 (incorporated herein by reference to Exhibit 10.1 to the Company's Current Report on Form 8-K dated November 21, 1996 (the "November 8-K")) 10.15 Mutual Release Agreement effective as of November 21, 1996 by and among the Company, George C. Evans, Craig Hall, Larry Levey, Hall Financial Group, Inc., Phoenix/Inwood Corp. and Hall Phoenix/Inwood, Ltd. (incorporated herein by reference to Exhibit 10.2 to the November 8-K) 10.16 Standstill Agreement effective as of November 21, 1996 by and among the Company, Craig Hall, Larry Levey, Hall Financial Group, Inc., Phoenix/Inwood Corp. and Hall Phoenix/Inwood, Ltd. (incorporated herein by reference to Exhibit 10.3 to the November 8-K) 10.17 Subordinated Note of the Company dated November 21, 1996 in the principal amount of $5,000,000 (incorporated herein by reference to Exhibit 10.4 to the November 8-K) 10.18 Asset Purchase Agreement (the "Asset Purchase Agreement") among U.S. Lending Corporation, as Debtor-In-Possession, the Company and Search Funding III, Inc. dated July 17, 1996 (incorporated herein by reference to Exhibit 10.1 to the Company's Quarterly Report on Form 10-Q for the quarter ended June 30, 1996) 10.19 Second Amendment dated November 5, 1996 to the Asset Purchase Agreement (incorporated herein by reference to Exhibit 10.1 to the Company's Quarterly Report on Form 10-Q for the quarter ended September 30, 1996) 10.20 Asset Acquisition Agreement among the Company, Search Funding IV, Inc. and Dealers Alliance Credit Corp. dated as of August 2, 1996 (incorporated herein by reference to Exhibit 2.1 to the Company's Current Report on Form 8-K dated August 6, 1996 (the "August 8-K")) 10.21 Sub-Debt Acquisition Agreement among the Company, Search Funding IV, Inc., R-H Capital Partners, L.P. and Kellett Investment Corporation dated as of August 6, 1996 (incorporated herein by reference to Exhibit 2.2 to the August 8-K) 10.22 Escrow Agreement among the Company, Dealers Alliance Credit Corp., Search Funding IV, Inc., R- H Capital Partners, L.P., Kellett Investment Corporation and U.S. Trust Company of Texas, N.A. dated as of August 6, 1996 (incorporated herein by reference to Exhibit 2.3 to the August 8-K) 10.23 Search-DACC Shareholders Agreement dated as of August 2, 1996 between the Company and Dealers Alliance Credit Corp. (incorporated herein by reference to Exhibit 2.4 to the August 8-K) 10.24 Sub-Debt Shareholders Agreement dated as of August 2, 1996 among the Company, R-H Capital Partners, L.P. and Kellett Investment Corporation (incorporated herein by reference to Exhibit 2.5 to the August 8-K) 10.25 Debt Assumption Agreement dated as of August 2, 1996 among the Company, Search Funding IV, Inc., LaSalle National Bank, as Agent, Bank One Chicago, N.A. and Fleet Capital Corporation (incorporated herein by reference to Exhibit 2.6 to the August 8-K) -19- 21 Exhibit Number Description ------- ----------- 10.26 Motor Vehicle Installment Sales Contract Assignment and Purchase Agreement dated September 27, 1996 between Eagle Finance Corp. and Search Funding Corp. (incorporated herein by reference to Exhibit 2 to the Company's Current Report on Form 8-K dated September 27, 1996) 10.27 Motor Vehicle Installment Sales Contract Assignment and Purchase Agreement dated as of November 1, 1996 between MSF and Search Funding Corp. (incorporated herein by reference to Exhibit 2.1 to the Company's Quarterly Report on Form 10-Q for the quarter ended September 30, 1996) 10.28 Letter agreement between the Company and MSF dated November 4, 1996 (incorporated herein by reference to Exhibit 2.2 to the Company's Quarterly Report on Form 10-Q for the quarter ended September 30, 1996) 11 Statement re computation of per share earnings 13 Portions of the Company's Annual Report to Stockholders for the year ended March 31, 1997 22 Subsidiaries of the Company 23 Consent of BDO Seidman, LLP 24 Power of Attorney (included on signature page) 27 Financial Data Schedule (b) REPORTS ON FORM 8-K During the quarter ended March 31, 1997, the Company filed a Current Report on Form 8-K dated February 7, 1997 reporting pursuant to Item 5 that it had entered into an Agreement and Plan of Merger pursuant to which it would acquire MS Financial, Inc. -20- 22 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. SEARCH FINANCIAL SERVICES INC. By: /s/ George C. Evans ------------------------------ Chairman of the Board and Chief Executive Officer Date: June 30, 1997 Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the registrant and in the capacities and on the dates indicated. (POWER OF ATTORNEY) Each person whose signature appears below constitutes and appoints George C. Evans, Robert D. Idzi and Ellis A. Regenbogen as his true and lawful attorneys-in-fact and agents, each acting alone, with full power of substitution and resubstitution, for him and his name, place and stead, in any and all capacities, to sign any or all amendments to this Annual Report on Form 10-K and to file the same, with all exhibits thereto, and other documents in connection therewith, with the Securities and Exchange Commission. /s/ George C. Evans Chairman of the Board, Chief Executive June 30, 1997 - ------------------------- Officer and Director George C. Evans /s/ Richard F. Bonini Director June 30, 1997 - ------------------------- Richard F. Bonini /s/ William H. T. Bush Director June 30, 1997 - ------------------------- William H. T. Bush /s/ Frederick S. Hammer Director June 30, 1997 - ------------------------- Frederick S. Hammer /s/ Luther H. Hodges, Jr. Director June 30, 1997 - ------------------------- Luther H. Hodges, Jr. /s/ James F. Leary Director - ------------------------- James F. Leary June 30, 1997 /s/ A. Brean Murray Director June 30, 1997 - ------------------------- A. Brean Murray
-21- 23 /s/ Douglas W. Powell Director June 30, 1997 - ------------------------- Douglas W. Powell /s/ Barry W. Ridings Director June 30, 1997 - ------------------------- Barry W. Ridings /s/ Robert D. Idzi Senior Executive Vice President, Chief June 30, 1997 - ------------------------- Financial Officer and Treasurer Robert D. Idzi /s/ Andrew D. Plagens Senior Vice President, Controller and June 30, 1997 - ------------------------- Chief Accounting Officer Andrew D. Plagens
-22- 24 INDEX TO EXHIBITS Exhibit Number Description ------- ----------- 2.1 Third Amended Joint Plan of Reorganization (incorporated herein by reference to Exhibit 2.1 to the Company's Current Report on Form 8-K dated April 17, 1996 (the "April 8-K")) 2.2 Modification to Third Amended Joint Plan of Reorganization (incorporated herein by reference to Exhibit 2.2 to the April 8-K) 2.3 Order Confirming Third Amended and Supplemented Joint Plan, Pursuant to 11 U.S.C. Section 1129 (incorporated herein by reference to Exhibit 2.3 to the April 8-K) 2.4 Chapter 11 Post-Confirmation Order (incorporated by reference to Exhibit 2.4 to the April 8-K) 2.5 Order Regarding Entry Date of Order Confirming Third Amended and Supplemented Joint Plan Pursuant to 11 U.S.C. Section 1129 (incorporated by reference to Exhibit 2.5 to the April 8- K) 2.6 Order Granting Second Motion for Technical, Non-Material Modification to the Third Amended and Supplemented Joint Plan of Reorganization (incorporated by reference to Exhibit 2.6 to the April 8-K) 3.2 Restated Certificate of Incorporation of the Company (incorporated herein by reference to Exhibit 3.1 to the Company's Transition Report on Form 10-K for the transition period ended March 31, 1996) 25 Exhibit Number Description ------- ----------- 3.3 Certificate of Amendment of Certificate of Designation of 9%/7% Convertible Preferred Stock (incorporated herein by reference to Exhibit 3.1 to the Company's Quarterly Report on Form 10- Q for the quarter ended September 30, 1996 (the "September 10-Q") 3.4 Certificate of Correction to the Restated Certificate of Incorporation of the Company (incorporated herein by reference to Exhibit 3.3 to the September 10-Q) 3.5 Certificate of Amendment of Certificate of Designation of 9%/7% Convertible Preferred Stock (incorporated herein by reference to Exhibit 3.4 to the September 10-Q) 3.6 Certificate of Amendment of Restated Certificate of Incorporation of the Company (incorporated herein by reference to Exhibit 4.7 to the Company's Registration Statement on Form S-3 (Registration No. 333-20551) (the "Form S-3")) 3.7 Certificate of Elimination of Series B 9%/7% Convertible Preferred Stock (incorporated herein by reference to Exhibit 4.8 to the Form S-3) 3.8 Certificate of Ownership and Merger Merging ELIR Corp. into Search Capital Group, Inc. 3.9 Bylaws of the Company 4.1 Warrant Agreement dated as of March 27, 1996 between the Company and American Securities Transfer & Trust, Inc., as Warrant Agent (incorporated herein by reference to Exhibit 4.2 to the Company's Current Report on Form 8-K dated March 15, 1996) 4.2 First Amendment to Warrant Agreement dated as of July 18, 1996 between the Company and American Securities Transfer & Trust, Inc. and Hall Phoenix/Inwood, Ltd. (incorporated herein by reference to Exhibit 4.10 to the Form S-3) 4.3 Second Amendment to Warrant Agreement dated as of November 22, 1996 between the Company and American Securities Transfer & Trust, Inc. (incorporated herein by reference to Exhibit 4.11 to the Form S-3) 4.4 Loan Agreement dated September 11, 1996 between Search Funding II, Inc. and Hibernia National Bank (incorporated herein by reference to Exhibit 4.7 to the Form S-4) 4.5 Commercial Security Agreement dated September 11, 1996 between Search Funding II, Inc. and Hibernia National Bank (incorporated herein by reference to Exhibit 4.8 to the Form S-4) 4.6 Commercial Guaranty dated September 11, 1996 between the Company and Hibernia National Bank (incorporated herein by reference to Exhibit 4.9 to the Form S-4) 4.7 Promissory Note dated September 11, 1996 in the principal amount of $25,000,000 payable to Hibernia National Bank (incorporated herein by reference to Exhibit 4.10 to the Form S-4) 26 Exhibit Number Description ------- ----------- 4.8 Other than the indebtedness evidenced by the agreements listed in Exhibit 4.4 and 4.7 above and Exhibit 10.25 below, none of the outstanding long-term debt of the Company and its consolidated subsidiaries exceeds ten percent (10%) of the total assets of the Company and its consolidated subsidiaries, and, except for Exhibit 10.17, copies of the constituent instruments defining the rights of the holders of such debt are not included as exhibits to this Report. The Company agrees to furnish copies of such instruments to the Commission upon request. 10.1 Agreement and Plan of Merger dated as of February 7, 1997 among the Company, Search Capital Acquisition Corp. and MS Financial, Inc. ("MSF") (incorporated herein by reference to Exhibit 2.1 to the Company's Current Report on Form 8-K dated February 7, 1997 (the "February 8-K")) 10.2 Stockholders Agreement dated as of February 7, 1997, between the Company and certain stockholders of MSF (incorporated by reference to Exhibit 2.2 to the February 8-K) 10.3 Form of Escrow Agreement between the Company, MSF, certain stockholders of MSF and U.S. Trust Company of Texas, N.A., as escrow agent (incorporated herein by reference to Exhibit 10.2 to the Form S-4) 10.4 Form of Warrant to purchase shares of Common Stock of the Company issued to directors containing a cashless exercise feature (incorporated herein by reference to Exhibit 10.9 to the Form S-4) 10.5 1994 Employee Stock Option Plan, as amended and adjusted (incorporated herein by reference to Exhibit 4.1 of the Company's Registration Statement on Form S-8 (Registration No. 333-22315)) 10.6 Letter Agreement dated May 16, 1996 between the Company and Alex. Brown & Sons Incorporated and Addenda A, D and E thereto (incorporated herein by reference to Exhibit 10.14 to the Form S-4) 10.7 Employment Letter Agreement between George C. Evans and the Company dated January 20, 1995 (incorporated herein by reference to Exhibit 10.21 to the Company's Annual Report on Form 10-K for the year ended September 30, 1995 (the "1995 10-K")) 10.8 Amendment to Employment Letter Agreement of George c. Evans dated May 10, 1995 (incorporated herein by reference to Exhibit 10.22 to the 1995 10-K) 10.9 Amendment to Employment Letter Agreement of George C. Evans dated March 20, 1996 (incorporated herein by reference to Exhibit 10.17 to the Form S-4) 10.10 Amendment to Employment Letter Agreement of George C. Evans dated February 13, 1997 (incorporated herein by reference to Exhibit 10.18 to the Form S-4) 10.11 Employment Letter Agreement between the Company and James F. Leary dated May 1, 1996 (incorporated herein by reference to Exhibit 10.21 to the Company's Transition Report on Form 10-K for the transition period ended March 31, 1996) 10.12 Letter agreement between the Company and Inter-Atlantic Securities Corp. dated August 23, 1996 (incorporated herein by reference to Exhibit 10.20 to the Form S-4) 10.13 Letter agreement between the Company and Inter-Atlantic Securities Corp. dated September 6, 1996 (incorporated herein by reference to Exhibit 10.21 to the Form S-4) 27 Exhibit Number Description ------- ----------- 10.14 Compromise and Settlement Agreement by and among Craig Hall, Larry Levey, Hall Financial Group, Inc., Phoenix/Inwood Corp. and Hall Phoenix/Inwood, Ltd. and the Company effective as of November 21, 1996 (incorporated herein by reference to Exhibit 10.1 to the Company's Current Report on Form 8-K dated November 21, 1996 (the "November 8-K")) 10.15 Mutual Release Agreement effective as of November 21, 1996 by and among the Company, George C. Evans, Craig Hall, Larry Levey, Hall Financial Group, Inc., Phoenix/Inwood Corp. and Hall Phoenix/Inwood, Ltd. (incorporated herein by reference to Exhibit 10.2 to the November 8-K) 10.16 Standstill Agreement effective as of November 21, 1996 by and among the Company, Craig Hall, Larry Levey, Hall Financial Group, Inc., Phoenix/Inwood Corp. and Hall Phoenix/Inwood, Ltd. (incorporated herein by reference to Exhibit 10.3 to the November 8-K) 10.17 Subordinated Note of the Company dated November 21, 1996 in the principal amount of $5,000,000 (incorporated herein by reference to Exhibit 10.4 to the November 8-K) 10.18 Asset Purchase Agreement (the "Asset Purchase Agreement") among U.S. Lending Corporation, as Debtor-In-Possession, the Company and Search Funding III, Inc. dated July 17, 1996 (incorporated herein by reference to Exhibit 10.1 to the Company's Quarterly Report on Form 10-Q for the quarter ended June 30, 1996) 10.19 Second Amendment dated November 5, 1996 to the Asset Purchase Agreement (incorporated herein by reference to Exhibit 10.1 to the Company's Quarterly Report on Form 10-Q for the quarter ended September 30, 1996) 10.20 Asset Acquisition Agreement among the Company, Search Funding IV, Inc. and Dealers Alliance Credit Corp. dated as of August 2, 1996 (incorporated herein by reference to Exhibit 2.1 to the Company's Current Report on Form 8-K dated August 6, 1996 (the "August 8-K")) 10.21 Sub-Debt Acquisition Agreement among the Company, Search Funding IV, Inc., R-H Capital Partners, L.P. and Kellett Investment Corporation dated as of August 6, 1996 (incorporated herein by reference to Exhibit 2.2 to the August 8-K) 10.22 Escrow Agreement among the Company, Dealers Alliance Credit Corp., Search Funding IV, Inc., R- H Capital Partners, L.P., Kellett Investment Corporation and U.S. Trust Company of Texas, N.A. dated as of August 6, 1996 (incorporated herein by reference to Exhibit 2.3 to the August 8-K) 10.23 Search-DACC Shareholders Agreement dated as of August 2, 1996 between the Company and Dealers Alliance Credit Corp. (incorporated herein by reference to Exhibit 2.4 to the August 8-K) 10.24 Sub-Debt Shareholders Agreement dated as of August 2, 1996 among the Company, R-H Capital Partners, L.P. and Kellett Investment Corporation (incorporated herein by reference to Exhibit 2.5 to the August 8-K) 10.25 Debt Assumption Agreement dated as of August 2, 1996 among the Company, Search Funding IV, Inc., LaSalle National Bank, as Agent, Bank One Chicago, N.A. and Fleet Capital Corporation (incorporated herein by reference to Exhibit 2.6 to the August 8-K) 28 Exhibit Number Description ------- ----------- 10.26 Motor Vehicle Installment Sales Contract Assignment and Purchase Agreement dated September 27, 1996 between Eagle Finance Corp. and Search Funding Corp. (incorporated herein by reference to Exhibit 2 to the Company's Current Report on Form 8-K dated September 27, 1996) 10.27 Motor Vehicle Installment Sales Contract Assignment and Purchase Agreement dated as of November 1, 1996 between MSF and Search Funding Corp. (incorporated herein by reference to Exhibit 2.1 to the Company's Quarterly Report on Form 10-Q for the quarter ended September 30, 1996) 10.28 Letter agreement between the Company and MSF dated November 4, 1996 (incorporated herein by reference to Exhibit 2.2 to the Company's Quarterly Report on Form 10-Q for the quarter ended September 30, 1996) 11 Statement re computation of per share earnings 13 Portions of the Company's Annual Report to Stockholders for the year ended March 31, 1997 22 Subsidiaries of the Company 23 Consent of BDO Seidman, LLP 24 Power of Attorney (included on signature page) 27 Financial Data Schedule EX-3.8 2 CERTIFICATE OF OWNERSHIP AND MERGER 1 EXHIBIT 3.8 CERTIFICATE OF OWNERSHIP AND MERGER MERGING ELIR CORP. INTO SEARCH CAPITAL GROUP, INC. (Pursuant to Section 253 of the General Corporation Law of the State of Delaware) Search Capital Group, Inc., a Delaware corporation (the "Corporation"), does hereby certify that FIRST: The Corporation is incorporated pursuant to the General Corporation Law of the State of Delaware (the "GCL"); SECOND: The Corporation owns all of the outstanding shares of capital stock of ELIR Corp., a Delaware corporation. THIRD: The Corporation, by the following resolutions of its Board of Directors, duly adopted on the 22nd day of April, 1997 (the "Resolutions"), determined to merge ELIR Corp. into itself on the conditions set forth in the Resolutions: RESOLVED, that the Corporation merge (the "Merger") into itself its wholly-owned subsidiary, ELIR Corp. ("ELIR"), and assume all of ELIR's liabilities and obligations; and further RESOLVED, that the Chairman, President and Chief Executive Officer of the Corporation is hereby directed to make, execute and acknowledge a Certificate of Ownership and Merger (the "Certificate") setting forth, among other things, a copy of the resolution providing for the Corporation to merge ELIR into the Corporation and to assume ELIR's liabilities and obligations and the date of adoption thereof and to file the Certificate in the office of the Secretary of State of Delaware (the "Secretary"); and further RESOLVED, that the Merger shall become effective upon the filing of the Certificate with the Secretary in accordance with Sections 103 and 253 of the General Corporation Law of the State of Delaware (the "Effective Time"); and further RESOLVED, that Article FIRST of the Restated Certificate of Incorporation of the Corporation, as amended, be amended as of the Effective Time to read in its entirety as follows: "FIRST: The name of the Corporation is Search Financial Services Inc." ; and further 2 RESOLVED, that the officers of the Corporation are hereby authorized, for and on behalf of the Corporation, to execute, deliver, file, acknowledge and record any and all documents and instruments, and to take or cause to be taken and do or cause to be done any and all such other things, as they, or any of them, may deem necessary or desirable to effectuate and carry out the foregoing resolutions. FOURTH: Pursuant to the Resolutions, and in accordance with Section 253(b) of the GCL, Article FIRST of the Restated Certificate of Incorporation of the Corporation, as amended, shall, upon the filing of this Certificate of Ownership and Merger with the Secretary of State of the State of Delaware, be amended to read in its entirety as follows: "FIRST: The name of the Corporation is Search Financial Services Inc." IN WITNESS WHEREOF, Search Capital Group, Inc. has caused this Certificate of Ownership and Merger to be signed by its authorized officer this 13th day of May, 1997. SEARCH CAPITAL GROUP, INC. By: /s/ GEORGE C. EVANS ------------------------------------ George C. Evans Chairman and Chief Executive Officer EX-3.9 3 BYLAWS OF THE COMPANY 1 EXHIBIT 3.9 BYLAWS OF SEARCH FINANCIAL SERVICES INC. ARTICLE I OFFICES Section 1. REGISTERED OFFICE. The initial registered office of Search Capital Group, Inc. (the "Company") shall be at such place as is designated in the Certificate of Incorporation (herein, as amended from time to time, so called), or thereafter the registered office may be at such other place as the Board of Directors may from time to time designate by resolution. Section 2. OTHER OFFICES. The Company may also have offices at such other places both within and without the State of Delaware as the Board of Directors may from time to time determine or the business of the Company may require. ARTICLE II STOCKHOLDERS Section 1. MEETINGS. All meetings of the stockholders for the election of Directors shall be held at the principal office of the Company, or at such other place within or without the State of Delaware, as may be fixed from time to time by the Board of Directors. Meetings of stockholders for any other purpose may be held at such time and place, within or without the State of Delaware, as shall be stated in the notice of the meeting or in a duly executed waiver of notice thereof. Section 2. ANNUAL MEETING. An annual meeting of the stockholders shall be held on such date in each fiscal year of the Company as the Board of Directors shall select, if not a legal holiday, and if a legal holiday, then on the next secular day following, at which meeting the stockholders shall elect a Board of Directors, and transact such other business as may properly be brought before the meeting. Section 3. LIST OF STOCKHOLDERS. At least ten days before each meeting of stockholders, a complete list of the stockholders entitled to vote at said meeting, arranged in alphabetical