10-K 1 d10k.txt 08/31/2001 ================================================================================ UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 -------------------------------------------------------------------------------- FORM 10-K [X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the fiscal year ended August 31, 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 1-8645 MEGO FINANCIAL CORP. -------------------------------------------------------------------------------- (Exact name of registrant as specified in its charter) New York 13-5629885 --------------------------------- -------------------------- (State or other jurisdiction of (IRS Employer incorporation or organization) identification no.) 4310 Paradise Road, Las Vegas, NV 89109 -------------------------------------------------------------------------------- (Address of principal executive offices) (Zip code) Registrant's telephone number, including area code 702-737-3700 ------------------------------ Securities registered pursuant to Section 12(b) of the Act: None --------------------- Securities registered pursuant to Section 12(g) of the Act: Common Stock, $.01 Par Value -------------------------------------------------------------------------------- (Title of Class) Indicate by check mark whether the registrant: (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes[X] No [_] Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of the registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K. [_] As of November 16, 2001, 3,500,557 shares of the registrant's common stock were outstanding. The aggregate market value of common stock held by non-affiliates of the registrant as of November 16, 2001 was approximately $7,511,223 based on a closing price of $3.99 for the common stock as reported on the NASDAQ National Market on such date. For purposes of the foregoing computation, all executive officers, Directors and 5 percent beneficial owners of the registrant are deemed to be affiliates. Such determination should not be deemed to be an admission that such executive officers, Directors or 5 percent beneficial owners are, in fact, affiliates of the registrant. DOCUMENTS INCORPORATED BY REFERENCE None ================================================================================ MEGO FINANCIAL CORP. ANNUAL REPORT ON FORM 10-K TABLE OF CONTENTS PART I PAGE Item 1. Business............................................. 1 Item 2. Properties........................................... 11 Item 3. Legal Proceedings.................................... 11 Item 4. Submission of Matters to a Vote of Security Holders.. 12 PART II Item 5. Market for the Registrant's Common Equity and Related Security Holder Matters...................... 12 Item 6. Selected Consolidated Financial Data................. 13 Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations................ 15 Item 7A. Quantitative and Qualitative Disclosures About Market Risk.................................... 25 Item 8. Financial Statements and Supplementary Data.......... 26 Item 9. Changes in and Disagreements With Accountants on Accounting and Financial Disclosure............... 26 PART III Item 10. Directors and Executive Officers of the Company...... 27 Item 11. Executive Compensation............................... 29 Item 12. Security Ownership of Certain Beneficial Owners and Management....................................... 33 Item 13. Certain Relationships and Related Transactions....... 34 PART IV Item 14. Exhibits, Financial Statements, Schedules and Reports on Form 8-K.................................. 35 Signatures........................................... 47 i PART I Item 1. Business General Mego Financial Corp. (Mego Financial) is a premier developer and operator of timeshare properties and a provider of consumer financing to purchasers of its timeshare intervals and land parcels through its wholly-owned subsidiary, Preferred Equities Corporation (PEC) established in 1970. 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, sells and services. Unless the context requires otherwise, the "Company" refers to Mego Financial and its consolidated subsidiaries. The terms "fiscal 2001", "fiscal 2000", and "fiscal 1999" refer to the fiscal years ended August 31, 2001, 2000 and 1999, respectively. The Company 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. In January 1988, the Company sold a controlling interest in the Company consisting of approximately 43% of the then outstanding common stock after the sale, to affiliates of the Assignors (as hereinafter defined). See "Item 13. Certain Relationships and Related Transactions" and Note 1 of Notes to Consolidated Financial Statements. In February 1988, the Company acquired PEC, pursuant to an assignment by the Assignors (Comay Corp., GRI, RRE Corp., and H&H Financial Inc.) of their contract right to purchase PEC. The Company's executive offices are located at 4310 Paradise Road, Las Vegas, Nevada, and its telephone number is (702) 737-3700. Recent Events On October 2, 2001, CNUC entered into an agreement with Utilities Inc. providing for the acquisition by Utilities Inc. of all of the assets of CNUC for $5,500,000 (Asset Sale). Utilities Inc. has deposited $500,000 of the purchase price to assure its performance of the agreement. The transaction is subject to the approval of the Nevada Public Utilities Commission, which approval is expected on or before April 15, 2002. CNUC has assigned a portion of the proceeds from the Asset Sale to secure the Note mentioned below. The proceeds from the Asset Sale will be used for working capital and to reduce debt. The Asset Sale is not expected to have a significant impact on the Company's fiscal 2002 results of operations. On October 15, 2001, the Company and LC Acquisition Corp., a California corporation (LC), entered into a short-term financing agreement, modified on November 8, and November 15, 2001, pursuant to which LC agreed to lend to the Company an aggregate of $3,000,000 in two tranches. In connection with this financing arrangement, the Company issued to LC a promissory note (Note) bearing interest at 12% per annum. Payment of the Note is guaranteed by PEC and the guaranty is secured by a pledge of the stock of CNUC and a partial assignment of proceeds from the Asset Sale referred to above. The Note is payable on the date the Asset Sale is consummated or August 31, 2002, whichever is earlier. Preferred Equities Corporation General PEC acquires, develops and converts rental and condominium apartment buildings and hotels for sale as timeshare interests and engages in the retail sale of land. PEC's strategy is to acquire properties in desirable destination resort areas that offer a range of recreational activities and amenities. PEC markets and sells timeshare interests in its resorts in Las Vegas and Reno, Nevada; Honolulu, Hawaii; Brigantine, New Jersey; Steamboat Springs, Colorado; Indian Shores and Orlando, Florida; and sells land in Nevada and Colorado. PEC owns property in Biloxi, Mississippi, which was considered for a possible timeshare resort but is now listed for sale. Major lodging, hospitality and entertainment companies, including The Walt Disney Company, Hilton Hotels Corporation, Marriott Ownership Resorts, Inc. and Hyatt Corporation, among others, have commenced developing and marketing timeshare interests in various resort properties. The Company believes that the entry into the timeshare industry of these large and well-known lodging, hospitality and entertainment companies has contributed to the growth and acceptance of the industry. To enhance its competitive position, in April 1995, PEC entered into a strategic alliance with Ramada Franchise Systems, Inc. (Ramada) and its parent, Hospitality Franchise Systems, Inc., now Cendant Corporation (Cendant), pursuant to which PEC was granted a ten-year (including a renewal option) exclusive license to operate both its existing and future timeshare properties under the name "Ramada Vacation Suites." The American Resort Development Association 1 (ARDA) estimates that over 2 million families in the United States own timeshare interests in resorts worldwide and that sales of timeshare interests in the United States aggregated approximately $4 billion in 2000. Additionally, it is estimated by ARDA that sales volume is increasing at a compounded annual rate of approximately 16% due to the entry of brand-name hospitality firms and well- financed publicly held companies with lower costs of capital and strong growth among seasoned timeshare companies. Timeshare Properties and Sales The timeshare interests offered by PEC in its resorts other than in Hawaii generally consist of undivided fee interests in the land and facilities comprising the property or an undivided fee interest in a particular unit, pursuant to which the owner acquires the perpetual right to weekly occupancy of a residence unit each year. In its resort in Hawaii, PEC offers "right-to-use" interests, pursuant to which the owner has occupancy rights for one week each year until December 31, 2009, the last full year of the underlying land lease for the resort property. During fiscal 2001, 2000 and 1999, PEC had net sales of 3,659, 2,885 and 2,841 timeshare interests, respectively, at prices ranging from $4,250 to $32,990. The Company believes that PEC's alliance with Ramada has enabled it to capitalize on the Ramada reputation, name recognition and customer profile, which closely matches PEC's customer profile. The agreement with Ramada ("Agreement") required PEC to pay an initial access fee of $1 million and monthly recurring fees equal to 1% of PEC's Gross Sales (as defined in the Agreement) through January 1996 and 1.5% of PEC's Gross Sales each month commencing in February 1996, with certain minimums that increase each year. The Agreement was modified in November 2001, so that the Minimum Recurring Fees applicable to calendar 2001 will be reduced by $600,000. The initial term of the Agreement was 5 years. PEC exercised the option to renew the Agreement for an additional term of 5 years which will expire on December 31, 2005. The Company believes it has benefited from the use of the Ramada name, but is unable to quantify the amount of such benefit. PEC also offers a sales program whereby a customer pays a fixed fee on an installment basis to use a timeshare interest during an initial one-year period with an option to purchase the timeshare interest. If the customer exercises the option to purchase the interest, the fixed fee is applied toward the down payment of the timeshare interest purchased. PEC's Ramada Vacation Suites at Las Vegas includes 37 buildings with a ----------------------------------- total of 489 studio, one- and two- bedroom units that have been converted for sale as 24,939 timeshare interests. As of August 31, 2001, 2,236 timeshare interests remained available for sale. The resort is in close proximity to "the Strip" in Las Vegas and features swimming pools and other amenities. PEC has completed an expansion of the resort common areas to include an expanded lobby, convenience store and expanded sales facilities. The Ramada Vacation Suites at Reno consists of a 95-unit hotel that has ------------------------------ been converted for sale as 4,845 timeshare interests. As of August 31, 2001, 887 timeshare interests remained available for sale. The resort has substantially completed major renovations and features an indoor swimming pool, exercise facilities, sauna, jacuzzi and sun deck. The Ramada Vacation Suites at Honolulu is an 80-unit hotel consisting of 3 ---------------------------------- buildings that have been converted for sale as 4,160 timeshare interests. As of August 31, 2001, 733 timeshare interests remained available for sale. The resort is within walking distance of a public beach and features a swimming pool and jacuzzi. PEC has a leasehold interest in the buildings, equipment and furnishings which expires in December 2009. The annual rental payments total approximately $192,000. The Ramada Vacation Suites at Steamboat Springs consists of 60 one- and ------------------------------------------- two-bedroom units, which have been converted for sale as 3,060 timeshare interests. As of August 31, 2001, 797 timeshare interests remained available for sale. PEC acquired this condominium resort in 1994 and completed the conversion in 1995. PEC has constructed a 5,500-square foot amenity building at this resort that features a spa and sauna. The Ramada Vacation Suites - Hilltop at Steamboat Springs is a converted ----------------------------------------------------- hotel building with indoor swimming pool, restaurant, cocktail lounge and meeting room facilities. The complex contains 56 one- and two-bedroom units to be sold as 2,856 timeshare interests. As of August 31, 2001, 1,519 timeshare interests remained available for sale. The resort is located in Steamboat Springs, Colorado, in close proximity to ski slopes and other attractions. 2 The Ramada Vacation Suites at Orlando consists of an 8-building, 120 unit --------------------------------- complex that has been converted into 6,120 timeshare interests. As of August 31, 2001, 380 timeshare interests remained available for sale. Three additional buildings, containing 42 units to be sold as 2,184 timeshare interests, are under construction in phases, and will be available for sale in fiscal 2002. In addition, the Company acquired the remaining 8 buildings of the related property and is currently operating it as a hotel, Ramada Inn All Suites. The Company plans to convert as needed over the next several years the hotel property into 109 units to be sold as 5,688 timeshare interests. The resort features a pool and is located near the major tourist attractions. The Ramada Vacation Suites at Indian Shores consists of a 2-building --------------------------------------- complex, which has been converted into a total of 32 one- and two-bedroom units to be sold as 1,632 timeshare interests. As of August 31, 2001, 52 timeshare interests remained available for sale. The resort is located on the intercoastal waterway in close proximity to St. Petersburg and Clearwater, Florida. The Ramada Vacation Suites on Brigantine Beach consists of a 91-unit hotel ------------------------------------------ and a 17-unit three-story building that have been either converted or constructed for sale as 5,508 timeshare interests. As of August 31, 2001, 792 timeshare interests were available for sale. The resort, located on beach front property in close proximity to Atlantic City, New Jersey, features an enclosed swimming pool, cocktail lounge, bar and restaurant. The following table sets forth certain information regarding the timeshare interests at the Company's resort properties: 3
Steamboat Indian Las Vegas Reno Waikiki Springs Hilltop Orlando Shores Brigantine ----------------------------------------------------------------- ----------------------- Maximum number 24,939 4,845 4,160 3,060 2,856 6,120 (1) 1,632 5,508 (2) Net number sold through August 31, 2001 22,703 3,958 3,427 2,263 1,337 5,740 1,580 4,716 Number available for sale at August 31, 2001 2,236 887 733 797 1,519 380 52 792 Percent sold through August 31, 2001 91% 82% 82% 74% 47% 94% 97% 86% Number sold during the year ended August 31, 2001 2,452 616 308 231 756 1,956 84 193 Number reacquired during the year ended August 31, 2001 through: Contract cancellations 348 99 244 29 28 172 18 30 Exchanges (3) 769 99 184 186 193 255 65 68 Acquired for unpaid maintenance fees 48 56 36 - - - - 10 ----------------------------------------------------------------- ----------------------- Total number reacquired during the year 1,165 254 464 215 221 427 83 108 ----------------------------------------------------------------- ----------------------- Net number sold (reacquired) during the year ended August 31, 2001 1,287 362 (156) 16 535 1,529 1 85 Additional pending as of August 31, 2001 - - - - - 2,184 - - Sales prices of timeshare interests available at August 31,2001 Low $ 9,990 $4,990 $4,250 $ 8,990 $ 8,990 $ 9,990 $ 9,990 $ 4,250 High $22,990 $8,990 $6,450 $26,990 $32,990 $14,990 $17,990 $22,550 Average $12,101 $5,792 $4,515 $16,208 $15,374 $14,537 $12,471 $ 7,869 Total ----------- Maximum number 53,120 Net number sold through August 31, 2001 45,724 Number available for sale at August 31, 2001 7,396 Percent sold through August 31, 2001 86% Number sold during the year ended August 31, 2001 6,596 Number reacquired during the year ended August 31, 2001 through: Contract cancellations 968 Exchanges (3) 1,819 Acquired for unpaid maintenance fees 150 ----------- Total number reacquired during the year 2,937 ----------- Net number sold (reacquired) during the year ended August 31, 2001 3,659 Additional pending as of August 31, 2001 2,184 Sales prices of timeshare interests available at August 31,2001 Low $ 4,250 High $32,990 Average $11,382
(1) This does not include the 2,184 shown as pending, which are under construction in phases. It also does not include the 5,688 previously discussed, which are currently being operated as a hotel and will be converted to timeshare interests as needed. (2) 4,823 timeshare interests were sold prior to the acquisition by the Company. (3) These exchanges are primarily related to customers exchanging and/or upgrading their current property to larger, higher-priced units. PEC's revenue from net sales of timeshare interests was $54.0 million, $49.1 million and $41.3 million, representing 53.8%, 54.2% and 55.4% of total revenues for fiscal 2001, 2000 and 1999, respectively. RCI Exchange Network Timeshare interest ownership is significantly enhanced by the availability of resort exchange networks. These networks allow owners to exchange their occupancy right in their home resort for an occupancy right in another resort. Several companies, including Resorts Condominiums International (RCI), a wholly- owned subsidiary of Cendant, provide timeshare interest exchange networks. PEC's resorts participate in the RCI network. 4 According to RCI, it has a total of more than 3,600 participating resort facilities located worldwide. PEC and the Owner's Association (as defined hereinafter) of each of PEC's timeshare resorts have entered into an agreement with RCI pursuant to which purchasers of timeshare interests in PEC's resorts may apply for membership in the RCI exchange network. The cost of the RCI membership fee, which is at the option and expense of the timeshare interest owner, is $63 for the first year and $74 for each annual renewal. The initial five-year terms of the Owner's Association agreements with RCI are automatically renewable for additional five-year terms, unless either party gives the other party not less than 180 days written notice prior to the expiration of the then current term. Either party may terminate the agreement upon a breach of the agreement by the other party. Owners' Associations and Property Management PEC's resort properties require ongoing management services. Independent not-for-profit corporations known as Owners' Associations have been established to administer each of PEC's resorts other than the resort in Honolulu. PEC's resort in Honolulu is administered by the White Sands Resort Club, a division of PEC (together with the Owners' Associations, collectively the "Associations"). Owners of timeshare interests in each resort are responsible for the payment of annual assessment fees, which are intended to fund all of the operating expenses at the resort facilities and accumulate reserves for replacement of furnishings, fixtures and equipment, and building maintenance, to their respective Association. Annual assessment fees for 2001 ranged from $275 to $486. In prior years, PEC has advanced monies to cover deficits for Associations located outside the State of Florida. There is no certainty PEC will continue this practice. In Florida, if Association expenses exceed annual assessment fees, PEC is obligated to pay the deficit. In fiscal 2001, PEC financed a budget shortfall of $132,000 and $645,000, respectively, for the Owners' Associations at Indian Shores and Orlando. During calendar year 2000, the Associations had a deficiency of $1,036,000 in Association fees received compared to expenses paid. If the owner of a timeshare interest defaults in the payment of the annual assessment fee, the Association may impose a lien on the related timeshare interest. PEC, at its option, may pay the Associations the lien amount of timeshare interest owners who are delinquent, but have paid PEC in full for their timeshare interest. In exchange for the payment by PEC of such amounts, the Associations assign their liens for non-payment on the respective timeshare interests to PEC. In the event the timeshare interest holder does not satisfy the lien after having an opportunity to do so, PEC typically acquires the timeshare interest for the amount of the lien and any related foreclosure costs. PEC has entered into management agreements with the Associations pursuant to which PEC receives annual management and administrative fees in exchange for providing or arranging for various property management services including reservations, bookkeeping, staffing, budgeting, maintenance and housekeeping services. During fiscal 2001, 2000 and 1999, PEC received fees of $2.9 million, $2.7 million and $2.5 million, respectively. The management agreements are typically for initial terms ranging from three to five years and automatically renew for successive additional one-year terms unless canceled by an Association. PEC's intent and goal is to manage these properties until all timeshare interests are sold and the receivables generated from such sales have been paid. Due to cancellations, exchanges and upgrades, none of the resorts are likely to realize a 100% sellout for an extended period of time. The Company believes that continued management of these properties preserves the integrity and operating efficiencies of the resorts. Land Sales PEC is currently engaged in the retail sale of land in Nevada and Colorado for residential, commercial, industrial and recreational use. PEC may sell land in other states if an opportunity arises. See "Management's Discussion and Analysis of Financial Condition and Results of Operations - Real Estate Risk". Residential lots generally range in size from one-quarter acre to five acres with some larger, while commercial and industrial lots also vary in size. PEC's residential lots generally range in price from $17,000 to $39,000 while commercial and industrial lots generally range in price from $45,000 to $94,000. PEC sold (reacquired) 784, 766 and 613 residential lots, net, and (3), 2 and 14 commercial and industrial lots during fiscal 2001, 2000 and 1999, respectively. PEC is required from time to time to cancel the purchase of lots and parcels as a result of payment defaults or customer cancellations. Nevada ------ A substantial portion of PEC's land sales have historically occurred in subdivisions in the Pahrump Valley, Nevada, located approximately 60 miles west of Las Vegas. PEC has little inventory remaining in this location. 5 The following table illustrates certain statistics regarding the Pahrump Valley subdivisions: Number of acres acquired since 1969 18,777 Number of lots platted 29,849 Net number of lots sold through August 31, 2001 29,746 Percent of lots sold through August 31, 2001 (unsold less than .5%) 100% Number of platted lots available for sale at August 31, 2001 103 For the Year Ended August 31, 2001: ----------------------------------- Number of parcels and lots sold 618 Number of parcels and lots canceled (173) Number of parcels and lots repurchased (84) Number of parcels and lots exchanged (325) -------- Number of parcels and lots sold, net of cancellations and exchanges 36 ========
Central Nevada Utilities Company (CNUC), a wholly-owned subsidiary of PEC, provides sewer and water service within CNUC's certificated service area. As of August 31, 2001, CNUC had 3,457 customers. In the past 5 years, connections have grown at an average annual rate of 15.3% and 13.3%, respectively, for residential water and sewer. CNUC has entered into an agreement to sell all of its assets, subject to regulatory approval. Colorado -------- PEC also sells larger unimproved tracts of land in Colorado. PEC owns unimproved land in Huerfano County, Colorado, which is being sold for recreational use in parcels of at least 35 acres, at prices ranging from $13,000 to $18,000, depending on location and size. These parcels are sold without any planned improvements and without water rights, which rights have been reserved by PEC, except for an owner's right to drill a domestic well. Substantially all of the parcels have been sold, with 30 parcels remaining in inventory as of August 31, 2001. In September 1993, PEC acquired improved and unimproved land in Park County, Colorado, known as South Park Ranch, which is being sold for recreational use as 1,870 separate parcels typically ranging in size from 5 to 9 acres and a few larger parcels at prices beginning at $17,000. Substantially all of the parcels had been sold, with 6 parcels remaining in inventory as of August 31, 2001. These parcels are sold without any planned improvements, except for roads which are already in place and a recreational facility that includes a basketball court, baseball field and picnic facilities. In February 1998, PEC acquired a tract of land in Park County, Colorado near the town of Hartsel, known as Hartsel Springs Ranch. In July 2001, PEC acquired additional parcels. This property is being sold as 2,434 separate parcels with an average price and size of $26,200 and five acres, respectively. As of August 31, 2001, 266 parcels remained unsold. These parcels are sold without any planned improvements, except for roads which are already in place. The following table illustrates certain statistics regarding the parcels and lots in Huerfano and Park Counties, Colorado: 6 Number of acres acquired since 1969 64,434 Number of lots platted 5,428 Net number of lots sold through August 31, 2001 5,126 Percent of lots sold through August 31, 2001 94% Number of platted lots available for sale at August 31, 2001 302 For the Year Ended August 31, 2001: ----------------------------------- Number of parcels and lots sold 2,031 Number of parcels and lots canceled (405) Number of parcels and lots exchanged (881) -------- Number of parcels and lots sold, net of cancellations and exchanges 745 ========
