10-Q 1 e10-q.txt FORM 10-Q 1 ================================================================================ SECURITIES AND EXCHANGE COMMISSION Washington, D. C. 20549 FORM 10-Q (MARK ONE) [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE QUARTERLY PERIOD ENDED: MAY 31, 2000 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: 1-8645 MEGO FINANCIAL CORP. (EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER) NEW YORK 13-5629885 (STATE OR OTHER JURISDICTION OF (I. R. S. EMPLOYER INCORPORATION OR ORGANIZATION) IDENTIFICATION NO.) 4310 PARADISE ROAD, LAS VEGAS, NEVADA 89109 (ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (ZIP CODE) (702) 737-3700 (REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE) 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 CORPORATE ISSUERS: As of July 12, 2000, there were 3,500,557 shares of Common Stock, $.01 par value per share, of the Registrant outstanding. ================================================================================ 2 MEGO FINANCIAL CORP. AND SUBSIDIARIES INDEX
Page ---- PART I FINANCIAL INFORMATION Item 1. Condensed Financial Statements (unaudited) Condensed Consolidated Balance Sheets at May 31, 2000 and August 31, 1999...........1 Condensed Consolidated Income Statements for the Three and Nine Months Ended May 31, 2000 and 1999.............................................................2 Condensed Consolidated Statements of Stockholders' Equity for the Nine Months Ended May 31, 2000................................................................3 Condensed Consolidated Statements of Cash Flows for the Nine Months Ended May 31, 2000 and 1999.............................................................4 Notes to Condensed Consolidated Financial Statements................................5 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations.........................................................6 Item 3. Quantitative and Qualitative Disclosures About Market Risk.........................14 PART II OTHER INFORMATION Item 1. Legal Proceedings..................................................................15 Item 6. Exhibits and Reports on Form 8-K...................................................15 SIGNATURE.....................................................................................16
I 3 PART I FINANCIAL INFORMATION ITEM 1. CONDENSED FINANCIAL STATEMENTS MEGO FINANCIAL CORP. AND SUBSIDIARIES CONDENSED CONSOLIDATED BALANCE SHEETS (thousands of dollars, except per share amounts) (unaudited)
MAY 31, AUGUST 31, 2000 1999 ---------- ---------- ASSETS Cash and cash equivalents $ 1,766 $ 1,821 Restricted cash 1,523 1,676 Notes receivable, net of allowance for cancellations and discounts of $12,845 at May 31, 2000 and $14,340 at August 31, 1999 74,132 69,300 Interest only receivables, at fair value 2,866 2,566 Timeshare interests held for sale 25,218 29,529 Land and improvements inventory 4,747 6,649 Other investments 4,492 5,111 Property and equipment, net of accumulated depreciation of $17,161 at May 31, 2000 and $16,252 at August 31, 1999 23,452 23,560 Deferred selling costs 5,100 4,285 Prepaid debt expenses 2,078 1,757 Other assets 15,970 12,707 ---------- ---------- TOTAL ASSETS $ 161,344 $ 158,961 ========== ========== LIABILITIES AND STOCKHOLDERS' EQUITY Liabilities: Notes and contracts payable $ 103,458 $ 104,555 Accounts payable and accrued liabilities 18,008 18,141 Reserve for notes receivable sold with recourse 4,447 4,162 Deposits 2,751 2,287 Accrued income taxes 3,505 3,505 ---------- ---------- Total liabilities before subordinated debt 132,169 132,650 ---------- ---------- Subordinated debt 4,286 4,478 Stockholders' equity: Preferred stock, $.01 par value (authorized--5,000,000 shares, none outstanding) -- -- Common stock, $.01 par value (authorized--50,000,000 shares; 3,500,557 shares issued and outstanding at May 31, 2000 and August 31, 1999) 35 35 Additional paid-in capital 13,068 13,068 Retained earnings 11,786 8,730 ---------- ---------- Total stockholders' equity 24,889 21,833 ---------- ---------- TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 161,344 $ 158,961 ========== ==========
See notes to condensed consolidated financial statements. 1 4 MEGO FINANCIAL CORP. AND SUBSIDIARIES CONDENSED CONSOLIDATED INCOME STATEMENTS (thousands of dollars, except per share amounts) (unaudited)
THREE MONTHS ENDED NINE MONTHS ENDED MAY 31, MAY 31, ---------------------------- ---------------------------- 2000 1999 2000 1999 ----------- ----------- ----------- ----------- REVENUES Timeshare interest sales, net $ 13,377 $ 10,885 $ 36,274 $ 28,494 Land sales, net 5,851 4,869 14,433 11,878 Gain on sale of receivables 635 -- 635 -- Net gain on sale of investments and other assets 31 -- 709 513 Interest income 3,255 2,672 9,298 6,616 Financial income 241 321 782 1,030 Incidental operations 421 694 1,556 1,970 Other 924 886 2,763 2,577 ----------- ----------- ----------- ----------- Total revenues 24,735 20,327 66,450 53,078 ----------- ----------- ----------- ----------- COSTS AND EXPENSES Direct cost of: Timeshare interest sales 2,987 2,483 7,575 5,917 Land sales 943 777 2,240 2,039 Marketing and sales 10,857 9,014 28,724 25,629 General and administrative 4,632 3,502 12,905 10,473 Interest expense 3,194 2,374 9,173 6,635 Incidental operations 278 549 1,377 1,661 Depreciation 449 485 1,400 1,493 ----------- ----------- ----------- ----------- Total costs and expenses 23,340 19,184 63,394 53,847 ----------- ----------- ----------- ----------- INCOME (LOSS) BEFORE INCOME TAXES 1,395 1,143 3,056 (769) INCOME TAXES (BENEFIT) -- -- -- (650) ----------- ----------- ----------- ----------- NET INCOME (LOSS) APPLICABLE TO COMMON STOCK $ 1,395 $ 1,143 $ 3,056 $ (119) =========== =========== =========== =========== NET INCOME (LOSS) PER COMMON SHARE Basic: Net income (loss) applicable to common stock $ 0.40 $ 0.33 $ 0.87 $ (0.03) =========== =========== =========== =========== Weighted-average number of common shares 3,500,557 3,500,557 3,500,557 3,500,557 =========== =========== =========== =========== Diluted: Net income (loss) applicable to common stock $ 0.40 $ 0.33 $ 0.87 $ (0.03) =========== =========== =========== =========== Weighted-average number of common shares and common share equivalents outstanding 3,500,557 3,500,557 3,500,557 3,500,557 =========== =========== =========== ===========
See notes to condensed consolidated financial statements. 2 5 MEGO FINANCIAL CORP. AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (thousands of dollars, except per share amounts) (unaudited)