order, with the address of and the number of voting shares registered in the name of each, shall be prepared by the officer or agent having charge of the stock transfer books. Such list shall be open to the examination of any stockholder, for any purpose germane to the meeting during ordinary business hours for a period of at least ten days prior to the meeting, either at a place within the city where the meeting is to be held, which place shall be specified in the notice of the meeting, or if not so specified at the place where the meeting is to be held. Such list shall be produced and kept open at the time and place of the meeting during the whole time thereof, and shall be subject to the inspection of any stockholder who may be present. The Board of Directors may fix in Amended 5/1/97 2 advance a record date for the purpose of determining stockholders entitled to notice of or to vote at a meeting of stockholders, which record date shall not precede the date upon which the resolution fixing the record date is adopted by the Board of Directors, and which record date shall not be less than ten nor more than sixty days prior to such meeting. In the absence of any action by the Board of Directors, the close of business on the date next preceding the day on which the notice is given shall be the record date, or, if notice is waived, the close of business on the day next preceding the day on which the meeting is held shall be the record date. Section 4. SPECIAL MEETINGS. Special meetings of the stockholders, for any purpose or purposes, unless otherwise prescribed by the Act, or by the Certificate of Incorporation, or by these Bylaws (herein, as each of them may be amended from time to time), may be called by the Chairman of the Board, the President or the Board of Directors, or shall be called by the Chairman of the Board, the President or secretary at the request in writing of the holders of not less than one-half of the votes which all stockholders are entitled to cast at the particular meeting. Such request shall state the purpose or purposes of the proposed meeting. Business transacted at all special meetings shall be confined to the purposes stated in the notice of the meeting unless all stockholders entitled to vote are present and consent. Section 5. NOTICE. Written or printed notice stating the place, day and hour of any meeting of the stockholders and, in case of a special meeting, the purpose or purposes for which the meeting is called, shall be delivered not less than ten nor more than sixty days before the date of the meeting, either personally or by mail, by or at the direction of the Chairman of the Board, the President, the Secretary, or the officer or person calling the meeting, to each stockholder or record entitled to vote at the meeting. Section 6. QUORUM. At all meetings of the stockholders, the presence in person or by proxy of the holders of one-half of the shares issued and outstanding and entitled to vote shall be necessary and sufficient to constitute a quorum for the transaction of business; provided however that the presence in person or by proxy of the holders of two- thirds of the shares issued and outstanding and entitled to vote shall be necessary and sufficient to constitute a quorum for the purposes of removal of one or more Directors or revision of these Bylaws as otherwise provided by the Act, by the Certificate of Incorporation or by these Bylaws. If, however such required quorum shall not be present or represented at any meeting of the stockholders, the stockholders entitled to vote thereat, present in person or represented by proxy, shall have power to adjourn the meeting from time to time, without notice other than announcement at the meeting, until a quorum shall be present or represented. At such adjourned meeting at which the required quorum shall be present or represented, the business which was the item or items for which the adjournment occurred may be considered and voted upon. Section 7. VOTING. When a quorum is present at any meeting, the vote of the holders of a majority of the shares having voting power present in person or represented by proxy at such meeting shall decide any questions brought before such meeting, unless the question is one upon which, by express provision of the Act or of the Certificate of Incorporation or by these Bylaws, a different vote is required, in which case such express provision shall govern and control the decision of such question. The stockholders present in person or by proxy at a duly organized BYLAWS - PAGE 2 SEARCH FINANCIAL SERVICES INC. Amended 5/1/97 3 meeting may continue to transact business until adjournment, notwithstanding the withdrawal of enough stockholders to leave less than a quorum. Section 8. PROXY. Each outstanding share, regardless of class, shall be entitled to one vote on each matter submitted to a vote at a meeting of stockholders, except to the extent that the voting rights of the shares of any class or classes are limited or denied by the Certificate of Incorporation, as amended from time to time. At any meeting of the stockholders, every stockholder having the right to vote shall be entitled to vote in person, or by proxy appointed by an instrument in writing subscribed by such stockholder, or by his duly authorized attorney in fact, and bearing a date not more than three years prior to said meeting, unless said instrument provides for a longer period. Such proxy shall be filed with the Secretary of the Company prior to or at the time of the meeting. A duly executed proxy shall be irrevocable if it states that it is irrevocable and if, and only as long as, it is coupled with an interest sufficient in law to support an irrevocable power. A proxy may be made irrevocable regardless of whether the interest with which it is coupled is an interest in the stock itself or an interest in the Company generally. Section 9. ACTION BY CONSENT. Any action required or permitted by the Act, the Certificate of Incorporation or these Bylaws to be taken at a meeting of the stockholders of the Company may be taken without such a meeting if (i) a consent(s) in writing (the "Consent Form"), setting forth the action so taken, shall have been signed by the holders of outstanding stock having not less than the minimum number of votes that would be necessary to authorize or take such action at a meeting at which all shares entitled to vote thereon were present and voted and (ii) such Consent Form(s) is delivered to the Company at its registered office in Delaware or at its principal place of business or to an officer or agent of the Company having custody of the minute book. Provided however that for such consents to be binding the Company must have received, no less than 120 days prior to the date the Consent Forms are mailed, the proposing stockholder's description of the proposed item or items for which written consent is solicited and the Board of Directors after such respect established a record date to determine stockholders of record to vote on the proposed item(s) by written consent. Section 10. NOTICE OF STOCKHOLDER PROPOSAL. (a) At an Annual Meeting, only such business shall be conducted, and only such proposals shall be acted upon, as shall have been brought before the Annual Meeting (i) by, or at the direction of, the Board of Directors or (ii) by any stockholder of the Company who complies with the notice procedures set forth in this Section of these Bylaws. For a proposal to be properly brought before an Annual Meeting by a stockholder, the stockholder must have given timely notice thereof in writing to the Secretary of the Company. To be timely, a stockholder's notice must be delivered to, or mailed and received at, the principal executive offices of the Company not less than sixty (60) days nor more than ninety (90) days prior to the scheduled Annual Meeting, regardless of any postponements, deferrals of adjournments of that meeting to a later date; provided, however, that if less than seventy (70) days' notice or prior public BYLAWS - PAGE 3 SEARCH FINANCIAL SERVICES INC. Amended 5/1/97 4 disclosure of the data of the scheduled Annual Meeting is given or made, notice by the stockholder to be timely must be so delivered or received not later than the close of business on the tenth (10th) day following the earlier of the day on which such notice of the date of the scheduled Annual Meeting was mailed or the day on which such public disclosure was made. A stockholder's notice to the Secretary shall set forth as to each matter the stockholder proposes to bring before that Annual Meeting (i) a brief description of the proposal desired to be brought before the Annual Meeting and the reasons for conducting such business at the Annual Meeting, (ii) the name and address, as they appear on the Company's books, of the stockholder proposing such business and any other stockholders known by such stockholder to be supporting such proposal, (iii) the class and number of shares of the Company's stock which are beneficially owned by the stockholder on the date of such stockholder notice and by any other stockholder known by such stockholder to be supporting such proposal on the date of such stockholder notice, and (iv) any financial interest of the stockholder in such proposal. (b) If the presiding officer of the Annual Meeting determines that a stockholder proposal was not made in accordance with the terms of this Section, he shall so declare at the Annual Meeting and any such proposal shall not be acted upon at the Annual Meeting. (c) This provision shall not prevent the consideration and approval or disapproval at the Annual Meeting of reports of officers, directors and committees of the Board of Directors, but, in connection with such reports, no business shall be acted upon at such Annual Meeting unless stated, filed and resolved as herein provided. ARTICLE III BOARD OF DIRECTORS Section 1. BOARD OF DIRECTORS. The business and affairs of the Company shall be managed by or under the direction of its Board of Directors who may exercise all such powers of the Company and do all such lawful acts and things as are not by the Act or by the Certificate of Incorporation or by these Bylaws directed or required to be exercised or done by the stockholders. Section 2. NUMBER OF DIRECTORS. The Board of Directors shall consist of not less than three (3) nor more than twelve (12) Directors, the exact number of which shall be fixed by resolution of the Board of Directors from time to time, none of whom need be stockholders or residents of the State of Delaware. The Directors shall be classified, with respect to the time for which they severally hold office, into three classes, as nearly equal in number as possible, one class to hold office initially for a term expiring at the annual meeting of stockholders of the Company to be held in 1989, another class to hold office initially for a term expiring at the annual meeting of stockholders to be held in 1990, and another class to hold office initially for a term expiring at the annual meeting of stockholders to be held in 1991, with members of each class to hold office until their successors are elected and qualified. At each annual meeting of stockholders of the Company, the successors to the class of Directors whose term expires at that meeting shall be elected to hold office for a term expiring at the annual meeting of stockholders held in the third year following the year of their election. The Directors shall be elected at the annual meeting of stockholders, except as hereinafter provided, and each Director elected shall hold office until his successor shall be elected and shall qualify. BYLAWS - PAGE 4 SEARCH FINANCIAL SERVICES INC. Amended 5/1/97 5 Section 3. VACANCIES. Newly created directorships resulting from any increase in the authorized directorships resulting from any increase in the authorized number of directors and any vacancies occurring in the Board of Directors caused by death, resignation, retirement, disqualification or removal from office of any Directors or otherwise, may be filled by the vote of a majority of the Directors then in office, though less than a quorum, and each successor Director so chosen shall hold office until the next election of the class for which such Directors shall have been chosen and until their successors shall be elected and qualified. Section 4. REMOVAL OF DIRECTORS. At any annual meeting of the stockholders of the Company, any one or more of the Directors elected by the shareholders may be removed for cause by an affirmative vote of a majority in number of shares of the stockholders present in person or by proxy and entitled to vote at such meeting, provided notice of the intention to act upon such matter shall have been given in the notice calling such meeting. The term "cause" is defined as the conviction of a felony or the adjudication by a court of gross negligence or gross misconduct in the performance of the director's duties. Section 5. NOMINATION OF DIRECTORS. Nominations of candidates for election as directors at any annual meeting of stockholders may be made by the Board of Directors or by any stockholder entitled to vote at such annual meeting. Only persons nominated in accordance with procedures set forth in this Article shall be eligible for election as directors at an annual meeting. Nominations, other than those made by or at the direction of the Board of Directors, shall be made pursuant to timely notice in writing to the Secretary of the Company as set forth in this Article. To be timely a stockholder's notice shall be delivered to, or mailed and received at, the principal executive offices of the Company not later than 90 days prior to the date of the scheduled annual meeting, regardless of postponements, deferrals or adjournments of that meeting to a later date. Such stockholder's notice shall set forth: (i) as to each person whom the stockholder proposes to nominate for election as a director (a) the name, age, business address and residence address of such person, (b) the principal occupation or employment of such person, (c) the class and number of shares of the Company's stock which are beneficially owned by such person on the date of such stockholder notice and (d) any other information relating to such person that would be required to be disclosed pursuant to Regulation 13D and 13G under the Securities Exchange Act of 1934, as amended (the "Exchange Act"), in connection with the acquisition of shares, and pursuant to Regulation 14A under the Exchange Act, in connection with the solicitation of proxies with respect to nominees for election as directors, regardless of whether such person is subject to the provisions of such regulations; and (ii) as to the stockholder giving the notice (a) the name and address, as they appear on the Company's books, of such stockholder and any other stockholders known by such stockholder to be supporting such nominees, and (b) the class and number of shares of the Company's stock which are beneficially owned by such stockholder on the date of such stockholder notice and beneficially owned by any other stockholders known by such stockholder to be supporting such nominees on the date of such stockholder notice. No person shall be elected as a director of the Company unless nominated in accordance with the procedures set forth in this Article. Ballots bearing the names of all persons who have BYLAWS - PAGE 5 SEARCH FINANCIAL SERVICES INC. Amended 5/1/97 6 been nominated for election as directors at an annual meeting in accordance with the procedures set for in this Article shall be provided for use at the annual meeting. The Board of Directors may reject any nomination by a stockholder not timely made in accordance with the requirements of this Article. If the Board of Directors determines that the information provided in a stockholder's notice does not satisfy the informational requirements of this Article in any material respect, the Secretary of the Company shall promptly notify such stockholder of the deficiency of the notice. The stockholder shall have an opportunity to cure the deficiency by providing additional information to the Secretary within such period of time, not to exceed five days, from the date such deficiency notice is given to the stockholder, as the Board of Directors shall reasonably determine. If the deficiency is not cured within such period, or if the Board of Directors reasonably determines that the additional information provided by the stockholder, together with the information previously provided, does not satisfy the requirements of this Article in any material respect, then the Board of Directors may reject such stockholder's nomination. The Secretary of the Company shall notify a stockholder in writing whether his nomination has been made in accordance with the time and informational requirements of this Article. Notwithstanding the procedures set forth in this Article, if the Board of Directors does not make a determination as to the validity of any nominations by a stockholder, the presiding officer of the meeting to which the nominations relate shall determine and declare at such meeting whether a nomination was made in accordance with the terms of this Article. If the presiding officer determines that a nomination was not made in accordance with the terms of this Article, he shall so declare at the annual meeting and the defective nomination shall be disregarded. ARTICLE IV MEETINGS OF THE BOARD Section 1. MEETINGS. The Directors of the Company may hold their meetings, both regular and special, at such times and places as are fixed from time to time by resolution of the Board of Directors. Section 2. ANNUAL MEETING. The first meeting of each newly elected Board of Directors shall be held without further notice immediately following the annual meeting of stockholders, and at the same place, unless by unanimous consent of the Directors then elected and servicing such time or place shall be changed. Section 3. REGULAR MEETINGS. Regular meetings of the Board of Directors may be held without notice at such time and place as shall from time to time be determined by resolution of the Board. Section 4. SPECIAL MEETINGS. Special meetings of the Board of Directors may be called by the Chairman of the Board or the President on oral or written notice to each Director, given personally, or by telephone, or by telegram, or by mail; special meetings shall be called by the Chairman of the Board or the President or Secretary in like manner and on like notice on the BYLAWS - PAGE 6 SEARCH FINANCIAL SERVICES INC. Amended 5/1/97 7 written request of two Directors. The purpose of any special meeting shall be specified in the notice or any waiver of notice. Section 5. QUORUM. At all meetings of the Board of Directors the presence of a majority of the number of Directors then constituting the Board of Directors shall be necessary and sufficient to constitute a quorum for the transaction of business, and the affirmative vote of at least a majority of the Directors present at any meeting at which there is a quorum shall be the act of the Board of Directors, except as may be otherwise specifically provided by the Act or by the Certificate of Incorporation or by these Bylaws. If a quorum shall not be present at any meeting of directors, the Directors present thereat may adjourn the meeting from time to time without notice other than announcement at the meeting, until a quorum shall be present. Section 6. EXECUTIVE COMMITTEE. The Board of Directors may, by resolution passed by a majority of the whole Board, designate an Executive Committee, to consist of two (2) or more Directors of the Company, one of whom shall be designated as chairman, who shall preside at all meetings of such Committee. To the extent provided in the resolution of the Board of Directors, the Executive Committee shall have and may exercise all of the authority of the Board of Directors in the management of the business and affairs of the Company, except where action of the Board of Directors as a whole is expressly required by the Act or by the Certificate of Incorporation, and shall have power to authorize the seal of the Company to be affixed to all papers which may require it. The Executive Committee shall keep regular minutes of its proceedings and report the same to the Board of Directors when required. Any member of the Executive Committee may be removed, for or without cause, by the affirmative vote of a majority of the entire Board of Directors. If any vacancy or vacancies occur in the Executive Committee caused by death, resignation, retirement, disqualification, removal from office or otherwise, the vacancy shall be filled by the affirmative vote of a majority of the whole Board of Directors. Section 7. OTHER COMMITTEES. The Board of Directors may, by resolution passed by a majority of the entire Board, designate other committees, each committee to consist of two (2) or more Directors of the Company, which committees shall have such power and authority and shall perform such functions as may be provided in such resolution. Such committee or committees shall have such name or names as may be designated by the Board and shall keep regular minutes of their proceedings and report the same to the Board of Directors when required. Section 8. ACTION BY CONSENT. Any action required or permitted to be taken at any meeting of the Board of Directors, the Executive Committee or any other committee of the Board of Directors, may be taken without such a meeting if a consent in writing, setting forth the action so taken, is signed by all the members of the Board or the Executive Committee or such other committee, as the case may be and the writing or writings are filed with the minutes of proceedings of the Board or Committee. Section 9. COMPENSATION OF DIRECTORS. Directors shall receive such compensation for their services and reimbursement for their expenses as the Board of Directors, by resolution, shall establish; provided that nothing herein contained shall be construed to preclude any Director from serving the Company in any other capacity and receiving compensation