For fiscal 2001, 2000 and 1999, respectively, PEC's revenue from net land sales was $21.7 million, $19.6 million and $16.0 million, representing 21.6%, 21.7% and 21.4% of total revenues. Sales of Non-Core Assets The Company owns and has listed for sale certain commercial parcels that are not necessary for its normal business activities. 22 of these parcels are located in the Pahrump Valley. The Company also owns water rights in Huerfano County that are listed for sale and a 4.25 acre parcel in Biloxi, Mississippi that is listed for sale. Since the Company began listing its non-core assets for sale in fiscal 1999, excluding the sale of its two office buildings, the Company has sold in book value approximately $5 million in non-core assets. Sales have included two golf courses, a sports complex and seven other parcels located in the Pahrump Valley. In fiscal 2001, the Company sold its two office buildings located at 4310 Paradise Road and 1500 E. Tropicana in Las Vegas, for a total consideration of $8,300,000. The Company has leased back the building at 1500 E. Tropicana for a period of ten years with two 5-year renewal options, and the building at 4310 Paradise Road for a period of 5 1/2 years with a 4 1/2 year renewal option. The majority of the sales proceeds were used to reduce debt. The Company will continue to actively market the non-core assets; however, there is no certainty as to when additional sales will occur. Trust Arrangements Title to certain of PEC's resort properties and land parcels in Huerfano County, Colorado is held in trust by trustees to meet regulatory requirements that were applicable at the time of the commencement of sales. In connection with sales of timeshare interests pursuant to "right-to-use" or installment sales contracts, title to certain of PEC's resort properties in the states of Nevada and Hawaii are held in trust by trustees to meet requirements of certain state regulatory authorities. Prior to 1988, PEC sold timeshare interests in certain of its resorts in the state of Nevada pursuant to "right-to-use" contracts and continues in other resorts to sell under installment sales contracts under which the purchaser does not receive a deed until the purchase price is paid in full. In addition, PEC offers "right-to-use" interests in its resort in Hawaii, as this resort is owned in leasehold. In connection with the registration of the sale of such "right to use" timeshare interests, the Department of Real Estate of the State of Nevada and the Department of Commerce and Consumer Affairs of the State of Hawaii require title to be held in trust. Customer Financing PEC provides financing to virtually all the purchasers of its timeshare interests and retail lots who make a down payment equal to at least 10% of the purchase price. The financing is generally evidenced by non-recourse installment sale contracts as well as notes secured by deeds of trust. Currently, the term of the financing generally ranges from two to twelve years, with principal and interest payable in equal monthly payments. Interest rates are fixed and generally range from 12.5% to 15.5% per year based on prevailing market rates and the amount of the down payment made relative to the sales price. PEC has a sales program whereby a 5% interest rate 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. At August 31, 2001, PEC serviced approximately 22,000 customer receivables related to sales of timeshare 7 interests and land, which receivables had an aggregate outstanding principal balance of $172.5 million, a weighted-average maturity of approximately 7 years and a weighted-average interest rate of 13.2 %. PEC has lines of credit with institutional lenders for the financing of timeshare interest and land receivables of up to an aggregate of $152.0 million. These lines of credit bear interest at variable rates tied to the prime rate and 90-day London Interbank Offering Rate (LIBOR) and are secured by timeshare and land receivables and inventory. At August 31, 2001, an aggregate of $112.9 million was outstanding under such lines of credit and $39.1 million was available for borrowing. PEC periodically sells its timeshare and land receivables to various third party purchasers and uses a portion of the sales proceeds to reduce the outstanding balances of its lines of credit, thereby increasing the borrowing availability under such lines by the amount of prepayment. Such sales have generally resulted in yields to the purchaser less than the weighted-average yield on the sold receivables. The estimated value of this spread is shown on PEC's books as retained interest in receivables sold. Receivables' sales agreements generally provide for: (i) PEC to continue servicing the sold receivables; (ii) PEC to repurchase or replace accounts that have become more than 90 days contractually delinquent; (iii) the maintenance of cash reserve accounts for losses; (iv) certain minimum net worth requirements; and, (v) covenants that generally require PEC to use its best efforts to, among other things, remain the manager of the related resorts, cause the Associations to maintain appropriate insurance and to pay applicable real estate taxes. Performance by PEC on the lines of credit and sales of receivables is guaranteed by the Company. The aggregate principal balance of retained interests in receivables sold by PEC were $15.5 million, $19.6 million and $0 in fiscal 2001, 2000 and 1999, respectively. At August 31, 2001, total sold notes receivable was $52.2 million. PEC was contingently liable to replace or repurchase delinquent receivables related to such sold notes receivable. Delinquencies greater than 60 days have increased in fiscal 2001 to 5.3% from 4.9% in fiscal 2000. PEC charges off or fully reserves all receivables that are more than 90 days delinquent and charges off the receivable when the Company determines that collection is no longer probable. The following table sets forth information with respect to receivables owned and sold that were 60 or more days delinquent as of the dates indicated (thousands of dollars):
August 31 ---------------------------------------------- 2001 2000 1999 -------- -------- -------- 60-day delinquent $ 9,938 $ 8,494 $ 9,153 Total receivables $188,882 $172,907 $151,709 60-day delinquency percentage 5.3% 4.9% 6.0%
The 60-day delinquent amounts include any account that is contractually 60 days delinquent, including those accounts whereby customers are still making payments but have not cured their delinquency status. PEC provides an allowance for cancellations at the time it recognizes revenues from sales of timeshare interests and land. PEC believes, based on its experience and its analysis of economic conditions, that the allowance is adequate to absorb losses on receivables that become uncollectible. Upon the sale of the receivables, the allowance related to those receivables is reduced and the reserve for notes receivable sold with recourse is appropriately increased. Marketing and Sales PEC markets and sells timeshare interests and land through on-site and off- site sales offices. PEC's sales staff receives commissions based on net sales volume. PEC maintains fully-staffed on-site sales offices at its timeshare properties in Las Vegas and Steamboat Springs, Colorado as well as the Las Vegas headquarters, and at its land projects in Nevada and Colorado. Small on-site sales offices staffed with one to two sales associates are maintained in Reno, Nevada; Hawaii; Indian Shores and Orlando, Florida; and Brigantine, New Jersey. PEC also maintains off-site sales offices in West Covina, California; Dallas and Houston, Texas; and Denver, Colorado. PEC's marketing efforts are targeted primarily at tourists and potential tourists meeting its customer profile. Currently, approximately 43.7% of sales are made through the Las Vegas sales offices. As part of its marketing strategy, PEC maintains an internal timeshare interest exchange program. This program enables owners of PEC's timeshare interests to exchange their occupancy right in their home resort for an occupancy right in another of PEC's timeshare resorts. In addition, PEC has a sales program pursuant to which purchasers of its timeshare interests, retail lots and land may exchange their equity interests in one property for an interest in another of PEC's properties. 8 The agreement of sale for a timeshare interest or land may be rescinded within various statutory rescission periods ranging from five to ten days. For land sales made at a location other than the subject property, in addition to the statutory rescission period, the customer may cancel the contract within a specified period, usually five months from the date of purchase, provided that the contract is not in default, the customer has completed a developer-guided inspection of the subject property and thereafter the customer requests the cancellation. Generally, if a customer defaults after all rescission and cancellation periods have expired, all payments are retained by PEC. Seasonality The Company's sales are not significantly affected by seasonality factors. For fiscal 2001, 2000 and 1999, quarterly sales as a percentage of annual sales, for each of the fiscal quarters averaged: Quarter Ended % of Annual Sales ----------------------- ---------------------- November 23.3% February 22.1 May 27.6 August 27.0 ----- 100.0% ===== The quarterly numbers in the preceding table are slightly higher in the third and fourth quarters of the fiscal year as the Company's major sales area in Las Vegas, Nevada, experiences higher tourist activity in these quarters. The Company is not dependent upon any large affinity group of customers whose loss would have a material adverse effect on the Company. Competition The timeshare and real estate industries are highly competitive. Competitors in the timeshare and real estate business include hotels and other timeshare and real estate developers. Certain of the Company's competitors are substantially larger and have more capital and other resources than the Company. PEC's timeshare resorts compete directly with many other such resorts located in Las Vegas, Reno, Honolulu, Atlantic City, Orlando, St. Petersburg/Clearwater, Tampa and Steamboat Springs. In recent years, several major lodging, hospitality and entertainment companies have begun to develop and market timeshare properties. According to ARDA data, in 2001, approximately 31.5% of timeshare resorts were located in the Mountain/Pacific region of the United States, 23.6% in Florida, 12.0% in the Northeast region, 16.5% in the Southeast region and 16.4% in the Central region of the United States. In addition, PEC competes with condominium projects and with traditional hotel accommodations in these areas. Certain of these competing projects and accommodations are larger and more luxurious than PEC's facilities. Government Regulation The Company's timeshare and real estate operations are subject to extensive regulation and licensing requirements by federal, state and local authorities. The following sub-sections summarize the regulations applicable to the Company. Environmental Regulation Under various federal, state and local environmental laws, ordinances and regulations, a current or previous owner or operator of real estate may be required to investigate and clean up hazardous or toxic substances or chemical releases at such property, and may be held liable to a governmental entity or to third parties for property damage, personal injury and investigation and cleanup costs incurred by such parties in connection with the contamination. Such laws typically impose cleanup responsibility and liability without regard to whether the owner knew of or caused the presence of the contaminants, and the liability under such laws has been interpreted to be joint and several unless the harm is divisible and there is a reasonable basis for allocation of responsibility. The costs of investigation, remediation or removal of such substances may be substantial, and the presence of such substances, or the failure to properly remediate such property, may adversely affect the owner's ability to sell or rent such property or to borrow using such property as collateral. Persons who arrange for the disposal or treatment of hazardous or toxic substances also may be 9 liable for the costs of removal or remediation of such substances at the disposal or treatment facility, whether or not the facility is owned or operated by such person. In addition, the owner or former owners of a site may be subject to common law claims by third parties based on damages and costs resulting from environmental contamination emanating from a site. Timeshare Regulation Nevada Revised Statutes Chapter 119A requires the Company to give each customer a Public Offering Statement that discloses all aspects of the timeshare program, including the terms and conditions of sale, the common facilities, the costs to operate and maintain common facilities, the Company's history and all services and facilities available to the purchasers. Section 514E of the Hawaii Revised Statutes provides for similar information to be provided to all prospective purchasers through the use of the Hawaii Disclosure Statement and Chapter 721 of the Florida Statutes has similar provisions. Section 11000, et seq., of the California Business and Professions Code provides for similar information to be provided to all prospective purchasers through the use of an Out-of-State Timeshare Permit issued by the California Department of Real Estate. Section 45 of the New Jersey Statutes Annotated provides for similar information to be provided to all prospective purchasers through the use of a Public Offering Statement. The Texas Register at 22 Texas Administrative Code, Section 543 provides for similar information to be provided to all prospective purchasers through the use of the Texas Timeshare Disclosure Statement. Title 12, Article 61 of the Colorado Revised Statutes provides for similar information to be provided to all prospective purchasers in their contract of sale or by separate written documents. Nevada and Colorado require a five-day rescission period for all timeshare purchasers. The rescission period required by Hawaii and New Jersey is seven days. The rescission period required by Florida is ten days. The rescission period in California and Texas for out-of-state sales is five days. The Nevada, California, New Jersey, Hawaii, Colorado, Florida and Texas timeshare statutes have stringent restrictions on sales and advertising practices and require the Company to utilize licensed sales personnel. Lending Regulation PEC is subject to various federal lending regulations related to marketing, financing and selling consumer receivables. These federal regulations include: Fair Housing Act, Americans With Disabilities Act, Interstate Land Sales Full Disclosure Act, Truth-In-Lending Act, Real Estate Settlement Procedures Act, Equal Credit Opportunity Act, Federal Trade Commission Telemarketing Rule, Federal Communications Commission Telephone Census Protection Act, Federal Trade Commission Act (Unfair or Deceptive Act or Practices) and Fair Debt Collections Practices Act. The Company believes that it has made all required filings with state, city and county authorities and is in material compliance with all applicable federal, state and local regulations. The Company believes that such regulations have not had a material adverse effect on any phase of the Company's operations, including the overall cost of acquiring property. Compliance with or changes in official interpretations of regulations might impose additional compliance costs on the Company that cannot be predicted. Real Estate Regulation The real estate industry is subject to extensive regulation. The Company is subject to compliance with various federal, state and local environmental, zoning and other statutes and regulations regarding the acquisition, subdivision, development and sale of real estate and various aspects of its financing operations. The Interstate Land Sales Full Disclosure Act establishes strict guidelines with respect to the subdivision and sale of land in interstate commerce. The U.S. Department of Housing and Urban Development (HUD) has enforcement powers with respect to this statute. In some instances (e.g., land sales in Huerfano County, Colorado), the Company has been exempt from HUD registration requirements because of the size or number of the subdivided parcels and the limited nature or type of its offerings. The Company must disclose financial information concerning the property, evidence of title, a description of the intended manner of offering, proposed advertising materials and must bear the costs of such registration, which include legal and filing fees. The Company believes that it is in compliance, in all material respects, with all applicable federal, state and local regulations. The Company believes that such regulations have not had a material adverse effect on any phase of its operations. Compliance with future changes in regulations might impose additional compliance costs on the Company that cannot be predicted. 10 Advertising Regulation PEC's marketing and advertising procedures are subject to the Federal Trade Commission Act (Unfair and Deceptive Practices), Federal Trade Commission Telemarketing Rules, Federal Communication Commission Telephone Consumer Protection Act, Fair Housing Act, Equal Credit Opportunity Act and various state consumer protection laws regulating telephone solicitations and the sale of travel and sweepstakes, both in states in which PEC timeshare resorts are located or registered and in states in which it otherwise solicits sales. Employees As of August 31, 2001, PEC had 1,334 employees, of whom 1,115 were full- time employees and 219 were part-time employees. Full-time employees were comprised of the following: 652 sales and marketing officers and personnel, 157 general and administrative personnel, 293 hotel personnel and 13 utility company personnel. None of PEC's employees are represented by a collective bargaining unit. The Company believes that its relations with its employees are satisfactory. Item 2. Properties At August 31, 2001, the Company's unsold inventory consisted of: 103 residential, commercial and industrial lots; 302 recreational land parcels; and, 7,396 timeshare interests. In addition, the Company maintains the following properties: The Company's principal executive offices are located at 4310 Paradise Road, Las Vegas, Nevada 89109, where it occupies approximately 31,000 square feet of office space. In November 2000, the Company entered into a sale/leaseback transaction for this building. The Company signed a master lease for the entire building for an initial term of 5 1/2 years with one 4 1/2 year renewal option. The current monthly rent is $30,450. In October 2000, the Company entered into a sale/leaseback transaction for an office building located at 1500 E. Tropicana, Las Vegas, Nevada. This building has approximately 57,500 square feet of office space, of which the Company occupies approximately 35,800 square feet. Of the remaining space, approximately 9,500 square feet is leased to tenants on a short-term basis and approximately 12,200 square feet is unoccupied. The Company signed a master lease for the entire building for a ten-year term with two five-year renewal options. The current monthly rent is $58,308. The Company leases an executive office at 1125 N. E. 125th Street in North Miami, Florida, comprised of approximately 1,600 square feet, on a month-to- month basis. The Company leases various other facilities on a long-term, short-term or month-to-month basis for off-site marketing and sales offices. The Company has leased sales offices in West Covina, California; Denver, Colorado; Dallas and Houston, Texas; and, marketing locations in close proximity of those offices and its Las Vegas sales offices. Item 3. Legal Proceedings On August 27, 1998, an action was filed in Nevada District Court, County of Clark, No. A 392585, 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 plaintiff's complaint asked for class action relief claiming that PEC and CNUC were guilty of collecting certain betterment fees and not providing associated sewer and water lines. The court determined that plaintiffs had not properly pursued their administrative remedies with the Nevada Public Utilities Commission (PUC) and dismissed plaintiffs' complaint, as amended, without prejudice. Notwithstanding plaintiffs' appeal of the dismissal, plaintiffs 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. On May 4, 2000, plaintiffs re-filed their complaint in Nevada District Court, naming all of the above parties with the exception of CNUC. The May 4, 2000 complaint is virtually identical to the amended complaint discussed above and asserts six claims for relief against defendants: breach of deed restrictions, two claims for breach of contract, unjust enrichment, consumer fraud in violation of NRS 41.600 and violation of NRS 119.220, with all claims arising out of the alleged 11 failure to provide water and sewer utilities to the purchasers of land in the subdivisions commonly known as Calvada Valley North and Calvada Meadows located in Nye County, Nevada. On September 8, 2000, the Company filed a motion to dismiss each of the claims made in the complaint. The Court granted the motion to dismiss with respect to Frederick H. Conte in his individual capacity and denied the motion in all other respects in an order entered on December 19, 2000. Plaintiffs then filed a motion to certify class, which defendants opposed. On September 5, 2001, the Court held that "as to Classes A and B, the showings required under NRCP 23(a) and (b)(2) have been made to the extent injunctive relief / specific performance of the subject alleged contractual obligations is sought, and the Court will certify Classes A and B to such extent only. In all other respects, the Court does not deem certification to be appropriate as to both Classes A and B". As a result of this decision, the Court refused to certify a class for the claims of: breach of contract, unjust enrichment, consumer fraud in violation of NRS 41.600 and violation of NRS, 119.220. Accordingly, the defendants are no longer subject to class claims for monetary damages. The defendants only potential liability is for the construction of water and sewer facilities. The case is now beginning the discovery phase of the litigation. The case is scheduled for a jury trial on August 13, 2002. In the general course of business the Company and PEC, at various times, have each been named in other lawsuits. The Company believes that it has meritorious defenses to these lawsuits and that resolution of these matters will not have a material adverse effect on the business or financial condition of the Company. Item 4. Submission of Matters to a Vote of Security Holders No matters were submitted to a vote of the Company's security holders during the fourth quarter of fiscal 2001. PART II Item 5. Market for the Registrant's Common Equity and Related Security Holder Matters Market Information The Company's common stock is traded in the over-the-counter market and since April 1, 1994, prices have been quoted on the Nasdaq National Market under the symbol MEGO. Prior to April 1, 1994, the common stock was quoted on the Nasdaq Small Cap Market under the symbol MEGO and, prior to May 1, 1994, was traded on the Boston Stock Exchange under the symbol MGO. The following table sets forth the high and low sales prices of the common stock as reported on the Nasdaq National Market for the periods presented: High Low ----------- ----------- Fiscal Year 2000: ----------------- First Quarter $4.88 $3.56 Second Quarter 5.06 3.63 Third Quarter 4.22 3.63 Fourth Quarter 4.63 3.88 Fiscal Year 2001: ----------------- First Quarter 5.00 4.31 Second Quarter 5.06 4.19 Third Quarter 4.84 3.70 Fourth Quarter 4.20 3.60 Fiscal Year 2002: ----------------- First Quarter (through November 16, 2001) 4.41 3.85 As of November 16, 2001, there were 1,932 holders of record of the 3,500,557 outstanding shares of common stock. The closing sales price for the common stock on November 16, 2001 was $3.99. The Company did not pay any cash dividends on its common stock during fiscal 2001. The Company intends to retain future earnings for the operation and expansion of its business and does not currently anticipate paying cash 12 dividends on its common stock. Any future determination as to the payment of such cash dividends would depend on a number of factors including future earnings, results of operations, capital requirements, the Company's financial condition and any restrictions under credit agreements existing from time to time, as well as such other factors as the Board of Directors might deem relevant. No assurance can be given that the Company will pay any dividends in the future. Item 6. Selected Consolidated Financial Data The selected financial data set forth below have been derived from the Consolidated Financial Statements of the Company and its subsidiaries. The Consolidated Financial Statements as of August 31, 2001 and for the year then ended have been audited by Ernst & Young LLP, independent certified public accountants, and are included elsewhere herein. The Consolidated Financial Statements as of August 31, 2000 and 1999 and for each of the two years in the period ended August 31, 2000 have been audited by Deloitte & Touche LLP, independent auditors, and are elsewhere included herein. The Consolidated Financial Statements as of August 31, 1998 and 1997, and for the years ended August 31, 1998 and 1997 have been audited by Deloitte & Touche LLP, independent auditors, and are not included herein. Certain prior period amounts have been reclassified to conform prior years with the current year presentation. The selected financial information set forth below should be read in conjunction with the Consolidated Financial Statements, the related notes thereto and "Item 7. Management's Discussion and Analysis of Financial Condition and Results of Operations" included elsewhere herein (thousands of dollars, except per share amounts):