COMMON STOCK $.01 PAR VALUE ADDITIONAL -------------------------- PAID-IN RETAINED SHARES AMOUNT CAPITAL EARNINGS TOTAL ---------- ---------- ----------- ---------- ---------- Balance at August 31, 1999 3,500,557 $ 35 $ 13,068 $ 8,730 $ 21,833 Net income for the nine months ended May 31, 2000 -- -- -- 3,056 3,056 ---------- ---------- ---------- ---------- ---------- Balance at May 31, 2000 3,500,557 $ 35 $ 13,068 $ 11,786 $ 24,889 ========== ========== ========== ========== ==========
See notes to condensed consolidated financial statements. 3 6 MEGO FINANCIAL CORP. AND SUBSIDIARIES CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (thousands of dollars) (unaudited)
NINE MONTHS ENDED MAY 31, ----------------------- 2000 1999 -------- -------- CASH FLOWS FROM OPERATING ACTIVITIES Net income (loss) $ 3,056 $ (119) -------- -------- Adjustments to reconcile net income (loss) to net cash provided by (used in) operating activities: Charges to allowance for cancellations (6,339) (4,662) Provision for cancellations 5,077 4,186 Net gain on sale of receivables and investments and other assets (1,344) (513) Cost of sales 9,815 7,956 Depreciation 1,400 1,493 Amortization of interest only receivables 360 579 Additions to interest only receivables (660) -- Repayments on notes receivable 37,412 29,849 Additions to notes receivable (59,656) (43,634) Proceeds from sales of notes receivable 19,594 -- Purchase of land and timeshare interests (3,602) (2,994) Changes in operating assets and liabilities: Decrease in restricted cash 153 142 Increase in other assets (3,253) (4,928) Increase in deferred selling costs (815) (157) Increase (decrease) in accounts payable and accrued liabilities (133) 1,810 Increase (decrease) in deposits 464 (2,421) Decrease in accrued income taxes -- (783) -------- -------- Total adjustments (1,527) (14,077) -------- -------- Net cash provided by (used in) operating activities 1,529 (14,196) -------- -------- CASH FLOWS FROM INVESTING ACTIVITIES Purchase of property and equipment (1,292) (1,368) Proceeds from the sale of other investments 1,001 747 Additions to other investments (34) (821) Decrease in other investments 30 -- -------- -------- Net cash used in investing activities (295) (1,442) -------- -------- CASH FLOWS FROM FINANCING ACTIVITIES Proceeds from borrowings 49,643 40,906 Reduction of debt (50,740) (25,124) Payments on subordinated debt (429) (466) Increase in subordinated debt 237 453 -------- -------- Net cash provided by (used in) financing activities (1,289) 15,769 -------- -------- NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS (55) 131 CASH AND CASH EQUIVALENTS -- BEGINNING OF PERIOD 1,821 1,813 -------- -------- CASH AND CASH EQUIVALENTS -- END OF PERIOD $ 1,766 $ 1,944 ======== ======== SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION Cash paid during the period for: Interest, net of amounts capitalized $ 9,101 $ 6,342 ======== ======== SUPPLEMENTAL DISCLOSURE OF NON-CASH ACTIVITIES Issuance of warrants related to debt $ -- $ 109
See notes to condensed consolidated financial statements. 4 7 MEGO FINANCIAL CORP. AND SUBSIDIARIES NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS FOR THE THREE AND NINE MONTHS ENDED MAY 31, 2000 AND 1999 (unaudited) 1. FINANCIAL STATEMENTS In the opinion of management, when read in conjunction with the audited Consolidated Financial Statements for the years ended August 31, 1999 and 1998, contained in the Form 10-K of Mego Financial Corp. (Mego Financial) filed with the Securities and Exchange Commission for the year ended August 31, 1999, the accompanying unaudited Condensed Consolidated Financial Statements contain all of the information necessary to present fairly the financial position of Mego Financial and subsidiaries at May 31, 2000, the results of its operations for the three and nine months ended May 31, 2000 and 1999, the changes in stockholders' equity for the nine months ended May 31, 2000 and the cash flows for the nine months ended May 31, 2000 and 1999. All intercompany accounts between the parent and its subsidiaries have been eliminated. The preparation of financial statements in conformity with generally accepted accounting principles (GAAP) requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosures of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting period. Actual results could differ from those estimates. In the opinion of management, all material adjustments, which are normal and recurring in nature, necessary for the fair presentation of these statements have been included herein. The results of operations for the three and nine months ended May 31, 2000 are not necessarily indicative of the results to be expected for the full year. Effective September 9, 1999, the Company consummated a one for six reverse stock split for all of the Company's common shares outstanding. Except as otherwise indicated, all share and per share references have been restated to retroactively show the effect of this reverse stock split. 2. NATURE OF OPERATIONS Mego Financial, through its wholly-owned subsidiary, Preferred Equities Corporation (PEC), established in 1970, is a premier developer of timeshare properties and a provider of consumer financing to purchasers of its timeshare intervals and land parcels, in select resort areas. PEC also manages timeshare properties, and receives management fees as well as fees based on sales of timeshare interests. By providing financing to virtually all of its customers, PEC also originates consumer receivables that it hypothecates and services. In February 1988, Mego Financial acquired PEC, pursuant to an assignment by the Assignors (Comay Corp., Growth Realty Inc., RER Corp., and H&H Financial, Inc.) of their contract right to purchase PEC. Mego Financial and its subsidiaries are herein collectively referred to as the Company. Mego Financial was incorporated under the laws of the state of New York in 1954 under the name Mego Corp. and, in 1992, changed its name to Mego Financial Corp. To facilitate its sales of timeshare interests, the Company has entered into several trust agreements. The trustees administer the collection of the related notes receivable. The Company has assigned title to certain of its resort properties in Nevada and its interest in certain related notes receivable to the trustees. 