therefor. BYLAWS - PAGE 7 SEARCH FINANCIAL SERVICES INC. Amended 5/1/97 8 ARTICLE V NOTICE OF MEETINGS Section 1. FORM OF NOTICE. Whenever under the provisions of the Act or of the Certificate of Incorporation or of these Bylaws, written notice is required to be given to any Director or stockholder, and no provision is made as to how such written notice shall be given; such notice may be given in writing, by mail, postage prepaid, addressed to such Director or stockholder at such address as appears on the books of the Company. Any notice required or permitted to be given by mail shall be deemed to be given at the time when the same be thus deposited in the United States mails as aforesaid. Section 2. WAIVER. Whenever any notice is required to be given to any stockholder or Director of the Company, under the provisions of the Act or of the Certificate of Incorporation or of these Bylaws, a waiver thereof in writing signed by the person or persons entitled to such notice, whether before of after the time stated in such notice, shall be deemed equivalent to the giving of such notice. Section 3. TELEPHONE MEETINGS. Stockholders, members of the Board of Directors or members of any committee designated by the Board of Directors may participate in and hold meetings of such stockholders, Board of Directors or committee designated by the Board of Directors by means of conference telephone or similar communications equipment by means of which all persons participating in the meeting can hear each other. ARTICLE VI OFFICERS Section 1. OFFICERS OF THE COMPANY. The officers of the Company shall be elected by the Board of Directors and shall be a Chairman of the Board, a President, one or more Vice Presidents, a Secretary and a Treasurer. The Board of Directors may also elect one or more Vice Chairmen and a Controller and one or more of the following: Senior Executive Vice President, Executive Vice President, Senior Vice President, Assistant Vice President, Assistant Secretary, Assistant Treasurer and Assistant Controller. Any two or more offices may be held by the same person. Section 2. ELECTION OF OFFICERS. At the first meeting of the Board of Directors after each annual meeting of stockholders, the Board of Directors shall elect the officers of the Company. From time to time, the Board of Directors may elect such other officers and agents as it deems necessary. Section 3. SALARIES. The salaries of all officers and agents of the Company shall be fixed by, or in the manner determined by, the Board of Directors or, if authorized by the Board of Directors, the Executive Committee or the Compensation Committee. BYLAWS - PAGE 8 SEARCH FINANCIAL SERVICES INC. Amended 5/1/97 9 Section 4. TERM OF OFFICE AND REMOVAL. Each officer of the Company shall hold office until his death, or his resignation or removal from office, or the election and qualification of his successor, whichever shall first occur. Any officer or agent elected or appointed by the Board of Directors may be removed at any time, for or without cause, by the affirmative vote of a majority of the whole Board of Directors, but such removal shall be without prejudice to the contract rights, if any, of the person so removed. If the office of any officer becomes vacant for any reason, the vacancy may be filled by the Board of Directors. Section 5. CHAIRMAN OF THE BOARD. The Chairman of the Board shall be the Chief Executive Officer of the Company and shall, subject to the overall direction and supervision of the Board of Directors, in general, supervise and control all of the business and affairs of the Company. The Chairman of the Board shall perform such other duties, and may exercise such other powers, as are from time to time prescribed by the Board of Directors. The Chairman of the Board shall preside at all meetings of the stockholders and of the Board of Directors. Section 6. VICE CHAIRMAN. The Vice Chairman or Vice Chairmen shall assist the Chairman and perform such duties, and have such authority and responsibilities, as shall be assigned to or required of him, her or them from time to time by the Chairman of the Board or the Board of Directors. Section 7. PRESIDENT. The President shall be the Chief Operating Officer of the Company and shall, subject to the overall direction and supervision of the Board of Directors and the Chairman of the Board, in general, be responsible for the active direction of the daily business of the Company. The President shall perform such other duties, and may exercise such other powers, as are from time to time prescribed by the Board of Directors or the Chairman of the Board. In the absence or disability of the President, his or her duties shall be performed by such Vice President as the Chairman of the Board or the Board of Directors may designate. In case of the disability of the Chairman of the Board, the President shall perform the duties of the Chairman of the Board, unless otherwise determined by the Board of Directors. Section 8. VICE PRESIDENTS. Each Vice President shall perform such duties, and may exercise such powers, as are from time to time prescribed by the Board of Directors, the Chairman of the Board or the President. In the absence or disability of the President, a Vice President designated by the Board of Directors shall perform the duties and exercise the powers of the President. An Assistant Vice President shall perform such duties as may be prescribed by the Chairman of the Board, the President or any Vice President. Section 9. SECRETARY. The Secretary shall attend all meetings of the stockholders and record all votes and the minutes of all proceedings in a book to be kept for that purpose. The Secretary shall perform like duties for the Board of Directors and the Executive Committee when required. The Secretary shall give, or cause to be given, notice of all meetings of the stockholders and special meetings of the Board of Directors and shall perform such other duties, and may exercise such powers, as are from time to time prescribed by the Board of Directors, the BYLAWS - PAGE 9 SEARCH FINANCIAL SERVICES INC. Amended 5/1/97 10 Chairman of the Board or the President. The Secretary shall keep in safe custody the seal of the Company. Section 10. ASSISTANT SECRETARIES. Each Assistant Secretary shall have perform such duties, and may exercise such powers, as are from time to time prescribed by the Board of Directors, the Chairman of the Board, the President or the Secretary. Section 11. TREASURER. The Treasurer shall have the custody of all corporate funds and securities, shall keep full and accurate accounts of receipts and disbursements of the Company and shall deposit all moneys and other valuable effects in the name and to credit of the Company in such depositories as may be designated by the Board of Directors. The Treasurer shall disburse the funds of the Company as may be ordered by the Board of Directors, taking proper vouchers for such disbursements, shall render to the Chairman of the Board and Directors, at the regular meetings of the Board, or whenever they may require it, an account of all his or her transactions as Treasurer and of the financial condition of the Company, and shall perform such other duties, and may exercise such other powers, as are from time to time prescribed by the Board of Directors, the Chairman of the Board or the President. Section 12. ASSISTANT TREASURERS. Each Assistant Treasurer shall perform such duties, and may exercise such powers, as are from time to time prescribed by the Board of Directors, the Chairman of the Board, the President or the Treasurer. Section 13. CONTROLLER. The Controller shall share with the Treasurer responsibility for the financial and accounting books and records of the Company, shall report to the Treasurer, and shall perform such other duties, and may exercise such other powers, as are from time to time prescribed by the Board of Directors, the Chairman of the Board, the President or the Treasurer. Section 14. BONDING. If required by the Board of Directors, all or certain of the officers shall give the Company a bond, in such form, in such sum, and with such surety or sureties as shall be satisfactory to the Board, for the faithful performance of the duties of their office and for the restoration, retirement or removal from office, of all books, papers, vouchers, money and other property whatever kind in their possession or under their control belonging to the Company. ARTICLE VII CERTIFICATES OF SHARE Section 1. FORM OF CERTIFICATES. Certificates, in such form as may be determined by the Board of Directors, representing shares to which stockholders are entitled shall be delivered to each stockholder. Such certificates shall be consecutively numbered and shall be entered in the stock book of the Company as they are issued. Each certificate shall state on the face thereof the holder's name, the number, class of shares, and the par value of such shares or a statement that such shares are without par value. They shall be signed by the Chairman of the Board, the President or a Vice President and the Secretary or an Assistant Secretary, and may be sealed with the seal of the Company or a facsimile thereof. If any certificate is countersigned by a transfer BYLAWS - PAGE 10 SEARCH FINANCIAL SERVICES INC. Amended 5/1/97 11 agent, or an assistant transfer agent or registered by a registrar, either of which is other than the Company or an employee of the Company, the signatures of the Company's officers may be facsimiles. In case any officer or officers who have signed, or whose facsimile signature or signatures have been issued on such certificate or certificates, shall cease to be such officer or officers of the Company, whether because of death, resignation or otherwise, before such certificate or certificates have been delivered by the Company or its agents, such certificate or certificates may nevertheless be adopted by the Company and be issued and delivered as though the person or persons who signed such certificate or certificates or whose facsimile signature or signatures have been used thereof had not ceased to be such officer or officers of the Company. Section 2. LOST CERTIFICATES. The Board of Directors may direct that a new certificate be issued in place of any certificate theretofore issued by the Company alleged to have been lost or destroyed, upon the making of an affidavit of that fact by the person claiming the certificate to be lost or destroyed. When authorizing such issue of a new certificate, the Board of Directors, in its discretion and as a condition precedent to the issuance thereof, may require the owner of such lost or destroyed certificate, or his legal representative, to advertise the same in such manner as it shall require and/or to give the Company a bond, in such form, in such sum, and with such surety or sureties as it may direct as indemnity against any claim that may be made against the Company with respect to the certificate alleged to have been lost or destroyed. Section 3. TRANSFER OF SHARES. Upon surrender to the Company or a transfer agent of the Company of a certificate for shares duly endorsed or accompanied by proper evidence of succession, assignment or authority to transfer, the Company shall issue a new certificate to the person entitled thereat, cancel the old certificate and record the transaction upon its books. Section 4. REGISTERED STOCKHOLDERS. The Company shall be entitled to treat the holder of record of any share or shares of stock as the holder in fact thereof and, accordingly shall not be bound to recognize any equitable or other claim to or interest in such share or shares on the part of any other person, whether or not it shall have express or other notice thereof, except as otherwise provided by law. ARTICLE VIII GENERAL PROVISIONS Section 1. DIVIDENDS. Dividends upon the outstanding shares of the Company, subject to the provisions of the Certificate of Incorporation, if any, may be declared by the Board of Directors at any regular or special meeting. Dividends may be declared and paid in cash, in property, or in shares of the Company, subject to the provisions of the Act and the Certificate of Incorporation. The Board of Directors may fix in advance a record date for the purpose of determining stockholders entitled to receive payment of any dividend, which record date shall not precede the date upon which the date shall not be more than sixty days prior to the payment date of such dividend. In the absence of any action by the Board of Directors, the close of business on the date upon which the Board of Directors adopts the resolution declaring such dividend shall be the record date. BYLAWS - PAGE 11 SEARCH FINANCIAL SERVICES INC. Amended 5/1/97 12 Section 2. RESERVES. There may be created by resolution of the Board of Directors out of the earned surplus of the Company such reserve or reserves as the Directors from time to time, in their discretion, think proper to provide for contingencies, or to equalize dividends, or to repair or maintain any property of the Company, or for such other purpose as the Directors shall think beneficial to the Company, and the Directors may modify or abolish any such reserve in the manner in which it was created. Section 3. FISCAL YEAR. The fiscal year of the Company shall be fixed by resolution of the Board of Directors. Section 4. SEAL. The Company shall have a seal, and said seal may be used by causing it or a facsimile thereof to be impressed or affixed or reproduced or otherwise. Any officer of the Company shall have authority to affix the seal to any document requiring it. Section 5. ANNUAL STATEMENT. The Board of Directors shall present at each annual meeting, and when called for by vote of the stockholders at any special meeting of the stockholders, a full and clear statement of the business and condition of the Company. Section 6. CHECKS. All checks or demands for money and notes of the Company shall be signed by such officer or officers or such other person or persons at the Board of Directors may from time to time designate. ARTICLE IX INDEMNITY Section 1. INDEMNIFICATION. The Company shall indemnify any person who was or is a party, or threatened to be made a party, to any suit or proceeding, by reason of the fact that he or she is or was an authorized representative of the Company (the "Indemnified Party"), for the specified liabilities and expenses as set forth in Section 2. of this Article, if he acted in good faith and in a manner he reasonably believed to be in or not opposed to the best interest of the Company, and, with respect to any criminal action or proceeding he or she had no reasonable cause to believe his or her conduct was unlawful. The indemnification of a party, contained in the first sentence of this Section, shall not apply if the Board of Directors, by a vote of the majority of those present at any meeting of the Board of Directors, elect to exclude such person from this indemnification provision. Section 2. LIABILITIES AND EXPENSES COVERED BY INDEMNIFICATION. Liabilities and expenses covered by indemnification shall include, but shall not be limited to, legal fees and disbursements and amounts of judgments, fines or penalties against, and amounts paid in settlement by the Indemnified Party. Any reasonable expense incurred by the Indemnified Party with respect to defending any claim, action, suit or proceeding may be advanced prior to the final disposition thereof upon receipt of an undertaking by or on behalf of the recipient to repay such BYLAWS - PAGE 12 SEARCH FINANCIAL SERVICES INC. Amended 5/1/97 13 amount if it shall ultimately be determined that he is not entitled to indemnification under the provisions of this Article IX and applicable Delaware Law. Section 3. INDEMNIFICATION ADDITIONAL TO OTHER RIGHTS. The rights of indemnification provided for in this Article IX shall be in addition to any rights to which any such Director, officer or employee may be entitled under any agreement vote of stockholders, the Certificate of Incorporation, or as a matter of law or otherwise. ARTICLE X BYLAWS Section 1. AMENDMENTS. Except for this Article X, Section 1, these Bylaws may be altered, amended, or repealed at any meeting of the Board of Directors at which a quorum is present, by the a majority of the total number of directors constituting the Board of Directors, provided notice of the proposed alteration, amendment, or repeal be contained in the notice of such meeting. BYLAWS - PAGE 13 SEARCH FINANCIAL SERVICES INC. Amended 5/1/97 EX-11 4 STATEMENT RE: COMPUTATION OF PER SHARE EARNINGS 1 EXHIBIT 11 SEARCH FINANCIAL SERVICES, INC. Computation of Per Share Earnings (Loss) (in thousands except per share data)
Year Ended Six Months Ended Year Ended March 31, 1997 March 31, 1996 September 30, 1995 -------------- ---------------- ------------------ Weighted Average Shares: Common Stock outstanding at end of period 3,163 3,119 1,347 Adjustment for weighting of shares 203 (1,875) (226) Common Stock equivalents assumed outstanding -- 62 -- ------- ------- -------- Weighted Average Shares Outstanding [A] 3,366 1,306 1,121 ======= ======= ======== Net Income (Loss) [B] $(4,871) $(2,998) $(20,134) ======= ======= ======== Computation of net income (loss) per share: Net income (loss) divided by weighted average shares outstanding [B]/[A] $ (1.45) $ (2.29) $ (17.96) ======= ======= ========
EX-13 5 PORTION OF THE COMPANY'S ANNUAL REPORT 1 EXHIBIT 13 SEARCH FINANCIAL SERVICES INC. (F/K/A SEARCH CAPITAL GROUP, INC.) AND SUBSIDIARIES CONSOLIDATED FINANCIAL STATEMENTS INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
PAGE ---- Independent Certified Public Accountants' Report 2 Consolidated Balance Sheets as of March 31, 1997 and March 31, 1996 3 Consolidated Statements of Operations for the year ended March 31, 1997, the six months 4 ended March 31, 1996, and the year ended September 30, 1995 Consolidated Statement of Changes in Stockholders' Equity (Capital Deficit) for the year 5 ended March 31, 1997, the six months ended March 31, 1996 and the year ended September 30, 1995 Consolidated Statements of Cash Flows for the year ended March 31, 1997, the six months 6 ended March 31, 1996, and the year ended September 30, 1995 Notes to Consolidated Financial Statements 7
1 2 REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS To The Board of Directors and Stockholders Search Financial Services Inc. (f/k/a Search Capital Group, Inc.) Dallas, Texas We have audited the accompanying consolidated balance sheets of Search Financial Services Inc. (f/k/a Search Capital Group, Inc.) and its subsidiaries (the "Company") as of March 31, 1997 and 1996, and the related consolidated statements of operations, changes in stockholders' equity (capital deficit), and cash flows for the year ended March 31, 1997, the six months ended March 31, 1996, and the year ended September 30, 1995. 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 audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Search Financial Services Inc. (f/k/a Search Capital Group, Inc.) and its subsidiaries at March 31, 1997 and 1996, and the results of their operations and cash flows for the year ended March 31, 1997, the six months ended March 31, 1996, and the year ended September 30, 1995 in conformity with generally accepted accounting principles. /s/ BDO SEIDMAN, LLP ---------------------------- BDO Seidman, LLP Dallas, Texas May 23, 1997 2 3 SEARCH FINANCIAL SERVICES INC. (F/K/A SEARCH CAPITAL GROUP, INC.) AND SUBSIDIARIES Consolidated Balance Sheets (In Thousands)
March 31, 1997 March 31, 1996 -------------- -------------- ASSETS - ------ Gross contracts receivable (Note 6) $62,325 $37,086 Unearned interest (10,636) (6,435) ------- ------- Net contracts receivable 51,689 30,651 Allowance for credit losses (5,854) (13,353) Loan origination costs 5,852 3,984 Amortization of loan origination costs (4,379) (3,578) ------- ------- Net contract receivables - after allowance for credit losses & other costs 47,308 17,704 ------- ------- Cash and cash equivalents 12,249 17,817 Vehicles held for resale 1,196 566 Deferred note offering cost, net of depreciation and amortization of $1,672 and $1,141 in 1997 and 1996, respectively 155 - Property and equipment, net 1,608 1,062 Intangibles, net of $450 amortization in 1997 (Note 4) 6,252 - Other assets 755 197 ------- ------- Total assets $69,523 $37,346 ======= ======= LIABILITIES AND STOCKHOLDERS' EQUITY - ------------------------------------ Lines of credit (Notes 6 & 8) $23,715 $ - Note payable (Note 7) 9,596 2,283 Accrued settlements (Notes 16 & 17) 540 688 Accounts payable and other liabilities 2,760 7,356 Subordinated note payable (Note 7) 5,000 - Accrued interest 271 15 Redeemable warrants (Notes 2 & 4) 1,035 593 ------- ------- 42,917 10,935 ------- ------- Stock repurchase commitment (Note 10) 2,078 2,078 ------- ------- Stockholders' Equity (Note 9) - -------------------- Convertible Preferred stock 201 154 Common stock 252 248 Additional paid-in capital 78,047 79,124 Accumulated deficit (52,760) (54,043) Treasury stock - (1,150) ------- ------- Total stockholders' equity 25,740 24,333 Notes receivable - stockholders (Note 11) (1,212) - ------- ------- 24,528 24,333 Total liabilities and stockholders' equity $69,523 $37,346 ======= =======
See accompanying notes to consolidated financial statements. 3 4 SEARCH FINANCIAL SERVICES INC. (F/K/A SEARCH CAPITAL GROUP, INC.) AND SUBSIDIARIES Consolidated Statements of Operations (In Thousands except per share data)