Consolidated Selected Financial Data (1) (2) -------------------------------------------- For the Years Ended August 31 ------------------------------------------------------------------------- 2001 2000 1999 1998 1997 ------------- ------------- ------------- ------------- ------------- Income statement data: Revenues of continuing operations: ---------------------------------- Timeshare interest sales, net $ 53,974 $ 49,062 $ 41,262 $ 37,713 $ 32,253 Land sales, net 21,687 19,624 15,979 13,812 16,626 Interest income 14,977 12,430 9,310 7,161 7,168 Financial income 2,995 1,153 1,184 3,304 2,922 Gain on sale of notes receivable 668 635 - 656 2,013 Gain on sale of other investments and other assets 124 1,857 513 - - Other (3) 5,981 5,734 6,254 5,944 6,514 ------------- ------------- ------------- ------------- ------------- Total revenues of continuing operations 100,406 90,495 74,502 68,590 67,496 ------------- ------------- ------------- ------------- ------------- Costs and expenses of continuing operations: -------------------------------------------- Cost of sales (4) 15,876 15,266 13,510 11,789 10,477 Interest expense 12,214 12,468 9,270 7,850 8,458 Marketing and sales 48,781 39,769 35,291 34,167 34,078 Depreciation 1,412 1,827 1,878 2,245 1,964 General and administrative 18,942 17,746 14,333 17,736 17,175 ------------- ------------- ------------- ------------- ------------- Total costs and expenses of continuing operations 97,225 87,076 74,282 73,787 72,152 ------------- ------------- ------------- ------------- ------------- Income (loss) from continuing operations before income taxes 3,181 3,419 220 (5,197) (4,656) Income taxes (benefit) (656) (530) (830) (1,968) (12,662) ------------- ------------- ------------- ------------- ------------- Income (loss) from continuing operations 3,837 3,949 1,050 (3,229) 8,006 Income from discontinued operations, net of income taxes and minority interest (5) - - - - 11,334 ------------- ------------- ------------- ------------- ------------- Net income (loss) applicable to common stock $ 3,837 $ 3,949 $ 1,050 $ (3,229) $ 19,340 ============= ============= ============= ============= =============
13 Per Share Data (6) (7): Basic: ----- Income (loss) from continuing operations $ 1.10 $ 1.13 $ 0.30 $ (0.92) $ 2.58 Income from discontinued operations - - - - 3.64 ------------- ------------- ------------- ------------- ------------- Net income (loss) applicable to common stock $ 1.10 $ 1.13 $ 0.30 $ (0.92) $ 6.22 ============= ============= ============= ============= ============= Weighted-average number of common shares 3,500,557 3,500,557 3,500,557 3,500,557 3,108,510 ============= ============= ============= ============= ============= Diluted (8) ----------- Income (loss) from continuing operations $ 1.10 $ 1.13 $ 0.30 $ (0.92) $ 2.46 Income from discontinued operations - - - - 3.48 ------------- ------------- ------------- ------------- ------------- Net income (loss) applicable to common stock $ 1.10 $ 1.13 $ 0.30 $ (0.92) 5.94 ============= ============= ============= ============= ============= Weighted-average number of common shares and common share equivalents outstanding 3,500,557 3,500,557 3,500,557 3,500,557 3,253,718 ============= ============= ============= ============= ============= Balance Sheet Data: Total assets $ 185,828 $ 168,592 $ 158,961 $ 142,076 $ 178,303 Net assets of discontinued operations - - - - 53,276 Total liabilities excluding subordinated debt 153,391 138,524 132,650 117,049 100,745 Subordinated debt (9) 4,211 4,286 4,478 4,348 4,321 Total stockholder's equity 28,226 25,782 21,833 20,679 73,237
(1) On September 2, 1997, the Company distributed all of its 10 million shares of common stock of its former subsidiary, Mego Mortgage Corporation (MMC) to the Company's shareholders in a tax-free Spin-off. The operations of MMC have been reclassified as discontinued operations and the fiscal 1997 prior years' Consolidated Financial Statements of the Company included herein reflect the reclassification accordingly. (2) The income statement data, per share data and balance sheet data herein for the five fiscal years are not necessarily indicative of the results to be expected in the future. Certain reclassifications have been made to conform prior years with the current presentation. (3) Other revenues include incidental operations' income, management fees from Owners' Associations and other miscellaneous items. (4) Cost of sales includes product costs of sales of timeshare interests and land, and incidental operations' expenses. (5) Income from discontinued operations, net of taxes of $9.1 million and minority interest of $2.4 million, includes the net income from MMC, after tax, reduced by the related minority interests and certain general and administrative expense related to the discontinued operations. (6) All share and per share references have been restated to reflect the one for six reverse split of the Company's common stock, effective September 9, 1999. (7) No cash dividends per common share were declared during the fiscal years included herein. (8) The incremental shares from assumed conversions are not included in computing the diluted per share amounts for fiscal 1998 because the Company incurred a net loss and the effect would be anti-dilutive. The incremental shares from assumed conversions are not included in computing the diluted per share amounts for fiscal 2001, 2000 and 1999 because the exercise price of the options and warrants exceeded the average market price of the common shares during these fiscal years. (9) In payment of the exercise price of $4,250,000 of warrants exercised for 166,666 shares of the Company's common stock by the Assignors, the subordinated debt due to the Assignors was reduced by that amount in August 1997. See Note 10 of Notes to Consolidated Financial Statements and "Item 13. Certain Relationships and Related Transactions." 14 Item 7. 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 and the foregoing Business sections contain certain forward-looking statements and information relating to 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 expectations 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. In addition, included 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. The potential losses to the Company stemming from the economic downturn in the tourism industry following the September 11, 2001 terrorist attacks are expected to have some adverse impact on the operating results of the Company's first fiscal quarter, and possibly thereafter. The Company has a mixture of customers who fly and drive into the various resort locations. At this time, there can be no assurances that this economic downturn due to a decrease in travel and anxiety about possible future terrorist attacks will not extend to future periods. 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 Consolidated Financial Statements, including the notes thereto, contained elsewhere herein. General The business of the Company is primarily the marketing, financing and sale of timeshare interests, retail lots and land parcels, servicing the related receivables, and operating and managing timeshare properties. PEC --- PEC recognizes revenue primarily from sales of timeshare interests and land sales in resort areas, interest income, gain on sale of receivables, financial income from servicing the related receivables and management fees from operating and managing timeshare properties. 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. 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. The Company generally sells its notes receivable at par value. Proceeds from the sale of notes receivable sold with recourse were $14,858,000, $19,594,000 and $0 for the years ended August 31, 2001, 2000 and 1999, 15 respectively. When the Company sells notes receivable, it retains certain participation in the cash flows of the notes receivable sold and generally retains the associated servicing rights. The sales are generally subject to limited recourse provisions as provided in the respective notes receivable sales agreements. Under these agreements, the Company is generally obligated to replace or repurchase accounts that become over 60 days delinquent or are otherwise subject to replacement or repurchase in either cash or receivables. Reserve for notes receivable sold with recourse represents the Company's estimate of losses to be incurred in connection with the recourse provisions of the sales agreements and is shown separately as a liability in the Company's Balance Sheet. Gain on sale of receivables depends in part on the previous carrying amount of the financial assets involved in the transfer, allocated between the assets sold and the retained interests based on their relative fair value at the date of transfer. To obtain fair values on the retained interests (both at the point of the related receivable sale and periodically thereafter), the Company generally estimates fair value based on the present value of future expected cash flows estimated using management's best estimates of the key assumptions-- default rates, rates of prepayment, loss reserve rates and discount rates commensurate with the risks involved. The Company's retained interests in receivables sold are carried at fair market value as either derivatives or available-for-sale investments. Unrealized holding gains or losses on the retained interests are included in earnings for those transactions structured so that the Company, through its retained interest, receives fixed interest amounts and pays the buyer variable amounts based on a floating interest rate index, as the resulting financial interest meets the definition of a derivative. Unrealized holding gains, if any, on retained interests in notes receivable sold not meeting the definition of a derivative would be included in shareholders' equity, net of income taxes. Losses in such retained interests are reflected in earnings. In September 2000, the Company sold to a financial institution $9.5 million of land receivables at par. The Company recognized a $286,000 gain on the sale of the receivables and recorded a $273,000 retained interest in notes receivable sold, which is included in Other assets, and a $625,000 recourse obligation which is included in Reserve for notes receivable sold with recourse on the Consolidated Balance Sheet. In August 2001, the Company sold to a financial institution $5.4 million of timeshare interest receivables at par. The Company recognized a $382,000 gain on the sale of the receivables and recorded a $356,000 retained interest in notes receivable sold which is included in Other assets, and a $711,000 recourse obligation which is included in Reserve for notes receivable sold with recourse on the Consolidated Balance Sheet. 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 reduced by 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 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. Recourse to PEC on sales of notes receivable is governed by the agreements between the purchasers and PEC. The reserve for notes receivable sold with recourse represents PEC's estimate of the fair value of future credit losses to be incurred over the lives of the notes receivable. A liability for reserve for notes receivable sold with recourse is established at the time of each sale based upon PEC's estimate of the fair value of the future recourse obligation under each agreement of sale. 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. Financial income includes changes in the fair value of retained interests sold and interest income accreted on such interests. Interest income represents the interest earned on loans held in PEC's portfolio, the accretion of the discount on the retained interests in receivables sold and interest on cash funds. 16 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. The Company incurs a portion of operating expenses of the timeshare Associations based on ownership of unsold timeshare interests at each of the respective timeshare properties. These costs are referred to as "association assessments" or "maintenance payments", and are included in Costs and Expenses in the Consolidated Income Statements under the caption of General and administrative. Management fees received from the Associations are included in Revenues in the Consolidated Income Statements under the caption of Other. These fees are deemed not to be the result of a separate revenue generating line of business since the management activities to which they relate are part of the support of the timeshare business and the fees are actually a reduction of the expense the Company incurs to fulfill obligations regarding timeshares. The following table sets forth certain data regarding notes receivable additions and servicing through sales of timeshare interests and land:
For the Years Ended August 31 ------------------------------------------- 2001 2000 ------------------- ------------------- Principal balance of notes receivable additions (in thousands) $ 85,821 $ 82,388 =========== =========== Number of notes receivable additions 7,792 7,552 =========== =========== Notes receivable serviced at end of period (in thousands) $ 172,485 $ 152,990 =========== ===========
Land sales as of August 31, 2001 exclude $20.2 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 rescission periods have not yet expired. Of the $20.2 million unrecognized land sales, the Company estimates that it will ultimately recognize $16.5 million of revenues, which would be reduced by a related provision for cancellations of $1.6 million, estimated selling costs of $4.6 million and cost of sales of $2.5 million, for an estimated net profit of $7.8 million. Real Estate Risk Real estate development involves significant risks, including risks that suitable properties will not be available at reasonable prices, that acquisition, development and construction financing may not be available on favorable terms or at all, that infrastructure and construction costs may exceed original estimates, that construction may not be completed on schedule, and that upon completion of construction and improvements, properties may not be sold on favorable terms or at all. In addition, PEC's timeshare activities, as well as its ownership, improvement, subdivision and sale of land, are subject to comprehensive federal, state and local laws regulating environmental and health matters, protection of endangered species, water supplies, zoning, land development, land use, building design and construction and other matters. Such laws and difficulties in obtaining, or the failure to obtain, the requisite licenses, permits, allocations, authorizations and other entitlements pursuant to such laws can adversely impact the development and completion of PEC's projects. The enactment of "slow-growth" or "no-growth" initiatives in any area where PEC sells land or timeshare interests could also delay or preclude entirely the development of such properties. Results of Operations Year Ended August 31, 2001 Compared to Year Ended August 31, 2000 Total revenues for the Company increased 11.0% or $9.9 million to $100.4 million during fiscal 2001 from $90.5 million during fiscal 2000 primarily due to: a net increase of $7.0 million in timeshare and land sales to $75.7 million in fiscal 2001 from $68.7 million in fiscal 2000 (net timeshare sales increased by $4.9 million and net land sales increased by $2.1 million); an increase of $2.6 million in interest income to $15.0 million in fiscal 2001 from $12.4 million in fiscal 2000; and, an increase of $1.8 million in financial income to $3.0 million in fiscal 2001 from $1.2 million in fiscal 2000. This was partially offset by a decrease of $1.7 million in gains on sale of assets and other investments from $1.9 million in fiscal 2000 to $124,000 in fiscal 2001. Gross sales of timeshare interests increased to $61.8 million in fiscal 2001 from $55.3 million in fiscal 2000, an increase of 11.6%. Net sales of timeshare interests increased to $54.0 million from $49.1 million, an increase of 10.0%. This increase is primarily attributable to a comparative increase in unit sales volume and also to certain price increases. 17 The provision for cancellations represented 12.6% and 11.3%, respectively, of gross sales of timeshare interests for fiscal 2001 and 2000. The percentage increase in the provision for cancellations for timeshare interests was primarily due to an increase in the fiscal 2001 provision, as consideration was given to negative economic and industry conditions, and their potential effect on future allowance requirements, and a downward adjustment recorded during the prior fiscal year based on a review of the reserve adequacy at that time. The number of cancellations during fiscal 2001 was 968 compared to 1,048 during fiscal 2000. The number of exchanges, generally for timeshare interests, which are primarily made for upgrades, was 1,819 during fiscal 2001 compared to 1,955 during fiscal 2000. Gross sales of land increased to $23.5 million in fiscal 2001 from $20.7 million in fiscal 2000, an increase of 13.6%. Net sales of land increased to $21.7 million in fiscal 2001 from $19.6 million in fiscal 2000 an increase of 10.5%. The provision for cancellations increased to 7.9% for the year ended August 31, 2001 from 5.3% of gross sales of land for the year ended August 31, 2000, primarily due to an upward adjustment recorded during fiscal 2001 and an increase in the fiscal 2001 provision percentage, as consideration was given to negative economic and industry conditions and their potential effect on future allowance requirements, and a downward adjustment recorded during fiscal 2000 based on a review of reserve adequacy at that time. Gain on sale of investments and other assets of $124,000 was recorded during the fiscal 2001 compared to a gain of $1.9 million recorded during fiscal 2000. In fiscal 2001, the Company sold its two office buildings in sale//leaseback transactions and is recognizing the gain over the term of the leases. In fiscal 2000, the Company sold its golf courses and several commercial non-core land parcels in Pahrump Valley, Nevada. Financial income increased to $3.0 million from $1.2 million. The increase was primarily due to the comparative increased volume of sold loans and the increase in interest rate spread, including an increase in estimated fair value of retained interests in receivables sold, on those sold loan portfolios with a variable pass-through interest rate. Interest income increased to $15.0 million in fiscal 2001 from $12.4 million in fiscal 2000, an increase of 20.5% primarily due to increased average notes receivable balances for the current period. Total costs and expenses for the Company increased to $97.2 million for fiscal 2001 from $87.1 million for fiscal 2000, an increase of 11.7%. The increase resulted primarily from: an increase of 5.0% in direct product costs of timeshare interest and land sales to $14.2 million from $13.6 million, an increase of 22.7% in marketing and sales to $48.8 million from $39.8 million, and, an increase of $1.2 million, or 6.7%, in general and administrative expenses. The increase in direct costs of timeshare interest and land sales is generally attributable to higher net timeshare sales in 2001. The increase in marketing and sales expenses is due primarily to the higher gross sales, new sales offices and general marketing increases related to a competitive sales environment. The increase in general and administrative expenses is due primarily to the increase in recording and filing fees, escrow costs and credit card costs due to increase in volume, and the inclusion of rent expense related to the sale and leaseback of the two office buildings in fiscal 2001, the expense for which was formerly reported in Interest and Depreciation expense. These increases were partially offset on a comparative basis as the fiscal 2000 expenses included reserves for the Company's guaranty of office and equipment leases related to a previously affiliated company. Interest expense decreased $254,000 to $12.2 million from $12.5 million, a decrease of 2.0%. While the average loan balances were higher in fiscal 2001, the Company benefited from the declining interest rate market on its variable debt, net of the interest rate swaps. As a percentage of gross sales of timeshare interests and land, marketing and sales expenses related thereto increased to 57.2% in fiscal 2001 from 52.3% in fiscal 2000. Cost of sales was 16.7% in fiscal 2001 and 17.8% in fiscal 2000. Sales prices of timeshare interests are typically lower than those of land, while selling costs per sale, other than commissions, are approximately the same for timeshare interests and land; accordingly, the Company generally realizes lower profit margins from sales of timeshare interests than from sales of land. Pretax income of $3.2 million was recorded in fiscal 2001 compared to pretax income of $3.4 million in fiscal 2000. The income tax benefit for fiscal 2001 was $656,000 compared to the income tax benefit of $530,000 for fiscal 2000. The benefit for both fiscal 2001 and 2000 was primarily due to the application of net operating loss (NOL) carryforwards and changes in certain income tax liability reserves as a result of facts and circumstances determined in an ongoing review and analysis of the Company's federal income tax liability. See Note 11 of Notes to Consolidated Financial Statements. 18 Net income applicable to common stock amounted to $3.8 million during fiscal 2001 compared to net income of $3.9 million during fiscal 2000, primarily due to the foregoing reported results. Year Ended August 31, 2000 Compared to Year Ended August 31, 1999 Total revenues for the Company increased 21.5% or $16.0 million to $90.5 million during fiscal 2000 from $74.5 million during fiscal 1999 primarily due to: a net increase of $11.5 million in timeshare and land sales to $68.7 million in fiscal 2000 from $57.2 million in fiscal 1999 (net timeshare sales increased by $7.8 million and net land sales increased by $3.7 million); an increase in interest income to $12.4 million in fiscal 2000 from $9.3 million in fiscal 1999; and, a higher gain on sale of notes receivable and sale of investments and other assets. Gross sales of timeshare interests increased to $55.3 million in fiscal 2000 from $45.8 million in fiscal 1999, an increase of 20.7%. Net sales of timeshare interests increased to $49.1 million from $41.2 million, an increase of 18.9%. This increase is primarily attributable to a favorable mix as a comparatively greater number of the high-priced units were sold during fiscal 2000, and also to certain price increases. The provision for cancellations represented 11.3% and 10.0%, respectively, of gross sales of timeshare interests for fiscal 2000 and 1999. The percentage increase in the provision for cancellations for timeshare interests was primarily due to a larger downward adjustment recorded during the prior fiscal year based on a review of the reserve adequacy at that time and cancellation experience during fiscal 2000. The number of cancellations during fiscal 2000 was 1,048 compared to 875 during fiscal 1999. The number of exchanges, generally for timeshare interests, which are primarily made for upgrades, was 1,955 during fiscal 2000 compared to 2,757 during fiscal 1999. Gross sales of land increased to $20.7 million in fiscal 2000 from $17.0 million in fiscal 1999, an increase of 21.6%. Net sales of land increased to $19.6 million in fiscal 2000 from $16.0 million in fiscal 1999 an increase of 22.8%. The provision for cancellations decreased to 5.3% for the year ended August 31, 2000 from 6.2% of gross sales of land for the year ended August 31, 1999, primarily due to a downward adjustment recorded during fiscal 2000 based on a review of reserve adequacy. Gain on sale of notes receivable and investments of $2.5 million was recorded during the fiscal 2000 as the Company, in addition to notes receivable sales in the normal course of business, sold its golf courses and several commercial non-core land parcels in Pahrump Valley, Nevada. This is compared to a gain of $513,000 recorded during fiscal 1999 as the Company sold a parcel of land in Pahrump Valley, Nevada. Interest income increased to $12.4 million in fiscal 2000 from $9.3 million in fiscal 1999, an increase of 33.5%, primarily due to increased average notes receivable balances for the current period. Total costs and expenses for the Company increased to $87.1 million for fiscal 2000 from $74.3 million for fiscal 1999, an increase of 17.2%. The increase resulted primarily from: an increase in direct product costs of timeshare interest sales to $10.5 million from $8.5 million, an increase of 23.3%; an increase in marketing and sales to $39.8 million from $35.3 million, an increase of 12.7%; an increase in interest expense to $12.5 million from $9.3 million, an increase of 34.5%; and, an increase of $3.4 million, or 23.8%, in general and administrative expenses. The increase in direct costs of timeshare sales is directly attributable to higher net timeshare sales in 2000 and to the higher costs to develop new timeshare inventory. The increase in marketing and sales expenses is due primarily to the higher gross sales; however, as noted below, the increase in dollars was accompanied by a related lower percentage of marketing and sales expenses. The increase in interest expense is due to the increase in the average outstanding balance of notes and contracts payable. The increase in general and administrative expenses is due primarily to: increased sales volume; the increase in escrow costs related to the increased sales volume; a net increase in maintenance fees paid to Owner Associations by PEC; an increase in executive incentive plan compensation, which is directly related to the pretax income increase; the full resumption of payment of Directors' fees; and, reserves for the Company's guaranty of office and equipment leases 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 52.3% in fiscal 2000 from 56.1% in fiscal 1999. Cost of sales was 17.8% in fiscal 2000 and 17.9% in fiscal 1999. 