3. RECENTLY ISSUED ACCOUNTING PRONOUNCEMENTS In December 1999, the Securities and Exchange Commission (SEC) issued Staff Accounting Bulletin (SAB) No. 101, "Revenue Recognition in Financial Statements", which summarizes the SEC's interpretation of applying generally accepted accounting principles to revenue recognition in the financial statements. SAB No. 101 was subsequently amended in June 2000 and becomes effective for the fourth fiscal quarter of fiscal years beginning after December 15, 1999. Based on Mego Financial's current revenue recognition policies, Mego Financial does not expect the adoption of SAB No. 101, as amended, to have a material impact on its consolidated financial position or results of operations. 5 8 4. STOCKHOLDERS' EQUITY Mego Financial's stock option plan (Stock Option Plan), which was amended and restated as of September 16, 1998 upon the approval of Mego Financial's shareholders, provides for grants of non-qualified and qualified incentive options to officers, key employees and directors. Options for 58,906 shares were outstanding as of May 31, 2000. ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS SPECIAL CAUTIONARY NOTICE REGARDING FORWARD-LOOKING STATEMENTS The following Management's Discussion and Analysis of Financial Condition and Results of Operations section contains certain forward-looking statements and information relating to Mego Financial Corp. (Mego Financial) (Mego Financial and it subsidiaries are referred to herein collectively as the Company) that are based on the beliefs of management as well as assumptions made by and information currently available to management. Such forward-looking statements include, without limitation, the Company's expectation and estimates as to the Company's business operations, including the introduction of new timeshare and land sales programs and future financial performance, including growth in revenues and net income and cash flows. Such forward-looking statements also include, without limitation, the Company's expectations and beliefs as to the results of its year 2000 compliance efforts and the impact on the Company's operations of efforts its lenders and other third parties in respect of such compliance. In addition, as used herein, the words "anticipates," "believes," "estimates," "expects," "plans," "intends" and similar expressions, as they relate to the Company or its management, are intended to identify forward-looking statements. Such statements reflect the current views of the Company's management with respect to future events and are subject to certain risks, uncertainties and assumptions. In addition, the Company specifically advises readers that the factors listed under the caption "Liquidity and Capital Resources" could cause actual results to differ materially from those expressed in any forward-looking statement. Should one or more of these risks or uncertainties materialize, or should underlying assumptions prove incorrect, actual results may vary materially from those described herein as anticipated, believed, estimated or expected. The following discussion and analysis should be read in conjunction with the Condensed Consolidated Financial Statements, including the notes thereto, contained elsewhere herein and in the Company's Form 10-K for the fiscal year ended August 31, 1999. GENERAL The business of the Company is primarily the marketing, financing and sale of timeshare interests, retail lots and land parcels, and servicing the related receivables, and operating and/or managing timeshare properties. The Company, through its subsidiary, Preferred Equities Corporation (PEC), provides financing to purchasers of its timeshare interests and land. This financing is generally evidenced by notes secured by deeds of trust and mortgages. These notes receivable are generally payable over a period up to twelve years, bear interest at rates ranging from 10.0% to 15.5%, and require equal monthly installments of principal and interest. PEC PEC recognizes revenue primarily from sales of timeshare interests and land sales in resort areas, gain on sale of receivables and interest income. PEC periodically sells its consumer receivables while generally retaining the servicing rights. Revenue from sales of timeshare interests and land is recognized after the requisite rescission period has expired and at such time as the purchaser has paid at least 10% of the sales price for sales of timeshare interests and 20% of the sales price for land sales. Land sales typically meet these requirements within six to ten months of closing, and sales of timeshare interests typically meet these requirements at the time of sale. The sales price, less a provision for cancellation, is recorded as revenue and the allocated cost related to such net revenue of the timeshare interest or land parcel is recorded as expense in the period that revenue is recognized. When revenue related to land sales is recognized, the portion of the sales price attributable to uncompleted required improvements, if any, is deferred. 6 9 Notes receivable with payment delinquencies of 90 days or more have been considered in determining the allowance for cancellations. Cancellations occur when the note receivable is determined to be uncollectible and the related collateral, if any, has been recovered. Cancellation of a note receivable in the quarter the revenue is recognized is deemed to not represent a sale and is accounted for as a reversal of the revenue with an adjustment to cost of sales. Cancellation of a note receivable subsequent to the quarter the revenue was recognized is charged to the allowance for cancellations. Gain on sale of notes receivable includes the present value of the differential between contractual interest rates charged to borrowers on notes receivable sold by PEC and the interest rates to be received by the purchasers of such notes receivable, after considering the effects of estimated prepayments and a normal servicing fee. PEC retains certain participations in cash flows from the sold notes receivable and generally retains the associated servicing rights. PEC generally sells its notes receivable at par value. The present values of expected net cash flows from the sale of notes receivable are recorded at the time of sale as interest only receivables. Interest only receivables are amortized as a charge to income, as payments are received on the retained interest differential over the estimated life of the underlying notes receivable. Interest only receivables are recorded at the lower of unamortized cost or estimated fair value. The expected cash flows used to determine the interest only receivables asset have been reduced for potential losses under recourse provisions of the sales agreements. Reserve for notes receivable sold with recourse represents PEC's estimate of the fair value of its future credit losses to be