10-Q 1 d10q.txt FORM 10-Q FOR QUARTER ENDED JUNE 30, 2001 FORM 10-Q SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the quarterly period ended June 30, 2001 ------------- OR [ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the transition period from __________________to___________________ Commission file number 0-3658 ________________________________________________ THE FIRST AMERICAN CORPORATION ___________________________________ (Exact name of registrant as specified in its charter) Incorporated in California 95-1068610 ________________________________ _____________________________________ (State or other jurisdiction of (I.R.S. Employer Identification No.) incorporation or organization) 1 First American Way, Santa Ana, California 92707-5913 _____________________________________________________________________ (Address of principal executive offices) (Zip Code) (714)800-3000 _____________________________________________________________________ (Registrant's telephone number, including area code) _____________________________________________________________________ (Former name, former address and former fiscal year, if changed since last report) Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes X No _______ ________ APPLICABLE ONLY TO ISSUERS INVOLVED IN BANKRUPTCY PROCEEDINGS DURING THE PRECEDING FIVE YEARS: Indicate by check mark whether the registrant has filed all documents and reports to be filed by Section 12,13 or 15(d) of the Securities Exchange Act of 1934 subsequent to the distribution of securities under a plan confirmed by a court. Yes No _______ ________ APPLICABLE ONLY TO CORPORATE ISSUERS: Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date. $1 par value - 68,141,443 shares as of August 8, 2001 1 INFORMATION INCLUDED IN REPORT ------------------------------ Part I: Financial Information Item 1. Financial Statements (Unaudited) A. Condensed Consolidated Balance Sheets B. Condensed Consolidated Statements of Income and Comprehensive Income C. Condensed Consolidated Statements of Cash Flows D. Notes to Condensed Consolidated Financial Statements Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations Item 3. Quantitative and Qualitative Disclosures About Market Risk Part II: Other Information Item 4. Submission of Matters to a Vote of Security Holders Item 6. Exhibits and Reports of Form 8-K Items 1-3 and 5 have been omitted because they are not applicable with respect to the current reporting period. SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934 the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. THE FIRST AMERICAN CORPORATION --------------------------------- (Registrant) /s/ Thomas A. Klemens --------------------- Thomas A. Klemens Executive Vice President Chief Financial Officer /s/ Max O. Valdes ----------------- Max O. Valdes Vice President Chief Accounting Officer Date: August 10, 2001 2 Part I: Financial Information Item 1: Financial Statements THE FIRST AMERICAN CORPORATION AND SUBSIDIARY COMPANIES Condensed Consolidated Balance Sheets
June 30, 2001 (unaudited) December 31, 2000 -------------- ----------------- Assets Cash and cash equivalents $ 508,558,000 $ 300,905,000 -------------- ----------------- Accounts and accrued income receivable, net 273,310,000 204,177,000 -------------- ----------------- Income tax receivable 19,472,000 ----------------- Investments: Deposits with savings and loan associations and banks 35,348,000 31,900,000 Debt securities 239,773,000 209,407,000 Equity securities 58,918,000 58,720,000 Other long-term investments 101,190,000 92,703,000 -------------- ----------------- 435,229,000 392,730,000 -------------- ----------------- Loans receivable 99,348,000 94,452,000 -------------- ----------------- Property and equipment, at cost 725,664,000 662,198,000 Less- accumulated depreciation (267,488,000) (227,110,000) -------------- ----------------- 458,176,000 435,088,000 -------------- ----------------- Title plants and other indexes 299,932,000 290,072,000 -------------- ----------------- Assets acquired in connection with claim settlements (net of valuation reserves of $1,097,000 and $1,000,000) 29,436,000 27,846,000 -------------- ----------------- Deferred income taxes 11,604,000 11,519,000 -------------- ----------------- Goodwill and other intangibles, net 407,133,000 346,156,000 -------------- ----------------- Other assets 104,597,000 77,320,000 -------------- ----------------- $2,627,323,000 $2,199,737,000 ============== ================= Liabilities and Stockholders' Equity Demand deposits $ 87,287,000 $ 81,289,000 -------------- ----------------- Accounts payable and accrued liabilities 294,998,000 267,567,000 -------------- ----------------- Deferred revenue 271,383,000 261,673,000 -------------- ----------------- Reserve for known and incurred but not reported claims 287,914,000 284,607,000 -------------- ----------------- Income taxes payable 26,232,000 -------------- Notes and contracts payable (Note 5) 418,839,000 219,838,000 -------------- ----------------- Minority interests in consolidated subsidiaries 123,488,000 114,526,000 -------------- ----------------- Mandatorily redeemable preferred securities of the Company's subsidiary trust whose sole assets are the Company's $100,000,000 8.5% deferrable interest subordinated notes due 2012 100,000,000 100,000,000 -------------- ----------------- Stockholders' equity: Preferred stock, $1 par value Authorized - 500,000 shares; outstanding - none Common stock, $1 par value Authorized - 180,000,000 shares Outstanding - 67,552,000 and 63,887,000 shares 67,552,000 63,887,000 Additional paid-in capital 252,110,000 172,468,000 Retained earnings 693,585,000 628,913,000 Accumulated other comprehensive income 3,935,000 4,969,000 -------------- ----------------- 1,017,182,000 870,237,000 -------------- ----------------- $2,627,323,000 $2,199,737,000 ============== =================