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. Subsequent to the first quarter of fiscal 1999, the Company restructured its marketing and sales programs, which 19 restructuring included the closing of unprofitable sales locations, the elimination of certain marketing programs and the layoff of related personnel. Pretax income of $3.4 million was recorded in fiscal 2000 compared to pretax income of $220,000 in fiscal 1999. The income tax benefit for fiscal 2000 was $530,000 compared to the income tax benefit of $830,000 for fiscal 1999. The benefit for both fiscal 2000 and 1999 was primarily due to the application of net operating loss (NOL) carryforwards and changes in certain income tax liability reserves as a result of facts and circumstances determined in an ongoing review and analysis of the Company's federal income tax liability. Net income applicable to common stock amounted to $3.9 million during fiscal 2000 compared to net income of $1.1 million during fiscal 1999, primarily due to the foregoing reported results. Liquidity and Capital Resources Cash and cash equivalents for the Company were $1.9 million at August 31, 2001 compared to $1.1 million at August 31, 2000. The fluctuation in this account is primarily due to the timing of the Company's fundings, which occur in the normal course of business and the increase in restricted cash required by lenders as loans were sold. PEC's cash requirements arise from the acquisition of timeshare properties and land, payments of operating expenses, payments of principal and interest on debt obligations, payments of marketing and sales expenses in connection with sales of timeshare interests and land and payments of income taxes to Mego Financial. 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, such sales generate cash shortfalls. The cash shortfalls and PEC's other cash requirements are funded primarily through advances under PEC's lines of credit in the aggregate amount of $152.0 million, sales of receivables and cash flow from operations. At August 31, 2001, there were no commitments for material capital expenditures. At August 31, 2001, PEC had $152.0 million in lines of credit 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. These lines of credit bear interest at variable rates tied to the prime rate and 90-day London Interbank Offering Rate (LIBOR) and are secured by timeshare and land receivables and inventory. At August 31, 2001, an aggregate of $112.9 million was outstanding under such lines of credit, and $39.1 million was available for borrowing. Under the terms of these lines of credit, PEC may, depending upon the terms and conditions of the respective line of credit, 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 maintains a minimum tangible net worth of $27.5 million. At August 31, 2001, PEC's tangible net worth was $33.7 million. Summarized lines of credit information and accompanying notes relating to these lines of credit outstanding at August 31, 2001, consist of the following (thousands of dollars):
Outstanding Borrowing Maximum Balance at Borrowing Revolving August 31, 2001 Amounts Expiration Date (a) Maturity Date (a) Interest Rate --------------------- ----------------- ------------------------ -------------------- ------------------------- $ 57,418 $ 65,000 (b) December 31, 2001 Various Prime + 2.0 - 2.25% 24,829 35,000 (c) December 1, 2002 Various Prime + 2.0 - 3% 27,950 30,000 (d) April 30, 2003 Various Libor + 4.0 - 4.25% 245 5,000 (e) February 4, 2002 February 6, 2006 Prime + 1.0% 987 15,000 (f) August 8, 2004 August 8, 2004 Prime + 2.5% 1,489 1,972 (g) N/A July 31, 2003 Prime + 2.25% ------------ ------------ $ 112,918 $ 151,972 ============ ============
20 (a) As it has typically done in the past, management expects to extend the Revolving Expiration Date and Maturity Date on similar terms. When the Revolving Expiration Date expires as shown, the loans convert to term loans with maturities as stated or extended. (b) Covenants includes PEC's requirement to maintain a minimum tangible net worth of $25 million; PEC's requirement not to exceed a ratio of 4:1 of consolidated total liabilities to consolidated tangible net worth; PEC's requirement to maintain a minimum net processed sales for each fiscal quarter; and, PEC's requirement to maintain a maximum percentage of costs and expenses for Marketing and sales and General and administrative expenses relating to net processed sales for each rolling 12-month period. The maximum percentage related to costs and expenses referred to above has been exceeded in the last three quarters. This does not constitute an Event of Default under this loan agreement, or this line of credit; however, it gives the lender the option to suspend advances to PEC under this line of credit. The lender has not elected to exercise this option, has continued to make regular advances and has informed PEC verbally that it intends to continue such advances. At August 31, 2001, $55.4 million of loans secured by receivables were outstanding related to financings at prime plus 2%, of which $24.3 million of loans secured by land receivables mature May 15, 2010 and $31.1 million of loans secured by timeshare receivables mature May 15, 2007. The outstanding borrowing amount includes a real estate loan with an outstanding balance of $523,000 maturing December 31, 2001, bearing interest at prime plus 2.25%. The remaining Acquisition and Development (A&D) loans, receivables loans and a resort lobby loan outstanding of $1.5 million are at prime plus 2% and mature December 31, 2001. Negotiations are currently under way for extensions of the A&D, real estate and lobby loans. (c) Covenants 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 August 31, 2001, $4.8 million was outstanding under the A&D loan, which matures on February 28, 2004, and $14.5 million was outstanding under the receivables loan, which matures on June 30, 2004. There also are two working capital loans: $2.4 million at prime plus 3% which expires December 31, 2001, and $3.2 million at prime plus 2%, which expires April 1, 2005, and is secured by inventory. (d) Covenants include PEC's requirement to maintain a minimum tangible net worth of $25 million. These credit lines include available financings for A&D and receivables. At August 31, 2001, $2.5 million was outstanding under the A&D loans, which have a maturity date of April 30, 2003 and bear interest at the 90-day LIBOR plus 4%. The available receivable financings, of which $25.5 million was outstanding at August 31, 2001, are at 90-day LIBOR plus 4% and have a maturity date of March 30, 2006. (e) Covenants include PEC's requirement to maintain a minimum tangible net worth of $20 million. This is a receivables line, which bears interest at prime plus 1% and matures on February 4, 2002. (f) Covenants include PEC's requirement to maintain a minimum tangible net worth of $27.5 million. This is a receivables line, which bears interest at prime plus 2.5% and matures on August 8, 2004. (g) Covenants 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):
For the years ended ------------------------------------------ 2001 2000 1999 ------------ ------------ ------------ Marketing and selling expenses attributable to recognized and unrecognized sales $ 46,514 $ 40,717 $ 35,856 Less: Down payments (13,486) (12,280) (12,452) ------------ ------------ ------------ Cash Shortfall $ 33,028 $ 28,437 $ 23,404 ============ ============ ============
During fiscal 2001, PEC sold notes receivable of $14.9 million from which $13.4 million of the sales proceeds were used to pay down debt. The sold notes receivable, which have interest rates ranging from 11.9% to 14.1% depending on the transaction, were sold to yield returns of 9.8% fixed and 10.1% floating to the respective purchasers, with PEC retaining any excess interest. 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 are over 90 days delinquent or are otherwise subject to replacement or repurchase, in either cash or receivables at the option of the purchaser. At August 31, 2001, and 21 August 31, 2000, PEC was contingently liable to replace or repurchase notes receivable sold with recourse totaling $52.2 million and $59.6 million, respectively. At August 31, 2001, the repurchase provisions provide for $47.2 million in substitution of receivables as recourse for sold notes receivable and $5.0 million in cash payments for receivables repurchase. The undiscounted amounts of the recourse obligations on such notes receivable were $4.4 million and $4.5 million at August 31, 2001 and August 31, 2000, 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, consists of the following (thousands of dollars):
August 31 -------------------------- 2001 2000 ------------ ------------ Notes collateralized by receivables $ 96,665 $ 80,593 Mortgages collateralized by real estate properties 22,322 27,407 Installment contracts and other notes payable 1,251 1,131 ------------ ------------ Total $ 120,238 $ 109,131 ============ ============
Financial Condition The Company provides allowance for cancellations in amounts which, in the Company's judgment, will be adequate to absorb losses on notes receivable that may become uncollectible. The Company's judgment in determining the adequacy of this allowance is based on its continual review of its portfolio which utilizes historical experience and current economic factors. These reviews take into consideration changes in the nature and level of the portfolio, historical rates, collateral values, current and future economic conditions which may affect the obligors' ability to pay, collateral values and overall portfolio quality. Changes in the aggregate of the allowance for cancellations, excluding discounts, and the reserve for notes receivable sold with recourse for fiscal 2001, 2000 and 1999, consisted of the following (thousands of dollars):
For the Years Ended August 31 ----------------------------------------- 2001 2000 1999 ----------------------------------------- Balance at beginning of year $ 16,860 $ 18,149 $ 18,488 Provision for cancellations 9,647 7,354 5,626 Amounts charged to allowance for cancellations and reserve for notes receivable sold with recourse (7,806) (8,643) (5,965) --------- --------- --------- Balance at end of year $ 18,701 $ 16,860 $ 18,149 ========= ========= =========
The allowance for cancellations and the reserve for notes receivable sold with recourse consisted of the following at these dates (thousands of dollars):
August 31 ----------------------------------------- 2001 2000 1999 ----------------------------------------- Allowance for cancellations, excluding discounts $ 14,703 $ 12,827 $ 13,987 Reserve for notes receivable sold with recourse 3,998 4,033 4,162 --------- --------- --------- Total $ 18,701 $ 16,860 $ 18,149 ========= ========= =========
The combined allowance for cancellations and reserve for notes receivable sold with recourse as a percentage of total owned and sold notes receivable was 11.2% as of August 31, 2001 compared to 10.8% as of August 31, 2000. August 31, 2001 Compared to August 31, 2000 Cash and cash equivalents was $1.9 million at August 31, 2001 and $1.1 million at August 31, 2000. 22 Notes receivable, net, increased 26.4% to $105.1 million at August 31, 2001 from $83.2 million at August 31, 2000 as a result of the increased fiscal 2001 sales, net of notes receivable sold, during fiscal 2001. Retained interests in receivables sold increased 33.4% to $3.6 million at August 31, 2001 from $2.7 million at August 31, 2000. Land and improvements inventory and timeshare interests held for sale decreased 22.4% to $21.3 million at August 31, 2001 from $27.4 million at August 31, 2000. This decrease is directly related to the increase in sales in fiscal 2001. Notes and contracts payable increased 10.2% to $120.2 million at August 31, 2001 from $109.1 million at August 31, 2000. Net borrowings related to financing customer receivables increased by $16.1 million, which was partially offset by net paydowns on other debt of $5.0 million. Reserve for notes receivable sold with recourse was $4.0 million at August 31, 2001 and 2000. Deferred income taxes decreased 45.7% to $1.6 million at August 31, 2001 from $3.0 million at August 31, 2000, due to the changes in certain income tax liability reserves as a result of facts and circumstances determined in an ongoing review and analysis of the Company's federal income tax liability, and the income tax effect on the unrealized depreciation on interest rate swaps. Stockholders' equity increased to $28.2 million at August 31, 2001 from $25.8 million at August 31, 2000 as a result of net income of $3.8 million during fiscal 2001, partially offset by a net increase in accumulated other comprehensive loss of $1.4 million, reflecting interest rate swap transactions. Timeshare interest and land sales net, for fiscal 2001, 2000 and 1999, and the comparative dollar and percentage changes, are set forth in the following table (thousands of dollars):
For the Years Ended August 31 ------------------------------------------------------------------------------------------- 2001 Change 2000 Change 2001 2000 from 2000 1999 from 1999 ------------- ------------- ----------------------- ------------- ------------------------- Timeshare interest sales, net $ 53,974 $ 49,062 $ 4,912 10.0% $ 41,262 $ 7,800 18.9% Land sales, net 21,687 19,624 2,063 10.5% 15,979 3,645 22.8% --------- --------- --------- --------- --------- Total timeshare interest and land sales, net $ 75,661 $ 68,686 $ 6,975 10.2% $ 57,241 $ 11,445 20.0% ========= ========= ========= ========= =========
August 31, 2000 Compared to August 31, 1999 Cash and cash equivalents was $1.1 million at August 31, 2000 and $1.8 million at August 31, 1999. Notes receivable, net, increased 20.0% to $83.2 million at August 31, 2000 from $69.3 million at August 31, 1999 as a result of the increased fiscal 2000 sales, net of notes receivable sold during fiscal 2000. Retained interests in receivables sold increased 5.3% to $2.7 million at August 31, 2000 from $2.6 million at August 31, 1999. Land and improvements inventory and timeshare interests held for sale decreased 24.2% to $27.4 million at August 31, 2000 from $36.2 million at August 31, 1999. This decrease is directly related to the increase in sales in fiscal 2000. Notes and contracts payable increased 4.4% to $109.1 million at August 31, 2000 from $104.6 million at August 31, 1999. Net borrowings related to financing customer receivables increased by $13.1 million, which was partially offset by net paydowns on other debt of $8.5 million. Reserve for notes receivable sold with recourse decreased 3.1% to $4.0 million at August 31, 2000 from $4.2 million at August 31, 1999. The majority of notes receivable sold during the fiscal year were land receivables, which typically require a lower reserve. The loans previously sold prior to fiscal 2000 continue to amortize, which correspondingly lowers the required reserve. 23 Deferred income taxes decreased 15.1% to $3.0 million at August 31, 2000 from $3.5 million, due to the changes in certain income tax liability reserves as a result of facts and circumstances determined in an ongoing review and analysis of the Company's federal income tax liability. Stockholders' equity increased to $25.8 million at August 31, 2000 from $21.8 million at August 31, 1999 as a result of net income of $3.9 million during fiscal 2000. Recent Accounting Standards In June 1998, the Financial Accounting Standards Board (FASB) issued SFAS No. 133 (SFAS 133) "Accounting for Derivative Instruments and Hedging Activities", which was amended by SFAS No. 137, issued in June 1999. SFAS 133 established standards for accounting for derivative instruments, including certain derivative instruments embedded in other contracts, and hedging activities. SFAS 133, as amended, is effective for fiscal years beginning after June 15, 2000 and was adopted by the Company in fiscal 2001. See Note 3 of Notes to Consolidated Financial Statements. In July 2000, the EITF reached a consensus on Issue 99-20, "Recognition of Interest Income and Impairment on Purchased and Retained Beneficial Interests in Securitized Financial Assets". The issue is how to record interest income and to measure impairment on retained and purchased beneficial interests. The Task Force concluded that the holder of a beneficial interest should recognize interest income over the life of the investment based on an anticipated yield determined by periodically estimating cash flows. If the fair value of the beneficial interest has declined below its carrying amount and the decline is other-than-temporary, an entity should apply impairment of securities guidance similar to SFAS 115 (fair value method). This EITF is effective for all beneficial interests in securitization transactions for quarters beginning after December 15, 2000. The adoption of this statement did not have a significant impact on the Company's financial statements. In September 2000, the FASB issued SFAS No. 140, "Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities" (SFAS 140). SFAS 140 replaces FASB Statement No. 125, "Accounting for Transfers and Servicing of Financial Assets and Extinguishment of Liabilities" and provides accounting and reporting standards for transfers and servicing of financial assets and extinguishments of liabilities. SFAS 140 is effective for transfers and servicing of financial assets and extinguishment of liabilities occurring after March 31, 2001 and is effective for recognition and reclassification of collateral and for disclosures relating to securitization transactions and collateral for fiscal years ending after December 31, 2000. The adoption of SFAS 140 in fiscal 2001 did not have a material effect on the financial statements. In July 2001, the FASB issued Statements of Financial Accounting Standards No. 141, "Business Combinations" (SFAS 141), and No. 142, "Goodwill and Other Intangible Assets" (SFAS 142). SFAS 141 eliminated the use of the pooling-of- interests method of accounting for business combinations initiated after June 30, 2001 and is effective for any business combination accounted for by the purchase method that is completed after June 30, 2001. SFAS 142, which includes the requirements to test goodwill and indefinite lived intangible assets for impairment rather than amortize them, will be effective for fiscal years beginning after December 15, 2001. Management does not believe the adoption of these statements will have a significant impact on the Company's financial statements. In August 2001, the FASB issued SFAS No. 143, "Accounting for Asset Retirement Obligations" (SFAS 143). SFAS 143 requires entities to record the fair value of a liability for an asset retirement obligation in the period in which it is incurred. SFAS 143 is effective for fiscal years beginning after June 15, 2002, with earlier application encouraged. Management does not believe that the adoption of SFAS 143 will have a material effect on the financial statements. In September 2001, the FASB issued SFAS No. 144 on asset impairment that is applicable to financial statements issued for fiscal years beginning after December 15, 2001. The FASB's new rules on asset impairment supersede FASB No. 121 and provide a single accounting model for long-lived assets to be disposed of. Management does not believe that the adoption of SFAS 144 will have a material effect on the financial statements. Effects of Changing Prices and Inflation The Company's operations are sensitive to increases in interest rates and to inflation. Increased borrowing costs resulting from increases in interest rates may not be immediately recoverable from prospective purchasers. 24 Inflationary increases are difficult to pass on to customers since increases in sales prices often result in lower sales closing rates and higher cancellations. The Company's notes receivable consist primarily of fixed-rate long term installment contracts that do not increase or decrease as a result of changes in interest rates charged to the Company. In addition, delinquency and cancellation rates may be affected by changes in the national economy. Item 7A. Quantitative and Qualitative Disclosures About Market Risk The Company's various business activities generate liquidity, market and credit risk: . liquidity risk is the possibility of being unable to meet all present and future financial obligations in a timely manner; . market risk is the possibility that changes in future market rates or prices will make the Company's positions less valuable; and . credit risk is the possible loss from a customer's failure to perform according to the terms of the transaction. The table below provides information about the Company's financial instruments that are sensitive to changes in interest rates. Such information includes fair values of the market risk sensitive instruments and contract terms sufficient to determine future cash flows from those instruments, categorized by expected maturity dates (thousands of dollars):
Expected Maturity Date ---------------------------------------------------------------------- There- Fair August 31 2002 2003 2004 2005 2006 after Total Value ----------------------------------- ----------- ----------- ------------ ----------- ------------ --------- ----------- ------------ Assets: Notes receivable(a) Fixed rate $ 14,019 $ 11,761 $ 10,897 $ 11,004 $ 11,517 $ 45,929 $ 105,127 $ 116,302 Average interest rate 13.87% 13.95% 14.09% 14.21% 14.23% 14.31% Retained interests in receivables sold (b) Fixed rate $ 313 $ 357 $ 407 $ 463 $ 528 $ 192 $ 2,260 $ 2,260 Average interest rate 13.16% 13.16% 13.16% 13.16% 13.16% 13.16% Variable rate $ 65 $ 74 $ 84 $ 95 $ 107 $ 918 $ 1,343 $ 1,343 Average interest rate 12.47% 12.47% 12.47% 12.47% 12.47% 12.47% Liabilities: Notes and contracts payable (c) Fixed rate $ 2,917 $ 2,119 $ 2,109 $ 77 $ 30 $ 7,252 $ 7,252 Average interest rate 9.14% 8.38% 8.22% 11.78% 11.78% Variable rate $ 10,185 $ 4,236 $ 15,843 $ 1,500 $ 25,794 $ 55,428 $ 112,986 $ 112,986 Average interest rate 9.36% 8.60% 8.83% 9.00% 7.68% 10.00% Subordinated debt (d) Fixed rate $ 4,211 $ 4,211 $ 4,211 Average interest rate 10.00% Interest rate swap (e) $ (2,018) $ (93) $ (2,111) $ (2,111) Fixed rate 10.94% 5.34%
(a) The fair value was estimated by discounting future cash flows of the outstanding notes receivable, net of the allowance for cancellations. (b) The fair value was estimated by discounting future cash flows of the instruments using discount rates, default, loss and prepayment assumptions based upon available market data, opinions from financial advisors and portfolio experience. (c) Interest rates on notes payable generally are adjustable, indexed to the prime rate or to the 90-day London Interbank Offering Rate (LIBOR); therefore, carrying value approximates fair value. (d) Carrying value is approximately the same as fair value. (e) The Company engages in business activities that expose it to interest rate risk. The financial exposure is managed as an integral part of the Company's risk management program, which seeks to reduce the potentially adverse effects that the volatility of the interest rate market may have on the Company's operating results. The Company does not engage in speculative transactions or hold financial instruments for trading purposes. In August 2000, the Company entered into a $25 million, 5-year, interest rate swap transaction to hedge potential exposure to its variable rate notes' portfolio. In August 2001, the Company 25 entered into a similar $20 million, 5-year, interest rate swap transaction. The interest rate swaps are considered and are documented as highly effective cash flow hedges. Item 8. Financial Statements and Supplementary Data The following Consolidated Financial Statements of the Company and its subsidiaries are included herewith:
Page ---- Report of Independent Certified Public Accountants F-2 Independent Auditors' Report F-3 Consolidated Balance Sheets at August 31, 2001 and 2000 F-4 Consolidated Income Statements - Years Ended August 31, 2001, 2000 and 1999 F-5 Consolidated Statements of Stockholders' Equity - Years Ended August 31, 2001, 2000 and 1999 F-6 Consolidated Statements of Cash Flows - Years Ended August 31, 2001, 2000 and 1999 F-7 Notes to Consolidated Financial Statements - Years Ended August 31, 2001, 2000 and 1999 F-8 - F-28
All schedules are omitted because of the absence of conditions under which they are required or because the required information is included in the financial statements. Item 9. Changes in and Disagreements With Accountants on Accounting and Financial Disclosure Not applicable. 26 PART III Item 10. Directors and Executive Officers of the Company The following table sets forth certain information with respect to the directors and executive officers of the Company.