incurred over the lives of the notes receivable in connection with the recourse provisions of the sales agreements and is shown separately as a liability in the Company's Condensed Consolidated Balance Sheets. In discounting cash flows related to notes receivable sales, PEC defers servicing income at an annual rate of 1% and discounts cash flows on its sales at the rate it believes a purchaser would require as a rate of return. Earned servicing income is included under the caption of financial income. The cash flows were discounted to present value using a discount rate of 15% for the nine months ended May 31, 2000 and 1999. PEC has developed its assumptions based on experience with its own portfolio, available market data and consultation with its financial advisors. In determining expected cash flows, management considers economic conditions at the date of sale. In subsequent periods, these estimates may be revised as necessary using the original discount rate, and any losses arising from prepayment and loss experience will be recognized as realized. Provision for cancellations relating to notes receivable is recorded as expense in amounts sufficient to maintain the allowance at a level considered adequate to provide for anticipated losses resulting from customers' failure to fulfill their obligations under the terms of their notes receivable. PEC records provision for cancellations at the time revenue is recognized, based on historical experience and current economic factors. The related allowance for cancellations represents PEC's estimate of the amount of the future credit losses to be incurred over the lives of the notes receivable. The allowance for cancellations is adjusted for actual cancellations experienced, including cancellations related to previously sold notes receivable which were reacquired pursuant to the recourse obligations discussed herein. Such allowance is also reduced to establish the separate liability for reserve for notes receivable sold with recourse. PEC's judgment in determining the adequacy of this allowance is based upon a periodic review of its portfolio of notes receivable. These reviews take into consideration changes in the nature and level of the portfolio, historical cancellation experience, current economic conditions which may affect the purchasers' ability to pay, changes in collateral values, estimated value of inventory that may be reacquired and overall portfolio quality. Changes in the allowance as a result of such reviews are included in the provision for cancellations. Fees for servicing notes receivable originated by PEC and sold with servicing rights retained are generally based on a stipulated percentage of the outstanding principal balance of such notes receivable and are recognized when earned. Interest received on notes receivable sold, less amounts paid to investors, is reported as financial income. Interest only receivables are amortized systematically to reduce notes receivable servicing income to an amount representing normal servicing income and the present value discount. Late charges and other miscellaneous income are recognized when collected. Costs to service notes receivable are recorded to expense as incurred. Interest income represents the interest received on loans held in PEC's portfolio, the accretion of the discount on the interest only receivables and interest on cash funds. 7 10 Total costs and expenses consist primarily of marketing and sales expenses, general and administrative expenses, direct costs of sales of timeshare interests and land, depreciation and amortization and interest expense. Marketing and sales costs directly attributable to unrecognized sales are accounted for as deferred selling costs until such time as the sale is recognized or cancelled prior to recognition. Land sales as of May 31, 2000 exclude $18.3 million of sales not yet recognized under generally accepted accounting principles (GAAP) since the requisite payment amounts have not yet been received or the respective recission periods have not yet expired. Of the $18.3 million unrecognized land sales, the Company estimates that it will ultimately recognize $15.0 million of revenues, which would be reduced by a provision for cancellations of $1.3 million, deferred selling costs of $4.2 million and cost of sales of $2.1 million. PEC has entered into financing arrangements with certain purchasers of timeshare interests and land whereby a lower interest rate, currently 5% per annum, is charged on those sales where the aggregate down payment is at least 50% of the purchase price and the balance is payable in 36 or fewer monthly payments. Notes receivable of $6.3 million and $6.0 million at May 31, 2000 and August 31, 1999, respectively, were made under this arrangement. RESULTS OF OPERATIONS Three Months Ended May 31, 2000 Compared to Three Months Ended May 31, 1999 Total revenues for the Company increased 21.7% or $4.4 million to $24.7 million during the three months ended May 31, 2000 from $20.3 million during the three months ended May 31, 1999. The increase was primarily due to a net increase of $3.5 million in timeshare and land sales to $19.2 million during the three months ended May 31, 2000 from $15.7 million during the three months ended May 31, 1999 (net timeshare sales increased by $2.5 million and net land sales increased by $1.0), an increase in interest income to $3.3 million during the three months ended May 31, 2000 from $2.7 million during the three months ended May 31, 1999 and total net gains of $666,000 on sale of receivables and investments and other assets during the three months ended May 31, 2000. Gross sales of timeshare interests increased to $15.3 million during the three months ended May 31, 2000 from $12.5 million during the three months ended May 31, 1999, an increase of 22.7%. Net sales of timeshare interests increased to $13.4 million from $10.9 million, an increase of 22.9%. The provision for cancellations represented 12.5% and 12.7%, respectively, of gross sales of timeshare interests for the three months ended May 31, 2000 and 1999. Gross sales of land increased to $6.3 million during the three months ended May 31, 2000 from $5.2 million during the three months ended May 31, 1999, an increase of 21.0%. Net sales of land increased to $5.9 million during the three months ended May 31, 2000 from $4.9 million during the three months ended May 31, 1999, an increase of 20.2%. The provision for cancellations represented 7.0% and 6.4%, respectively, of gross sales of land for the three months ended May 31, 2000 and 1999. Interest income