See notes to condensed consolidated financial statements. 3 THE FIRST AMERICAN CORPORATION AND SUBSIDIARY COMPANIES Condensed Consolidated Statements of Income and Comprehensive Income (Unaudited)
For the Three Months Ended For the Six Months Ended June 30 June 30 ----------------------------- ----------------------------------- 2001 2000 2001 2000 ------------ ------------ -------------- -------------- Revenues Operating revenues $908,009,000 $760,216,000 $1,658,193,000 $1,396,081,000 Investment and other income 20,033,000 15,709,000 36,590,000 26,018,000 ------------ ------------ -------------- -------------- 928,042,000 775,925,000 1,694,783,000 1,422,099,000 ------------ ------------ -------------- -------------- Expenses Salaries and other personnel costs 311,396,000 263,059,000 586,215,000 513,263,000 Premiums retained by agents 216,415,000 225,473,000 405,822,000 392,595,000 Other operating expenses 214,431,000 168,789,000 405,519,000 335,149,000 Provision for title losses and other claims 40,525,000 37,440,000 77,015,000 67,563,000 Depreciation and amortization 25,672,000 20,906,000 50,105,000 38,322,000 Premium taxes 5,704,000 5,634,000 10,712,000 10,922,000 Interest 7,567,000 6,278,000 13,865,000 12,054,000 ------------ ------------ -------------- -------------- 821,710,000 727,579,000 1,549,253,000 1,369,868,000 ------------ ------------ -------------- -------------- Income before income taxes and minority interests 106,332,000 48,346,000 145,530,000 52,231,000 Income taxes 39,200,000 19,400,000 52,700,000 20,200,000 ------------ ------------ -------------- -------------- Income before minority interests 67,132,000 28,946,000 92,830,000 32,031,000 Minority interests 12,615,000 3,914,000 19,537,000 5,997,000 ------------ ------------ -------------- -------------- Net income 54,517,000 25,032,000 73,293,000 26,034,000 ------------ ------------ -------------- -------------- Other comprehensive income, net of tax Unrealized gain (loss) on securities 959,000 (765,000) (919,000) 98,000 Minimum pension liability adjustment 85,000 (75,000) (115,000) (175,000) ------------ ------------ -------------- -------------- 1,044,000 (840,000) (1,034,000) (77,000) ------------ ------------ -------------- -------------- Comprehensive income $ 55,561,000 $ 24,192,000 $ 72,259,000 $ 25,957,000 ============ ============ ============== ============== Net income per share (Note 2): Basic $.83 $.39 $1.13 $0.41 ============ ============ ============== ============== Diluted $.75 $.38 $1.00 $0.40 ============ ============ ============== ============== Cash dividends per share $.07 $.06 $ .13 $ .12 ============ ============ ============== ============== Weighted average number of shares (Note 2): Basic 65,621,000 63,403,000 64,893,000 63,771,000 ============ ============ ============== ============== Diluted 74,960,000 65,682,000 75,167,000 65,508,000 ============ ============ ============== ==============
See notes to condensed consolidated financial statements. 4 THE FIRST AMERICAN CORPORATION AND SUBSIDIARY COMPANIES Condensed Consolidated Statements of Cash Flows (Unaudited)
For the Six Months Ended June 30 ------------------------------ 2001 2000 ------------- ------------- Cash flows from operating activities: Net income $ 73,293,000 $ 26,034,000 Adjustments to reconcile net income to cash provided by operating activities- Provision for title losses and other claims 77,015,000 67,563,000 Depreciation and amortization 50,105,000 38,322,000 Minority interests in net income 19,537,000 5,997,000 Other, net (8,781,000) (1,355,000) Changes in assets and liabilities excluding effects of company acquisitions and noncash transactions- Claims paid, including assets acquired, net of recoveries (75,668,000) (64,706,000) Net change in income tax accounts 45,137,000 25,594,000 Increase in accounts and accrued income receivable (66,204,000) (19,359,000) Increase (decrease) in accounts payable and accrued liabilities 18,809,000 (25,249,000) Increase (decrease) in deferred revenue 7,577,000 (4,970,000) Other, net (25,310,000) (323,000) ------------ ------------ Cash provided by operating activities 115,510,000 47,548,000 ------------ ------------ Cash flows from investing activities: Net cash effect of company acquisitions/dispositions (3,823,000) (8,958,000) Net increase in deposits with banks (3,324,000) (3,031,000) Net increase in loans receivable (4,896,000) (3,078,000) Purchases of debt and equity securities (64,294,000) (30,836,000) Proceeds from sales of debt and equity securities 10,958,000 32,998,000 