Name Age Position (of Company unless otherwise noted) ----------------------------------- ---------- ----------------------------------------------------------------------- Robert E. Nederlander 68 Chairman of the Board, Chief Executive Officer and Director Jerome J. Cohen 73 President and Director Chairman of the Board, Chief Executive Officer and President, PEC Herbert B. Hirsch 65 Senior Vice President, Chief Financial Officer, Treasurer and Director Eugene I. Schuster 64 Vice President and Director Wilbur L. Ross, Jr. 63 Director John E. McConnaughy, Jr. 72 Director Leonard Toboroff 68 Director Jon A. Joseph 54 Senior Vice President, General Counsel and Secretary Carol W. Sullivan 53 Senior Vice President and Chief Financial Officer, PEC Charles G. Baltuskonis 51 Senior Vice President and Chief Accounting Officer Gregg A. McMurtrie 46 Executive Vice President and Chief Operating Officer, PEC S. Duke Campbell 58 Senior Vice President, Marketing and Sales, PEC
Robert E. Nederlander has been the Chairman of the Board and Chief Executive Officer of the Company since January 1988. Mr. Nederlander is the Chairman of the Executive Committee. Since July 1995, Mr. Nederlander has served on the Board of Directors of Cendant Corporation, formerly Hospitality Franchise Systems, Inc. (HFS). Mr. Nederlander has been Chairman of the Board of Riddell Sports Inc. since April 1988 and was Riddell Sports Inc.'s Chief Executive Officer from April 1988 through March 1993. From February 1992 until June 1992, Mr. Nederlander was also Riddell Sports Inc.'s interim President and Chief Operating Officer. In 2001, Riddell Sports, Inc. changed its name to Varsity Brands, Inc. Since November 1981, Mr. Nederlander has been President and/or a director of the Nederlander Organization, Inc., owner and operator of many legitimate theaters in the City of New York. Since December 1998, Mr. Nederlander has been a co-managing member of the Nederlander Co. LLC, operator of legitimate theaters outside the City of New York. Mr. Nederlander served as the Managing General Partner of the New York Yankees Baseball Club from August 1990 until December 1991, and has been a limited partner since 1973. Since October 1985, Mr. Nederlander has been President of Nederlander Television and Film Productions, Inc.; and Chairman of the Board of Allis-Chalmers Corp. from May 1989 to July 1993, and from July 1993 to October 1996 as Vice Chairman. He remains a director of Allis-Chalmers Corp. Mr. Nederlander was a director of MMC from September 1996 until June 1998. In October 1996, Mr. Nederlander became a director of News Communications Inc., a publisher of community oriented free circulation newspapers. Mr. Nederlander does not currently serve on a full time basis in his capacities with the Company. Jerome J. Cohen has been the President and a Director of the Company since 1988. Mr. Cohen serves as a member of the Executive Committee and is Chairman of the Board, Chief Executive Officer and President of PEC. Mr. Cohen served as Chairman of the Board of MMC from April 1995 to June 1998, as Chief Executive Officer from June 1992 to September 1997 and as President from June 1992 to March 1995. From April 1992 to June 1997, Mr. Cohen was a director of Atlantic Gulf Communities Inc., formerly known as General Development Corporation, a publicly held company engaged in land development, land sales and utility operations in Florida and Tennessee. 27 Herbert B. Hirsch has been the Senior Vice President, Chief Financial Officer, Treasurer and a Director of the Company since 1988. Mr. Hirsch serves as a member of the Executive Committee. Mr. Hirsch served as a director of MMC from June 1992 to June 1998, and served as Vice President, Chief Financial Officer and Treasurer of MMC from 1992 to September 1996. Eugene I. Schuster has been a Vice President and a Director of the Company since 1988. Mr. Schuster is a member of the Stock Option Committee. Mr. Schuster has also been Chief Executive Officer and Chairman of the Board of Directors of Venture Funding, Ltd., a business development corporation, since its inception in May 1983. From February 1986 to December 1999, Mr. Schuster was the President and Chief Executive Officer and a director of Quest BioTechnology, Inc., a publicly held biotechnology research and development firm. From September 1985 to December 1999, Mr. Schuster has been a director of Wavemat, Inc., a publicly held company engaged in the manufacture and sale of microwave equipment for advanced materials processing. From January 1988 to December 1999, Mr. Schuster was the Chairman and from May 1988 through February 1995 was Chief Executive Officer, of Cellex Biosciences, Inc., a publicly held manufacturer of automated cell culture systems. Mr. Schuster is Chairman and Chief Executive Officer of Art Renaissance, Inc., a privately held company which operates several chains of retail art galleries. Mr. Schuster does not currently serve on a full time basis in his capacities with the Company. Wilbur L. Ross, Jr. has been a Director of the Company since 1984. Mr. Ross serves as a member of the Audit, Stock Option and Executive Incentive Compensation Committees. Mr. Ross was Executive Managing Director of Rothschild Inc., an investment banking firm, from August 1996 until April 2000. Chairman of Rothschild Recovery Fund and Asia Recovery Fund since 1997 and 2000, respectively. As of April 1, 2000, he founded WL Ross & Co. LLC. He remains Chairman of Asia Recovery Fund, as well as the former Rothschild Recovery Fund, now named WLR Recovery Fund, and is Chairman of Asia Recovery Co-Investment Partners. Mr. Ross is also a director of News Communication, Casella Waste Systems Inc. and Pacific Life Insurance Company (Korea) and Kansai Sawayaka Bank (Japan). John E. McConnaughy, Jr. has been a Director of the Company since 1984. Mr. McConnaughy serves as Chairman of the Audit Committee and a member of the Stock Option and Executive Incentive Compensation Committees. Mr. McConnaughy is currently Chairman of the Board of JEMC Corp. He is currently on the Board of Directors of Transact International, Inc., DeVlieg Bullard, Inc., Levcor International, Inc., Riddell Sports, Inc., Fortune National Resources, Inc and Wave Systems, Inc. In 2001, Riddell Sports Inc. changed its name to Varsity Brands, Inc. Mr. McConnaughy is on the Board of Trustees and Executive Committee of the Strang Cancer Prevention Center and is Chairman of the Board Emeritus of the Harlem School of the Arts. Leonard Toboroff has been a director of the Company since March 7, 2001. Mr. Toboroff is a member of the New York bar and a practicing attorney since 1961. He has been Vice President of Riddell Sports, Inc. since April 1988. In 2001, Riddell Sports, Inc. changed its name to Varsity Brands, Inc. Since May 1989, Mr. Toboroff has been a Vice President and Vice Chairman of the Board of Allis-Chalmers Corp. Mr. Toboroff has been a director of Engex, Inc. since 1993. Jon A. Joseph, Senior Vice President, General Counsel and Secretary, has been with the Company since June 1995. Mr. Joseph was Executive Vice President of Valley Bank of Nevada from 1984 to 1991. In 1992, Valley Bank of Nevada was acquired by Bank of America. Mr. Joseph remained with the legal department of Bank of America until June 1, 1995, when he joined the Company. Carol W. Sullivan, Senior Vice President and Chief Financial Officer of PEC, has been with the Company since January 8, 2001. Ms. Sullivan served as Senior Vice President - Mortgage Portfolio for Sunterra Corporation from June 1998 to June 2000 and was appointed Treasurer in January 2000. Prior to that, she was a consultant in the vacation ownership industry from 1988 to 1998, providing financial consulting and advisory services to lenders and developers. Ms. Sullivan was Vice President - Real Estate Receivables Lending from 1980 to 1985 and Vice President - Real Estate Lending and Development from 1985 to 1988 of Finova Financial Corporation. Charles G. Baltuskonis, Senior Vice President and Chief Accounting Officer, has been with the Company since March 1997. He is a certified public accountant and served as Senior Vice President and Controller of Chase Federal Bank from May 1995 to March 1997. Prior to that, he was Chief Financial Officer of F&C Bancshares and First Coastal Bank, a Senior Vice President - Finance of Bank of New England, and was a Senior Manager with the public accounting firm of Ernst & Young. 28 Gregg A. McMurtrie was named Executive Vice President and Chief Operating Officer of PEC in November 1998. Mr. McMurtrie joined the staff of PEC in August 1982. He has served as Vice President of PEC since August 1991. From August 1982 to July 1987, Mr. McMurtrie served in various capacities in the credit, internal auditing, marketing, customer relations, sales and executive departments. He was General Manager, Colorado Land Sales, from September 1987 to February 1989. From September 1989 to November 1998, Mr. McMurtrie served as Director of Sales Administration. S. Duke Campbell, Senior Vice President, Marketing and Sales of PEC, has been with the Company since July 1996. From 1995 to 1996, Mr. Campbell served as a Principal at D.I.A.L. Pro Northwest, Inc., a value added reseller for several customer management systems in the Northwest. Mr. Campbell served as Vice President of Marketing and sales for Hostar International, Inc., a manufacturer of innovative material management systems for hospitals, from 1991 to 1994. From 1989 to 1990, Mr. Campbell was the Senior Principal of Gulf American Financial Services, Inc., a financial services company that specializes in receivables management. Prior to 1990, Mr. Campbell served in various positions at Thousand Trails, Inc., a Texas company that owned and operated member campground resorts. Compliance with Section 16(a) of the Securities Exchange Act of 1934 Section 16(a) of the Securities Exchange Act of 1934, as amended, requires the Company's Directors and executive officers, and persons who own more than ten percent of the Company's outstanding common stock, to file with the SEC initial reports of ownership and reports of changes in ownership of common stock. Such persons are required by SEC regulation to furnish the Company with copies of all such reports they file. To the Company's knowledge, based solely on a review of the copies of such reports furnished to the Company, all Section 16(a) filing requirements applicable to its officers, Directors and greater than ten percent beneficial owners have been satisfied. Additional Information Concerning Officers and Directors The Company's officers are elected annually by the Board of Directors and serve at the discretion of the Board of Directors. The Company's Directors hold office until the next annual meeting of shareholders and until their successors have been duly elected and qualified. The Company reimburses all Directors for their expenses in connection with their activities as Directors of the Company. Directors of the Company who are also employees of the Company do not receive additional compensation for their services as Directors. Members of the Board of Directors of the Company who are not employees of the Company received an annual fee of $40,000 in calendar 2000 and are also scheduled to receive an annual fee of $40,000 for calendar 2001. Directors are reimbursed for their expenses incurred in attending meetings of the Board of Directors and its committees. Effective as of September 23, 1998, the Company entered into indemnification agreements with each of its Directors and a former officer, which superseded indemnification agreements entered into by the Company and such persons in April 1998. The new indemnification agreements provide certain protections now afforded by the Company's Articles of Incorporation and By-laws so that they cannot be changed without the consent of such Directors and officer. In addition, such agreements clarify the procedures for obtaining indemnification from the Company and require the Company to maintain directors and officers insurance. Item 11. Executive Compensation The following table sets forth information concerning the annual and long- term compensation earned by the Company's Chief Executive Officer and each of the five other most highly compensated executive officers (Named Executive Officers) whose annual salary and bonus during the fiscal years presented exceeded $100,000. 29
Long-Term Compensation Awards ----------------------------- Annual Compensation -------------------------------------------------------- Number of Fiscal Other Annual Options All Other Name and Principal Position Year Salary Bonus(a) Compensation Granted Compensation(b) ------------------------------------ -------- ---------- ------------ ---------------- ----------- ----------------- Robert E. Nederlander, Chairman of the Board and 1999 $ 65,424 (c) $ - $ 5,901 833 $ - Chief Executive Officer 2000 30,769 (c) - - - - 2001 103,847 (c) - - - - Jerome J. Cohen, President, MFC 1999 $300,002 $ 5,769 $ 9,800 2,083 $ 2,400 Chairman of the Board, Chief 2000 300,002 92,667 - - - Executive Officer and President, PEC 2001 311,540 86,000 (a) - - - Herbert B. Hirsch Senior Vice President, Chief 1999 $200,000 $ 3,486 $ 2,335 1,666 $ 2,809 Financial Officer and Treasurer, MFC 2000 200,000 37,067 - - - Senior Vice President and Chief 2001 115,385 34,400 (a) - - - Financial Officer, PEC (to January 7, 2001) Jon A. Joseph General Counsel and Secretary, MFC 1999 $200,000 $ 1,923 $24,000 - $ 2,838 Senior Vice President, PEC 2000 200,000 25,000 24,000 - - 2001 207,692 17,200 (a) 24,923 - - Carol W. Sullivan Senior Vice President and 2001 $126,154 $ - (a) $ - - $ - Chief Financial Officer, PEC (commencing January 8, 2001) Gregg A. McMurtrie Executive Vice President 1999 $142,462 $ 5,885 $ 3,910 833 $ 2,172 and Chief Operating Officer, PEC 2000 150,000 25,000 2,127 - - 2001 155,769 - (a) 2,260 - -
(a) Incentive compensation is included in the fiscal year it is earned with respect to contractual arrangements. Awards to other executives are discretionary and have not as yet been determined by the Incentive Compensation Committee for fiscal 2001. (b) Represents the Company's discretionary matching contributions of 25% of the employee's contribution to the Company's 401(k) Plan on behalf of the employee. (c) Prior to December 11, 1998, Mr. Nederlander earned an annual salary of $200,000. On that date, his salary was suspended. In April 2000, Mr. Nederlander's salary was reinstated at an annual rate of $100,000. (d) Prior to January 8, 2001, Mr. Hirsch earned an annual salary of $200,000. On that date, his salary was changed to an annual rate of $50,000. Option Grants in Last Fiscal Year There were no grants of stock options during fiscal 2001. Aggregated Fiscal Year-End Option Value Table The following table sets forth certain information concerning unexercised stock options held by the Named Executive Officers as of August 31, 2001. No stock options were exercised by the Named Executive Officers during fiscal 2001. See "Stock Option Plan" below in this section. 30
Number of Unexercised Value of Unexercised In-the-Money Options Held at Options Held at August 31, 2001 August 31, 2001 (1) ----------------------- --------------------------------------------------- --------------------------------------------------- Name Exercisable Unexercisable Exercisable Unexercisable ----------------------- ------------------------ ------------------------ ------------------------ ------------------------ Robert Nederlander 1,582 1,334 $ -- $ -- Jerome J. Cohen 2,082 2,084 $ -- $ -- Herbert B. Hirsch 1,165 1,334 $ -- $ -- Jon A. Joseph 3,000 2,000 $ -- $ -- Carol W. Sullivan -- -- $ -- $ -- Gregg A. McMurtrie 1,332 833 $ -- $ --
(1) The closing sales price of the Company's Common Stock as reported on the Nasdaq National Market on August 31, 2001 was $3.99. The exercise price as of August 31, 2001 was $6.00 per share, therefore, the value of the unexercised options at August 31, 2001 was zero. Employment Agreements On September 1, 1996, the Company entered into an employment agreement with Jerome J. Cohen, which originally was to expire on January 31, 2002. The agreement provides for an annual base salary of $300,000 plus a bonus of 2.5% of Incentive Income as defined in the Company's Incentive Plan (See "Executive Incentive Compensation Plan"). On November 10, 2000, the agreement was amended to extend its expiration date to January 31, 2005. Under the agreement as amended, in the event (1) that the Company determines to terminate Mr. Cohen's employment under the agreement, (2) of a change in control of ownership of the Company or (3) of a sale of all or substantially all of the Company's assets, the Company would be required to enter into a termination agreement with Mr. Cohen under which he would receive a termination payment of $750,000. The termination payment would be payable in 36 equal monthly installments except in the case of a further change in control of ownership or sale of assets of the Company, in which case any unpaid balance of the $750,000 would become payable in a lump sum. The Company has entered into an employment agreement which renews annually unless either party gives notice of termination, with Jon A. Joseph. The current expiration date of the agreement is December 31, 2001. The agreement provides for an annual base salary of $200,000 plus .5% of Incentive Income as defined in the Company's Incentive Plan. Further, in the event of a change in control of ownership of the Company, as defined in the agreement, Mr. Joseph would receive a separation payment of $200,000. On September 2, 1997, the Company entered into an agreement with Herbert B. Hirsch pursuant to which the Company would pay him a separation payment of $150,000 at such time as he no longer is employed by the Company. PEC has entered into a compensation agreement with Carol W. Sullivan dated January 8, 2001 which provides for an annual base salary of $200,000. The Agreement is renewable annually, unless terminated by either party upon proper notice. PEC has the right to terminate the Agreement at any time. If PEC shall terminate or fail to renew the Agreement, Ms. Sullivan shall be entitled to a severance payment of $100,000 if such failure to renew or termination takes place during the first year of employment and $200,000 if such failure to renew or termination takes place during the second year or later years of the term of the Agreement. The Company entered into a compensation agreement with S. Duke Campbell dated August 31, 2000, which provides for an annual base salary of $125,000. In addition, Mr. Campbell is to be paid monthly a sales commission of one-quarter of one percent (0.25%) of net sales, occurring after September 1, 2000, and a Profit Contribution Bonus for reducing sales and marketing costs for fiscal 2001. If Mr. Campbell's employment is terminated by PEC, other than for cause, Mr. Campbell shall receive his base salary and sales commissions to the date of termination, the portion of his Profit Contribution Bonus, if any, earned through the immediately preceding quarter and a severance payment in an amount equal to his then current annual base salary. If Mr. Campbell resigns or terminates his employment by PEC he will be entitled to his base salary and sales commissions through the date of such termination. In addition, after the end of fiscal 2001, a new arrangement relating to profitability to take the place of the Profit Contribution Bonus will be agreed upon and added to the agreement by amendment. If PEC and Mr. Campbell have not agreed to such amendment to this agreement by December 31, 2001, and Mr. Campbell has received or earned a Profit Contribution Bonus for fiscal 2001, Mr. Campbell may elect to resign or terminate his employment by PEC during the thirty-day period following December 31, 2001 and he then shall be entitled to a severance payment in an amount equal to his then current annual base salary in addition to his base salary and sales commissions through the date of such termination. 31 Stock Option Plan Under the Company's Stock Option Plan (Plan), as originally adopted, 87,500 shares of common stock were reserved for issuance upon exercise of options. In calendar year 1997, the Company's Board of Directors and shareholders approved an amendment to the Plan to increase by 83,333 shares the number of shares of common stock reserved for issuance pursuant to the Plan. As a result, an aggregate of 170,833 shares of common stock are reserved for issuance pursuant to the Plan, of which 76,833 shares have been issued upon exercise of options through August 31, 1997. During fiscal 1998, the Company's Board of Directors unanimously approved, subject to approval by the Company's shareholders, the amendment and restatement of the Plan. The amendments to the Plan approved by the Company's Board of Directors consist of changes to permit the grant of options to non-employee Directors of the Company and changes to conform the Plan to changes to the federal securities laws. On September 16, 1998, the shareholders approved the amendment and restatement of the Plan. The Plan is designed to serve as an incentive for retaining qualified and competent employees and Directors. The Stock Option Committee of the Company's Board of Directors administers and interprets the Plan and is authorized, in its discretion, to grant options thereunder to all eligible employees of the Company including officers and directors of the Company. The Plan provides for the granting of both "incentive stock options" (as defined in Section 422A of the Internal Revenue Code) and nonstatutory stock options. Options can be granted under the Plan on such terms and at such prices as determined by the Board, or a committee thereof, except that the per share exercise price of options may not be less than 80% of the fair market value of the common stock on the date of grant, and, in the case of an incentive stock option, the per share exercise price may not be less than 100% of such fair market value. In the case of incentive stock options granted to a 10% shareholder, the per share exercise price may not be less than 110% of the fair market value of the common stock on the date of grant and shall expire five years from the date of grant. The aggregate fair market value of the shares covered by incentive stock options granted under the Plan that become exercisable by a grantee for the first time in any calendar year is subject to a $100,000 limit. There are currently 26 individuals, including both officers and directors, that have been granted options. Options granted under the Plan are exercisable after the period or periods specified in the option agreement. Options granted under the Plan are not exercisable after the expiration of ten years from the date of grant (except five years in the case of incentive stock options granted to 10% shareholders) and are not transferable other than by will or by the laws of descent and distribution. In September 1997, an additional 58,083 incentive stock options were granted under the Plan to employees at fair market value. On September 23, 1998, an additional 18,500 incentive stock options were granted under the Plan. An aggregate of 48,570 options were outstanding as of August 31, 2001 under the Plan. Compensation Committee Interlocks and Insider Participation The Board of Directors has not designated a Compensation Committee, but has delegated the responsibility and authority for setting and overseeing the administration of policy which governs the compensation of all of the Company's employees (with the exception of Messrs. Nederlander, Cohen, Hirsch and Schuster) to its President, Mr. Cohen. The compensation paid to Messrs. Nederlander, Cohen, Hirsch and Schuster is determined by the Board of Directors. The Directors who are also executive officers of the Company do not participate in deliberations of the Board of Directors of the Company concerning their own compensation. Executive Incentive Compensation Plan On June 22, 1994, effective for the year ended August 31, 1995, the Board of Directors of the Company approved and adopted an Executive Incentive Compensation Plan (Incentive Plan) for executives and other key employees of the Company and its subsidiaries who contribute to the success of the Company. Under the terms of the Incentive Plan, awards of incentive compensation are determined by the Incentive Compensation Committee of the Board of Directors of the Company, which committee shall be composed of not less than two members. The Incentive Plan provides that the Board of Directors may amend, suspend or terminate the Incentive Plan at any time. Incentive Compensation for any fiscal year is defined as an amount equal to 7.5% of incentive income (Incentive Income) for such year. Incentive Income for any fiscal year is defined as the amount reported as income before taxes in the Consolidated Financial Statements of the Company for such year. The maximum amount of all awards of Incentive Compensation for any fiscal year shall not exceed (a) 7.5% of Incentive Income for such year, reduced by (b) the amount of Incentive Income which must be paid by the Company to employees pursuant to any contractual obligation of the Company, increased by (c) any unawarded Incentive Compensation carried forward from a prior fiscal year. 32 The Board of Directors has also approved an employment agreement with Mr. Cohen, President of the Company, and agreements with Mr. Hirsch and Mr. Joseph, executive officers of the Company, pursuant to which Messrs. Cohen, Hirsch and Joseph are entitled to receive 2.5%, 1% and .5%, respectively, of Incentive Income of the Company, as defined in the Incentive Plan. Split-Dollar Insurance Plan On April 5, 1995, the Board of Directors of the Company established a split-dollar life insurance plan (Split-Dollar Plan) pursuant to which the Company paid the premiums for certain "second to die" life insurance policies on the lives of Messrs. Nederlander, Cohen, and Hirsch, executive officers and Directors of the Company and their respective spouses for a period not to exceed five years, at an annual aggregate premium outlay of $300,000. Each policy is in the name of a trust established for family beneficiaries selected by each executive. On August 3, 1995, the Company approved a life insurance policy for Mr. Schuster at an annual cost of $100,000 for a period of five years. Pursuant to the plan, and with respect to each policy, after ten years, or earlier upon the deaths of the respective insured parties, or certain other events, the Company was to receive the amount of premiums paid on the policy. Through December 31, 1998, $300,000 was paid on Mr. Schuster's policy and $400,000 was paid on each of the others, leaving a balance of premiums in the amount of $500,000 still owed by the Company on the policies. Pursuant to an amendment to the original agreement, executed in April 1999, future payments by the Company relating to the policies were waived by Messrs. Nederlander, Cohen, Hirsch and Schuster. In consideration of the waiver, the Company agreed to accept repayment of the lesser of the premiums paid or the cash value of the policy upon the deaths of the respective insured parties. Item 12. Security Ownership of Certain Beneficial Owners and Management The following table sets forth, as of November 16, 2001, information with respect to the beneficial ownership of the Company's common stock by (i) each person known by the Company to be the beneficial owner of more than 5% of the outstanding shares of common stock, (ii) each director of the Company, (iii) each of the Named Executive Officers (as defined in "Item. 11 Executive Compensation"), and (iv) all Directors and executive officers of the Company as a group. Unless otherwise noted, the Company believes that all persons named in the table have sole voting and investment power with respect to all shares of common stock beneficially owned by them.