increased 21.8% to $3.3 million for the three months ended May 31, 2000 from $2.7 million for the three months ended May 31, 1999, primarily due to increased notes receivable for the current quarter. During the three months ended May 31, 2000, there were $666,000 net gains on sale of receivables and land parcels. Total costs and expenses for the Company increased to $23.3 million for the three months ended May 31, 2000 from $19.1 million for the three months ended May 31, 1999, an increase of 21.7%. The increase resulted primarily from an increase in direct costs of timeshare sales to $3.0 million from $2.5 million, an increase of 20.3%; an increase of $1.8 million in marketing and sales expense, an increase of 20.4%; an increase of $820,000 in interest expense, an increase of 34.5%; and, an increase of $1.1 million in general and administrative expenses, an increase of 32.3%. The increase in direct costs of timeshare sales is attributable to higher net timeshare sales during the current fiscal quarter compared to the same quarter last year. The increase in marketing and sales expenses is due primarily to higher gross sales. As discussed below, marketing and sales expenses decreased as a percentage of gross sales. The increase in interest expense is due to 8 11 increased notes and contracts payable and borrowing costs. The increase in general and administrative expenses is due primarily to the increase in escrow collection costs related to the increased sales volume, an increase in maintenance fees paid to Homeowner Associations by PEC, other resort operations' expenses and a lease payment related to a previously affiliated company. As a percentage of gross sales of timeshare interests and land, marketing and sales expenses related thereto decreased to 50.3% during the three months ended May 31, 2000 from 51.0% during the three months ended May 31, 1999, and cost of sales decreased to 18.2% during the three months ended May 31, 2000 from 18.5% during the three months ended May 31, 1999. Subsequent to the first quarter of fiscal 1999, the Company restructured its marketing and sales programs, which restructuring included the closing of unprofitable sales locations, the elimination of certain marketing programs and the layoff of related personnel. Sales prices of timeshare interests are typically lower than those of land, while selling costs per sale, other than commissions, are approximately the same in amount for timeshare interests and land; accordingly, the Company generally realizes lower profit margins from sales of timeshare interests than from sales of land. Interest expense increased to $3.2 million during the three months ended May 31, 2000 from $2.4 million during the three months ended May 31, 1999, an increase of 34.5%. The increase was a result of increased notes and contracts payable during the three months ended May 31, 2000 compared to the three months ended May 31, 1999, and the increased borrowing costs in the comparative periods. This increase related to interest carrying costs for maintaining the notes in the Company's owned portfolio. Historically, PEC has from time to time sold notes receivable and applied the net proceeds to reduce its outstanding debt. Until the current quarter, there had been no such sales since August 1998. There were loan package sales to two institutional buyers aggregating $19.0 million during the three months ended May 31, 2000. Pre-tax income of $1.4 million was earned during the three months ended May 31, 2000 compared to pre-tax income of $1.1 million during the three months ended May 31, 1999. The improvement in the three months ended May 31, 2000 resulted from the $4.4 million increase in revenues partially offset by the $4.1 million increase in expenses. No income taxes were recorded for the three months ended May 31, 2000 and 1999, due to the use of net operating loss carryforwards which were previously fully reserved and are used to offset income on a consolidated basis. Income taxes are recorded, and the liability is adjusted, based on an ongoing review of related facts and circumstances. Net income applicable to common stock amounted to $1.4 million during the three months ended May 31, 2000 compared to net income applicable to common stock of $1.1 million during the three months ended May 31, 1999, primarily due to the foregoing. Nine Months Ended May 31, 2000 Compared to Nine Months Ended May 31, 1999 Total revenues for the Company increased 25.2%, or $13.4 million, to $66.5 million during the nine months ended May 31, 2000 from $53.1 million during the nine months ended May 31, 1999. The increase was primarily due to an increase in timeshare and land sales to $50.7 million during the nine months ended May 31, 2000 from $40.4 million during the nine months ended May 31, 1999 (net timeshare sales increased by $7.8 million and net land sales increased by $2.5 million), an increase in interest income to $9.3 million during the nine months ended May 31, 2000 from $6.6 million during the nine months ended May 31, 1999, and total net gains on sale of receivables and investments and other assets of $1.3 million during the nine months ended May 31, 2000 compared to $513,000 during the nine months ended May 31, 1999. Gross sales of timeshare interests increased to $40.6 million during the nine months ended May 31, 2000 compared to $31.9 million during the nine months ended May 31, 1999, an increase of 27.3%. Net sales of timeshare interests increased to $36.3 million from $28.5 million, an increase of 27.3%. The provision for cancellations represented 10.6% of gross sales of timeshare interests for the nine months ended May 31, 2000 and 1999. Gross sales of land increased to $15.2 million during the nine months ended May 31, 2000 from $12.7 million during the nine months ended May 31, 1999, an increase of 19.8%. Net sales of land increased to $14.4 million during the nine months ended May 31, 2000 from $11.9 million during the nine months ended May 31, 1999, an increase of 21.5%. The provision for cancellations decreased to 5.0% of gross sales of land for the nine months ended May 31, 2000 from 6.3% for the nine months ended May 31, 1999, primarily due to a decrease in cancellation experience during the nine months 9 12 ended May 31, 2000 and downward adjustments based on the results of the customary quarterly reviews of the allowance adequacy. Interest income increased to $9.3 million for the nine months ended May 31, 2000 from $6.6 million for the nine months ended May 31, 1999, an increase of 40.5%, primarily due to increased notes receivable for the