Six Months Ended Year Ended March 31, 1996 Year Ended March 31, 1997 (Note 1) September 30, 1995 -------------- ---------------- ------------------ Interest revenue $10,004 $ 3,541 $13,472 Interest expense 2,306 1,306 11,205 ------- ------- -------- Net interest income 7,698 2,235 2,267 Reduction of (provision for) credit losses (Note 6) 7,017 (4,982) (3,128) ------- ------- -------- Net interest income (loss) after reduction of (provision for) credit losses 14,715 (2,747) (861) ------- ------- -------- General and administrative expense 13,392 8,098 15,881 Settlement expense 40 535 2,837 Reorganization expense - - 315 ------- ------- -------- Operating and other expense 13,432 8,633 19,033 ------- ------- -------- Income (loss) before extraordinary item 1,283 (11,380) (19,894) Extraordinary gain on discharge of debt (Notes 2 & 7) - 8,709 - ------- ------- -------- Net income (loss) 1,283 (2,671) (19,894) Preferred stock dividends 6,154 327 240 ------- ------- -------- Net loss attributable to common stockholders $(4,871) $(2,998) $(20,134) ======= ======= ======== $ (1.45) $ (8.96) $ (17.96) Loss per common share before extraordinary item Gain on extraordinary item - 6.67 - ------- ------- -------- Loss per common share (Notes 9 & 10) $ (1.45) $ (2.29) $ (17.96) ======= ======= ======== Weighted average number of common shares outstanding 3,366 1,306 1,121 ======= ======= ========
See accompanying notes to consolidated financial statements. 4 5 SEARCH FINANCIAL SERVICES INC. (F/K/A SEARCH CAPITAL GROUP, INC.) AND SUBSIDIARIES Statement of Changes in Stockholders' Equity (Capital Deficit) (Notes 3 and 9) For the year ended March 31, 1997, six months ended March 31, 1996 and year ended September 30, 1995 (In Thousands except per share amounts)
Treasury Stock ---------------------- --------------------- ------------------- --------------------- Preferred Stock-12% Preferred Stock-9%/7% Common Stock Preferred Stock-9%/7% ---------------------- --------------------- ------------------- --------------------- Shares Amount Shares Amount Shares Amount Shares Amount ------------------------------------------------------------------------------------------------- BALANCE, OCTOBER 1, 1994 50,000 $ 4 - $ - 1,462,191 $ 117 - $ - ------------------------------------------------------------------------------------------------- Stock purchase at May 5, 1995 - $ - - $ - - $ - - $ - Stock repurchase commitment - - - - (115,418) (9) - - Preferred stock dividends - - - - - - - - Net loss - - - - - - - - ------------------------------------------------------------------------------------------------- BALANCE, SEPTEMBER 30, 1995 50,000 $ 4 - $ - 1,346,773 $ 108 - $ - ------------------------------------------------------------------------------------------------- Exercise of options - $ - - $ - 4,480 $ 1 - $ - Class action suit settlement - - - - 231,000 18 - - (Note 16) Reorganization (Note 2) - - 1,878,956 150 1,514,375 121 - - Preferred stock dividends - - - - - - - - Net loss - - - - - - - ------------------------------------------------------------------------------------------------- BALANCE AT MARCH 31, 1996 50,000 $ 4 1,878,956 $ 150 3,096,628 $248 - $ - ------------------------------------------------------------------------------------------------- Debt conversion - Hall Financial Group, Inc. (Note 5) - $ - - $ - 312,500 $ 25 - - Additional investment - Hall Financial Group, Inc. (Note 5) - - 254,100 20 204,800 16 - - Investment - Alex. Brown & Sons, Incorporated - - - - 26,462 2 - - Acquisition - Dealers Alliance Credit Corp. (Note 4) - - 319,257 26 159,629 13 - - Conversion of 9%/7% preferred to common - - (13,755) (1) 27,511 2 - - Stock repurchase - Hall Financial Group, Inc. (Note 5) - - - - - - 254,100 (20) Acquisition - U.S. Lending Corporation (Note 4) - - 271,867 22 231,066 18 - - Retirement of treasury stock - - (254,100) (20) (895,599) (72) (254,100) 20 Preferred stock dividends - - - - - - - - Net income - - - - - - - - ------------------------------------------------------------------------------------------------- BALANCE AT MARCH 31, 1997 50,000 $ 4 2,456,325 $197 3,162,997 $252 - $ - ================================================================================================= Treasury Stock ------------------------ Common Stock Stockholders' ------------------------ Paid-In Accumulated Equity Shares Amount Capital Deficit (Capital Deficit) --------------------------------------------------------------------------------- BALANCE, OCTOBER 1, 1994 315,799 $ (25) $ 27,006 $(31,478) $ (4,376) --------------------------------------------------------------------------------- Stock purchase at May 5, 1995 62,500 $ (1,125) $ $ - $ (1,125) Stock repurchase commitment - - (2,069) - (2,078) Preferred stock dividends - - (240) - (240) Net loss - - - (19,894) (19,894) --------------------------------------------------------------------------------- BALANCE, SEPTEMBER 30, 1995 378,299 $ (1,150) $24,697 $(51,372) $(27,713) --------------------------------------------------------------------------------- Exercise of options - $ - $ 10 $ - $ 11 Class action suit settlement (Note 16) - - 2,595 - 2,613 Reorganization (Note 2) - - 52,149 - 52,420 Preferred stock dividends - - (327) - (327) Net loss - - - (2,671) (2,671) --------------------------------------------------------------------------------- BALANCE AT MARCH 31, 1996 378,299 $ (1,150) $ 79,124 $(54,043) $ 24,333 --------------------------------------------------------------------------------- Debt conversion - Hall Financial Group, Inc. (Note 5) - $ - $ 1,692 $ - $ 1,717 Additional investment - Hall Financial Group, Inc. (Note 5) - - 4,310 - 4,346 Investment - Alex. Brown & Sons, Incorporated - - 150 - 152 Acquisition - Dealers Alliance Credit Corp. (Note 4) - - 4,521 - 4,560 Conversion of 9%/7% preferred to common - - (1) - Stock repurchase - Hall Financial Group, Inc. (Note 5) 517,300 (8,980) - - (9,000) Acquisition - U.S. Lending Corporation (Note 4) - - 4,463 - 4,503 Retirement of treasury stock (895,599) 10,130 (10,058) - - Preferred stock dividends - - (6,154) - (6,154) Net income - - - 1,283 1,283 --------------------------------------------------------------------------------- BALANCE AT MARCH 31, 1997 - $ - $ 78,047 $(52,760) $ 25,740 =================================================================================
See accompanying notes to consolidated financial statements 5 6 SEARCH FINANCIAL SERVICES INC. (F/K/A SEARCH CAPITAL GROUP, INC.) AND SUBSIDIARIES Consolidated Statements of Cash Flows (In Thousands)
Year Ended Six Months Ended Year Ended March 31, 1997 March 31, 1996 September 30, 1995 -------------- ----------------- ------------------ OPERATING ACTIVITIES: Net income (loss) $ 1,283 $ (2,671) $(19,894) Adjustments to reconcile net income (loss) to cash used in operations: Provision for (reduction of) credit losses (7,017) 4,982 3,128 Accretion of warrant debt 122 - - - Amortization of deferred offering costs 60 1,221 2,840 Amortization of loan origination costs 868 641 1,047 Amortization of goodwill and intangibles 450 - - Depreciation and amortization 531 262 384 Extraordinary gain on discharge of debt - (8,709) - Loss on disposition of fixed assets - 112 - Changes in assets and liabilities: Decreases (increases) in other assets, net (246) 470 (86) Increases (decreases) in accounts payable and accrued expense (5,290) (449) 1,840 ---------- --------- -------- Cash used in operations (9,239) (4,141) (10,741) ---------- --------- -------- INVESTING ACTIVITIES: Purchase of contract receivables including origination fees (39,042) (5,471) (24,830) Principal payments on contract receivables including proceeds from sales of vehicles 30,993 17,921 47,652 Purchases of property and equipment (856) (132) (711) (Increases) decreases in restricted cash - 8,105 (4,519) ---------- --------- -------- Cash provided by (used in) investing (9,135) 20,423 17,592 ---------- --------- -------- FINANCING ACTIVITIES: Net borrowings (repayments) under line of credit 15,295 1,225 (2,429) Notes payable proceeds - - 1,779 Notes payable repayments - - (5,077) Capital lease repayments (67) (24) (58) Notes payable offering costs (215) - (198) Proceeds from sale of stock, net of expense 4,346 - - Proceeds from exercise of options - 12 - Notes receivable - stockholders (1,212) - - Purchase of treasury stock (4,000) - (1,125) Payment of dividends (4,724) (120) (240) ---------- --------- -------- Cash provided by (used in) financing activities 9,423 1,093 (7,348) ---------- --------- -------- CHANGE IN CASH AND CASH EQUIVALENTS: Change in cash and cash equivalents (8,951) 17,375 (497) Net cash acquired (Note 4) 3,383 - - Cash and cash equivalents - beginning 17,817 442 939 ---------- --------- -------- Cash and cash equivalents - ending $ 12,249 $ 17,817 $ 442 ========== ========= ======== SUPPLEMENTAL INFORMATION (Note 20): Cash paid for interest $ 2,050 $ 71 $ 9,272 ========== ========= ========
See accompanying notes to consolidated financial statements. 6 7 SEARCH FINANCIAL SERVICES INC. (F/K/A SEARCH CAPITAL GROUP, INC.) AND SUBSIDIARIES Notes to Consolidated Financial Statements 1. SUMMARY OF SIGNIFICANT ACCOUNTING PRINCIPLES AND PRACTICES General. The accompanying consolidated financial statements include the accounts of Search Financial Services Inc. (f/k/a Search Capital Group, Inc.) ("Search") and its subsidiaries (the "Company") as follows: Automobile Credit Holdings, Inc. Automobile Credit Acceptance Corp. ("ACAC") Consumer Dealer Autocredit Corporation Newsearch, Inc. Search Capital Acquisition Corp. Search Financial Services Company Search Financial Services of Florida, Inc. Search Financial Services of Georgia, Inc. Search Financial Services of Louisiana, Inc. Search Financial Services of Oklahoma, Inc. Search Financial Services of Puerto Rico, Inc. Search Financial Services of Tennessee, Inc. Search Financial Services of Texas, Inc. Search Mortgage Services of Tennessee, Inc. Search Funding Corp. ("SFC") Search Funding II, Inc. Search Funding III, Inc. Search Funding IV, Inc. Search Funding V, Inc. During fiscal 1997, the special purpose subsidiaries of Search which raised money through the issuance of interest bearing notes for the purchase of contract receivables (the "Fund Subsidiaries") were dissolved. The balance sheet as of March 31, 1996 and the statements of operations and cash flows for the periods ended March 31, 1996 and September 30, 1995 include the Fund Subsidiaries in the consolidation (see note 2). In 1996, the Company changed its fiscal year end to March 31. Effective May 16, 1997, the name of Search was changed from Search Capital Group, Inc. to Search Financial Services Inc. In November 1996, the Company effected a 1-for-8 reverse stock split. All references in the financial statements and notes to the number of shares outstanding, the number of shares subject to warrants and options and per share amounts have been retroactively restated to reflect the reverse split. Basis of Consolidation. The consolidated financial statements include the accounts of the Company, after elimination of all significant intercompany accounts and transactions, and have been prepared in accordance with generally accepted accounting principles. Use of Estimates. The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities, disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenue and expenses during the reporting period. Actual results could differ from those estimates. Contracts Receivable, Allowance for Credit Losses, and Interest Income. The Company records receivables purchased at cost. Contractual finance charges are recorded as unearned interest and amortized to interest income using the interest method. An initial allowance for credit losses is recorded at the acquisition of a receivable equal to the difference between the amount financed and the acquisition cost, which is what the Company estimates to be fair value. The Company considers all of its contracts receivable to be consumer installment loans to 7 8 individuals. In accordance with Statement of Financial Accounting Standards No. 114 ("SFAS No. 114"), these receivables are reviewed individually for impairment generally using the receivable's contractual delinquency or repossession status. All receivables which exceed 60 days contractual delinquency or with respect to which the underlying collateral has been repossessed are considered impaired. Once impaired, a receivable is placed on nonaccrual status and written down to its net realizable value, and no interest income is recognized until the receivable returns to nonimpaired status. Therefore, at impairment, the Company writes down the receivable to its estimated net realizable value, which is the fair value of the underlying collateral if it has been repossessed or the estimated recoverable cash flow if no repossession has occurred. If the measured amount of the impaired receivable is less than the Company's net recorded investment in the receivable, the Company recognizes a charge to provision for credit losses in the amount of the deficiency and increases the allowance for credit losses by a corresponding amount. The provision for credit losses is adjusted for any differences between the final net proceeds from resale of the underlying collateral and the estimated net realizable value. All payments received on impaired receivables are considered a return of principal. Generally, the Company charges off a receivable against the allowance for credit losses at 180 days contractual delinquency if no significant payments have been received in the last six months, or earlier after receipt of the sale proceeds from liquidation of the collateral securing the receivable. Subsequent proceeds received on a previously charged-off receivable are recorded as a recovery to the allowance for credit losses. Any excess of cost paid ("premium") for net receivables acquired is recorded as an asset and amortized over the life of the related loans acquired as an adjustment to yield using the interest method. All amounts are stated as gross receivables, which include unearned interest, unless otherwise indicated. Loan Origination Costs. The Company performs substantially all of the functions associated with origination of its receivables and capitalizes the related costs. The portion capitalized is amortized by the interest method against income as an adjustment of yield. Vehicles Held for Resale. Vehicles held for resale represents the estimated collateral value of motor vehicles in the Company's possession and are carried at the lower of cost or estimated net realizable value (estimated auction value less estimated costs to sell at the time of repossession). The Company classifies a loan as vehicle held for resale upon physically repossessing the vehicle and until the vehicle is sold at auction. The deficiency balance, if any, is then charged off. Deferred Notes Payable Offering Costs. Costs directly related to notes payable offerings were capitalized and amortized to expense by the interest method over the contractual terms of the notes. Deferred offering costs were the commissions, printing, legal, accounting and other expenditures incurred in issuing the notes to the investors. Property and Equipment. Property and equipment includes assets which are depreciated over three-year and five-year lives and leasehold improvements which are amortized over the remaining term of the lease. Cost in Excess of Fair Value of Net Assets Acquired and Other Intangibles. Cost in excess of the fair value of net assets acquired is amortized on a straight-line basis over 90 months. Other intangibles, which include customer lists and dealer networks, are being amortized over 10 to 15 years using the straight-line method. The Company continually monitors its cost in excess of net assets acquired (goodwill) and its other intangibles to determine whether any impairment of these assets has occurred. In making such determination with respect to goodwill, the Company evaluates the performance, on an undiscounted basis, of the underlying businesses which gave rise to such amounts. With respect to other intangibles, the Company bases its determination on the performance, on an undiscounted basis, of the related intangibles. Net Loss Per Share Attributable to Common Stockholders. The net loss per share attributable to common stockholders has been computed based on the weighted average number of shares of Search common stock outstanding during each period and after deducting preferred stock dividends declared. Common stock equivalents are included in the calculations except when their effect would be antidilutive. Income Taxes. The Company files a consolidated federal income tax return. The Company uses the asset and liability method to provide for income taxes under which deferred tax assets and liabilities are recognized for the tax consequences of temporary differences by applying enacted statutory tax rates applicable to future years to differences between the financial statement carrying amounts and the tax bases of existing assets and liabilities. 8 9 Statement of Cash Flows. For purposes of reporting cash flows, the Company considers short term cash investments with original maturities of three months or less to be cash equivalents. Recent Accounting Pronouncements. In June 1996, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 125, "Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities" (SFAS No. 125). SFAS No. 125 requires that an entity recognize the financial and servicing assets it controls and the liabilities it has incurred and derecognize financial assets when control has been surrendered and derecognize liabilities when extinguished. SFAS No. 125 provides standards for distinguishing transfers of financial assets that are sales from transfers that are secured borrowings. It is generally effective for transfers and servicing of financial assets and extinguishments of liabilities occurring after December 31, 1996 and is to be applied prospectively. Management of Company believes that SFAS No. 125 has no current impact on the Company there exist no significant transactions as contemplated by SFAS 125; however, SFAS 125 may have a material impact on its future financial statements, if in those periods the Company completes a securitization transaction. 2. CHAPTER 11 BANKRUPTCY FILING OF THE FUND SUBSIDIARIES AND CONFIRMATION OF THE JOINT PLAN OF REORGANIZATION As of March 31, 1996, the Fund Subsidiaries consisted of six public and two private corporations as follows: Automobile Credit Fund 1991-III, Inc. - Private Automobile Credit Finance, Inc. - Public Automobile Credit Partners, Inc. - Private Automobile Credit Finance 1992-II, Inc. - Public Automobile Credit Finance III, Inc. - Public Automobile Credit Finance IV, Inc. - Public Automobile Credit Finance V, Inc. - Public Automobile Credit Finance VI, Inc. - Public In August 1995, the Fund Subsidiaries filed for reorganization under Chapter 11 of the U. S. Bankruptcy Code. Search and its unrestricted subsidiaries did not seek protection under the Code, but Search was a co-proponent of a joint plan of reorganization for the Fund Subsidiaries. On March 4, 1996, the Court entered an order ("Confirmation Order") confirming the Third Amended Plan of Reorganization (the "Joint Plan") for all of the Fund Subsidiaries, effective on March 15, 1996 (the "Effective Date"). Total secured claims of all noteholders under the Joint Plan were $53,240,000, and total unsecured claims were $16,080,000, for total claims of $69,320,000, which comprised the total of notes payable and accrued interest due the noteholders (see Note 7). The Joint Plan allowed noteholders to choose one of two options. Under one of the options (the "Equity Option"), noteholders received with respect to the secured portion of their claims shares of Search common stock, shares of a new series of 9%/7% convertible preferred stock and a cash payment equal in amount as if dividends had been calculated on the 9%/7% convertible preferred stock from July 1, 1995 to the Effective Date. Under the other option (the "Collateral Option"), noteholders would receive with respect to the secured portion of their claims distributions of the proceeds of the continued collection or sale of the motor vehicle receivables securing their notes. In accordance with the Joint Plan, the number of shares issued was calculated as of the Effective Date so that noteholders received shares of common stock and 9%/7% convertible preferred stock having a value equal, on a fully diluted basis, to 75% of the value of all shares of 9%/7% convertible preferred stock, common stock, 12% senior convertible preferred stock, warrants, stock options and rights then outstanding, or agreed to be issued by Search (with certain exceptions, including any shares issued to Hall Phoenix/Inwood Ltd., ("HPIL") under the Funding Agreement referred to in Note 5). At a special stockholders' meeting on March 1, 1996, stockholders of Search approved amendments to Search's Certificate of Incorporation increasing Search's authorized capital stock to 130,000,000 shares of common stock and 60,000,000 shares of preferred stock. Before the Effective Date, Value Partners, Ltd. purchased all of the secured claims of noteholders who had elected the Collateral Option (approximately $12,800,000 of original note principal amount) and changed the election for such secured claims to the Equity Option. The selling noteholders retained their unsecured claims. As a 9 10 consequence of this transaction, 100% of the secured claims of noteholders received treatment under the Equity Option. With respect to the unsecured portion of noteholders' claims, the noteholders and any other holders of unsecured claims are entitled to receive from Search a pro rata share of warrants (the "Warrants") to purchase an aggregate of 625,000 shares of common stock. These Warrants will be issued after the unsecured claims of non- noteholders are determined by the bankruptcy court. (see Note 9). The Company is required to redeem all unexercised Warrants at $2.00 for each share of stock subject to the Warrants in March 2001. The Warrants are considered debt and have been recorded at their estimated fair value. The accretion from fair value to the redemption amount is recorded as interest expense over the term of the Warrants using the interest method. The Joint Plan required that a trust ("Litigation Trust") be established for the benefit of the noteholders, with a total funding of $350,000. The Litigation Trust is authorized to pursue claims and causes of action of the Fund Subsidiaries and of certain participating noteholders. Proceeds will be distributed pro rata to noteholders. On the Effective Date, the net assets of the Fund Subsidiaries were transferred to Search. The Fund Subsidiaries' notes and the indebtedness represented by those notes were deemed canceled when the Confirmation Order became final. The trust indentures for the notes, and all related restrictions, were also deemed canceled. As a result of the implementation of the Joint Plan and the cancellation of the notes, a net extraordinary gain from the extinguishment of debt was reported in the amount of $8,709,000 (see Note 7). The Fund Subsidiaries accounted for all transactions, where applicable, related to the reorganization proceedings in accordance with Statement of Position 90-7 "Financial Reporting by Entities in Reorganization Under the Bankruptcy Code" ("SOP 90-7") issued by the American Institute of Certified Public Accountants. 