Proceeds from maturities of debt securities 21,084,000 9,985,000 Net decrease (increase) in other investments 4,992,000 (2,547,000) Capital expenditures (57,814,000) (79,645,000) Proceeds from sale of property and equipment 1,181,000 1,290,000 ------------ ------------ Cash used for investing activities (95,936,000) (83,822,000) ------------ ------------ Cash flows from financing activities: Net change in demand deposits 5,998,000 846,000 Proceeds from issuance of debt 210,000,000 421,000 Repayment of debt (16,793,000) (11,411,000) Proceeds from exercise of stock options 6,923,000 1,000,000 Repurchase of company shares (20,758,000) Distributions to minority shareholders (9,429,000) (3,386,000) Cash dividends (8,620,000) (7,610,000) ------------ ------------ Cash provided by (used for) financing activities 188,079,000 (40,898,000) ------------ ------------ Net increase (decrease) in cash and cash equivalents 207,653,000 (77,172,000) Cash and cash equivalents - Beginning of year 300,905,000 350,010,000 - End of first half ------------ ------------ $508,558,000 $272,838,000 ============ ============ Supplemental information: Cash paid during the first half for: Interest $ 12,104,000 $ 11,780,000 Premium taxes $ 10,220,000 $ 12,021,000 Income taxes $ 21,379,000 $ 5,370,000 Noncash investing and financing activities: Shares issued for stock bonus plan $ 225,000 $ 226,000 Shares issued for employee savings plan $ 8,283,000 Liabilities incurred in connection with company acquisitions $ 16,812,000 $ 34,670,000 Purchase of minority interest $ 1,146,000 $ 12,804,000 Company acquisitions in exchange for common stock $ 67,875,000
See notes to condensed consolidated financial statements. 5 THE FIRST AMERICAN CORPORATION AND SUBSIDIARY COMPANIES ------------------------ Notes to Condensed Consolidated Financial Statements ---------------------------------------------------- (Unaudited) Note 1 - Basis of Condensed Consolidated Financial Statements ------------------------------------------------------------- The condensed consolidated financial information included in this report has been prepared in conformity with the accounting principles and practices reflected in the consolidated financial statements included in the annual report filed with the Securities and Exchange Commission for the preceding calendar year. All adjustments are of a normal recurring nature and are, in the opinion of management, necessary to a fair statement of the consolidated results for the interim periods. This report should be read in conjunction with the Company's Annual Report on Form 10-K for the year ended December 31, 2000. Note 2 - Earnings Per Share ---------------------------
For the Three Months Ended For the Six Months Ended June 30 June 30 ---------------------------------------------------------- 2001 2000 2001 2000 ========================================================== Numerator: Net Income-numerator for basic net income per share $54,517,000 $25,032,000 $73,293,000 $26,034,000 Effect of dilutive securities Convertible debt - interest expense (net of tax) 1,362,000 - 1,697,000 - ---------------------------------------------------------- Net Income-numerator for dilutive net income per share $55,879,000 $25,032,000 $74,990,000 $26,034,000 ========================================================== Denominator Weighted average shares-denominator For basic net income per share 65,621,000 63,403,000 64,893,000 63,771,000 Effect of dilutive securities: Employee stock options 2,914,000 2,279,000 3,846,000 1,737,000 Convertible debt 6,425,000 - 6,428,000 - ---------------------------------------------------------- Denominator for diluted net income per share 74,960,000 65,682,000 75,167,000 65,508,000 ========================================================== Basic net income per share $ 0.83 $ 0.39 $ 1.13 $ 0.41 ========================================================== Diluted net income per share $ 0.75 $ 0.38 $ 1.00 $ 0.40 ========================================================== For the three and six months ended June 30, 2001 3,650,851 and 1,902,301 stock options, respectively, were excluded from the computation of diluted earnings per share due to their antidilutive effect
Note 3 - Business Combinations ------------------------------ In May 2001, the Company acquired Credit Management Solutions, Inc (CMSI), a provider of credit automation software and services in a stock-for-stock transaction. As a result of the acquisition, CMSI shareholders received 0.2841 newly issued shares of the Company's common stock for each CMSI share. The Company issued 2,272,542 shares of common stock. The purchase price was allocated to the assets acquired and liabilities assumed based on estimated fair values. Goodwill of $46.9 million was recorded and is being amortized on a straight-line basis over its estimated useful life of 25 years. The Company accounted for this transaction under the purchase method of accounting and will include CMSI in its consumer information segment. Assuming the acquisition had occurred on January 1, 2000, pro forma revenues, net income and net income per diluted share would have been $1.70 billion, $70.8 million and $.92 respectively for the six months ended June 30, 2001; and $1.43 billion, $24.0 million and $.35, respectively for the six months ended June 30, 2000. The pro forma results include amortization of goodwill. The pro forma results exclude certain merger-related costs and are not necessarily indicative of the operating results that would have been obtained had the acquisition occurred at the beginning of the period, nor are they indicative of future operating results. 