Percentage of Name and Address of Amount and Nature of Outstanding Common Beneficial Owner or Identity of Group Beneficial Ownership (1) Stock Owned -------------------------------------------------------- --------------------------- ------------------------- Robert E. Nederlander(2) 342,056 9.8% Eugene I. Schuster and Growth Realty Inc. (GRI)(3) 252,005 7.2% Jerome J. Cohen(4) 186,993 5.3% Herbert B. Hirsch(5) 252,243 7.2% John E. McConnaughy, Jr.(6) 24,661 * Wilbur L. Ross, Jr.(7) 1,333 * Leonard Toboroff (8) -- -- Jon A. Joseph (9) 5,083 * Gregg A. McMurtrie (10) 2,166 * Carol W. Sullivan (11) -- -- Friedman Billings Ramsey Group, Inc. and affiliates (12) 571,419 16.3% All Executive Officers and Directors as a Group 1,066,540 30.5% (10 persons) (13)
* Less than 1%. (1) A person is deemed to be the beneficial owner of securities that can be acquired by such person within 60 days from November 16, 2001 upon the exercise of options or warrants. Each beneficial owner's percentage ownership is determined by assuming that options and warrants that are held by such person (but not those held by any other person) and that are exercisable within 60 days from the applicable date have been exercised. (2) 1450 Broadway, New York, New York 10018. Includes 41,666 shares held by an affiliate of Mr. Nederlander and 2,583 shares issuable under options granted pursuant to the Company's Stock Option Plan. Does not include 16,666 shares of common stock owned by the Robert E. Nederlander Foundation, an entity organized 33 and operated exclusively for charitable purposes (the Nederlander Foundation), of which Mr. Nederlander is President. Mr. Nederlander disclaims beneficial ownership of the shares owned by the Nederlander Foundation. (3) 321 Fisher Building, Detroit, Michigan 48202. Consists of (i) 211,506 shares held of record by GRI, a wholly-owned subsidiary of Venture Funding, Ltd. of which Mr. Schuster is a principal shareholder, Director and Chief Executive Officer, (ii) 39,166 shares held of record by Growth Realty Holdings L.L.C., a limited liability corporation owned by Mr. Schuster, GRI and Mr. Schuster's three children, and (iii) 1,333 shares issuable under options granted pursuant to the Company's Stock Option Plan. (4) 1125 N. E. 125/th/ Street, Suite 206, North Miami, Florida 33161. Includes 3,333 shares issuable under options granted pursuant to the Company's Stock Option Plan. Excludes 83,333 shares owned by a trust for the benefit of his children over which Mr. Cohen does not have any investment or voting power, as to which he disclaims beneficial ownership. Also excludes 4,000 shares of common stock owned by the Rita and Jerome J. Cohen Foundation, Inc., an entity organized and operated exclusively for charitable purposes (the Cohen Foundation), of which Mr. Cohen is President. Mr. Cohen disclaims beneficial ownership of the shares owned by the Cohen Foundation. (5) 230 East Flamingo Road, Las Vegas, Nevada 89109. Includes 1,833 shares issuable under options granted pursuant to the Company's Stock Option Plan. (6) 1011 High Ridge Road, Stamford, Connecticut 06905. Includes 2,333 shares issuable under options granted pursuant to the Company's Stock Option Plan. (7) 101 East 52/nd/ Street, New York, New York 10022. Consists of 1,333 shares issuable under an option granted pursuant to the Company's Stock Option Plan. Excludes 41,666 shares owned by Rothschild, Inc., of which Mr. Ross was a Managing Director until April 1,2000. Mr. Ross does not have any investment or voting power over such shares and disclaims beneficial ownership. (8) 1450 Broadway, 20/th/ Floor, New York, New York 10018. (9) 4310 Paradise Road, Las Vegas, Nevada 89109. Includes 3,000 shares issuable under options granted pursuant to the Company's Stock Option Plan. (10) 4310 Paradise Road, Las Vegas, Nevada 89109. Consists of shares issuable under options granted pursuant to the Company's Stock Option Plan. (11) 4310 Paradise Road, Las Vegas, Nevada 89109. (12) 1001 19/th/ Street North, Arlington, VA. 22209. Based upon a Schedule 13G dated July 13, 1998, as amended on each of February 16, 1999, 2000 and 2001, July 11,2001 and August 13, 2001, filed jointly by Friedman Billings Ramsey Group, Inc., Orkney Holdings, Inc., Eric F. Billings, Emanuel J. Friedman and W. Russell Ramsey with the SEC. (13) See Notes (2)-(11). Item 13. Certain Relationships and Related Transactions Purchase of Preferred Equities Corporation. Pursuant to a Stock Purchase and Redemption Agreement dated October 6, 1987 and amended October 25, 1987, Comay Corp., an affiliate of Mr. Cohen (Comay), GRI, an affiliate of Mr. Schuster, RRE Corp., an affiliate of Mr. Nederlander (together with its assignee, RER Corp., another affiliate of Mr. Nederlander, RER), and H&H Financial Inc., an affiliate of Mr. Hirsch (H&H), obtained the rights (PEC Purchase Rights) to acquire PEC, a privately-held Nevada corporation engaged in retail land sales, resort time-sharing and other real estate related activities. (Comay, GRI, RER and H&H are collectively referred to as the Assignors). Certain Arrangements Between the Company and Affiliates of Certain Officers and Directors. Pursuant to the Assignment and Assumption Agreement, dated February 1, 1988 as subsequently amended, the Assignors assigned (Assignment) their PEC Purchase Rights to the Company. As part of the consideration for the Assignment to the Company, the Assignors were entitled to receive from the Company, on a quarterly basis until January 31, 1995, amounts equal in the aggregate to 63% of the "Unrestricted Cash Balances" of PEC. The Assignment and Assumption Agreement defines Unrestricted Cash Balances of PEC as the cash on hand and on deposit of PEC and its subsidiary as of the end of a fiscal quarter that could be used to make a dividend or other payment to the Company without violating the most restrictive loan agreement to which PEC is a party or by which PEC is bound. 34 At January 31, 1995, when accrual of payments to assignors ceased, $13.3 million was payable to the Assignors. On March 2, 1995, the Assignors agreed to defer payment of $10 million of the amounts due to them pursuant to an amendment to the Assignment and Assumption Agreement providing for the subordination of such amounts to payment of debt for money borrowed by the Company or obligations of the Company's subsidiaries guaranteed by the Company (Subordinated Debt). Warrants (Warrants) to purchase 166,666 shares of common stock, at an exercise price of $25.50 per share (the closing market price per share on March 2, 1995), were granted to the Assignors in consideration of the payment deferral and subordination. The balance of $3.3 million was paid to the assignors as follows: $809,000 including interest of $59,000 in June 1995, and the balance of $2.6 million including interest of $45,000 in January 1997. The Warrants were exercised in August 1997 in a non-cash transaction, whereby the Subordinated Debt was reduced by $4.25 million. Interest on the Subordinated Debt was to be paid semiannually at the rate of 10% per year starting September 1, 1995, and the Subordinated Debt was to be repaid in semiannual principal payments commencing March 1, 1997. On March 1, 1997, the Assignors received the first semiannual principal payment of $1.4 million plus interest related to the repayment of the Subordinated Debt. In connection with exercise of the Warrants, payments aggregating $4.25 million were deemed paid and the semiannual payments were scheduled to resume in March 1999, with a partial payment made in September 1998. The final $4.29 million was scheduled to be paid in 3 equal installments on March 1, 1999, September 1, 1999 and March 1, 2000. In accordance with the Amended and Restated Fourteenth Amendment to Assignment and Assumption Agreement, the principal and interest payments have been deferred until March 1, 2002. Payments of interest of $429,000 and principal of $75,000 on Subordinated Debt were made during fiscal 2001. The Subordinated Debt is collateralized by a pledge of PEC's outstanding stock. In fiscal 2001, an advance by the Company of $100,000 at an interest rate of 10% was made to Eugene I. Schuster, an affiliate of one of the Assignors, against the amount owed to it. The balance outstanding under this advance was $11,000 as of August 31, 2001. In April 1995, PEC entered into an arrangement with Ramada, a subsidiary of Cendant Corporation, of which Mr. Nederlander became a director in July 1995. See "Business-Preferred Equities Corporation-Timeshare Properties and Sales." PART IV Item 14. Exhibits, Financial Statements, Schedules and Reports on Form 8-K (a) Certain documents filed as part of Form 10-K. See Item 8 above for a list of financial statements included as part of this Annual Report on Form 10-K. Reports on Form 8-K. The Company filed the following reports on Form 8-K during the quarter ended August 31, 2001: 1. Current Report on Form 8-K, dated August 7, 2001, filed with the Securities and Exchange Commission on August 14, 2001, with respect to the termination of the engagement of Deloitte & Touche LLP as the Company's independent accountant. 2. Current Report on Form 8-K, dated August 21, 2001, filed with the Securities and Exchange Commission on August 24, 2001, with respect to the engagement of Ernst & Young LLP as the Company's independent accountant. (b) Exhibits. Exhibit Number Description -------- --------------------------------------------------------------- 2.1(1) Disclosure Statement dated October 3, 1983, together with Schedules A through G and Debtors' Plan, filed as Exhibit (2) to Mego International (a predecessor of the Company) Form 10-K for the year ended February 28, 1983, and incorporated herein by reference. 2.2(8) Articles of Merger of Vacation Spa Resorts, Inc. with and into Preferred Equities Corporation dated March 10, 1993, Agreement and Plan of Merger dated as of July 24, 1992, among Preferred Equities Corporation and Vacation Spa Resorts, Inc., Amendment to Agreement and Plan of Merger dated July 14, 1992, and Amendment to Agreement and Plan of Merger dated December 7, 1992. 3.1(a)(1) Certificate of Incorporation of the Company, as amended, filed as Exhibit 3.1 to the Company's Form 10-K for the fiscal year ended August 31, 1987 and incorporated herein by reference. 35 3.1(b)(5) Certificate of Amendment of the Certificate of Incorporation of the Company, dated June 19, 1992. 3.1(c)(8) Certificate of Amendment of the Certificate of Incorporation of the Company, dated August 26, 1993. 3.2(1) By-laws of the Company, as amended. 10.4(a)(1) Stock Purchase Agreement dated October 25, 1987 by and among the Company, and Robert Nederlander, Jerome J. Cohen, Don A. Mayerson, Herbert Hirsch and Growth Realty Inc. (GRI) (collectively, the Purchasers) filed as Exhibit A to a Schedule 13D dated October 25, 1987, filed by Jerome J. Cohen, et al., and incorporated herein by reference. 10.4(b)(1) Letter dated January 7, 1988 from the Purchasers of the Company, updating representations made by the Company, in the Stock Purchase Agreement (Exhibit 10.5(a)) filed as Exhibit 10.2 to a Current Report on Form 8-K of the Company, dated January 7, 1988, and incorporated herein by reference. 10.5(a)(1) Assignment Agreement dated October 25, 1987 by and among Comay Corp. (Comay), GRI, RER Corp. (RER) (as successor in interest to RRE Corp.) and H&H Financial, Inc. (H&H) (collectively the Assignors) and the Company, with respect to shares of Common Stock of Preferred Equities Corporation (PEC), filed as Exhibit B to a Schedule 13D dated October 25, 1987 filed by Jerome J. Cohen, et al., and incorporated herein by reference. 10.5(b)(1) Assignment and Assumption Agreement dated February 1, 1988 by and among the Assignors and the Company filed as Exhibit 10.2 to a Current Report of Form 8-K of the Company, dated February 1, 1988 and incorporated herein by reference. 10.5(c)(1) Amendment to Exhibit 10.6(b) dated as of July 29, 1988 filed as Exhibit 10.3 to a Current Report on Form 8-K of the Company, dated August 1, 1988 and incorporated herein by reference. 10.6(a)(1) Stock Purchase and Redemption Agreement dated as of October 6, 1987 by and among PEC, Comay, GRI, RRE Corp., H&H, Linda Sterling and the 1971 Rosen Family Stock Trust filed as Exhibit C to a Schedule 13D dated October 25, 1987 filed by Jerome J. Cohen, et al., and incorporated herein by reference. 10.6(b)(1) Amendment dated as of October 25, 1987 of Exhibit 10.7(a) filed as Exhibit 10.3(b) to a Current Report on Form 8-K of the Company dated February 1, 1988, and incorporated herein by reference. 10.7(1) Loan and Security Agreement dated February 1, 1988 by and between the Company and Greyhound Real Estate Finance Company filed as Exhibit 10.7 to a Current Report on Form 8-K of the Company dated February 1, 1988 and incorporated herein by reference. 10.8(1) Pledge and Security Agreement dated February 1, 1988 by and among the Company and Comay, GRI, REF, H&H and PEC regarding the pledge of PEC stock pursuant to the Assignment Agreement and the Assignment and Assumption Agreement (Exhibits 10.6(a) and (b)) filed as Exhibit 10.8 to the Form 8 Amendment dated April 18, 1988 to a Current Report on Form 8-K of the Company dated February 1, 1988 and incorporated herein by reference. 10.9(1) Purchase Agreement dated June 30, 1988 by and among Preferred Equities Corporation (PEC), Southern Colorado Properties, Inc., Colorado Land and Grazing Company and The Oxford Finance Companies, Inc. filed as Exhibit 10.1 to a Quarterly Report of the Company on Form 10-Q for the quarter ended May 31, 1988 and incorporated herein by reference. 10.10(2) Amendment to Exhibit 10.5(b), dated July 29, 1988. 10.11(3) Amended and Restated Loan and Security Agreement between Greyhound Real Estate Finance Company and Vacation Spa Resorts, Inc., dated May 10, 1989 and Amended and Restated Promissory Note and Guarantee and Subordination Agreement. 10.12(3) Amendment No. 2 to Loan and Security Agreement between Greyhound Real Estate Finance Company and Vacation Spa Resorts, Inc., dated April 16, 1990 and Amendment No. 2 to Promissory Note and Guarantee and Subordination Agreement. 10.13(3) Purchase Agreement dated 24th day of September 1990 by and among Brigantine Inn, Ltd., Brigantine Preferred Properties, Inc. and Preferred Equities Corporation. 10.14(3) Purchase Agreement dated 24th day of September, 1990 by and among Brigantine Villas, L.P., Brigantine Preferred Properties, Inc., and Preferred Equities Corporation. 10.15(4) Amendment No. 3 to Loan and Security Agreement between Greyhound Real Estate Finance Company and Preferred Equities Corporation, dated May 31, 1991 and Amendment No. 2 to Promissory Note. 36 10.16(4) Amendment No. 3 to Loan and Security Agreement between Greyhound Real Estate Finance Company and Vacation Spa Resorts, Inc., dated May 31, 1991 and Amendment No. 2 to Promissory Note. 10.17(4) Loan and Security Agreement between Dorfinco Corporation and Preferred Equities Corporation, dated July 31, 1991 and related Promissory Note dated August 9, 1991. 10.18(4) Forbearance and Assumption Agreement, Guarantee and Second Amendment to Loan and Security Agreement between Chemical Bank of New Jersey, Brigantine Villas, L.P. and Brigantine Preferred Properties, Inc., dated June 12, 1991, Amended and Restated Promissory Note dated June 18, 1991, and Second Amendment to Mortgage dated June 18, 1991. 10.19(5) Stock Purchase Agreement dated August 13, 1992 between the Company and PEC. 10.20(5) Amendment No. 4 to Amended and Restated Loan and Security Agreement between Greyhound Real Estate Finance Company and Preferred Equities Corporation, dated January 13, 1992, and Amendment No. 3 to Amended and Restated Promissory Note. 10.21(5) Agreement to Wholesale Financing and related Promissory Note between ITT Commercial Finance Corp. and Calvada Homes, Inc., dated January 17, 1992. 10.22(5) Purchase and Sale Agreement between Golden West Homes and Calvada Homes, Inc., dated February 26, 1992. 10.23(5) Standard Form of Agreement between Owner and Contractor between Calvada Homes, Inc. and Emfad Enterprises, Inc., dated March 23, 1992. 10.24(5) Loan Modification and Extension Agreement between Valley Bank of Nevada and Preferred Equities Corporation dated January 30, 1992. 10.25(5) Amendment No. 2 to Amended and Restated Loan Agreement between Valley Bank of Nevada and Vacation Spa Resorts, Inc., dated February 20, 1992, and related Promissory Note dated February 20, 1992. 10.26(6) Purchase and Servicing Agreement dated as of October 15, 1992 among Vacation Spa Resorts, Inc. and Preferred Equities Corporation as Sellers, Preferred Equities Corporation as Servicer, and NBD Bank, N.A. as Purchaser. 10.27(6) Guaranty Agreement as of October 15, 1992 made by Vacation Spa Resorts, Inc., Preferred Equities Corporation, and the Company in favor of NBD Bank, N.A. 10.28(6) Letter from Greyhound Financial Corporation dated December 4, 1992 extending the borrowing term of the Amended and Restated Loan and Security Agreement dated May 10, 1992, between Greyhound Real Estate Finance Company and Preferred Equities Corporation and Loan and Security Agreement dated March 30, 1989, between Greyhound Real Estate Finance Company and Vacation Spa Resorts, Inc., to December 31, 1992. 10.29(7) Asset Sale Agreement dated December 22, 1992, by and between Brigantine Preferred Properties, Inc. as Seller, and The Oxford Finance Companies as Buyer. 10.30(7) Amendment No. 5 to Amended and Restated Loan and Security Agreement between Greyhound Real Estate Finance Company and Preferred Equities Corporation, dated February 23, 1993, Amendment No. 4 to Loan and Security Agreement between Greyhound Real Estate Finance Company and Vacation Spa Resorts, Inc., dated February 23, 1993. 10.31(7) First Amendment to Stock Purchase Agreement dated March 10, 1993, by and between the Company and Preferred Equities Corporation. 10.32(7) Amendment No. 6 to Amended and Restated Loan and Security Agreement between Greyhound Real Estate Finance Company and Preferred Equities Corporation, dated June 28, 1993, and three (3) related Promissory Notes, relating to the Grand Flamingo Winnick, Grand Flamingo Fountains, and Preferred Equities Corporation corporate offices. 10.33(7) Second Amendment to Loan and Security Agreement dated June 30, 1993, between Dorfinco Corp. and Preferred Equities Corporation, and First Amendment to Promissory Note. 10.34(7) Agreement for Sale of Notes Receivable arising from Timeshares sales dated August 3, 1993, by and between Brigantine Properties, Inc. as Seller, and The Oxford Finance Companies as Buyer. 10.35(7) Purchase and Sale Agreement dated August 30, 1993, between Preferred Equities Corporation as Developer, and Marine Midland Bank, N.A., and Wellington Financial Corp. 10.36(7) Purchase Agreement dated August 31, 1993, between Mego Financial Corp. as Seller, and Legg Mason Special Investment Trust as Buyer, for the purchase of 300,000 shares of the Company's Preferred Stock. 37 10.37(8) Amended and Restated Loan Agreement between Bank of America Nevada and Preferred Equities Corporation dated September 10, 1993. 10.38(8) Agreement for Line of Credit and Commercial Promissory Note between Mego Mortgage Corporation and First National Bank of Boston, dated January 4, 1994. 10.39(8) Amendment No. 7 to Amended and Restated Loan and Security Agreement between Greyhound Real Estate Finance Company and Preferred Equities Corporation, dated January 24, 1994. 10.42(8) Amendment No. 8 to Amended and Restated Loan and Security Agreement between Greyhound Real Estate Finance Company and Preferred Equities Corporation, dated April 15, 1994. 10.43(8) Purchase and Servicing Agreement dated as of June 1, 1994, between Preferred Equities Corporation as Seller and Servicer, and NBD Bank, N.A. as Purchaser. 10.44(8) Purchase and Servicing Agreement dated as of July 6, 1994, between Preferred Equities Corporation as Seller, and First National Bank of Boston as Purchaser. 10.45(8) Amendment No. 9 to Amended and Restated Loan and Security Agreement between Greyhound Real Estate Finance Company and Preferred Equities Corporation, dated August 31, 1994, and Amendment No. 4 to Amended and Restated Promissory Note dated August 31, 1994, Amendment No. 6 to Loan and Security Agreement between Greyhound Real Estate Finance Company and Preferred Equities Corporation dated August 31, 1994, and Amendment No. 4 to Promissory Note dated August 31, 1994, between Preferred Equities Corporation as successor-in-interest to Vacation Spa Resorts, Inc., and Greyhound Financial Corporation. 10.47(9) Third Amendment to Loan and Security Agreement and Assumption Agreement dated August 23, 1994, by and between Preferred Equities Corporation, Colorado Land and Grazing Corp. and Dorfinco Corporation. 10.48(9) General Loan and Security Agreement dated October 5, 1994, between Steamboat Suites, Inc. and Textron Financial Corporation. 10.49(9) Purchase and Servicing Agreement, Second Closing, dated November 29, 1994, between Preferred Equities Corporation and NBD Bank, N.A. 10.50(9) Form of Agreement with respect to the Company's "Split-Dollar" Life Insurance Plan, including Form of Assignment of Limited Interest in Life Insurance as Collateral Security. 