3. REVERSE STOCK SPLIT In August 1996, the Board of Directors of Search authorized a one-for-eight reverse stock split that became effective on November 22, 1996 following stockholder approval. All references in the financial statements and notes to the number of shares outstanding, the number of shares subject to warrants and options and per share amounts have been retroactively restated to reflect the reverse split decreased number of common and preferred shares outstanding. 4. ACQUISITIONS In November 1996, Search Funding III, Inc., a wholly-owned subsidiary of Search, completed its acquisition of certain assets of U.S. Lending Corporation ("USLC"). USLC conducted purchasing and servicing of used motor vehicle receivables in Deerfield Beach, Florida. USLC had been operating under Chapter 11 of the U.S. Bankruptcy Code. The acquisition was accounted for as an asset purchase. Accordingly, results of operations related to the acquired assets have been included in the consolidated financial statements since the date of acquisition. The purchase price was allocated to the net assets acquired based upon their estimated fair value. Search purchased USLC's net assets, valued at $4,819,000, for 231,066 shares of common stock, 271,867 shares of 9%/7% convertible preferred stock, and Warrants to purchase 154,960 shares of common stock. The assets acquired were approximately $3,500,000 in cash, gross receivables of approximately $1,800,000 and an undetermined amount of delinquent accounts and foreclosure deficiency balance accounts. In August 1996, Search Funding IV, Inc. ("SFIV"), a wholly-owned subsidiary of Search, acquired all of the assets and assumed certain liabilities of Dealers Alliance Credit Corp. ("DACC"). DACC conducted purchasing and servicing of used motor vehicle receivables in Atlanta, Georgia. DACC had purchased loans from over 1,000 new and used car dealers, primarily in Georgia, Texas, Tennessee and Florida. The Company has been using the DACC facilities as a regional marketing branch for southeastern states, a collection center and as a full-service consumer loan facility. The acquisition was accounted for under the purchase method of accounting. Accordingly, results of operations related to the acquired assets have been included in the consolidated financial statements since 10 11 the date of acquisition. The purchase price was allocated to the net assets acquired based upon their estimated fair value. For DACC's net assets, valued at approximately $21,000,000, Search delivered 159,629 shares of common stock, 319,257 shares of 9%/7% convertible preferred stock, and Warrants to purchase 159,629 shares of common stock with a total value of $4,795,000. In addition, the Company assumed approximately $17,450,000 in bank debt under a restructured line of credit. The calculation of the purchase price and allocation to the acquired assets of DACC is as follows (in thousands): Net contracts receivable $14,380 Cash and cash equivalents 753 Vehicles held for sale 284 Property and equipment 222 Customer lists 2,175 Dealer network 2,200 Other assets 835 ------- Total estimated fair value of assets acquired 20,849 ------- Liabilities assumed 18,239 Fair value of Search equity instruments issued, including redeemable warrants treated as debt 4,795 Direct acquisition costs 143 ------- Total cost $23,177 ------- Cost in excess of fair value of net assets acquired and other identifiable intangibles $ 2,328 =======
The Company periodically evaluates the recoverability and remaining life of the excess value and determines whether it should be completely or partially written-off or the amortization period accelerated. The Company will recognize an impairment of excess value to the extent that the undiscounted estimated future operating cash flows of the acquired assets are determined to be less than the carrying amount of the excess value. If an impairment of excess value were to occur, the Company would reflect the impairment through a reduction in the carrying value of such excess value. The Warrants issued in both the USLC and DACC transactions have redemption features which require the Company to redeem all unexercised warrants at $2.00 for each share of stock subject to the Warrants in March 2001. The Warrants are considered debt and have been recorded at their estimated fair value. The accretion from fair value to redemption amount is recorded as interest expense over the term of the warrants using the interest method. In September 1996, the Company acquired approximately $12,000,000 in gross receivables from Eagle Finance Corp. for a total cash price of approximately $9,600,000. In November 1996, the Company acquired approximately $21,000,000 in gross receivables from MS Financial, Inc. for a total cash price of approximately $14,400,000. The receivables were purchased at a premium over the net assets acquired. The premiums are amortized over the life of the related portfolio as an adjustment to yield using the interest method. 5. TRANSACTIONS WITH HALL AND AFFILIATES In November 1995, Search entered into a Funding Agreement (the "Funding Agreement") with Hall Financial Group, Inc. ("HFG"). Pursuant to the Funding Agreement, HFG made loans totaling $2,283,000 (the "HFG Notes") to Search. The HFG Notes could, at the election of HFG or its assignee, be converted into a maximum of 312,500 shares of Search common stock. Effective April 2, 1996, HPIL, as assignee of the HFG Notes, converted the HFG Notes into 312,500 shares of Search common stock. Because the conversion price 11 12 specified in the HFG Notes for these shares was less than the full amount due under the HFG Notes, Search paid to HPIL the remaining portion of the debt evidenced by the HFG Notes ($567,000) in cash. The Funding Agreement also provided to HFG the option to purchase common stock, 9%/7% convertible preferred stock, and Warrants. Effective April 2, 1996, HPIL, as assignee of HFG, fully exercised this purchase option by paying $4,346,000 to Search for 204,800 shares of common stock, 254,100 shares of 9%/7% convertible preferred stock, and warrants to purchase 484,522 shares of common stock, including Warrants to purchase 84,522 shares. Pursuant to the Funding Agreement, HFG designated two nominees who were elected to Search's Board of Directors. In October 1996, the two directors filed suit against Search seeking access as directors to certain of the Company's books and records and Search initiated legal action against the two directors and HPIL. In November 1996, the Company, the two directors and HPIL entered into a settlement agreement. As a result of the agreement, Search paid HPIL $4,000,000 in cash and executed a $5,000,000 subordinated note (see Note 7) to repurchase from HPIL and the directors all of their 517,300 shares of common stock, 254,100 shares of 9%/7% convertible preferred stock and warrants to purchase 484,522 shares of common stock, including Warrants to purchase 84,522 shares, and to settle all claims against Search. The parties also agreed to dismiss all litigation and mutually release each other, and the two directors resigned from the Board of Directors. The value of the settlement approximated the market value of the securities acquired by the Company at the date of the agreement. The maturity date of the subordinated note is November 21, 2000; however, the note must be repaid in full earlier if the Company sells more than, or in a proportionate amount if the Company sells less than, $20,000,000 of equity or certain debt securities for cash (see Note 19). 6. CONTRACTS RECEIVABLE, ALLOWANCE FOR CREDIT LOSSES AND INTEREST INCOME The Company records receivable purchases at cost. Contractual finance charges are recorded as unearned interest and amortized to interest income using the interest method. As discussed below, amortization of interest income ceases upon impairment. An initial allowance for credit losses is recorded at the acquisition of a receivable equal to the difference between the amount financed and the acquisition cost, which is what the Company estimates to be fair value. An additional allowance may be recorded at acquisition if it is determined that the discount recorded as an allowance is not adequate to cover expected losses. In accordance with SFAS No. 114, receivables are analyzed on a loan-by-loan basis. The Company evaluates the impairment of receivables generally based on the receivables' contractual delinquency. The Company considers receivables that are contractually delinquent 60 days or more or with respect to which the underlying collateral has been repossessed to be impaired. When the receivable is considered impaired, interest income ceases to be recognized. Once impaired, the Company looks to the underlying collateral for repayment of the receivable. Therefore, at impairment, the Company writes down the receivable to its estimated net realizable value, which is the fair value of the underlying collateral if it has been repossessed or the estimated recoverable cash flow if no repossession has occurred. If the measured amount of the receivable is less than the Company's net recorded investment in the impaired receivable, the Company recognizes a charge to provision for credit losses in the amount of the deficiency and increases the allowance for credit losses by a corresponding amount. The provision for credit losses is adjusted for any differences between the final net proceeds from resale of the underlying collateral and the estimated net realizable value. Generally, the Company charges off a receivable against the allowance for credit losses at 180 days contractual delinquency, if no significant payments have been received in the last six months, or, if earlier, after receipt of the sale proceeds from liquidation of the collateral securing the receivable. Subsequent proceeds received on a previously charged-off receivable are recorded as a recovery to the allowance for credit losses. Any excess of cost paid ("premium") for net receivables acquired is recorded as an asset and amortized over the life of the related loans acquired as an adjustment to yield using the interest method. 12 13 The Company's receivables, allowance for credit losses and net receivables after allowance for credit losses, excluding net loan origination costs, are summarized below on a consolidated basis (in thousands):
Net Allowance Receivables Total for After Allowance Number of Unpaid Unearned Credit for As of March 31, 1997 Receivables Installments Interest Losses Credit Losses - --------------------- ----------- ------------ -------- ------ ------------- Impaired receivables 465 $ 2,269 $ 334 $ 993 $ 942 Unimpaired receivables 8,956 60,056 10,302 4,861 44,893 --------------------------------------------------------------------- Total 9,421 $62,325 $10,636 $ 5,854 $45,835 ===================================================================== As of March 31, 1996 - --------------------- Impaired receivables(1) 421 $ 2,091 $ 380 $ 1,711 $ - Unimpaired receivables(1) 7,575 34,995 6,055 11,642 17,298 --------------------------------------------------------------------- Total 7,996 $37,086 $ 6,435 $ 13,353 $17,298 ===================================================================== As of September 30, 1995 - ------------------------ Impaired receivables 2,323 $12,919 $ 1,644 $ 11,275 $ - Unimpaired receivables 9,805 53,758 11,462 7,348 34,948 --------------------------------------------------------------------- Total 12,128 $66,677 $13,106 $ 18,623 $34,948 =====================================================================
(1) Status as defined in the previous paragraphs of this Note. Certain unimpaired receivables may be considered problem loans. The change in the allowance for credit losses is summarized as follows (in thousands):
March 31, March 31, September 30, 1997 1996 1995 --------- --------- ------------- Balance, beginning of period $ 13,353 $18,623 $44,633 Allowance recorded upon purchase of receivables 9,908 2,194 9,613 Increase in allowance for credit losses 1,774 4,982 3,128 Proceeds received on previously charged-off - accounts 2,448 2,296 Reclassification for inventory value (855) 1,238 (1,809) Receivables charged off against allowance (11,983) (15,980) (36,942) Reduction in allowance for credit losses (8,791) - - -------- ------- ------- Balance, end of period $ 5,854 $13,353 $18,623 ======== ======= ======= Net credit losses as a percent of average net receivables 30% 36% 56%
The allowance for credit losses contained both a provision for anticipated loan losses and a reduction of the provision for loan losses from prior estimates for the year ended March 31, 1997 as follows (in thousands).
March 31, 1997 -------------- Provision for loan losses $ 1,774 Reduction in allowance (8,791) -------- Net effect on statement of operations 7,017 Less proceeds received on previously charged-off accounts 2,448 -------- Non cash reduction of credit loss provision $ 4,569 ========
No reconciliation of the credit loss provision is provided for 1996 and 1995 as there was no reduction in the allowance for credit losses in those years. 13 14 The effect of non-accrual receivables on interest income in each of the following periods was as follows (in thousands):
Six Months Year Ended Ended Year Ended March 31 March 31, September 30, 1997 1996 1995 -------- ---------- ------------- Interest income As originally contracted $606 $1,480 $ 4,522 As recognized (211) (98) (1,033) ---- ------ -------- Reduction of interest income $395 $1,382 $ 3,489 ==== ====== ========
There were no commitments to lend additional funds to customers whose loans were classified as non-accrual as of March 31, 1997 and 1996, and September 30, 1995. At March 31, 1997, contractual maturities of receivables were as follows (in thousands):
2001 and 1998 1999 2000 Thereafter Total -------- --------- -------- ---------- ------- Future payments receivable $28,541 $18,710 $11,359 $3,715 $62,325 Less unearned interest 5,424 3,404 1,276 532 10,636 ------- ------- ------- ------ ------- Net contracts receivable $23,117 $15,306 $10,083 $3,183 $51,689 ======= ======= ======= ====== =======
In the opinion of management, a portion of the receivables at March 31, 1997 will be repaid or extended either before or past the contractual maturity date. In addition, some of those receivables will be charged off before maturity. The above tabulation, therefore, is not to be regarded as a forecast of future cash collections. The Company's receivables are generally installment receivables having a fixed annual percentage rate ("APR"). These receivables are predominantly secured by motor vehicles, although during the fiscal year ended March 31, 1997, the Company commenced making and acquiring non-auto consumer loans that may be secured or unsecured. The obligors of the Company's receivables are domestically-based at the time the receivables are originated or purchased by the Company from a dealer, and the Company has no material amount of foreign receivables. Receivables will become nonaccrual status due to their contractual delinquency exceeding 60 days or due to repossession of underlying collateral. The Company also considers certain delinquent receivables that are in the contractual status of less than 60 days past due to be potential problem receivables. Uncertainty as to overall economic conditions, regional considerations, and current trends in portfolio growth cause the Company to review these receivables for potential problems. The Company considers Texas and Tennessee to be states with receivable concentrations, because receivables with obligors in each of these states exceed 10% of total outstanding receivables. Most of the Company's receivables are due from individuals located in large metropolitan areas of Texas and other southern and western states. To some extent, realization of the receivables will be dependent on local economic conditions. The Company holds vehicle titles as collateral for all motor vehicle receivables until such receivables are paid in full. 14 15 7. NOTES PAYABLE AND ACCRUED INTEREST Notes payable at March 31, 1997 consist of the following (in thousands): Subordinated note payable to HPIL, bearing interest, due monthly, at 14% through May 1996, 15% thereafter through November 1997, 16% thereafter through May 1998 and 17% thereafter; principal due on the earlier of (i) November 21, 2000 or (ii) the sale by the Company for cash of any equity securities or subordinated debt, in which event all principal is payable if at least $20,000,000 is sold or a proportionate portion is payable if less than $20,000,000 is sold (see Note 5). $ 5,000 Note payable to banks, bearing interest at prime rate plus 1% (9.50% at March 31, 1997), due monthly, requiring monthly principal payments equal to the positive difference between all cash proceeds received by SFIV during the month and the sum of all operating expenses incurred by SFIV during the month, with remaining principal due August 2, 1997, collateralized by all assets of SFIV totaling $14,479,000 at March 31, 1997 (see Note 4 ). 9,596 ------- Total notes payable $14,596 =======
During March 1996, as a result of the confirmation of the Joint Plan (see Note 2), $69,320,000 of debt and accrued interest was extinguished in exchange for common stock, 9%/7% convertible preferred stock, Warrants and other provisions of the Joint Plan. The extinguishment of debt resulted in a net extraordinary gain of $8,709,000. The following table shows the components of the gain (in thousands): Total Notes and accrued interest $ 69,320 Value of exchange (56,367) Administrative claims (2,400) Unamortized debt offering costs (1,844) --------- Net gain of debt extinguishment $ 8,709 =========
Certain of the Fund Subsidiaries stopped accruing interest on the remaining unpaid principal of these notes as of their maturity. As these Fund Subsidiaries defaulted, it was management's position that the accrual of interest was not warranted since the Fund Subsidiaries did not have sufficient assets to fully retire the principal portion of their notes. The August 1995 bankruptcy filing of the individual Fund Subsidiaries was an event of default for each of the Fund Subsidiaries under the terms of its indenture agreement. In accordance with SOP 90-7, contractual interest obligations, which are relieved from payment as a result of the Chapter 11 proceedings, are not accrued. Therefore, no interest expense was recorded for the six months ended March 31, 1996. For the year ended September 30, 1995, contractual interest on the above obligations amounted to $12,453,000 which was $1,500,000 in excess of reported interest expense (see Note 2). 8. LINES OF CREDIT In September 1996, Search Funding II, Inc. ("SFII"), a wholly-owned subsidiary of Search, entered into a revolving credit agreement (the "Line") with Hibernia National Bank ("HNB"). The Line bears interest at the prime rate plus 1% (9.50% at March 31, 1997) and is guaranteed by Search. The Line has a maximum commitment of $25,000,000 and is limited to a percentage of eligible contracts held by SFII. The Line is secured by all SFII assets totaling $23,865,000 at March 31, 1997 and expires on September 11, 1999. Search and SFII must comply with covenants that require the maintenance of a minimum adjusted net worth of $20,000,000 and a leverage ratio of not more than 5 to 1. In June 1994, SFC entered into an agreement for a line of credit with General Electric Capital Corporation ("GECC"). The line of credit initially had a maximum borrowing commitment of $20,000,000 and was limited to a percentage of eligible contracts held by SFC. The line of credit was secured by all SFC assets and was guaranteed by 15 16 Search. The Joint Plan called for Search to fully satisfy its obligation to GECC. As a result, in March 1996, Search paid GECC $173,000, which included all principal and interest owing as of that date. This payment fully satisfied Search's obligation to GECC. 9. STOCKHOLDERS' EQUITY 12% Senior Convertible Preferred Stock. As of March 31, 1997, Search had issued 50,000 shares of its 12% senior convertible preferred stock. The 12% senior convertible preferred shares have a $.01 par value and a liquidation preference of $40.00 per share, plus accrued and unpaid dividends. The 12% senior convertible preferred shares are convertible at the option of the holder into one share of Search common stock for each share of 12% senior convertible preferred stock and entitle the holder to one vote per share. The shares carry a cumulative annual dividend of $4.80 per share, payable quarterly. Search may cause conversion of the shares to common stock or may redeem the shares at $40.00 per share, plus accrued and unpaid dividends, upon the occurrence of certain events specified in the Certificate of Designation for the 12% senior convertible preferred shares. 