6 In addition, during the six months ended June 30, 2001, the Company acquired eleven companies. The purchase method of accounting was used for all of the acquisitions. The eleven acquisitions accounted for under the purchase method of accounting were individually not material and are included in the following business segments: ten in the title insurance segment and one in the real estate information segment. The aggregate purchase price was $7.4 million in cash, $1.2 million in notes payable and forgiven notes receivable and 416,575 shares of the Company's common stock. The purchase price of each was allocated to the assets acquired and liabilities assumed based on estimated fair values and approximately $16.8 million in goodwill was recorded. Goodwill is being amortized on a straight-line basis over its estimated useful life ranging from 20 to 30 years. The operating results of these acquired entities were included in the Company's consolidated financial statements from their respective acquisition dates. Assuming all of the current-year acquisitions (including CMSI) had occurred January 1, 2000, pro forma revenues, net income and net income per diluted share would have been $1.72 billion, $72.6 million and $.94, respectively for the six months ended June 30, 2001; and $1.45 billion, $24.1 million and $.35, respectively for the six months ended June 30, 2000. All pro forma results include amortization of goodwill and interest expense on acquisition debt. The pro forma results exclude certain merger-related costs and are not necessarily indicative of the operating results that would have been obtained had the acquisitions occurred at the beginning of the periods presented, nor are they indicative of future operating results. In February 2001, the Company announced the sale of its subsidiary, Contour Software, Inc., to Ellie Mae(SM), Inc., in exchange for cash, notes and an interest in Ellie Mae. As a result of the transaction, the Company recorded a deferred gain of $14.2 million. Contour had been included in the Company's real estate information segment. On July 20, 2001, the Financial Accounting Standards Board ("the FASB") issued Statement of Financial Accounting Standards No. 141, "Business Combinations" ("SFAS 141"). This statement addresses financial accounting and reporting for business combinations and supersedes APB Opinion No. 16, "Business Combinations". All business combinations in the scope of SFAS 141 are to be accounted for using one method, the purchase method. The provisions of SFAS 141 apply to all business combinations initiated or closed after June 30, 2001. Management of the Company anticipates that the adoption of SFAS 141 will not have a significant effect on the Company's earnings or financial position. On July 20, 2001, the FASB issued Statement of Financial Accounting Standards No. 142, "Goodwill and Other Intangible Assets" ("SFAS 142"). This statement addresses financial accounting and reporting for goodwill and other intangible assets and supersedes APB Opinion No. 17, "Intangible Assets". SFAS 142 addresses how goodwill and other intangible assets should be accounted for in the financial statements. Goodwill and intangible assets that have indefinite useful lives will not be amortized, but rather will be tested at least annually for impairment. Intangible assets that have finite useful lives will continue to be amortized over their useful lives, but without the constraint of an arbitrary ceiling. The provisions of SFAS 142 are required to be applied starting with fiscal years beginning after December 15, 2001, and apply to all goodwill and other intangible assets recognized in the financial statements at that date. Goodwill and intangible assets acquired after June 30, 2001, will be subject immediately to the nonamortization and amortization provisions of SFAS 142. Management is in the process of assessing the impact of implementing SFAS 142 on the Company's earnings and financial position. Management estimates the adoption of the nonamortization provision of SFAS 142 will increase income before income taxes and minority interests in 2002 by $18.0 million. Note 4 - Segment Information ---------------------------- The Company's operations include three reportable segments. Selected financial information about the Company's operations by segment is as follows: 7 Operating revenues:
Three Months Ended Six Months Ended June 30 June 30 ---------------------------------- -------------------------------------- ($000) ($000) 2001 % 2000 % 2001 % 2000 % -------- --- -------- --- ---------- --- ---------- --- Title Insurance 653,285 72 558,714 73 1,176,810 71 1,005,260 72 Real Estate Information 184,461 20 137,893 18 346,694 21 266,650 19 Consumer Information 70,263 8 63,609 9 134,689 8 124,171 9 -------- --- -------- --- ---------- --- ---------- --- Total $908,009 100 $760,216 100 $1,658,193 100 $1,396,081 100 ======== === ======== === ========== === ========== ===