10.51(9) Construction Loan Agreement dated January 20, 1995, by and between Preferred Equities Corporation and NBD Bank. 10.52(9) Amendment No. 10 to Amended and Restated Loan and Security Agreement dated January 26, 1995, by and between Greyhound Financial Corporation and Preferred Equities Corporation. 10.53(9) Loan Agreement re: Calvada Golf Course dated January 31, 1995, by and among The First National Bank of Boston and Preferred Equities Corporation. 10.54(9) Second Amendment to Assignment and Assumption Agreement dated March 2, 1995, by and between RER Corp., Comay Corp., Growth Realty, Inc. and H&H Financial, Inc. and Mego Financial Corp. 10.55(9) First Amendment to General Loan and Security Agreement dated February 27, 1995, between Steamboat Suites, Inc. and Textron Financial Corporation. 10.57(9) Licensing Agreement dated April 18, 1995, by and among Hospitality Franchise Systems, Inc., Ramada Franchise Systems, Inc. and Preferred Equities Corporation. 10.58(9) Purchase and Servicing Agreement, Third Closing, dated May 24, 1995, between NBD Bank, N.A. and Preferred Equities Corporation. 10.60(9) Purchase and Servicing Agreement, dated as of August 31, 1995, between Preferred Equities Corporation, Colorado Land and Grazing Corp. and First National Bank of Boston. 10.85(12) Amendment No. 11 to Amended and Restated Loan and Security Agreement dated September 22, 1995, by and between Finova Capital Corporation and Preferred Equities Corporation and related Promissory Note relating to Aloha Bay Phase II. 10.86(12) Amendment No. 12 to Amended and Restated Loan and Security Agreement dated September 29, 1995, by and between Finova Capital Corporation and Preferred Equities Corporation and Amended and Restated Promissory Note relating to Corporate Office Building. 10.87(12) Fourth Amendment to Loan and Security Agreement and Assumption Agreement dated September 30, 1995, by and between Preferred Equities Corporation, Colorado Land and Grazing Corp., Mego Financial Corp. and Dorfinco Corporation. 38 10.89(12) Second Amendment to General Loan and Security Agreement dated November 30, 1995, by and between Steamboat Suites, Inc. and Textron Financial Corporation and Restated and Amended Receivables Promissory Note. 10.90(12) Amendment No. 13 to Amended and Restated Loan and Security Agreement dated December 13, 1995, by and between Finova Capital Corporation and Preferred Equities Corporation and three (3) related Promissory Notes, relating to the Grand Flamingo Towers Lobby, Ida and Winnick Building Additions. 10.91(12) Purchase and Sale Agreement dated December 29, 1995, by and between Overlook Lodge Limited Liability Company as Seller and Preferred Equities Corporation as Purchaser. 10.92(12) Second Amendment to Purchase and Sale Agreement dated February 8, 1996, as previously amended by an Amendment to Purchase and Sale Agreement dated May 10, 1994, between Preferred Equities Corporation, Marine Midland Bank, and Wellington Financial Corp. 10.93(12) Acquisition and Construction Loan Agreement dated March 27, 1996, by and between Heller Financial, Inc. and Preferred Equities Corporation and three (3) related Promissory Notes; Acquisition Promissory Note, Revolving Renovation Promissory Note, and Receivables Promissory Note. 10.94(12) Construction Loan Agreement dated April 30, 1996, by and between Preferred Equities Corporation and NBD Bank and related Promissory Note. 10.95(12) Amendment No. 14 to Amended and Restated Loan and Security Agreement dated June 5, 1996, by and between Finova Capital Corporation and Preferred Equities Corporation and Second Amended and Restated Promissory Note, relating to Headquarters and FCFC Property. 10.96(12) Amendment No. 15 to Amended and Restated Loan and Security Agreement dated August 16, 1996, by and between Finova Capital Corporation and Preferred Equities Corporation; Amendment No. 7 to Loan and Security Agreement; Amendment No. 5 to Amended and Restated Promissory Note; Amendment No. 5 to Promissory Note; Amendment No. 1 to Promissory Note [Towers Lobby]. 10.97(12) Request for Receivables Purchase dated July 30, 1996, by and between Preferred Equities Corporation as Seller and NBD Bank as Purchaser. 10.99(12) Amendment to Common Stock Purchase Warrant issued by Mego Financial Corp. to Legg Mason Special Investment Trust, Inc. 10.100(14) Third Amendment to General Loan and Security Agreement dated November 29, 1996 between Steamboat Suites, Inc. as Debtor and Textron Financial Corporation as Lender and the related Restated and Amended Receivables Promissory Note dated November 30, 1996 effective October 6, 1994. 10.101(14) Fifth Amendment to Loan and Security Agreement dated November 29, 1996 by and among Preferred Equities Corporation and Colorado Land and Grazing Corp. as Borrower; Mego Financial Corp. as Guarantor; and Dorfinco Corporation as Lender and the related Fourth Amendment to Promissory Note dated November 29, 1996. 10.102(14) Acquisition and Renovation Loan Agreement dated August 6, 1996 between Heller Financial, Inc. as Lender and Preferred Equities Corporation as Borrower; and Interval Receivables Loan and Security Agreement dated August 6, 1996 by and among Heller Financial, Inc. as Lender and Preferred Equities Corporation as Borrower and Mego Financial Corp. as Guarantor, and the three related Promissory Notes. 10.103(15) Subdivision Improvement Agreement dated March 7, 1995 between Preferred Equities Corporation and the Board of County Commissioners of the County of Nye, State of Nevada. 10.104(15) Subdivision Improvement Agreement dated February 20, 1996 between Preferred Equities Corporation and the Board of County Commissioners of the County of Nye, State of Nevada. 10.105(15) Subdivision Improvement Agreement dated February 20, 1996 between Preferred Equities Corporation and the Board of County Commissioners of the County of Nye, State of Nevada. 10.106(15) Subdivision Improvement Agreement dated December 17, 1996 between Preferred Equities Corporation and the Board of County Commissioners of the County of Nye, State of Nevada. 10.107(15) Subdivision Improvement Agreement dated December 17, 1996 between Preferred Equities Corporation and the Board of County Commissioners of the County of Nye, State of Nevada. 10.108(15) Subdivision Improvement Agreement dated December 17, 1996 between Preferred Equities Corporation and the Board of County Commissioners of the County of Nye, State of Nevada. 10.109(15) Subdivision Improvement Agreement dated December 17, 1996 between Preferred Equities Corporation and the Board of County Commissioners of the County of Nye, State of Nevada. 39 10.110(15) Subdivision Improvement Agreement dated December 17, 1996 between Preferred Equities Corporation and the Board of County Commissioners of the County of Nye, State of Nevada. 10.112(15) Employment Agreement between Mego Financial Corp. and Irving J. Steinberg dated August 1, 1996. 10.113(16) Employment Agreement between Jerome J. Cohen and Mego Financial Corp. dated September 1, 1996. 10.114(16) Purchase and Servicing Agreement between Preferred Equities Corporation as Seller and BankBoston, N.A. as Purchaser dated May 30, 1997. 10.115(16) Second Amended and Restated and Consolidated Loan and Security Agreement between Preferred Equities Corporation as Borrower and FINOVA Capital Corporation as lender, dated May 15, 1997. 10.116(16) Form of Owners Association Agreement between Resort Condominiums International, Inc. and Homeowners Associations with schedule listing the associations. 10.129(17) Third 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 August 20, 1997. 10.130(17) Loan and Security Agreement between Litchfield Financial Corporation and Preferred Equities Corporation dated July 30, 1997. 10.132(17) Employment Agreement between Jon A. Joseph and Mego Financial Corp. dated August 31, 1997. 10.133(17) Agreement between the Company and Herbert B. Hirsch dated September 2, 1997 relating to a severance payment. 10.134(17) Agreement between the Company and Don A. Mayerson dated September 2, 1997 relating to a severance payment. 10.137(17) Agreement between Mego Mortgage Corporation and Preferred Equities Corporation, dated February 9, 1998, regarding assignment of rights related to the Loan Program Sub-Servicing Agreement to Greenwich Capital Markets, Inc. 10.138(17) Mortgage Loan Facility Agreement between FINOVA Capital Corporation and Preferred Equities Corporation dated February 18, 1998. 10.142(23) Amended and Restated Real Estate Purchase and Sales Agreement by and among Preferred Equities as borrower and Mercantile Equities Corporation and Hartsel Springs Ranch of Colorado, Inc., as Note holder dated as of November 25, 1997. 10.143(23) Letter Amendment to General Loan and Security Agreement dated December 1, 1997, between Steamboat Suites, Inc. and Textron Financial Corporation. 10.144(23) Mortgage Loan Facility Agreement between FINOVA Capital Corporation and Preferred Equities Corporation dated March 20, 1998. 10.145(23) Loan and Security Agreement dated August 12, 1998 between Preferred Equities Corporation as Borrower and Dorfinco Corporation as Lender and the related Promissory Note. 10.146(23) Post-72 Lots Purchase Money Promissory Note by and among Preferred Equities and Mercantile Equities Corporation and Hartsel Springs Ranch of Colorado, Inc. dated as of February 20, 1998. 10.147(23) Purchase Money Promissory Note by and among Preferred Equities as borrower and Mercantile Equities Corporation and Hartsel Springs Ranch of Colorado, Inc., as Noteholder dated as of February 20, 1998. 10.148(23) Compensation Agreement between Frederick H. Conte and Preferred Equities Corporation dated September 1, 1998. 10.149(23) Form of Indemnification Agreement, each dated as of September 23, 1998 between the Company and each of Robert Nederlander, Jerome J. Cohen, Eugene I. Schuster, Herbert B. Hirsch, John E. McConnaughy, Jr., Wilbur L. Ross, Jr. and Don A. Mayerson. 10.150(20) Amended and Restated and Consolidated Loan and Security Agreement between Finova and PEC & Mego Financial dated December 23, 1998 10.151(20) Common Stock Purchase Warrant issued by Mego Financial to Finova Capital Corporation dated December 23, 1998. 10.152(21) First Amended and Restated and Consolidated Promissory Note dated as of November 5, 1998 between FINOVA Capital Corporation and Preferred Equities Corporation relating to Aloha Bay Phase I. 40 10.153 (21) Third Amended and Restated Promissory Note dated as of September 29, 1998 by and between FINOVA Capital Corporation and Preferred Equities Corporation relating to the Headquarters and FCFC Property. 10.154 (21) Amendment No. 4 to Second Amended and Restated and Consolidated Loan and Security Agreement dated as of November 6, 1998 between Finova Capital Corporation and Preferred Equities Corporation. 10.155 (21) Amendment No. 4 to Second Amended and Restated and Consolidated Loan and Security Agreement dated as of November 6, 1998 between Greyhound Real Estate Finance Company and Preferred Equities Corporation. 10.156 (21) Amended and Restated Guarantee and Subordination Agreement dated as of September 29, 1998 between Greyhound Real Estate Finance Company and Mego Financial Corporation relating to the Headquarters Re-advance. 10.157 (21) First Amended and Restated Promissory Note dated as of November 6, 1998 between FINOVA Capital Corporation and Preferred Equities Corporation relating to the IDA Building Addition. 10.158 (21) Letter Agreement dated as of September 29, 1998 between FINOVA Capital Corporation and Preferred Equities Corporation relating to the Headquarters Re-advance. 10.159 (21) Additional Advance Note dated as of November 6, 1998 between FINOVA Capital Corporation and Preferred Equities Corporation relating to Aloha Bay Phase II. 10.160 (21) Request for Advance and Disbursement Instructions dated as of November 11, 1998 between FINOVA Capital Corporation and Preferred Equities Corporation. 10.161 (21) First Amended and Restated Promissory Note dated as of November 6, 1998 between FINOVA Capital Corp. and Preferred Equities Corporation relating to the Winnick Building Addition. 10.162 (21) Fourth Amendment to Assignment and Assumption Agreement dated as of February 26, 1999 by and between RER Corp, COMAY Corp., Growth Realty Inc. and H & H Financial, Inc. and Mego Financial Corporation. 10.163 (21) Amended and Restated Stock Option Plan dated September 16, 1998 for Mego Financial Corp. 10.164 (22) Amendment No.2 to Interval Receivables Loan and Security Agreement dated as of March 28, 1999 between Heller Financial, Inc. and Preferred Equities Corporation. 10.165 (22) Sales Agreement dated as of March 8, 1999 between Great Escape Marketing, Inc. and Preferred Equities Corporation relating to 6950 Villa de Costa Dr. Orlando, Florida. 10.166 (22) Sales Agreement dated as of March 10, 1999 between D&D Marketing, Inc. and Preferred Equities Corp and Brigantine Preferred Properties. 10.167 (22) Forbearance and Modification Agreement dated as of May 7, 1999 by and between Preferred Equities Corporation and Heller Financial, Inc. 10.168 (22) Management Agreement dated May 20, 1999 by and between Hotel Maison Pierre Lafitte, LTD. Owners Association, Inc. and Preferred Equities Corporation. 10.169 (22) Fifth Amendment to Assignment and Assumption Agreement dated May 28, 1999 by and between RER Corp, COMAY Corp., Growth Realty Inc. and H&H Financial, Inc. and Mego Financial Corp. 10.170 (22) Amendment No. 2 to Severance Agreement, and Consulting Agreement dated June 18, 1999 between Don A. Mayerson and Mego Financial Corp. 10.171 (22) First Amendment to Forbearance Agreement and Amendment No. 6 to Second Amended and Restated and Consolidated Loan and Security Agreement dated May 7, 1999 by and among Finova Capital Corporation, Preferred Equities Corporation and Mego Financial Corp. 10.172 (24) Sixth Amendment to Assignment and Assumption Agreement dated May 28, 1999 by and between RER Corp, COMAY Corp., Growth Realty Inc. and H&H Financial, Inc. and Mego Financial Corp. 10.173 (24) Forbearance Agreement dated August 6, 1999 among Preferred Equities, and Mego Financial Corporation and Litchfield Financial Corporation. 10.174 (24) Purchase and Sale Agreement between The Villas at Monterey Limited Partnership and Tango Bay of Orlando and Preferred Equities Corporation regarding Ramada Suites at Tango Bay Orlando. 10.175 (24) Extension dated September 7, 1999 to the Second Amendment to Forbearance Agreement and Amendment No. 7 to Second Amended and Restated Consolidated Loan and Security Agreement dated December 23, 1998 between Preferred Equities Corporation and Finova Capital Corporation. 41 10.176 (24) Purchase and Security Agreement dated June 11, 1999 between Preferred Equities Corporation and Preferred RV Resort Owners Association regarding the Preferred RV Resort. 10.177 (24) Forbearance Agreement and Amendment No. 5 to Second Amended and Restated and Consolidated Loan and Security Agreement dated December 23, 1998 between Finova Capital Corporation and Preferred Equities Corp. 10.178 (24) Letter Agreement dated February 8, 1999 between Preferred Equities Corporation and Finova Capital Corporation regarding additional agreements to the Forbearance Agreement and Amendment No. 5 to Second Amended and Restated Consolidated Loan and Security Agreement dated December 23, 1998. 10.179 (24) Amendment No. 3 to Severance Agreement and Consulting Agreement between Mego Financial Corp. and Don A. Mayerson dated September 28, 1999. 10.180 (24) Compensation Agreement between S. Duke Campbell and Preferred Equities Corporation dated July 27, 1998. 10.181 (24) Amendment dated October 15, 1999 to the General Loan and Security Agreement Inventory Advance between Preferred Equities Corporation and Textron Financial Corporation dated October 5, 1994. 10.182 (24) Amendment dated April 26, 1999 to the Agreement made January 1, 1995 between Mego Financial Corp. and Herbert A. Krasow, as Trustee of the Herbert B. Hirsch Property Trust Insurance Trust dated October 22, 1990 regarding the Agreement concerning "Split-Dollar" Life Insurance Plan. 10.183 (24) Amended Assignment of Limited Interest in Life Insurance as Collateral Security dated April 26, 1999 to an Assignment made as of January 1, 1995 by Herbert A. Krasow, as Trustee of the Herbert B. Hirsch Property Trust Insurance Trust, dated October 22, 1990 to Mego Financial Corp. 10.184 (24) Amended Agreement Concerning "Split-Dollar" Life Insurance Plan dated April 26, 1999 to the Agreement made January 1, 1995, between Mego Financial Corp., Lawrence J. Cohen and Clifford A. Schulman as Trustees of the Cohen 1994 Insurance Trust dated December 2, 1994, Jerome J. Cohen and Rita Cohen. 10.185 (24) Amended Assignment of Limited Interest in Life Insurance as Collateral Security dated April 26, 1999 to an Assignment made as of January 1, 1995, by Lawrence J. Cohen and Clifford A. Schulman, as Trustees of the Cohen 1994 Insurance Trust dated December 21, 1994 to Mego Financial Corp. 10.186 (24) Amended Agreement Concerning "Split-Dollar" Life Insurance Plan dated April 23, 1999 to the Agreement made as of June 1, 1995 between Mego Financial Corp, Joseph A. Schuster, as Trustee of the Eugene I Schuster Irrevocable Trust - dated May 30 1995, and Eugene I. Schuster. 10.187 (24) Amended Assignment of Limited Interest in Life Insurance as Collateral Security dated April 23, 1999 to an Assignment made as of June 1, 1995, by Joseph A. Schuster, as Trustee of the Eugene I. Schuster Irrevocable Trust - Mego, dated May 30, 1995 to Mego Financial Corp. 10.188 (24) Amended Agreement Concerning "Split-Dollar" Life Insurance Plan dated April 26, 1999 to the Agreement made January 1, 1995 between Mego Financial Corp., Tracy Allen, and Jane Gerard, as Trustees of the Nederlander 1994 Insurance Trust, dated December 19, 1994, Robert e. Nederlander and Gladys Nederlander. 10.189 (24) Amended Assignment of Limited Interest in Life Insurance as Collateral Security Amendment made April 26, 1999 to as Assignment made January 1, 1995 by Tracy Allen and Jane Gerard, as Trustees of the Nederlander 1994 Insurance Trust, dated December 19, 1994 to Mego Financial Corp. 10.190 (24) Amended Agreement Concerning "Split-Dollar" Life Insurance Plan Amendment made as of April 26, 1999 to the Agreement made as of January 1, 1995, between Mego Financial Corp., Gary Steven Mayerson and Robert Keith Mayerson, as Trustees of the Mayerson 1994 Insurance Trust, dated December 21, 1994, Don A. Mayerson and Evelyn W. Mayerson. 10.191 (24) Amended Assignment of Limited Interest in Life Insurance as Collateral Security Amendment made April 26, 1999 to an Assignment made January 1, 1995, by Gary Steven Mayerson and Robert Keith Mayerson, as Trustees of the Mayerson 1994 Insurance Trust, dated December 21, 1994 to Mego Financial Corp. 10.192 (24) Seventh 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 November 20, 1999. 42 10.193 (25) Purchase and Sale Agreement dated October 6, 1999 between Preferred Equities Corporation and Covington Nevada Corp regarding the Sale of Calvada Championship Golf Course and Calvada Executive Golf Course. 10.194 (25) Amendment No. One to Third Amended and Restated Promissory Note - Headquarters and FCFC Property dated November 9, 1999 between Preferred Equities Corporation and Finova Capital Corporation. 10.195 (25) Amendment No. One to Promissory Note - Additional Advances dated November 9, 1999 between Preferred Equities Corporation and Finova Capital Corporation. 10.196 (25) Third Amendment to Forbearance Agreement and Amendment No. 8 to Second Amended and Restated and Consolidated Loan and Security Agreement dated November 9, 1999, by and among Finova Capital Corporation, Preferred Equities Corporation, and Mego Financial Corp. 10.197 (25) Fourth Amendment to Forbearance Agreement and Amendment No. 9 to Second Amended and Restated and Consolidated Loan and Security Agreement dated December 17, 1999 by and among Finova Capital Corporation, Preferred Equities Corporation, and Mego Financial Corp. 10.198 (25) Second Amendment to Deed of Trust - Hartsel Springs Ranch dated December 17, 1999 by and among Preferred Equities Corporation and Finova Capital Corporation. 10.199 (26) Fifth Amendment to Forbearance Agreement and Amendment Number 10 to Second Amended and Restated and Consolidated Loan and Security Agreement dated as of February 25, 2000 by and among FINOVA Capital Corporation, Preferred Equities Corporation, and Mego Financial Corp. 10.200 (26) Eighth 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 January 31, 2000. 10.201 (26) Amended, Restated and Increased Receivables Promissory Note No. 1 by Preferred Equities Corp. to Heller Financial, Inc. dated December 22, 1999. 10.202 (26) Amended, Restated and Consolidated Acquisition Promissory Note No. 1 by Preferred Equities Corp. to Heller Financial, Inc. dated December 22, 1999. 10.203 (26) Fourth Amendment to Interval Receivables Loan and Security Agreement dated December 22, 1999 between Heller Financial, Inc., and Preferred Equities Corporation. 10.204 (26) Third Amendment to Acquisition and Construction Loan Agreement dated December 22, 1999 between Heller Financial, Inc., and Preferred Equities Corporation. 