9%/7% Convertible Preferred Stock. As of March 31, 1997, Search had issued, or committed to issue, in connection with the Joint Plan 1,879,000 shares of the 9%/7% convertible preferred stock. During April 1996, Search issued an additional 254,100 shares of 9%/7% convertible preferred stock in connection with the HFG transaction. It repurchased these shares in November 1996 (see Note 5). The Company issued 319,257 shares of the 9%/7% convertible preferred stock in connection with its acquisition of the assets of DACC and certain indebtedness of DACC and 271,867 shares of the 9%/7% convertible preferred stock in connection with the acquisition of assets of USLC (see Note 4). The 9%/7% convertible preferred shares have a $.01 par value and a liquidation preference of $28.00 per share, plus accrued and unpaid dividends. The shares carry a non-cumulative annual dividend of $2.52 per share until March 31, 1999 and $1.96 per share thereafter. The 9%/7% convertible preferred shares are currently convertible at the option of the holder into two shares of common stock for each share of 9%/7% convertible preferred stock and entitle the holder to one vote per share. Search may cause conversion of the shares to common stock upon the occurrence of certain events specified in the Certificate of Designation for the 9%/7% convertible preferred stock. Any shares not converted prior to March 15, 2003 will automatically be converted into no more than three shares of common stock based on a formula specified in the Certificate of Designation. Common Stock. As of March 31, 1997, 3,162,997 shares of the common stock were outstanding. In addition, at that date there were outstanding various warrants and options to purchase a total of 1,114,399 shares of common stock, Search was obligated to issue 146,381 shares of common stock pursuant to the settlement of certain litigation in April 1996 (see Note 16) and Search had committed to issue warrants and options to purchase an additional 812,500 shares of common stock, including Warrants to purchase 625,000 shares. Warrants. Search is authorized to issue Warrants to purchase up to 10,000,000 shares of common stock pursuant to a warrant agreement dated as of March 22, 1996, as amended. Warrants to purchase 625,000 shares are to be issued to noteholders and other unsecured claim holders under the Joint Plan (see Note 2), and Warrants to purchase 314,589 shares of common stock issued in connection with the acquisition of the assets of DACC and USLC are outstanding (see Note 4). Warrants to purchase 84,522 shares of common stock, and other warrants to purchase 375,000 shares of common stock, were repurchased from HPIL in November 1996 (see Note 5). The exercise price per share of the Warrants is $18.00 and increases by $2.00 on March 15 of each successive year through 2000. The Warrants will expire on March 14, 2001, at which time Search must redeem all unexercised Warrants at a redemption price of $2.00 per share. Because the Warrants must be redeemed if not exercised, they have been classified outside of permanent equity as debt at fair value. An accretion to the redemption amount of $1,879,000 will be made over the term of five years using the interest method. Employee Stock Options and Other Common Stock Warrants. On August 1, 1994, the Board of Directors adopted, subject to stockholder approval, the 1994 Employee Stock Option Plan (the "Plan"). The Plan was approved by Search's stockholders at their annual meeting held in May 1995. Employees of the Company and directors of 16 17 subsidiaries are eligible to participate in the Plan. As of March 31, 1997, approximately 160 persons were eligible to participate. The Plan expires on July 31, 2004, although any option outstanding on such date will remain outstanding until it either has expired or has been fully exercised. The Plan is administered by the Compensation Committee of the Board. Options granted under the Plan generally are not transferable other than by will or by the laws of descent and distribution. The options usually vest over a three-year period. A total of 625,000 shares of common stock has been reserved for sale upon exercise of options granted under the Plan. As of March 31, 1997, options to acquire approximately 400,000 shares of common stock were outstanding under the Plan and 118,000 were vested as of March 31, 1997. In addition, Search had committed to issue to an executive officer of the Company options or cashless warrants, at the officer's option, for 187,500 shares of common stock upon certain financial performance or stock price targets being attained. The Company has issued to non-employee directors, key employees and certain consultants cashless warrants, the purposes of which are similar to those of grants of options under the Plan. These cashless warrants are immediately vested, are exercisable for 10 years, are transferable and are generally granted at not less than market value at the date of grant. As of March 31, 1997, cashless warrants to purchase 372,500 shares of common stock and other warrants (excluding the Warrants) to purchase 31,250 shares of common stock were outstanding. During the fiscal year ended March 31, 1997, Search issued options to employees to purchase 269,625 shares of common stock under the Plan and issued cashless warrants to purchase 198,125 shares of common stock to non-employee directors of, and consultants to, Search at average exercise price of $7.20. During the six months ended March 31, 1996, Search issued options to employees to purchase 230,000 shares of common stock under the Plan and cashless warrants to purchase 436,000 shares of common stock to non-employee directors, key employees and consultants at an average exercise price of $10.08. Certain options issued during the year ended September 30, 1995 were repriced to reflect the current market prices at that time. During the fiscal year ended September 30, 1995, options to acquire 113,813 shares of common stock were issued to officers and employees of the Company at average exercise price of $12.84. During the six months ended March 31, 1996, 4,480 warrants were exercised at an average price of $2.68 per share. Recent Accounting Pronouncement. The Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 123, "Accounting for Stock-Based Compensation" (SFAS 123), in October 1995 to establish accounting and reporting standards for stock-based employee compensation plans such as stock option and restricted stock plans. SFAS 123 defines a fair value-based method of accounting for compensation expense for stock-based plans and encourages all entities to adopt that method of accounting. Entities electing to remain with the accounting treatment outlined in APB Opinion No. 25, "Accounting for Stock Issued to Employees," are required to make pro forma disclosures of net income and net income per share as if the fair value based method had been adopted. The Company accounts for its stock-based compensation under APB Opinion No. 25 under which no compensation cost has been recognized. Had compensation costs for stock-based compensation been determined consistent with SFAS No. 123, the Company's net loss and loss per common share would have been adjusted to the following pro forma amounts for options and warrants issued during the periods shown below (in thousands, except per share data):
Six Months Ended Fiscal Year Ended March 31, 1996 March 31,1997 ----------------- ------------------- Net loss attributable to common stockholders: As reported $2,998 $4,871 Pro forma 3,418 5,633 Net loss per share As reported 2.29 1.45 Pro forma 2.62 1.67
The fair value of each option and warrant grant is estimated on the date of grant using an option pricing model with the following weighted average assumptions used for grants in fiscal 1996 and 1997: risk-free investment rate of 17 18 6.22 in 1996 and 6.37 in 1997, no expected dividends, expected life of ten years, and expected volatility of 53% in both years. 10. STOCK CANCELLATION AND STOCK REPURCHASE AGREEMENT In May 1995, Search purchased from one of its directors 62,500 shares of Search's common stock for $18 per share, market value on that date. Simultaneously with the purchase, the director resigned from the Board. Search was also given an irrevocable proxy expiring in May 1997 to vote 101,515 shares of common stock held by a trust formed by the former director. These shares held by the trust and an additional 13,902 shares held by an individual retirement account of the former director were subject to a "put" to the Company in May 1997 for $18 per share, the market value at the date of the agreement. These shares are shown on the balance sheet outside of permanent equity at the redemption price. If these redeemable shares were excluded from net loss per share, the fiscal 1997, 1996 and 1995 loss per share would be $(1.49), $(2.48) and $(19.76), respectively. In May 1997, the Company repurchased all of the shares held by the trust and the director's retirement account for a total cash price of $2,078,000. 11. RELATED PARTY TRANSACTIONS In April 1997, the Company commenced a private offering to accredited investors of up to $35 million of subordinated notes with warrants to purchase shares of common stock. Inter-Atlantic Securities Corp. ("Inter-Atlantic") is one of the placement agents for the offering. A director of Search is a senior partner of Inter-Atlantic. The Company has paid Inter-Atlantic a marketing fee of $60,000, and has and will continue to reimburse it for expenses it incurs, in connection with the offering. Pursuant to its agreement with Inter-Atlantic, if the offering is consummated, the Company will pay Inter-Atlantic a placement fee equal to 3% of the principal amount of subordinated notes sold. One-half of the fee will be paid in cash and one-half will be paid in subordinated notes with warrants. The Company also engaged Inter-Atlantic to act as its exclusive agent for raising senior debt in the form of warehousing lines of credit from securities firms during the fiscal year ended March 31, 1997. For such services, the Company has agreed to pay Inter-Atlantic a fee equal to .375% of the principal amount of such senior debt from firms contacted by Inter-Atlantic on the Company's behalf. In May 1996, the Company retained Alex. Brown & Sons, Incorporated ("Alex. Brown") to act as the Company's financial adviser for an initial term of one year. The agreement renews from year-to-year thereafter and provides for an annual retainer which is credited against compensation with respect to particular transactions. A director of Search is a Managing Director of Alex. Brown. The Company paid $288,000 to Alex. Brown in 1996. Alex. Brown has served as financial advisor to the Company in connection with the Company's proposed acquisition of MS Financial, Inc. The Company has agreed to pay Alex. Brown a fee of $175,000 upon consummation of such acquisition, and to pay Alex. Brown a fee of $50,000 for rendering its opinion regarding the fairness of the acquisition to the Company from a financial point of view. Alex. Brown also conducted a valuation of the securities issued by the Company in its acquisition of certain assets and liabilities of DACC. The Company agreed to pay Alex. Brown a $75,000 fee for this valuation analysis. In July 1996, the Company implemented a loan program for its directors and senior executive officers to finance the purchase of shares of common stock and 9%/7% convertible preferred stock in open market transactions. The loans are evidenced by promissory notes from the borrowers, bear interest at the prime rate, payable quarterly, and mature three years from the date made. The shares of stock purchased with the proceeds of the loans are pledged to the Company as security for the loans. The aggregate amount of these loans outstanding at March 31, 1997 was $1,212,255. Consulting fees of approximately $24,000 were paid to a former director for work relating to potential receivables portfolio purchases in fiscal 1997. 18 19 Brean Murray & Co., Inc. ("BMCI") received a $200,000 success fee from Search on March 25, 1996, subsequent to confirmation of the Joint Plan. The Chairman of BMCI is a director of Search. Additional related party transactions are described in Notes 9 and 10. 12. INCOME TAXES The Company does not have a provision for income tax expense for the year ended March 31, 1997 as its income is completely offset by the utilization of its net operating loss carry-forwards. The Company files a consolidated income tax return. The components of the Company's net deferred tax asset as of March 31, 1997 are as follows (in thousands):
March 31, March 31, 1997 1996 --------- --------- Deferred tax asset: - ------------------- Allowance for credit losses & $ 1,711 $ 1,260 inventory reserve Net operating loss carry-forwards 18,394 13,000 Other tax credit carry-forwards 90 90 Accrued settlement costs - 170 Valuation allowance (20,195) (14,520) --------- ---------- Total deferred tax asset $ - $ - ========= ==========
In assessing the realizability of deferred tax assets, management considers whether it is more likely than not that some portion or all of the deferred tax assets will not be realized. The ultimate realization of deferred tax assets is dependent upon the generation of future taxable income during the periods in which those temporary differences become deductible. Management considers the scheduled reversal of deferred tax liabilities, projected future taxable income and tax planning strategies in making this assessment. Based upon the level of taxable losses in the current and prior years and uncertainties for future taxable income over the periods which the deferred tax assets are deductible, management believes it is more likely than not that the Company will not realize the benefits of these deductible differences and has fully offset the net deferred tax asset with a valuation allowance. Future changes in the valuation allowance will be recorded as a component of net income or loss on the statement of operations. At March 31, 1997, the Company had a net operating loss carryforward for Federal income tax purposes of approximately $54,100,000 which will expire, if unused, in the following years (in thousands):
Years of Expiration Amount ------------------- ------ 2009 $27,200 2010 16,320 2011 4,060 2012 6,520 ------- Total $54,100 =======
The debt-to-equity conversion effected pursuant to the Joint Plan resulted in approximately $8,709,000 of debt discharge income in 1996. Additionally, this debt-to-equity conversion resulted in an ownership change as defined under Section 382 of the Internal Revenue Code. This has resulted in a limitation on the utilization of the net operating losses incurred prior to March 31, 1996 of approximately $3,000,000 per year. 19 20 13. COMMITMENTS The Company commenced operation of six new leased consumer loan facilities during fiscal 1997 in Dallas, Texas, Baton Rouge, Louisiana, Atlanta, Georgia, Carolina, Puerto Rico, Bayamon, Puerto Rico, and Oklahoma City, Oklahoma. The leases on these facilities expire through 2002. In May 1997, the Company signed a 58-month lease for its new office headquarters located in Dallas, Texas. In April 1996, the Company signed a 60-month lease for approximately 6,000 square feet of space in Dallas, Texas to serve as the Company's collection center. Total operating lease commitments of the Company are as follows (in thousands):
Year Ending March 31, ------------------------------------------------------------------------------- 1998 1999 2000 2001 2002 Thereafter -------- -------- ------- -------- -------- -------------- Office leases $826 $839 $833 $803 $781 $563 Office equipment leases 139 77 9 - - - ---- ---- ---- ---- ---- ---- Total operating leases $965 $916 $842 $803 $781 $563 ==== ==== ==== ==== ==== ====
In addition to the operating leases, the Company has one capitalized lease with payments of $81,000 per year through 1998 and $67,000 in 1999. 14. CHANGE IN FISCAL YEAR In 1996, the Company changed its fiscal year end to March 31. The following table reflects the unaudited comparable period of fiscal 1995 (in thousands except share data):
Six months ended March 31, 1995 ----------------- Interest revenue $ 8,694 Interest expense 6,437 -------- Net interest income 2,257 Provision for credit losses 5,337 -------- Net interest loss after provision for credit losses 3,080 Operating expenses 7,221 -------- Net loss 10,301 Preferred stock dividends 120 -------- Net loss attributable to common shareholders $ 10,421 ======== Net loss per common share $ 8.96 ======== Weighted average number of common shares 1,162 ========
The adjustments to the March 31, 1995 interim financial statement consist of only normal recurring adjustments. 15. FAIR VALUE OF FINANCIAL INSTRUMENTS Statement of Financial Accounting Standards No. 107, "Disclosures About Fair Value of Financial Instruments," requires that the Company disclose estimated fair values for its financial instruments. Because no market exists for a significant portion of the Company's financial instruments, fair value estimates are based on judgments regarding future expected loss experience, current economic conditions and other factors. These estimates are 20 21 subjective in nature and involve uncertainties and matters of significant judgment and, therefore, cannot be determined with precision. Changes in assumptions significantly affect the estimates and, as such, the derived fair value may not be indicative of the value negotiated in an actual sale and may not be comparable to that reported by other companies. In addition, the fair value estimates are based on existing financial instruments without attempting to estimate the value of anticipated business and the value of assets and liabilities that are not considered financial instruments. In addition, the tax ramifications related to the realization of unrealized gains and losses can have a significant effect on fair value estimates and have not been considered in the estimates. Fair value estimates for significant financial instruments are set forth below (in thousands):
Carrying Estimated value fair value -------- ---------- March 31, 1997 Net contracts receivable $51,689 $49,621 ======= ======= March 31, 1996 Net contracts receivable $30,651 $26,360 ======= =======
16. SETTLEMENT OF O'SHEA CLASS ACTION LAWSUIT On July 7, 1994, a class action civil lawsuit was filed against Search, certain of its officers and directors, one of its former accounting firms and the lead underwriter and one of its principals involved in the issuance of Search's common stock. This action was filed in the United States District Court for the Northern District of Texas, Dallas Division, and was styled Ellen O'Shea, et al v. Search Capital Group, Inc., et al. In July 1994, similar actions styled John R. Boyd, Jr., et al. v. Search Capital Group, Inc., et al, and Gary Odom v. Search Capital Group, Inc., et al, were also filed. The above cases were consolidated in September 1994 (the "O'Shea Class Action Suit"). The O'Shea Class Action Suit was filed on behalf of all purchasers of Search's common stock during the period beginning December 10, 1993 and ending through July 5, 1994, which was the date that Search made a public announcement regarding lower earnings. The O'Shea Class Action Suit contended that Search made misstatements in its registration statements concerning the Company's computerized system, accounting methodologies used by the Company, collectibility of its receivables and repossession rates of autos that secured its receivables. The plaintiffs also complained of allegedly false public filings, press releases and reports issued during 1994. The plaintiffs sought damages, rescission, punitive damages, pre-judgment interest, fees, costs, equitable relief and or injunctive relief and such other relief as the court deemed just and proper. In April 1996, the court entered a Final Judgment and Order of Dismissal approving a settlement (the "Settlement") entered into between Search and counsel for the plaintiffs. The Settlement provided for a cash payment by Search of $287,000 and the issuance by Search of its common stock with a value of $2,613,000. As a result of the Settlement, Search issued 84,619 shares of its common stock and is committed to issue an additional 146,381 shares of its common stock. 17. LEGAL PROCEEDINGS The Company and ACAC are defendants in a pending civil action filed in the 153rd Judicial District Court, Tarrant County, Texas, styled Autostar Solutions, Inc. v. Tim Clothier and Automobile Credit Acceptance Corp., Cause No. 153-144940. The plaintiff in this action alleges the existence of a partnership between the plaintiff and another defendant and seeks damages, actual and exemplary, and an injunction for alleged conversion and misappropriation of certain property, including computer programs, allegedly owned by the plaintiff. In the petition, the plaintiff alleges that ACAC wrongfully assisted its co-defendant and tortiuously interfered with the plaintiff's contracts and business and has claimed, as actual damages, $680,000. The Company believes that these allegations 21 22 are without merit and intends to vigorously defend itself at trial, which is now scheduled in July 1997. No opinion can be given as to the final outcome of this lawsuit. The Company and certain of its former officers and directors are defendants in a case styled Janice and Warren Bowe, et. al. vs. Search Capital Group, Inc., et. al., Cause No. 1:95CV 649GR, filed in the Federal District Court for the Southern District of Mississippi. The plaintiffs, who are former holders of notes issued by three of the Fund Subsidiaries, allege violations of the securities laws by the defendants and seeks unspecified damages, rescission, punitive damages and other relief. The plaintiffs also seek establishment of a class of plaintiffs consisting of all persons who purchased notes issued by the three Fund Subsidiaries. Although no assurances can be given, the Company believes it has meritorious defenses to this action and will defend itself vigorously. The Company has been party to certain settlement negotiations with discussions of amounts payable by the Company ranging from reimbursements of expenses to $1,700,000 in cash and stock. However, as of May 23, 1997, negotiations have been suspended with no scheduled resumption. While the ultimate outcome of this litigation cannot be determined, management has established a reserve of $500,000 for expenses and losses from this litigation. There are presently no other legal proceedings, threatened or pending, relating to the Company which would, in the opinion of management, have a material impact on earnings or the financial condition of the Company. 