Income before income taxes and minority interests:
Three Months Ended Six Months Ended June 30 June 30 ---------------------------------- ---------------------------------- ($000) ($000) 2001 % 2000 % 2001 % 2000 % -------- --- -------- --- -------- --- -------- --- Title Insurance $ 62,504 52 $ 36,957 63 $ 82,181 48 $ 43,209 55 Real Estate Information 48,672 40 13,251 22 76,186 44 16,115 21 Consumer Information 9,559 8 8,935 15 13,536 8 18,529 24 -------- --- -------- --- -------- --- -------- --- Total before corporate expenses 120,735 100 59,143 100 171,903 100 77,853 100 === === === === Corporate expenses (14,403) (10,797) (26,373) (25,622) -------- -------- -------- -------- Total $106,332 $ 48,346 $145,530 $ 52,231 ======== ======== ======== ========
Note 5 - Senior Convertible Debentures -------------------------------------- On April 24, 2001, the Company sold $175 million of 4.5% senior convertible debentures due 2008. The Company also sold an additional $35 million of these debentures in connection with the exercise of an over-allotment option. This transaction was a private placement pursuant to Rule 144A and Regulation S under the Securities Act of 1933. The Company registered the debentures and any common shares issued upon conversion on August 8, 2001. The debentures are convertible into common shares of the Company at $28 per share and can be converted, by the holders, at any time after the shelf registration statement is declared effective. The Company may redeem some or all of the senior convertible debentures at any time on or after April 15, 2004. The net proceeds of the offering will be used to finance acquisitions of businesses, repay outstanding indebtedness, buy out minority interests in existing subsidiaries and for general corporate purposes. Item 2. Management's Discussion and Analysis of Financial Condition and Results ----------------------------------------------------------------------- of Operations ------------- Certain statements made in this 10-Q, including those relating to the effects of eliminating high-cost contractors that are servicing claims in the Company's home warranty business and anticipated cash requirements, are forward looking. Risks and uncertainties exist which may cause results to differ materially from those set forth in these forward-looking statements. Factors that could cause the anticipated results to differ from those described in the forward-looking statements include: interest rate fluctuations; changes in the performance of the real estate markets; general volatility in the capital markets; changes in applicable government regulations; consolidation among the Company's significant customers and competitors; legal proceedings commenced by the California attorney general and related litigation; the Company's continued ability to identify businesses to be acquired; changes in the Company's ability to integrate businesses which it acquires; and other factors described in the Company's Annual Report on Form 10-K for the year ended December 31, 2000, filed with the Securities and Exchange Commission. The forward-looking statements speak only as of the date they are made. The Company does not undertake to update forward-looking statements to reflect circumstances or events that occur after the date the forward-looking statements are made. RESULTS OF OPERATIONS Three and six months ended June 30: OVERVIEW High mortgage interest rates and seasonal factors in the fourth quarter of 1999 resulted in a low inventory of open orders going into the first quarter of 2000. This, coupled with the relatively weak real estate economy present during the first half of 2000, 8 resulted in a significant decrease in revenues and profits for the first half of 2000 when compared with the same period of the prior year. During the second half of 2000, real estate activity began to increase as a result of declining mortgage interest rates. New order counts in the latter part of the third quarter began to show favorable comparisons with the same period of 1999. This trend continued through the fourth quarter of 2000 and resulted in a significant increase in revenues and profits for the second half of 2000 when compared with the same period of the prior year, and in a high inventory of open orders going into the first quarter of 2001. During the first quarter of 2001, the continuation of lower mortgage interest rates resulted in a significant increase in refinance transactions. This trend continued into the second quarter and, coupled with the relatively steady level of resale transactions, culminated in record-setting title order volume, which, together with the positive results of the Company's cost-containment programs, resulted in net income and diluted EPS for the second quarter of 2001 of $54.5 million and $0.75 per diluted share, respectively, compared with net income and diluted EPS for the second quarter of 2000 of $25.0 million and $0.38, respectively. OPERATING REVENUES Set forth below is a summary of operating revenues for each of the Company's segments.