current period. During the nine months ended May 31, 2000, there were $1.3 million net gains on sale of receivables, the golf courses and land parcels, compared to a $513,000 gain on a sale of a land parcel for the nine months ended May 31, 1999. Total costs and expenses for the Company increased to $63.4 million for the nine months ended May 31, 2000 from $53.8 million for the nine months ended May 31, 1999, an increase of 17.7%. The increase resulted primarily from an increase in direct costs of timeshare sales to $7.6 million from $5.9 million, an increase of 28.0%; an increase in marketing and sales expenses to $28.7 million from $25.6 million, an increase of 12.1%; an increase in interest expense to $9.2 million from $6.6 million, an increase of 38.3%; and, an increase in general and administrative expenses to $12.9 million from $10.5 million, an increase of 23.2%. The increase in direct costs of timeshare sales is attributable to higher net timeshare sales during the current fiscal period compared to the same period last fiscal year. The increase in marketing and sales expenses is due primarily to higher gross sales. As discussed below, the increase in these expenses on a dollar basis was accompanied by a decrease in marketing and sales expenses as a percentage of gross sales. The increase in interest expense is due to increased notes and contracts payable and borrowing costs. The increase in general and administrative expenses is primarily due to the increase in escrow collection costs related to sales volume, an increase in maintenance fees paid to Homeowner Associations by PEC, other resort operations' expenses and a lease payment related to a previously affiliated company. As a percentage of gross sales of timeshare interests and land, marketing and sales expenses relating thereto decreased to 51.5% during the nine months ended May 31, 2000 from 57.5% during the nine months ended May 31, 1999, and cost of sales decreased to 17.6% during the nine months ended May 31, 2000 from 17.9% during the nine months ended May 31, 1999. Interest expense increased to $9.2 million during the nine months ended May 31, 2000 from $6.6 million during the nine months ended May 31, 1999, an increase of 38.3%. The increase is a result of increased notes and contracts payable and borrowing costs during the nine months ended May 31, 2000 compared to the nine months ended May 31, 1999. Pre-tax income of $3.1 million was earned during the nine months ended May 31, 2000 compared to a pre-tax loss of $769,000 during the nine months ended May 31, 1999. The improvement in the first nine months of fiscal 2000 resulted from the $13.4 million increase in revenues partially offset by the $9.5 million increase in expenses. No income tax provision or benefit was recorded for the nine months ended May 31, 2000 compared to an income tax benefit of $650,000 during the nine months ended May 31, 1999, due to the use of net operating loss carryforwards which were previously fully reserved and currently are used to offset income on a consolidated basis. Income taxes are recorded, and the liability is adjusted, based on an ongoing review of related facts and circumstances. Net income applicable to common stock was $3.1 million during the nine months ended May 31, 2000 compared to a net loss applicable to common stock of $119,000 during the nine months ended May 31, 1999, primarily due to the foregoing. LIQUIDITY AND CAPITAL RESOURCES Cash and cash equivalents for the Company were $1.8 million at May 31, 2000 and August 31, 1999. PEC's cash requirements arise from the acquisition of timeshare properties and land, payments of operating expenses, payments of income taxes to Mego Financial, payments of principal and interest on debt obligations, and payments of marketing and sales expenses in connection with sales of timeshare interests and land. Marketing and sales expenses payable by PEC in connection with sales of timeshare interests and land typically exceed the down payments received at the time of sale, as a result of which PEC generates a cash shortfall. This cash shortfall and PEC's other cash 10 13 requirements are funded primarily through advances under PEC's lines of credit in the aggregate amount of $133.5 million, sales of receivables and cash flows from operations. At May 31, 2000, no commitments existed for material capital expenditures. At May 31, 2000, PEC had arrangements with institutional lenders for the financing of receivables in connection with sales of timeshare interests and land and the acquisition of timeshare properties and land, which provide for lines of credit of up to an aggregate of $133.5 million. Such lines of credit are secured by timeshare and land receivables and mortgages. At May 31, 2000, an aggregate of $101.5 million was outstanding under such lines of credit, and $32.0 million was available for borrowing. Under the terms of these lines of credit, PEC may borrow 65% to 90% of the balances of the pledged timeshare and land receivables. PEC is required to comply with certain covenants under these agreements, which, among other things, require PEC to meet certain minimum tangible net worth requirements. The most stringent of such requirements provides that PEC maintain a minimum tangible net worth of $25 million. At May 31, 2000, PEC exceeded this net worth requirement by $5.0 million. Summarized lines of credit information and accompanying notes relating to these lines of credit outstanding at May 31, 2000, consist of the following (thousands of dollars):
BORROWING MAXIMUM Amount at Borrowing Revolving May 31, 2000 Amounts Expiration Date (a) Maturity Date Interest Rate ------------------- ------------- ------------------- --------------- -------------------- $ 60,312 $ 75,000 (b) December 31, 2000 Various Prime + 2.0 - 2.25% ------------------ ------------ 15,538 15,000 (c) December 1, 2002 Various Prime + 2.0 5,387 11,500 (d) August 1, 2000 Various Prime + 2.0 - 3.00% ------------------ ------------ 20,925 26,500 Considered one borrowing line for the maximum amount. ------------------ ------------ 18,260 30,000 (e) June 30, 2001 Various Libor + 4.0 - 4.25% 1,972 1,972 (f) July 31, 2000 Prime + 2.25% ------------------ ------------ $ 101,469 $ 133,472 ================== ============