18. MERGER AGREEMENT Search has entered into an Agreement and Plan of Merger dated as of February 7, 1997 (the "Merger Agreement") with MS Financial, Inc. ("MS") pursuant to which a wholly-owned subsidiary of Search will merge into MS (the "Merger"), resulting in MS becoming a wholly-owned subsidiary of Search. Pursuant to the Merger, each outstanding share of common stock of MS will be converted at the effective time of the Merger into the right to receive a fraction (the "Exchange Ratio") of a share of Search common stock determined by reference to the average price per share of the Search common stock for the 10-day trading period ending on the fifth business day prior to the special meeting of stockholders of MS at which the Merger Agreement will be considered for adoption (the "Average Trading Price"). The Exchange Ratio will equal $2.00 (the "Per Share Amount") divided by the Average Trading Price, subject to a maximum of .46 and a minimum of .34. The Per Share Amount and the maximum and minimum Exchange Ratios are subject to downward adjustment in certain circumstances. The Merger is subject to customary conditions, including stockholder approval and the finalization of acceptable arrangements with MS' lenders. Approval of the Merger by MS' stockholders requires the affirmative vote of a majority of the outstanding shares of common stock of MS. Pursuant to a Stockholders Agreement dated as of February 7, 1997, MS' principal stockholders, which together own approximately 77% of MS' outstanding common stock, have agreed to vote their shares in favor of the Merger. If the Merger Agreement is terminated under certain conditions, MS may be obligated to pay the Company a fee of $700,000. Further, the Merger Agreement calls for a monthly fee of $100,000 payable by MS to the Company for operational assistance to MS between February 7, 1997 and the consummation of the Merger. Such operational assistance fee is to be applied against the termination fee described above, if applicable. If the Merger Agreement is terminated under other conditions, Search may be obligated to pay MS a fee of $250,000. For the year ended December 31, 1996, MS reported interest income of $14,909,000, a net loss of $22,014,000 and a net loss per share of $2.11. 19. SUBSEQUENT EVENTS In April 1997, the Company commenced a private offering to accredited investors of up to $35 million of seven-year senior subordinated notes with warrants to purchase shares of Search's common stock. Additionally, the Company has signed a letter of intent to obtain a $100,000,000 warehouse line of credit with an investment banking firm. In addition to the $100,000,000 warehouse line of credit, the Company is also negotiating a $4,000,000 short-term line of credit with the same investment banking firm. 22 23 20. NONCASH ACTIVITIES During the 12 months ended March 31, 1997, the Company issued a $5,000,000 note payable in connection with the purchase of stock from HFG. Additionally, the Company had an increase in the valuation adjustment for inventory of $855,000, a decrease of $1,238,000 and an increase of $1,809,000 for the year ended March 31, 1997, six months ended March 31, 1996 and the year ended September 30, 1995, respectively. On April 2, 1996, HFG converted $2,283,000 in loans into 312,500 shares of common stock. During the year ended March 31, 1997, the Company acquired substantially all of the assets of DACC and USLC in stock transactions, for which the Company received cash, receivables, fixed assets and assumed certain liabilities (Note 4). Additionally, Alex. Brown converted fees owed for investment banking services into common stock during the year ended March 31, 1997. 23 24 SEARCH FINANCIAL SERVICES INC. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS General Search and its subsidiaries (the "Company") are involved in the purchase, origination and servicing of used motor vehicle and other consumer receivables. The Company's motor vehicle receivables are secured by used automobiles and light trucks which typically have been purchased by consumers with substandard credit histories at retail prices generally ranging from $5,000 to $15,000. The Company generally purchases these receivables from a network of unaffiliated new and used automobile dealers (the "Dealer Network"). The members of the Dealer Network generate the receivables and offer them for sale on a non-exclusive basis to the Company. The Company's acquisition in August 1996 of the assets of Dealers Alliance Credit Corp. ("DACC") enhanced the Dealer Network by providing new dealers as well as establishing a presence for the Company in the southeastern United States non-prime motor vehicle finance market. The Company from time to time makes bulk acquisitions of motor vehicle receivables. During fiscal 1997, the Company began administering its receivables purchasing, servicing and management activities utilizing a receivables management system (the "Norwest System") developed by Norwest Financial Information Systems Group, Inc. The Company uses the Norwest System in conjunction with the Company's proprietary Auto Note Management System software. The Company commenced its used motor vehicle receivables purchasing and servicing business in 1991. The Company opened its first non-automobile consumer finance office on November 1, 1996 in Baton Rouge, Louisiana and, at March 31, 1997, had established a total of eight non-auto consumer branch offices in Texas, Oklahoma, Louisiana, Tennessee and Puerto Rico. Non-auto consumer loans include retail sales finance loans, second mortgage real estate loans, and other consumer loans that may be secured or unsecured. The Company expects to continue its diversification and expansion in the consumer finance area by establishing 10 to 12 more offices during the fiscal year ending March 31, 1998. Prior to November 1994, the Company primarily financed the purchase of used motor vehicle receivables through the private and public sale of interest-bearing notes (the "Notes") issued by wholly-owned subsidiaries organized specifically for this purpose (the "Fund Subsidiaries") and through reinvestment of operating cash flow. Until March 1996, the purchasing of receivables for the Fund Subsidiaries was governed by trust indentures (the "Trust Indentures") which restricted management's ability to alter its receivables purchasing criteria. In March 1996, following confirmation of the Fund Subsidiaries' plan of reorganization under Chapter 11 of the U.S. Bankruptcy Code, the Notes and the indebtedness represented by the Notes, together with the related Trust Indentures, were canceled. At that time, the Company implemented its new receivables purchasing program (the "Preferred Program"). The Preferred Program continues to focus on the purchasing of used motor vehicle receivables whose obligors have non-prime credit histories, but places more emphasis on job, income and residence stability and re-established positive credit of the obligor than the Company's earlier program. The Company finances purchases under the Preferred Program with internally generated funds and other funds borrowed at interest rates lower than what were previously incurred. The Company anticipates lower repossession rates and higher repossession sale proceeds as a result of the stricter credit criteria of the Preferred Program. If the Company is unable to select the proper dealers, purchase contracts with obligors who meet its credit criteria, and realize collection proceeds in adequate amounts, the repossession rate and sale proceeds could be higher and lower, respectively, than anticipated. The terms of receivables under the Preferred Program generally range from 30 months to 60 months. 24 25 Results of Operations Comparison of Twelve-Month Period Ended March 31, 1997 to the Six-Month Period Ended March 31, 1996 Contract Purchasing Activity. The Company purchased 1,284 contracts under its new Preferred Program in non- bulk transactions during the twelve months ended March 31, 1997, compared to 1,169 contracts purchased under its prior program in non-bulk transactions during the six months ended March 31, 1996. The cost of these contract purchases for the twelve-month period ended March 31, 1997 was $13,395,000 ($10,424 per contract) compared to $5,471,000 ($4,680 per contract) for the six-month period ended March 31, 1996. The Company purchased 2,603 contracts in bulk purchase transactions at a cost of $24,966,000 ($9,591 per contract) during the twelve months ended March 31, 1997, compared to 41 contracts purchased in bulk purchase transactions at a cost of $69,000 ($1,683 per contract) during the six months ended March 31, 1996. The increase in the per contract cost of contracts purchased in non-bulk transactions of $5,752 under the Preferred Program is generally due to newer and lower-mileage vehicle, higher credit quality customers and higher wholesale and retail values per vehicle. The increase in the cost of contracts purchased in bulk purchase transactions of $7,908 is due to the Company purchasing contracts that involve higher credit quality obligors or higher value vehicle collateral than the contracts previously purchased by the Company, or both. The Company expects to continue to see an increase in its per contract cost under its Preferred Program when compared to purchases under the prior program. The Company's acquisitions of assets from DACC and U.S. Lending Corp. ("USLC") provided the Company with approximately 4,150 contracts with aggregate balances of $28,100,000, or an average balance of $6,771 per contract. Financial Results. Interest revenue increased to $10,004,000 for the twelve months ended March 31, 1997 from $3,541,000 for the six months ended March 31, 1996. Average interest earning net receivables for the six-month period ended March 31, 1996 were $34,790,000, compared to average interest earning net receivables of $41,065,000 for the twelve months ended March 31, 1997. The Company's acquisitions during the year increased the company's average interest earning net receivables which in turn increased the Company's revenue. Consummation of the acquisition of MSF will provide the Company with a substantially larger receivable portfolio which will generate interest revenue and a portfolio of securitized assets for which the Company expects to receive servicing fees. The acquisitions completed during fiscal 1997 provided over 70% of the growth in the Company's receivables portfolio. Interest expense increased from $1,306,000 for the six months ended March 31, 1996 to $2,306,000 for the twelve months ended March 31, 1997. The six months ended March 31, 1996 included interest expense related to a terminated line of credit and the amortization of offering costs on Fund Subsidiary debt. The twelve months ended March 31, 1997 included interest expense related to the Company's current line of credit and term note. Interest expense is expected to increase as the Company enters into additional financing transactions to expand its receivables portfolio. The outstanding principal balance of the indebtedness assumed by the Company in connection with its acquisition of the assets of DACC (the "DACC Debt"), which is required to be repaid by August 1997, averaged $13,078,000 for the portion of the twelve-month period ended March 31, 1997 following the acquisition. Interest expense includes the accretion in the value of the warrants issued in connection with the fund Subsidiaries plan of reorganization and the acquisition of the assets of DACC and USLC. The outstanding principal balance of the Company's line of credit with Hibernia National Bank averaged $19,395,000 during the twelve-month period ended March 31, 1997. The provision for credit losses decreased from $4,982,000 for the six months ended March 31, 1996 to a reduction of prior provisions for credit losses of $7,017,000 for the twelve months ended March 31, 1997, due primarily to increased recoveries from previously charged-off accounts and reduced provision requirements from the Company's portfolio of lower credit quality loans. During the twelve-month period ended March 31, 1997, the Company recovered $2,448,000 of proceeds from accounts previously charged off compared to recoveries of $2,296,000 for the six months ended March 31, 1996. The Company's remote collections facilities, which were opened during the second calendar quarter of 1995, have been successful in contacting and collecting chronically delinquent and charged-off accounts and locating accounts which had never previously paid. Additionally, the acquisitions of assets of DACC and USLC provided the Company with additional deficiency balances to collect, of which the Company collected approximately $425,000 during the fiscal year ended March 31, 1997. In the future, management anticipates lower recoveries of prior credit losses as these collections decrease and the portion of the Company's portfolio represented by non-auto consumer loans, which traditionally have lower charge off rates, increases. During the twelve months ended March 31, 1997, the Company received a settlement of $245,000 from a car dealer for deficiencies on sales of repossessed cars purchased from that dealer. During the twelve months ended March 31, 1997, the Company reduced its allowance for loan losses by $8,791,000, $2,448,000 of which was due to recovery proceeds and the remaining $6,343,000 of which was a non-cash reduction to reflect lower than anticipated losses from loans purchased under the Company's prior purchasing program. The Company expects to have lesser 25 26 reductions in the future due to lower cash recoveries on previously charged-off accounts and a receivable base which is more predictable as to loss rates and collectibility. During the twelve months ended March 31, 1997, the Company increased its allowance for loan losses by $1,774,000 to reflect an increase in anticipated losses from loans acquired in bulk purchase transactions and from DACC and USLC. The Company's annual chargeoffs, expressed as a percent of average net receivables decreased from 36% for the six-month period ended March 31, 1996 to 30% for the year ended March 31, 1997. The decrease is attributable primarily to the significant change in the Company's receivable portfolio from March 31, 1996 to March 31, 1997. As of March 31, 1996, all of the Company's loans were of a lower credit quality than loans being purchased under the Preferred Program. As of March 31, 1997, these lower credit quality loans had decreased to less than 15% of the total outstanding loans. New originations under the Preferred Program and bulk purchases of receivables offset the liquidation of the old, lower credit quality loans and represent approximately 85% of the total outstanding loans as of March 31, 1997. The Company's bulk acquisitions resulted in provision requirements of over $1,000,000 during the year ended March 31, 1997. The allowance for credit losses as a percent of net outstanding receivables has decreased from 44% as of March 31, 1996 to 11% as of March 31, 1997. The decrease is primarily attributable to the significant change in the Company's loan portfolio from March 31, 1996 to March 31, 1997. All the Company's loans as of March 31, 1996 were purchased under its prior purchasing program for lower credit quality loans. As of March 31, 1997, only approximately 15% of the Company's portfolio was represented by those loans. The remainder of the portfolio was compiled of new originations under the Company's Preferred Program and the receivables acquired in bulk purchases from Eagle and MSF and the receivables acquired in the acquisitions of DACC and USLC. General and administrative expenses increased from $8,098,000 for the six months ended March 31, 1996 to $13,432,000 for the twelve months ended March 31, 1997. Expenses associated with processing repossessions and personnel costs have been reduced on an annualized basis, and confirmation of the Fund Subsidiaries' plan of reorganization has substantially eliminated the professional fees related to the reorganization. The Company closed all three of its retail lots and its related make-ready facility, which were used to process repossessions, by March 31, 1996. The additional offices the Company expects to open for its consumer lending operations will increase the Company's occupancy and personnel costs. The Company plans to open between 10 and 12 offices during fiscal 1998. Most of these offices will be staffed with three to four personnel. It is anticipated that these offices will be located in the southwestern United States. During the six months ended March 31, 1996, the Company recorded a gain of $8,709,000 related to the extinguishment of debt of its Fund Subsidiaries and $535,000 in accruals primarily associated with the Bowe Action. During the year ended March 31, 1997, the Company accrued $40,000 for settlement of certain claims. Preferred stock dividends increased from $327,000 for the six months ended March 31, 1996 to $6,154,000 for the twelve months ended March 31, 1997. The increase of $5,827,000 is related to the issuance of 1,879,000 shares of the Company's 9%/7% convertible preferred stock upon confirmation of the Fund Subsidiaries' plan of reorganization, 319,000 shares of 9%/7% convertible preferred stock in connection with the acquisition of assets of DACC and 272,000 shares of 9%/7% convertible preferred stock in connection with the acquisition of assets of USLC. The Company does not have a provision for income tax expenses for the year ended March 31, 1997 as its income is completely offset by the utilization of its net operating loss carry-forwards of approximately $54,000,000. Comparison of the Period Ended March 31, 1996 to the Six Months Ended March 31, 1995 The Company changed its fiscal year from September 30 to March 31 in order to start a new fiscal year reflecting the Fund Subsidiaries reorganization which was effective March 15, 1995. Therefore, the comparison below compares the six months ended March 31, 1996 to the comparable six months ended March 31, 1995. Contract Purchasing Activity. The Company purchased 1,169 contracts, at a cost of $5,471,000, during the six months ending March 31, 1996 compared to 2,417 contracts, at a cost of $10,670,000, during the six months ending March 31, 1995. The decrease in contracts purchased of 1,248, or 52%, is a result of a decrease in the amount of funds available for reinvestment in contracts due to more Fund Subsidiaries being restricted from purchasing contracts in 1996 than during the six-month period in 1995. Virtually all of the contracts purchased during both periods were purchased under the criteria contained in the Trust Indenture for each Fund Subsidiary. Effective March 15, 1996, the Trust Indentures were canceled and all new originations are now under the Preferred Program. 