Three Months Ended Six Months Ended June 30 June 30 ---------------------------------- -------------------------------------- ($000) ($000) 2001 % 2000 % 2001 % 2000 % -------- --- -------- --- ---------- --- ---------- --- Title Insurance: Direct operations $386,102 43 $283,487 37 $ 675,373 41 $ 519,433 37 Agency operations 267,183 29 275,227 36 501,437 30 485,827 35 -------- --- -------- --- ---------- --- ---------- --- 653,285 72 558,714 73 1,176,810 71 1,005,260 72 Real Estate Information 184,461 20 137,893 18 346,694 21 266,650 19 Consumer Information 70,263 8 63,609 9 134,689 8 124,171 9 -------- --- -------- --- ---------- --- ---------- --- Total $908,009 100 $760,216 100 $1,658,193 100 $1,396,081 100 ======== === ======== === ========== === ========== ===
Title Insurance. Operating revenues from direct title operations increased 36.2% and 30.0% for the three and six months ended June 30, 2001, when compared with the same periods of the prior year. These increases were primarily due to a significant increase in the number of title orders closed by the Company's direct operations. The Company's direct operations closed 360,000 and 630,100 title orders during the current three and six month periods, respectively, increases of 38.0% and 28.3% when compared with 260,900 and 491,200 closed during the same periods of the prior year. These increases were primarily due to the factors mentioned above in the Overview section. Operating revenues from agency operations decreased 2.9% and increased 3.2% for the three and six months ended June 30, 2001, respectively, when compared with the same periods of the prior year. These fluctuations were primarily due to the timing of the reporting of agency remittances. Real Estate Information. Real estate information operating revenues increased 33.8% and 30.0% for the three and six months ended June 30, 2001, respectively, when compared with the same periods of the prior year. These increases were primarily due to the increase in refinance activity, coupled with $9.4 million and $17.6 million of operating revenues contributed by new acquisitions for the respective periods. Consumer Information. Consumer information operating revenues increased 10.5% and 8.5% for the three and six months ended June 30, 2001, respectively, when compared with the same periods of the prior year. These increases were primarily attributable to an increased awareness and acceptance of this business segment's products, as well as $3.5 million and $4.5 million of operating revenues contributed by new acquisitions for the respective periods. These increases were offset in part by a $2.9 million and $7.3 million reduction in operating revenues, for the three and six months ended June 30, 2001, respectively, at the Company's property and casualty division as a result of exiting the lender-placed insurance business. INVESTMENT AND OTHER INCOME Investment and other income totaled $20.0 million and $36.6 million for the three and six months ended June 30, 2001, respectively, representing increases of $4.3 million, or 27.5%, and $10.6 million, or 40.6%, when compared with the same periods of the prior year. These increases primarily reflect increased earnings from our affiliated companies, which are accounted for under the equity method of accounting, as well as an increase in interest income as a result of a higher average investment portfolio balance. 9 TOTAL OPERATING EXPENSES Title Insurance. Salaries and other personnel costs were $221.5 million and $409.7 million for the three and six months ended June 30, 2001, respectively, increases of $38.8 million, or 21.3%, and $53.8 million, or 15.1%, when compared with the same periods of the prior year. Excluding acquisitions, these increases were $34.2 million, or 18.7%, and $44.5 million, or 12.5%, respectively. These increases were primarily due to an increase in staff costs in the production area caused by the significant increase in new title orders. The Company's direct title operations opened 462,700 and 897,400 new orders during the three and six months ended June 30, 2001, respectively, increases of 40.9% and 40.3% when compared with the same periods of the prior year. Also contributing to the increase in salaries and other personnel costs were increased commissions, which reflect the increase in closed orders, offset in part by personnel efficiencies. Salaries and other personnel costs as a percentage of net operating revenues were 50.7% for the current quarter and 54.8% for the same quarter of the prior year. Agents retained $216.4 million and $405.8 million of title premiums generated by agency operations for the three and six months ended June 30, 2001, respectively, which compares with $225.5 million and $392.6 million for the same periods of the prior year. The percentage of title premiums retained by agents ranged from 80.8% to 81.9% due to regional variances (i.e., the agency share varies from region to region and thus the geographical mix of agency revenues causes this variation). Other operating expenses were $120.2 million and $220.4 million for the three and six months ended June 30, 2001, respectively, increases of $31.7 million, or 35.8%, and $50.6 million, or 29.8%, when compared with the same periods of the prior year. Excluding acquisitions, these increases were $29.2 million, or 32.9%, and $45.6 million, or 26.8%, respectively. These increases were primarily the result of incremental costs incurred to service the significant increase in orders processed, offset in part by management's cost control programs. The provision for title losses as a percentage of title insurance operating revenues was 3.7% for the six months ended June 30, 2001 and 3.6% for the same period of the prior year. The slight increase in loss percentage reflects the continued strength in resale closings, which tend to have a slightly higher claims experience. Premium taxes for title insurance were $9.7 million and $9.8 million for the