(a) Revolving expiration dates represent the expiration of the revolving features of the lines of credit, at which time the credit lines become loans with fixed maturities. As is customary, the Company is negotiating for extensions of certain of the revolving periods. (b) Restrictions include PEC's requirement to maintain a minimum tangible net worth of $25 million. Other restrictions, commencing with the fiscal quarter ended November 30, 1999, include: PEC's requirement to maintain costs and expenses for marketing and sales and general and administrative expenses relating to net processed sales for each fiscal quarter; PEC's requirement to maintain a minimum net processed sales requirement for each fiscal quarter; and PEC's requirement not to exceed a ratio of 4:1 of consolidated total liabilities to consolidated tangible net worth. At May 31, 2000, $45.9 million of loans secured by receivables were outstanding related to financings at prime plus 2%, of which $26.8 million of loans secured by land receivables mature May 15, 2010 and $19.1 million of loans secured by timeshare receivables mature May 15, 2007. The outstanding borrowing amount includes $6.4 million in acquisition and development (A&D) financing maturing October 1, 2005 for the corporate office buildings, which is an amortizing loan with principal payments waived through December 31, 2000, and a real estate loan with an outstanding balance of $1.2 million maturing December 31, 2000, all bearing interest at prime plus 2.25%. The remaining A&D loans, receivables loans and a resort lobby loan outstanding of $4.3 million are at prime plus 2% and mature at various dates through February 18, 2001. In December 1998, Finova Capital Corporation (FINOVA), PEC and Mego Financial entered into an Agreement under which FINOVA agreed to make a loan in the amount of $5,662,000 to PEC with an original maturity date of June 30, 1999, which date has been extended to December 31, 2000. Mego Financial guaranteed the loan and issued warrants to FINOVA to purchase a total of 83,333 shares of common stock of Mego Financial at an exercise price of $6.00 per share, exercisable within a five-year period commencing January 1, 1999. The balance 11 14 outstanding under this Agreement, which is included in the $60.3 million balance in the preceding table, was $2.5 million as of May 31, 2000. (c) Restrictions include PEC's requirement to maintain a minimum tangible net worth of $25 million during the life of the loan. These credit lines include available financing for A&D and receivables. At May 31, 2000, $6.8 million was outstanding under the A&D loan, which matures on June 30, 2004, and $8.7 million was outstanding under the receivables loan, which matures on May 31, 2004. (d) Restrictions include PEC's requirement to maintain a minimum tangible net worth of $15 million. This credit line consists of receivable financing with a maturity date of May 31, 2004, under which $1.7 million was outstanding at May 31, 2000, and a real estate loan of $3.7 million with a maturity date of August 30, 2000. (e) Restrictions include PEC's requirement to maintain a minimum tangible net worth of $17 million during the life of the loan. These credit lines include available financings for A&D and receivables. At May 31, 2000, $2.8 million was outstanding under the A&D loans which have a maturity date of June 30, 2001 and bear interest at the 90-day London Interbank Offering Rate (LIBOR) plus 4.25%. The available receivable financings, of which $15.5 million was outstanding at May 31, 2000, are at 90-day LIBOR plus 4% and have a maturity date of June 5, 2005. (f) Restrictions include PEC's requirement to maintain a minimum tangible net worth of $25 million. A schedule of the cash shortfall arising from recognized and unrecognized sales for the periods indicated is set forth below (thousands of dollars):
THREE MONTHS ENDED NINE MONTHS ENDED MAY 31, MAY 31, ----------------------- ----------------------- 2000 1999 2000 1999 -------- -------- -------- -------- Marketing and selling expenses attributable to recognized and unrecognized sales $ 10,772 $ 8,837 $ 29,539 $ 26,168 Less: Down payments (2,831) (3,475) (8,175) (8,868) -------- -------- -------- -------- Cash Shortfall $ 7,941 $ 5,362 $ 21,364 $ 17,300 ======== ======== ======== ========
During the three months ended May 31, 2000, an aggregate of $19.0 million of notes receivable was sold to two institutional buyers. There had been no other notes receivable sales since August 1998. PEC sells notes receivable subject to recourse provisions as contained in each agreement. PEC is obligated under these agreements to replace or repurchase accounts that become over 90 days delinquent or are otherwise subject to replacement or repurchase in either cash or receivables generally at the option of the purchaser. At May 31, 2000, PEC was contingently liable to replace or repurchase notes receivable sold with recourse totaling $63.5 million. The repurchase provisions provide for substitution of receivables as recourse for $54.7 million of sold notes receivable and cash payments for repurchase relating to $8.8 million of sold notes receivable. The undiscounted amounts of the recourse obligations on such notes receivable were $5.0 million and $6.0 million at May 31, 2000 and 1999, respectively. PEC continually reviews the adequacy of this liability. These reviews take into consideration changes in the nature and level of the portfolio, current and future economic conditions which may affect the obligors' ability to pay, changes in collateral values, estimated value of inventory that may be reacquired and overall portfolio quality. The components of the Company's debt, including lines of credit consist of the following (thousands of dollars):
MAY 31, AUGUST 31, 2000 1999 -------- ---------- Notes collateralized by receivables $ 71,824 $ 67,457 Mortgages collateralized by real estate properties 30,440 35,846 Installment contracts and other notes payable 1,194 1,252 -------- -------- Total $103,458 $104,555 ======== ========
12 15 FINANCIAL CONDITION Changes in the aggregate of the allowance for cancellations, excluding discounts, and the reserve for notes receivable sold with recourse for the nine months ended May 31, 2000, consisted of the following (thousands of dollars): Balance at beginning of period $ 18,149 Provision for cancellations 5,077 Amounts charged to allowance for cancellations, net (6,339) -------- Balance at end of period $ 16,887 ========
The allowance for cancellations and the reserve for notes receivable sold with recourse consisted of the following at these dates (thousands of dollars):
MAY 31, AUGUST 31, 2000 1999 -------- ---------- Allowance for cancellations, excluding discounts $ 12,440 $ 13,987 Reserve for notes receivable sold with recourse 4,447 4,162 -------- -------- Total $ 16,887 $ 18,149 ======== ========