26 27 Financial Results. For the six months ended March 31, 1996, the Company had interest revenue of $3,541,000 compared to $8,694,000 for the six months ended March 31, 1995. The decrease in interest revenue of $5,153,000, or 59%, is due to a decrease in average net interest earning receivables from $61,100,000, for the six months ended March 31, 1995, to $34,790,000, for the six months ended March 31, 1996. Interest expense decreased $5,131,000, or 80%, from $6,437,000 for the six months ended March 31, 1995 to $1,306,000 for the six months ended March 31, 1996. The decrease in interest expense is due primarily to termination of interest accrual on the debt of the Fund Subsidiaries as of the date of filing for Reorganization, August 15, 1995, or the debt's maturity date, whichever occurred first. See Note 2 of the Notes to Search's Consolidated Financial Statements included in Annex E. The decrease in interest expense was partially offset by the increase in interest expense associated with outstanding lines of credit. The provision for credit losses decreased $355,000, or 7%, from $5,337,000 for the six months ended March 31, 1995, to $4,982,000 for the six months ended March 31, 1996. The decrease in the provision for loan losses is due to adequate provisions for loan losses being provided in prior periods. General and administrative expenses increased $877,000 or 12% from $7,221,000 to $8,098,000. The increase in general and administrative expense is due to higher costs associated with repossessing vehicles and legal and administrative costs associated with effecting the Fund Subsidiaries plan of reorganization. Net loss for the six months ended March 31, 1996 was $2,998,000 compared to $10,421,000 for the six months ended March 31, 1995. The decrease in net loss is due primarily to $8,709,000 of gain on extraordinary items related to extinguishment of the debt of the Fund Subsidiaries. See Note 2 of Notes to Search's Consolidated Financial Statements included in Annex E. Liquidity and Capital Resources General The Company will be required to raise substantial amounts of cash to support its operating, financing and investing activities. Currently, the Company's principal cash requirements are to purchase receivables and originate loans and to pay operating expenses, preferred stock dividends and interest and principal on its indebtedness. The Company will be required to pay in full the outstanding balance of the DACC Debt on August 2, 1997. If the Merger is completed, the Company will be required to reduce certain revolving credit indebtedness owed by MSF, which was $68 million at April 30, 1997, by $25 million within six months and to repay this debt in full within one year after the Merger. Additionally, the Company was required to repurchase stock from a former director of the Company and a trust established by the director for $2,078,000 on May 8, 1997. The Company has a significant amount of cash and cash equivalents as of March 31, 1997, but this will not be sufficient to repay the DACC Debt, cover negative operating cash flows which the Company is experiencing, meet annual dividend requirements, currently over $6,000,000 for the fiscal year ending March 31, 1988, and pay the debts of MSF to the extent required if the Merger is completed. Additionally, the Company anticipates using cash on hand to fund the cash portion of any settlement of the Bowe action that may be finalized. The Company intends to invest a portion of its cash into non-prime automobile and consumer receivables. Additional liquidity will be necessary to support growth of the Company's loan portfolios and operations. Because the used motor vehicle and consumer finance industries require the purchase, origination and carrying of receivables, a relatively high ratio of borrowings to net worth is customary and will be an important element in the Company's operations. The Company will seek to leverage its net worth and any subordinated debt in the future to enhance its liquidity. Additionally, the Company will endeavor to maximize its liquidity by diversifying its sources of funds to include (a) cash from operations, (b) the securitization of receivables, (c) lines of credit from commercial banks and other financing sources, and (d) subordinated debt offerings. The Company has commenced a private offering to accredited investors of up to $35,000,000 of seven-year senior subordinated notes with warrants to purchase shares of Search Common Stock. A portion of the proceeds would be used to repay the outstanding balance of the DACC Debt and the Company's outstanding $5,000,000 of subordinated debt. The Company has also signed a letter of intent with respect to a $100 million, two-year revolving warehouse line of credit facility. The letter of intent is subject to certain conditions, including negotiation and execution of definitive facility documents and completion of due diligence by the lender. This lender has agreed to loan the Company up to $4,000,000 that would be used 27 28 to pay operating expenses, repay a portion of the DACC Debt or fund acquisitions. The loan is subject to completion of definitive loan documentation. Additionally, the Company is discussing with several commercial lenders, including banks and finance companies, arrangements for them to provide additional financing which would be utilized for purchases of receivables and/or operating entities. The Company is also seeking additional participants to expand its $25,000,000 line of credit with Hibernia National Bank. As of March 31, 1997, approximately $23,715,000 was outstanding under this line of credit. Search has entered into the Merger Agreement with MSF pursuant to which MSF will become a wholly-owned subsidiary of Search (the "Merger"). Pursuant to the Merger Agreement, each outstanding share of common stock of MSF will be converted at the effective time of the Merger into the right to receive a fraction (the "Exchange Ratio") of a share of Search Common Stock determined by reference to the average price per share of the Search Common Stock for the 10-day trading period ending on the fifth business day prior to the special meeting of stockholders of MSF at which the Merger Agreement will be considered for adoption (the "Average Trading Price"). The Exchange Ratio will equal $2.00 (the "Per Share Amount") divided by the Average Trading Price, subject to a maximum of .46 and a minimum of .34. The Per Share Amount and the maximum and minimum Exchange Ratios are subject to a downward adjustment in certain circumstances. The Merger is subject to customary conditions, including stockholder approval and the finalization of acceptable arrangements with MSF's lenders. Approval of the Merger by MSF's stockholders requires the affirmative vote of a majority of the outstanding shares of MSF Common Stock. Pursuant to a Stockholders Agreement dated as of February 7, 1997, MSF's principal stockholders, which together own approximately 77% of MSF's outstanding common stock, have agreed to vote their shares in favor of the Merger. If the Merger Agreement is terminated under certain conditions, MSF may be obligated to pay Search a fee of $700,000. Further, the Merger Agreement calls for a monthly fee of $100,000 payable to MSF to Search for operational assistance to MSF prior to consummation of the Merger. Such operational assistance fee is to be applied against the termination fee described above, if applicable. If the Merger Agreement is terminated under other conditions, Search may be obligated to pay MSF a fee of $250,000. For the year ended December 31, 1996, MSF reported interest income of $14,909,000, a net loss of $22,014,000 and a net loss per share of $2.11 At March 31, 1997, MSF had gross contracts receivable of approximately $98 million and an additional approximately $33 million of gross contracts receivable that it serviced. The Company intends to evaluate and pursue acquisition opportunities that the Company anticipates will enable it to grow its receivable base. The Company will consider all forms of financing available to it with respect to any particular acquisition, including additional borrowings and sales or exchanges of equity or debt securities. The Company's ability to acquire additional portfolios and companies is dependent on its obtaining additional financing. Principal Source and Uses of Cash in Operating Activities The principal source of cash from operating activities is provided by net interest income. The principal uses of cash in operations are for general and administrative expenses, non-recurring expenses and payments relating to previously accrued expenses. Comparison of Operating Cash Flows for the Twelve Months Ended March 31, 1997 to the Six Months Ended March 31, 1996 and for the Six Months Ended March 31, 1996 to the Twelve Months Ended September 30, 1995 During the twelve months ended March 31, 1997, the Company utilized $5,947,000 of cash in its operations compared to $4,141,000 of cash being utilized in operations during the six months ended March 31, 1996. The increase of $1,806,000 is primarily due to a decrease in accounts payable and accrued expenses of $5,290,000 and a reduction in the provision for credit losses of $4,569,000 for the twelve months ended March 31, 1997 as compared to a decrease in accounts payable and accrued expenses of $449,000 and an increase in the provision for credit losses of $4,982,000 for the six months ended March 31, 1996. Additionally, the Company had a non-cash gain from the conversion of debt to equity of $8,709,000 in the six-month period ended March 31, 1996. During the six months ended March 31, 1996, the Company utilized cash of $4,141,000 in its operations as compared to cash of $10,741,000 used during the twelve months ended September 30, 1995. The net loss for the six months ended March 31, 1996 decreased to $2,671,000 from a net loss of $19,894,000 for the year ended September 30, 1995. A significant portion of the decrease in loss from 1995 to 1996 resulted from the extraordinary gain on debt extinguishment. 28 29 General and administrative expenses decreased from $15,881,000 to $8,098,000, while settlements and reorganization expenses decreased by $2,617,000 from $3,152,000 to $535,000. The decrease in general and administrative expenditures is due to there being only six months included in the 1996 fiscal period compared to twelve months included in the 1995 fiscal period. The Company anticipates having negative operating cash flows in the foreseeable future as it continues to seek to expand its Dealer Network and consumer finance operations in order to grow its receivable base. The Company will be required to cover any negative operating cash flows from its cash on hand, from the possible financing sources referred to under "General" if available, or from other sources until the Company's receivable base is large enough to cover operating expenses. Principal Sources and Uses of Cash Provided by Investing Activities The principal sources of cash from investing activities are principal payments on receivables and proceeds from the sale of repossessed vehicles and other collateral. The principal uses of cash in investing activities are for purchasing receivables, making consumer loans and purchases of property and equipment. Comparison of Investing Cash Flows for the Twelve Months Ended March 31, 1997 to the Six Months Ended March 31, 1996 and for the Six Months Ended March 31, 1996 to the Twelve Months Ended September 30, 1995 Cash used by investing activities increased by $32,620,000 from cash provided by investing activities of $20,423,000 for the six months ended March 31, 1996 to cash used in investing activities of $12,197,000 for the twelve months ended March 31, 1997. The increase is primarily due to an increase of $35,272,000 in contract purchases and is partially offset by a corresponding increase in collections of $11,481,000. During the twelve months ended September 30, 1995, the Company's investing activities provided cash of $17,592,000 as compared to cash of $20,423,000 provided by investing activities during the six months ended March 31, 1996. This change resulted primarily from reduced contract purchases of $19,359,000 and an increase in unrestricted cash of $12,624,000, partially offset by a decrease in collection proceeds of $29,731,000. Upon confirmation of the Fund Subsidiaries' plan of reorganization, $21,600,000 in cash was released from the Fund Subsidiaries to Search. The Company anticipates encountering negative cash flows from investing activities in the foreseeable future as it continues to seek to expand its non-prime automobile receivable base by expanding into more states and increasing market penetration in existing states and continues its expansion into consumer finance. Principal Sources and Uses of Cash Provided by Financing Activities The principal sources of cash from financing activities are borrowings under line of credit agreements, subordinated and other debt offering proceeds and sales of equity securities. The principal uses of cash in financing activities include repayment of amounts borrowed under lines of credit, repayment of other indebtedness, purchase of treasury stock and payment of dividends on preferred stock. Comparison of Financing Cash Flows for the Twelve Months Ended March 31, 1997 to the Six Months Ended March 31, 1996 and for the Six Months Ended March 31, 1996 to the Twelve Months Ended September 30, 1995 The Company's financing activities provided $9,193,000 of cash during the twelve months ended March 31, 1997 compared to cash of $1,093,000 during the six-month period ended March 31, 1996. The increase of $8,100,000 was primarily due to borrowings under the Company's lines of credit exceeding repayments. The Company paid $4,724,000 in preferred stock dividends during the twelve-month period compared to $120,000 for the six months ended March 31, 1996. The increase is attributable to the preferred shares issued in connection with the Fund Subsidiaries' plan of reorganization. During the twelve months ended September 30, 1995, the Company utilized cash of $7,348,000 in its financing activities as compared to cash of $1,093,000 provided by financing activities during the six months ended March 31, 1996. In 1995, the Company raised only $1,779,000 through Note offerings and repaid $2,429,000 on its line of credit and $5,077,000 of the Notes payable. During the six months ended March 31, 1996, the Company had net borrowings of $1,225,000 under lines of credit, did not raise any funds through Note offerings and did not repay any of the Notes payable. Because of the Fund Subsidiaries' reorganization, no payments were made on the Fund Subsidiaries' Notes and the 29 30 Company's indebtedness to General Electric Capital Corp. was settled in full after confirmation of the Fund. Subsidiaries' plan or reorganization. The Company's acquisition of assets from DACC required the Company to assume the DACC Debt of approximately $17,450,000, $9,596,000 of which remained outstanding at March 31, 1997. The Company is required to repay the outstanding balance by August 1997. Any portion not repaid will require refinancing under existing terms or terms more or less favorable to the Company. The Company anticipates having to refinance a portion of the loan at its maturity date unless it has completed its subordinated debt offering or has an alternative source available. The Company's bulk purchases from Eagle Finance Corp. and MSF were financed with borrowings under its line of credit with Hibernia National Bank and from cash on hand. The Company had $23,715,000 outstanding under this line at March 31, 1997. In November 1996, the Company purchased shares of Search Common Stock and Search 9%/7% convertible preferred stock and warrants to purchase Search Common Stock from HPIL for $9,000,000 as part of a settlement agreement. The Company paid $4,000,000 in cash and executed a $5,000,000 subordinated note bearing interest, payable monthly, at an initial rate of 14%. The interest rate increases by 1% every six months until it reaches 17%. The maturity date is November 21, 2000, but the note must be repaid in full earlier if the Company sells for cash more than $20,000,000, or by a proportionate amount if the Company sells for cash less than $20,000,000, in equity or certain debt securities. The annual dividend requirements on the outstanding shares of 12% Preferred Stock and 9%/7% Preferred Stock, as of March 31, 1997, were $240,000 and $6,200,000, respectively. The annual dividend requirement on the 9%/7% Preferred Stock will remain at that level until March 15, 1999, and then decrease to $4,822,000 until March 2003, assuming no additional shares are issued. Any conversion of Preferred Stock to Common Stock would reduce these dividend requirements. Payment of the dividend on the 9%/7% Preferred Stock in cash may be restricted under some of the Company's debt agreements. If payment of dividends in cash is restricted, the Company may be able to pay the dividend in Search Common Stock under specific circumstances. In July 1996, the Company implemented a loan program for its directors and senior executive officers to finance the purchase of shares of Search Common Stock and 9%/7% Preferred Stock in open market transactions. The loans are evidenced by promissory notes from the borrowers, bear interest at the prime rate, payable quarterly, and mature three years from the date made. The shares of stock purchased with the proceeds of the loans are pledged to the Company as security for the loans. The aggregate amount of these loans outstanding at March 31, 1997 was $1,212,255. During the twelve months ended March 31, 1997, the Company recorded $39,000 of interest revenue from participants under this program. Receivable Concentrations The Company considers Texas and Tennessee to be states with receivable concentrations because receivables with obligors in each of these states exceed 10% of total outstanding receivables. Inflation Historical statistics indicate that collateral value, vehicle sales prices, and receivable interest rates are relatively stable within the Company's market segment. Significant inflation in prices could adversely impact the Company's ability to acquire receivables at favorable prices. General increases in interest rates will result in increases in the Company's interest expense. Seasonality The Company's operations are seasonably impacted by higher delinquency rates during certain periods, including November and December holiday periods. Changes in Asset Quality The Company believes that it is upgrading its credit quality through higher underwriting and collateral standards compared to prior periods. No assurance can be given at this time as to whether these new standards will improve the Company's credit loss experience. Recent Accounting Pronouncement Information as to recent accounting pronouncements is contained in Note 9 and 15 of the Notes to Search's Consolidated Financial Statements. 30 31 SELECTED CONSOLIDATED FINANCIAL INFORMATION SEARCH FINANCIAL SERVICES INC. AND SUBSIDIARIES (In Thousands, Except Per Share Data)
9 Months 9 Months Year Year 6 Months 6 Months Year Ended Ended Ended Ended Ended Ended Ended 9/30/92 9/30/93 9/30/94 9/30/95 3/31/95 3/31/96 3/31/97 ------- ------- ------- ------- ------- ------- ------- STATEMENT OF OPERATIONS: Interest revenue $1,493 $7,096 $14,054 $13,472 $8,694 $3,541 $10,004 Interest expense (708) (4,173) (9,968) (11,205) (6,437) (1,306) (2,306) Reduction of (provision for) credit losses -- -- (20,180) (3,128) (5,337) (4,982) 7,017 ----------------------------------------------------------------------------- Net interest income (loss) after provision for credit losses 785 2,923 (16,094) (861) (3,080) (2,747) 14,715 General and administrative expense 663 3,051 9,296 15,881 7,221 8,098 13,392 Settlement expense -- -- 560 2,837 -- 535 40 Reorganization expense -- -- -- 315 -- -- -- Other income 338 -- -- -- -- -- -- ----------------------------------------------------------------------------- Income (loss) before extraordinary item 460 (128) (25,950) (19,894) (10,301) (11,380) 1,283 Extraordinary gain on discharge of debt -- -- -- -- -- 8,709 -- ----------------------------------------------------------------------------- Net income (loss) 460 (128) (25,950) (19,894) (10,301) (2,671) 1,283 Preferred stock dividends 123 263 240 240 120 327 6,154 ----------------------------------------------------------------------------- Income (loss) attributable to common stockholders $337 $(391) $(26,190) $(20,134) $(10,421) $(2,998) $(4,871) ============================================================================= EARNINGS (LOSS) PER SHARE OF COMMON STOCK(1): Income (loss) before extraordinary item $0.72 $(0.48) $(18.64) $(17.96) $(8.96) $(8.96) $(1.45) Gain on extraordinary item -- -- -- -- -- 6.67 -- ------------------ ---------------------------------------------------------- Net income (loss) $0.72 $(0.48) $(18.64) $(17.96) $(8.96) $(2.29) $(1.45) ============================================================================= Weighted average number of common shares outstanding 460 766 1,407 1,121 1,162 1,306 3,366 BALANCE SHEET (AT PERIOD END): Net contracts receivable $6,565 $29,396 $61,823 $34,948 $76,655 $30,651 $51,689 Total assets 14,147 44,223 75,126 49,922 59,985 37,346 69,523 Notes payable (prepetition subject to compromise) -- -- -- 69,320 -- -- -- Notes payable and lines of credit 11,774 40,562 70,768 1,058 69,160 2,283 38,311 Total liabilities 12,208 42,013 79,502 75,557 74,783 10,935 42,917 Stock repurchase commitment -- -- -- 2,078 -- 2,078 2,078 Stockholders' equity (deficit) 1,939 2,210 (4,376) (27,713) (14,798) 24,333 24,528
- ------------------------------------- (1) In November 1996, Search effected a 1-for-8 reverse stock split. All references in the financial information to the number of shares outstanding and per share amounts have been retroactively adjusted to reflect the reverse split. 31 32 STOCK MARKET INFORMATION Search common stock has traded on the Nasdaq National Market ("NASDAQ") since March 10, 1997. Prior thereto, it traded in the over-the-counter market. The table below sets forth, for the fiscal quarters indicated, the high and low sales prices, as reported on NASDAQ (since March 10, 1997) and the high and low bid prices as reported in the over-the-counter market (prior to March 10, 1997) of the Search common stock. Over-the-counter market quotations reflect inter-dealer prices without retail mark-up, mark-down or commissions and may not necessarily represent actual transactions. Prices prior to November 22, 1996 are adjusted to reflect a one-for-eight reverse stock split effected on that date.
Fiscal 1996* Fiscal 1997 Quarters High Low Quarters High Low - ------------ ---- --- ----------- ---- --- First $15.50 $8.00 First $12.50 $8.50 Second $13.00 $8.00 Second $ 9.50 $6.25 Third $ 8.00 $4.00 Fourth $ 6.63 $5.00
* Six month transition period from October 1, 1996 through March 31, 1996. Search has never paid dividends on the outstanding common stock and the current policy of its Board of Directors is to retain any available earnings for use in the operation and expansion of the Company's business. Therefore, the payment of cash dividends on the common stock is unlikely in the foreseeable future. As of May 30, 1997, there were 2,929 common stockholders of record. EX-22 6 SUBSIDIARIES OF THE REGISTRANT 1 EXHIBIT 22 SEARCH CAPITAL GROUP, INC. LIST OF SUBSIDIARIES Automobile Credit Holdings., Inc. (first-tier) [in process of dissolution] Automobile Credit Acceptance Corp. (second-tier) Consumer-Dealer Autocredit Corporation (second-tier) ELIR Corp. (first-tier) Newsearch, Inc. (first-tier) [in process of dissolution] Search Capital Acquisition Corp. (first-tier) Search Financial Services Company (first-tier) Search Financial Services of Florida, Inc. (second-tier) Search Financial Services of Georgia, Inc. (second-tier) Search Financial Services of Louisiana, Inc. (second-tier) Search Financial Services of Oklahoma, Inc. (second-tier) Search Financial Services of Puerto Rico, Inc. (second-tier) Search Financial Services of Tennessee, Inc. (second-tier) Search Financial Services of Texas, Inc. (second-tier) Search Mortgage Services of Tennessee, Inc. (second-tier) Search Funding Corp. (first-tier) Search Funding II, Inc. (first-tier) Search Funding III, Inc. (first-tier) Search Funding IV, Inc. (first-tier) Search Funding V, Inc. (first-tier) EX-23 7 CONSENT OF BDO SEIDMAN, LLP 1 EXHIBIT 23 CONSENT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS Search Financial Services, Inc. (F.K.A. Search Capital Group, Inc.) Dallas, Texas We hereby consent to the incorporation by reference in the Form 10-K of our report dated May 23, 1997, relating to the consolidated financial statements of Search Financial Services, Inc. for the year ended March 31, 1997, appearing in the Company's Form S-4 filed June 25, 1997. BDO SEIDMAN, LLP -------------------------- BDO SEIDMAN, LLP Dallas, Texas June 30, 1997 EX-27 8 FINANCIAL DATA SCHEDULE
5 12-MOS MAR-31-1997 APR-01-1996 MAR-31-1997 12,249,000 0 51,689,000 5,854,000 1,196,000 59,557,000 3,280,170 1,672,071 69,523,000 42,917,000 0 2,078,000 201,000 252,000 0 69,523,000 10,004,000 10,004,000 0 0 0 (7,017,000) 2,306,000 (4,871,000) 0 (4,871,000) 0 0 0 (4,871,000) (1.45) (1.45)
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