six months ended June 30, 2001 and 2000, respectively. Expressed as a percentage of title insurance operating revenues, premium taxes were approximately 0.8% and 1.0% for the six months ended June 30, 2001 and 2000, respectively. Premium tax rates vary from state to state. Accordingly, the geographical mix of title insurance premiums accounts for the fluctuation in rate. Real Estate Information. Real estate information personnel and other operating expenses were $130.3 million and $256.6 million for the three and six months ended June 30, 2001, respectively, increases of 13.7% and 11.7% when compared with the same periods of the prior year. Excluding acquisitions, the increases were $10.2 million, or 8.9%, and $16.7 million, or 7.3%, respectively. These increases were primarily the result of incremental costs incurred to service the significant increase in business volume, offset in part by the results of the Company's cost-containment programs. Consumer Information. Consumer information personnel and other operating expenses were $45.1 million and $90.9 million for the three and six months ended June 30, 2001, respectively, increases of 11.0% and 13.9% when compared with the same periods of the prior year. Excluding acquisitions, the increases were $1.6 million, or 3.9%, and $7.2 million, or 9.1%, respectively. These increases were primarily attributable to costs incurred servicing the increased business volume. The provision for consumer information losses principally reflects home warranty claims. The provision for home warranty losses, expressed as a percentage of home warranty operating revenues, was 55.3% for the six months ended June 30, 2001, and 51.2% for the same period of the prior year. This increase was primarily due to an increase in the average number of claims per contract, which was primarily due to the expansion of this business into new geographical markets. The Company's management has embarked on a program of eliminating high-cost contractors that are servicing claims. These efforts contributed to a reduction in claim costs per contract in the second quarter of 2001 when compared with the first quarter of 2001. The home warranty loss provision rate was 54.5% for the current quarter and 56.2% for the first quarter of the current year. The Company's management expects continued improvement in claim costs per contract in future periods. INCOME BEFORE INCOME TAXES AND MINORITY INTERESTS Set forth below is a summary of income before income taxes and minority interests for each of the Company's segments. 10
Three Months Ended Six Months Ended June 30 June 30 ---------------------------------------------- ---------------------------------------------- ($000) ($000) 2001 % 2000 % 2001 % 2000 % ---------------------------------------------- ---------------------------------------------- Title Insurance $ 62,504 52 $ 36,957 63 $ 82,181 48 $ 43,209 55 Real Estate Information 48,672 40 13,251 22 76,186 44 16,115 21 Consumer Information 9,559 8 8,935 15 13,536 8 18,529 24 -------- --- -------- --- -------- --- -------- --- Total before corporate expenses 120,735 100 59,143 100 171,903 100 77,853 100 === === === === Corporate expenses (14,403) (10,797) (26,373) (25,622) -------- -------- -------- -------- Total $106,332 $ 48,346 $145,530 $ 52,231 ======== ======== ======== ========
In general, the title insurance business is a lower profit margin business when compared to the Company's other segments. The lower profit margins reflect the high cost of producing title evidence whereas the corresponding revenues are subject to regulatory and competitive pricing restraints. Due to this relatively high proportion of fixed costs, title insurance profit margins generally improve as closed order volumes increase. In addition, title insurance profit margins are affected by the composition (residential or commercial) and type (resale, refinancing or new construction) of real estate activity. Profit margins from resale and new construction transactions are generally higher than from refinancing transactions because in many states there are premium discounts on, and cancellation rates are higher for, refinance transactions. Title insurance profit margins are also affected by the percentage of operating revenues generated by agency operations. Profit margins from direct operations are generally higher than from agency operations due primarily to the large portion of the premium that is retained by the agent. Real estate information pretax profits are generally unaffected by the type of real estate activity but increase or decrease based on the volume of residential real estate loan transactions. Consumer information profits are unaffected by real estate or mortgage interest rate activity and increase as the level of business volume increases. Corporate expenses increased $3.6 million for the three months ended June 30, 2001, when compared with the same period of the prior year. This increase was primarily due to an increase in corporate interest expense due primarily to the issuance of the Company's $210.0 million senior convertible debentures in April of 2001. INCOME TAXES The effective income tax rate (income tax expense as a percentage of pretax income after minority interest expense) was 41.8% for the six months ended June 30 2001, and 43.7% for the same period of the prior year. The decrease in effective rate was primarily attributable to changes in the ratio of permanent differences to pretax profits. A large portion of the Company's minority interest expense is attributable to a limited liability company subsidiary, which for tax purposes, is treated as a partnership. Accordingly, no income taxes have been provided for that portion of the minority interest expense. MINORITY INTERESTS Minority interest expense was $12.6 million and $19.5 million for the three and six months ended June 30, 2001, respectively, increases of $8.7 million and $13.5 million when compared with the same