May 31, 2000 Compared to August 31, 1999 Cash and cash equivalents was $1.8 million at May 31, 2000 and August 31, 1999. Notes receivable, net, increased 7.0% to $74.1 million at May 31, 2000 from $69.3 million at August 31, 1999 primarily as a result of net new receivables added. During the three months ended May 31, 2000, $19.0 million in notes receivable were sold to various lenders. Timeshare interests held for sale decreased 14.6% to $25.2 million at May 31, 2000 from $29.5 million at August 31, 1999. Land and improvements inventory decreased 28.6% to $4.7 million at May 31, 2000 from $6.6 million at August 31, 1999. Notes and contracts payable decreased 1.0% to $103.5 million at May 31, 2000 from $104.6 million at August 31, 1999. There was a net increase of $4.3 million in notes collateralized by receivables, as the new business more than offset the notes receivable sales previously mentioned. Mortgages collateralized by real estate properties decreased by $5.4 million. Other than release payments in the normal course of business, such debt was reduced by the proceeds from the sale of the golf courses and land parcels. Reserve for notes receivable sold with recourse increased 6.9% to $4.4 million at May 31, 2000 from $4.2 million at August 31, 1999. This reserve is increased as notes receivable are sold to lenders, and reduced as loan balances decrease. Recourse to the Company on sales of notes receivable is governed by the agreements between the purchasers and the Company. Stockholders' equity increased 14.0% to $24.9 million at May 31, 2000 from $21.8 million at August 31, 1999. The change for the period was due to net income. 13 16 YEAR 2000 COMPLIANCE The Company believes it is Year 2000 compliant. There have been no significant problems experienced as a result of the occurrence of Year 2000 which have disrupted operations. The Company will continue to monitor its operations for Year 2000 problems. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK There was no material change for the three months ended May 31, 2000 in the information about the Company's "Quantitative and Qualitative Disclosures About Market Risk" as disclosed in its Annual Report on Form 10-K for the fiscal year ended August 31, 1999. 14 17 PART II OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS On August 27, 1998, an action was filed in Nevada District Court, County of Clark, No. A392585, by Robert and Jocelyne Henry, husband and wife individually and on behalf of all others similarly situated against PEC, PEC's wholly-owned subsidiary, Central Nevada Utilities Company (CNUC), and certain other defendants. The plaintiffs' complaint asked for class action relief claiming that PEC and CNUC were guilty of collecting certain betterment fees and not providing sewer and water lines to their property. The court determined that plaintiffs had not properly pursued their administrative remedies with the Nevada Public Utilities Commission (PUC) and dismissed plaintiffs' amended complaint, without prejudice. Notwithstanding plaintiffs' appeal of the dismissal, plaintiff filed for administrative relief with the PUC. On November 17, 1999, the PUC found that CNUC, the only defendant over which the PUC has jurisdiction, was not in violation of any duties owed the plaintiffs or otherwise in violation of CNUC's approved tariffs. Subsequent to the PUC's decision, plaintiffs voluntarily dismissed their appeal of the trial court's order dismissing their case without prejudice and directing plaintiffs to exhaust their administrative remedies. On May 4, 2000, plaintiffs refiled their complaint in Nevada District Court, naming all of the above parties with the exception of CNUC. On October 19, 1998, the United States District Court, District of Nevada (Court) issued a Final Judgment and Order of Dismissal with Prejudice, approving the Settlement Agreement, regarding the actions against the Company known as the Dunleavy and Peyser Actions filed in 1995 and 1996; and the Michael Nadler action filed in 1996. The Final Judgment and Order of Dismissal would not become final until the Effective Date, which is the date following either the expiration of any appeal period without appeal; or, the date following the affirmation of the Final Judgment on appeal, and on which such Final Judgment is no longer subject to further judicial review. On November 13, 1998, Michael Nadler, who had filed objections to the settlement, filed a Notice of Appeal from the Final Judgment and Order of Dismissal with Prejudice and certain other orders of the Court. On May 22, 2000, the 9th Circuit Court of Appeals denied Mr. Nadler's appeal of the Settlement Agreement and sustained the final judgment. Provided no further appeal is taken, the Effective Date will be August 21, 2000. There has been no material change in the status of other litigation reported in the Company's Annual Report on Form 10-K for the year ended August 31, 1999, other than that reported herein and in the Form 10-Q's for the quarters ended November 30, 1999 and February 29, 2000. ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K (a) EXHIBITS
EXHIBIT NUMBER DESCRIPTION -------- ----------- 10.208 Amendment No. 4 to Severance Agreement and Consulting Agreement dated December 30, 1999 by and between Mego Financial Corp. and Don A. Mayerson. 10.209 Amendment No. 5 to Severance Agreement and Consulting Agreement dated May 20, 2000 by and between Mego Financial Corp. and Don A. Mayerson. 10.210 Ninth Amendment to Assignment and Assumption Agreement by and between RER Corp., COMAY Corp., GROWTH REALTY INC. and H&H FINANCIAL, INC. and MEGO FINANCIAL Corp. dated April 30,2000. 27.1 Financial Data Schedule (for SEC use only).
(b) No reports on Form 8-K were filed during the quarter. 15 18 SIGNATURE 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. MEGO FINANCIAL CORP. By: /s/ Charles G. Baltuskonis ------------------------------------------- Charles G. Baltuskonis Vice President and Chief Accounting Officer Date: July 12, 2000 16 19 EXHIBIT INDEX
EXHIBIT NUMBER DESCRIPTION -------- ----------- 10.208 Amendment No. 4 to Severance Agreement and Consulting Agreement dated December 30, 1999 by and between Mego Financial Corp. and Don A. Mayerson. 10.209 Amendment No. 5 to Severance Agreement and Consulting Agreement dated May 20, 2000 by and between Mego Financial Corp. and Don A. Mayerson. 10.210 Ninth Amendment to Assignment and Assumption Agreement by and between RER Corp., COMAY Corp., GROWTH REALTY INC. and H&H FINANCIAL, INC. and MEGO FINANCIAL Corp. dated April 30,2000. 27.1 Financial Data Schedule (for SEC use only).