periods of the prior year. These increases were primarily attributable to the increase in operating results of the Company's joint venture with Experian caused primarily by the previously noted increase in refinance activity. NET INCOME Net income for the three and six months ended June 30, 2001, was $54.5 million, or $0.75 per diluted share, and $73.3 million, or $1.00 per diluted share, respectively. Net income for the three and six months ended June 30, 2000, was $25.0 million, or $0.38 per diluted share, and $26.0 million, or $0.40 per diluted share, respectively. LIQUIDITY AND CAPITAL RESOURCES Total cash and cash equivalents increased $207.7 million and decreased $77.2 million for the six months ended June 30, 2001 and 2000, respectively. The increase for the current period was primarily due to the proceeds received from the issuance of the Company's $210.0 million senior convertible debentures (see Note 5 to the Condensed Consolidated Financial Statements), and cash provided by operating activities, offset in part by capital expenditures and purchases of debt and equity securities. 11 The decrease for the prior-year period was primarily due to capital expenditures and the repurchase of Company shares, offset in part by cash provided by operating activities. Notes and contracts payable as a percentage of total capitalization increased to 25.2% at June 30, 2001 from 16.9% at December 31, 2000. This increase was primarily due to the issuance of the $210.0 million senior convertible debentures. Management believes that all of its anticipated operating cash requirements for the immediate future will be met from internally generated funds. Item 3 - Quantitative and Qualitative Disclosures About Market Risk ------------------------------------------------------------------- The Company's primary exposure to market risk relates to interest rate risk associated with certain other financial instruments. Although the Company monitors its risk associated with fluctuations in interest rates, it does not currently use derivative financial instruments to hedge these risks. The Company is also subject to equity price risk as related to its equity securities. Although the Company has operations in certain foreign countries, these operations, in the aggregate, are not material to the Company's financial condition or results of operations. There have been no material changes in the Company's risk since filing its Form 10K for the year ended December 31, 2000. 12 Part II: Other Information ----------------- Item 4. Submission of Matters to a Vote of Security Holders. --------------------------------------------------- (a) The annual meeting of shareholders (the "Meeting") of The First American Corporation (the "Company") was held on Thursday, May 10, 2001. (b) The names of the persons who were nominated to serve as directors of the Company for the ensuing year are listed below, together with a tabulation of the results of the voting with respect to each nominee. Each of the persons named was nominated by management of the Company and all such nominees were elected. Name of Nominee Votes For Votes Withheld --------------- --------- -------------- George L. Argyros 57,309,826 296,340 Gary J. Beban 57,281,507 324,660 J. David Chatham 57,341,213 264,954 William G. Davis 57,328,982 277,184 James L. Doti 57,329,937 276,230 Lewis W. Douglas, Jr. 57,341,561 264,606 Paul B. Fay, Jr. 57,338,372 267,794 D. P. Kennedy 53,049,632 4,556,534 Parker S. Kennedy 52,776,633 4,829,533 Frank O'Bryan 57,342,791 263,376 Roslyn B. Payne 57,255,739 350,425 D. Van Skilling 57,339,924 266,242 Virginia Ueberroth 57,332,896 273,271 (c) At the Meeting, the proposal to adopt The First American Corporation 2001 Employee Stock Purchase Plan was approved by the holders of a majority of the Company's Common shares represented at the meeting and entitled to vote. Votes For Votes Against Votes Withheld ---------- ------------- -------------- 55,673,421 1,613,302 319,376 No other matters were voted upon at the Meeting or during the quarter for which this report is filed. Item 6. Exhibits and Reports on Form 8-K. (a) Exhibits (4)(a) Registration Rights Agreement dated as of April 24, 2001, incorporated by reference herein from Exhibit 4.2 of Registration Statement No. 333-65216 on Form S-3 dated July 16, 2001. (4)(b) Indenture dated as of April 24, 2001, incorporated by reference herein from Exhibit 4.3 of Registration Statement No. 333-65216 on Form S-3 dated July 16, 2001. (4)(c) Form of Senior Convertible Debenture, incorporated by reference herein from Exhibit 4.4 of Registration Statement No. 333-65216 on Form S-3 dated July 16, 2001. (b) Reports on Form 8-K During the quarterly period covered by this report, the Company filed a report on Form 8-K dated April 11, 2001 (announcing the Company's earnings expectation for first quarter 2001); April 16, 2001 (reporting on the Company's plan to offer senior convertible debentures), May 7, 2001(reporting on the Company's having 13 reached agreements to sell its senior convertible debentures), May 8, 2001 (reporting on first quarter 2001 earnings), May 10, 2001 (reporting on an increase in the Company's quarterly cash dividend) and May 17, 2001 (reporting on the Company's deferral of gain on the sale of its Contour Software, Inc., subsidiary). Subsequent to such quarterly period, the Company filed reports on Form 8-K dated August 1, 2001 (announcing the Company's earnings for second quarter 2001). 14 EXHIBIT INDEX Sequentially Exhibit No. Description Numbered Page (4)(a) Registration Rights Agreement dated as of April 24, 2001, incorporated by reference herein from Exhibit 4.2 of Registration Statement No. 333-65216 on Form S-3 dated July 16, 2001. (4)(b) Indenture dated as of April 24, 2001, incorporated by reference herein from Exhibit 4.3 of Registration Statement No. 333-65216 on Form S-3 dated July 16, 2001. (4)(c) Form of Senior Convertible Debenture, incorporated by reference herein 15