10.205 (26) General Loan and Security Agreement (Inventory Loan) executed December 17, 1999 by and among Textron Financial Corp., Preferred Equities Corp. and Steamboat Suites, Inc. 10.206 (26) General Loan and Security Agreement (Receivable Loan Facility) executed December 17, 1999 by and among Textron Financial Corp., Preferred Equities Corp. and Steamboat Suites, Inc. 10.207 (26) Sixth Amendment to Forbearance Agreement and Amendment No. 11 to Second Amended and Restated and Consolidated Loan and Security Agreement dated March 31, 2000 by and among Finova Capital Corporation, Preferred Equities Corporation and Mego Financial Corp. 10.208 (27) 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 (27) 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 (27) 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. 10.211 (28) Seventh Amendment to Forbearance Agreement and Amendment No. 12 to Second Amended and Restated and Consolidated Loan and Security Agreement dated July 20, 2000 by and among FINOVA Capital Corporation, Preferred Equities Corporation and Mego Financial Corp. 10.212 (28) Second Amendment to Loan and Security Agreement between Litchfield Financial Corporation and Preferred Equities Corporation dated July 15, 2000. 10.213 (28) Tenth 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 August 31, 2000. 10.214 (28) Fourth Amendment to Acquisition and Construction Loan Agreement dated September 7, 2000 between Heller Financial, Inc., and Preferred Equities Corporation. 10.215 (28) ISDA Master Swap Agreement between Sovereign Bank and Preferred Equities Corporation dated 43 August 31, 2000. 10.216 (28) Five year extension of Licensing Agreement dated April 18, 1995, by and among Hospitality Franchise Systems, Inc., Ramada Franchise Systems, Inc. and Preferred Equities Corporation. 10.217 (28) Extension of Loan and Security Agreement dated August 12, 1998 between Dorfinco Corporation and Preferred Equities Corporation to December 31, 2001. 10.218 (28) Master Lease Agreement and Guaranty of Lease among Jozac Business Center, LLC, Landlord; Preferred Equities Corporation, Tenants; and Mego Financial Corporation, Guarantor, for 4310 Paradise Road, Las Vegas, NV dated October 2, 2000. 10.219 (28) Master Lease Agreement and Guaranty of Lease among Jozac Business Center, LLC, Landlord; Preferred Equities Corporation, Tenants; and Mego Financial Corporation, Guarantor, for 1500 Tropicana, Las, Vegas, NV dated November 9, 2000. 10.220 (28) Eleventh 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 November 15, 2000. 10.221 (29) Amended and Restated Employment Agreement dated November 10, 2000 by and between MEGO Financial Corp and Jerome J. Cohen. 10.222 (29) Seventh Amendment to loan and security agreement by Preferred Equities Corporation and Colorado Land and Grazing Corp., dated December 15, 2000. 10.223 (29) Fifth Amendment to Promissory Note made by Preferred Equities Corporation and Colorado Land And Grazing Corp on December 15, 2000. 10.224 (29) Compensation Agreement between Carol Sullivan and Preferred Equities Corporation dated January 8, 2001. 10.225 (30) First Amendment to Loan and Security Agreement by and between Preferred Equities Corporation and Dorfinco Corporation dated November 30, 2000. 10.226 (30) First Amendment to General Loan and Security Agreement between Steamboat Suites, Inc., and Preferred Equities Corporation dated February 1, 2001. 10.227 (30) Eighth Amendment to Forbearance Agreement and Amendment No. 13 to Second Amended and Restated and Consolidated Loan and Security Agreement between Finova Capital corporation and Preferred Equities Corporation dated December 29, 2000. 10.228 (30) Twelfth 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 February 15, 2001. 10.229 (31) Hypothecation Loan Agreement dated February 6, 2001 between Preferred Equities Corporation and HSBC Bank USA. 10.230 (31) Amended and Restated Loan and Security Agreement by and between Preferred Equities Corporation and Heller Financial, Inc. dated April 5, 2001. 10.231 General Loan and Security Agreement for Inventory Loan III executed March 30, 2001 among Textron Financial Corporation and Preferred Equities Corporation and Brigantine Preferred Properties, Inc. 10.232 First Amendment to General Loan and Security Agreement on Receivable Loan Facility executed 7/9/01 between Steamboat Suites, Inc., Preferred Equities Corporation and Brigantine Preferred Properties and Textron Financial Corporation. 10.233 First Amended and Restated Loan and Security Agreement executed on June 22, 2001 between Preferred Equities Corporation and Colorado Land and Grazing Corporation, Mego Financial Corp, and Dorfinco Corporation. 10.234 Thirteenth Amendment to Assignment and Assumption Agreement, by and between RER Corp., COMAY Corp., Growth Realty INC., and H&H Financial dated June 29, 2001. 10.235 Loan and Security Agreement by and between Preferred Equities Corporation and Capital Source Finance LLC effective August 8, 2001. 10.236 Amended and Restated Fourteenth Amendment to Assignment and Assumption Agreement, by and between RER Corp., COMAY Corp., Growth Realty INC., and H&H Financial dated November 15, 2001. 21.1 List of subsidiaries. --------------- 44 (1) Filed as part of the Company's Form 10-K for fiscal year ended August 31, 1988 and incorporated herein by reference. (2) Filed as part of the Company's Form 10-K for fiscal year ended August 31, 1989 and incorporated herein by reference. (3) Filed as part of the Company's Form 10-K for fiscal year ended August 31, 1990 and incorporated herein by reference. (4) Filed as part of the Company's Form 10-K for fiscal year ended August 31, 1991 and incorporated herein by reference. (5) Filed as part of the Company's Registration Statement on Form S-4 originally filed August 31, 1992 and incorporated herein by reference. (6) Filed as part of the Company's Form 10-K for fiscal year ended August 31, 1992 and incorporated herein by reference. (7) Filed as part of the Company's Form 10-K for fiscal year ended August 31, 1993 and incorporated herein by reference. (8) Filed as part of the Company's Form 10-K for fiscal year ended August 31, 1994 and incorporated herein by reference. (9) Filed as part of the Company's Form 10-K for fiscal year ended August 31, 1995 and incorporated herein by reference. (14) Filed as part of the Company's Form 10-Q for the quarter ended November 30, 1996 and incorporated herein by reference. (15) Filed as part of the Company's Form 10-Q for the quarter ended February 28, 1997 and incorporated herein by reference. (16) Filed as part of the Company's Form 10-Q for the quarter ended May 31, 1997 and incorporated herein by reference. (17) Filed as part of the Company's Form 10-Q for the quarter ended February 28, 1998 and incorporated herein by reference. (18) Filed as part of the Company's Form 10-Q for the quarter ended May 31, 1998 and incorporated herein by reference. (19) Filed as part of the Company's Form 10-K for the fiscal year ended August 31, 1997 and incorporated herein by reference. (20) Filed as part of the Company's Form 10-Q for the quarter ended November 30, 1998 and incorporated herein by reference. (21) Filed as part of the Company's Form 10-Q for the quarter ended February 28, 1999 and incorporated herein by reference. (22) Filed as part of the Company's Form 10-Q for the quarter ended May 31, 1999 and incorporated herein by reference. (23) Filed as part of the Company's Form 10-K for the fiscal year ended August 31, 1998 and incorporated herein by reference. (24) Filed as part of the Company's Form 10K for the fiscal year ended August 31, 1999 and incorporated herein by reference. (25) Filed as part of the Company's Form 10-Q for quarter ended November 30, 1999 and incorporated herein by reference. (26) Filed as part of the Company's Form 10-Q for the quarter ended February 29, 2000 and incorporated herein by reference (27) Filed as part of the Company's Form 10-Q for the quarter ended May 31, 2000 and incorporated herein by reference. (28) Filed as part of the Company's Form 10-K for the fiscal year ended August 31, 2000 and incorporated herein by reference. (29) Filed as part of the Company's Form 10-Q for quarter ended November 30, 2000 and incorporated herein by reference. (30) Filed as part of the Company's Form 10-Q for the quarter ended February 29, 2001 and incorporated herein by reference 45 (31) Filed as part of the Company's Form 10-Q for the quarter ended May 31, 2001 and incorporated herein by reference. (d) Financial Statement schedules required by Regulation S-X. No financial statement schedules are included because of the absence of the conditions under which they are required or because the information is included in the financial statements or the notes thereto. 46 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, as amended, the Registrant has duly caused this Report to be signed on its behalf by the undersigned, thereunto duly authorized. MEGO FINANCIAL CORP. Date: November 29, 2001 By: /s/ Jerome J. Cohen ----------------- ---------------------------------- Jerome J. Cohen, President Pursuant to the requirements of the Securities Exchange Act of 1934, this Report has been signed below by the following persons on behalf of the Registrant in the capacities and on the date(s) indicated.
Signature Title Date --------- ----- ---- /s/ Robert E. Nederlander Chairman of the Board, Chief Executive November 29 , 2001 -------------------------------------------- Officer and Director Robert E. Nederlander /s/ Jerome J. Cohen President and Director November 29, 2001 -------------------------------------------- Jerome J. Cohen /s/ Herbert B. Hirsch Senior Vice President, Chief Financial November 29, 2001 -------------------------------------------- Officer, Treasurer and Director Herbert B. Hirsch /s/ Charles G. Baltuskonis Senior Vice President and November 29, 2001 -------------------------------------------- Chief Accounting Officer Charles G. Baltuskonis /s/ Eugene I. Schuster Vice President and Director November 29, 2001 -------------------------------------------- Eugene I. Schuster /s/ John E. McConnaughy, Jr. Director November 29, 2001 -------------------------------------------- John E. McConnaughy, Jr. /s/ Wilbur L. Ross, Jr. Director November 29, 2001 -------------------------------------------- Wilbur L. Ross, Jr. /s/ Leonard Toboroff Director November 29, 2001 -------------------------------------------- Leonard Toboroff
47 MEGO FINANCIAL CORP. AND SUBSIDIARIES INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
Page No. ----------- Report of Independent Certified Public Accountants.................................... F-2 Independent Auditors' Report.......................................................... F-3 Consolidated Financial Statements: Consolidated Balance Sheets at August 31, 2001 and 2000 ......................... F-4 Consolidated Income Statements - Years Ended August 31, 2001, 2000 and 1999...... F-5 Consolidated Statements of Stockholders' Equity - Years Ended August 31, 2001, 2000 and 1999................................................................ F-6 Consolidated Statements of Cash Flows - Years Ended August 31, 2001, 2000 and 1999......................................................................... F-7 Notes to Consolidated Financial Statements............................................ F-8
F-1 REPORT OF INDEPENDENT CERTIFIED PUBLIC ACCOUNTANTS To the Board of Directors and Stockholders of Mego Financial Corp. and Subsidiaries Las Vegas, Nevada We have audited the accompanying consolidated balance sheet of Mego Financial Corp. and its subsidiaries (the Company) as of August 31, 2001, and the related consolidated income statement, statement of stockholders' equity, and statement of cash flows for the year then ended. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audit. We conducted our audit in accordance with auditing standards generally accepted in the United States. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audit provides a reasonable basis for our opinion. In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of Mego Financial Corp. and its subsidiaries at August 31, 2001, and the consolidated results of their operations and their cash flows for the year then ended in conformity with accounting principles generally accepted in the United States. ERNST & YOUNG LLP Miami, Florida November 16, 2001 F-2 INDEPENDENT AUDITORS' REPORT To the Board of Directors and Stockholders of Mego Financial Corp. and Subsidiaries Las Vegas, Nevada We have audited the accompanying consolidated balance sheet of Mego Financial Corp. and its subsidiaries (the "Company") as of August 31, 2000 and the related consolidated income statements, statements of stockholders' equity, and statements of cash flows for each of the two years in the period ended August 31, 2000. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with auditing standards generally accepted in the United States of America. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, such consolidated financial statements present fairly, in all material respects, the financial position of Mego Financial Corp. and its subsidiaries at August 31, 2000, and the results of its operations and its cash flows for each of the two years in the period ended August 31, 2000, in conformity with accounting principles generally accepted in the United States of America. DELOITTE & TOUCHE LLP San Diego, California November 22, 2000 F-3 MEGO FINANCIAL CORP. AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS (thousands of dollars, except per share amounts)
August 31 -------------------------------- 2001 2000 -------------- -------------- ASSETS Cash and cash equivalents $ 1,894 $ 1,069 Restricted cash 1,926 1,255 Notes receivable, net of allowance for cancellations and discounts of $15,084 and $13,234 at August 31, 2001 and 2000, respectively 105,127 83,156 Retained interests in receivables sold, at fair value 3,603 2,701 Timeshare interests held for sale 18,139 23,307 Land and improvements inventory 3,152 4,113 Other investments 10,251 4,492 Property and equipment, net of accumulated depreciation of $17,098 and $17,632 at August 31, 2001 and 2000, respectively 16,867 23,167 Deferred selling costs 5,466 5,231 Prepaid debt expenses 2,359 2,060 Other assets 17,044 18,041 --------- --------- TOTAL ASSETS $ 185,828 $ 168,592 ========= ========= LIABILITIES AND STOCKHOLDERS' EQUITY Liabilities: Notes and contracts payable $ 120,238 $ 109,131 Accounts payable and accrued liabilities 24,337 19,544 Reserve for notes receivable sold with recourse 3,998 4,033 Deposits 3,201 2,841 Deferred income taxes 1,617 2,975 --------- --------- Total liabilities before subordinated debt 153,391 138,524 --------- --------- Subordinated debt 4,211 4,286 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 August 31, 2001 and 2000) 35 35 Additional paid-in capital 13,068 13,068 Retained earnings 16,516 12,679 Accumulated other comprehensive loss (1,393) - --------- --------- Total stockholders' equity 28,226 25,782 --------- --------- TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 185,828 $ 168,592 ========= =========
See notes to consolidated financial statements. F-4 MEGO FINANCIAL CORP. AND SUBSIDIARIES CONSOLIDATED INCOME STATEMENTS (thousands of dollars, except per share amounts)
For the Years Ended August 31 ----------------------------------------------------- 2001 2000 1999 -------------- -------------- ------------- REVENUES Timeshare interest sales, net $ 53,974 $ 49,062 $ 41,262 Land sales, net 21,687 19,624 15,979 Interest income 14,977 12,430 9,310 Financial income 2,995 1,153 1,184 Gain on sale of notes receivable 668 635 - Gain on sale of investments and other assets 124 1,857 513 Incidental operations 1,817 2,033 2,597 Other 4,164 3,701 3,657 ------------- ------------- ------------ Total revenues 100,406 90,495 74,502 ------------- ------------- ------------ COSTS AND EXPENSES Direct cost of: Timeshare interest sales 10,886 10,518 8,527 Land sales 3,359 3,050 2,709 Interest expense 12,214 12,468 9,270 Marketing and sales 48,781 39,769 35,291 Incidental operations 1,631 1,698 2,274 Depreciation 1,412 1,827 1,878 General and administrative 18,942 17,746 14,333 ------------- ------------- ------------ Total costs and expenses 97,225 87,076 74,282 ------------- ------------- ------------ INCOME BEFORE INCOME TAXES 3,181 3,419 220 INCOME TAXES (BENEFIT) (656) (530) (830) ------------- ------------- ------------ NET INCOME APPLICABLE TO COMMON STOCK $ 3,837 $ 3,949 $ 1,050 ============= ============= ============ INCOME PER COMMON SHARE Basic and Diluted: Net income applicable to common stock $ 1.10 $ 1.13 $ 0.30 ============= ============= ============ Weighted-average number of common shares and common share equivalents outstanding 3,500,557 3,500,557 3,500,557 ============= ============= ============
See notes to consolidated financial statements. F-5 MEGO FINANCIAL CORP. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (thousands of dollars, except share and per share amounts)
Accumulated Common Stock Additional Other $.01 par value Paid-In Retained Comprehensive ------------------------------ Shares Amount Capital Earnings Loss Total --------------- ------------- ------------- ------------- --------------- ------------- Balances at September 1, 1998 3,500,557 $ 35 $ 12,964 $ 7,680 $ 20,679 Warrants issued 104 104 Net income fiscal 1999 1,050 1,050 --------------- ------------- ------------- ------------- --------------- ------------- Balances at August 31, 1999 3,500,557 35 13,068 8,730 21,833 Net income fiscal 2000 3,949 3,949 --------------- ------------- ------------- ------------- --------------- ------------- Balances at August 31, 2000 3,500,557 35 13,068 12,679 25,782 Net income fiscal 2001 3,837 3,837 Cumulative effect of change in accounting principle as of September 1, 2000 for unrealized $ (168) (168) loss of interest rate swaps, net of related income tax benefit of $87 Unrealized loss on interest rate swaps for fiscal 2001, net of related income tax benefit of $631 (1,225) (1,225) --------------- ------------- ------------- ------------- --------------- ------------- Total comprehensive income 2,444 ------------- Balances at August 31, 2001 3,500,557 $ 35 $ 13,068 $ 16,516 $ (1,393) $ 28,226 =============== ============= ============= ============= =============== =============
See notes to consolidated financial statements. F-6 MEGO FINANCIAL CORP. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS (thousands of dollars)
For the Years Ended August 31 ------------------------------------------------------- 2001 2000 1999 ------------------ ---------------- ----------------- CASH FLOWS FROM OPERATING ACTIVITIES Net income $ 3,837 $ 3,949 $ 1,050 ------------------ ---------------- ----------------- Adjustments to reconcile net income to net cash used in operating activities: Charges to allowance for cancellations (7,802) (8,643) (5,987) Provision for cancellations 9,647 7,354 5,626 Gain on sale of notes receivable (668) (635) - Gain on sale of other investments and other assets (124) (1,857) (513) Provision for uncollectible owner's association advances - (200) - Cost of timeshare interest and land sales 14,245 13,568 11,236 Depreciation 1,412 1,827 1,979 Additions to retained interests in receivables sold (1,824) (660) - Amortization of retained interests in receivables sold 922 525 801 Repayments on notes receivable 47,112 50,733 42,962 Additions to notes receivable (85,821) (82,388) (64,112) Proceeds from sales of notes receivable 15,526 19,594 - Purchase of land and timeshare interests (8,116) (4,810) (3,651) Changes in operating assets and liabilities: (Increase) decrease in restricted cash (671) 421 18 (Increase) decrease in other assets 698 (4,779) (5,557) Increase in deferred selling costs (235) (946) (566) Increase (decrease) in accounts payable and accrued liabilities 2,890 1,403 (632) Increase (decrease) in deposits 360 554 (2,590) Decrease in deferred income taxes (640) (530) (963) ------------------ ---------------- ----------------- Total adjustments (13,089) (9,469) (21,949) ------------------ ---------------- ----------------- Net cash used in operating activities (9,252) (5,520) (20,899) ------------------ ---------------- ----------------- CASH FLOWS FROM INVESTING ACTIVITIES Purchase of property and equipment (1,463) (2,230) (1,589) Proceeds from sale of property and equipment 6,286 1,617 - Purchase of other investments (5,927) (34) (950) Proceeds from the sale of other investments 149 1,031 747 ------------------ ---------------- ----------------- Net cash provided by (used in) investing activities (955) 384 (1,792) ------------------ ---------------- ----------------- CASH FLOWS FROM FINANCING ACTIVITIES Proceeds from borrowings 73,980 64,363 59,047 Reduction of debt (62,873) (59,787) (36,478) Payments on subordinated debt (75) (192) (465) Increase in subordinated debt - - 595 ------------------ ---------------- ----------------- Net cash provided by financing activities 11,032 4,384 22,699 ------------------ ---------------- ----------------- NET INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS 825 (752) 8 CASH AND CASH EQUIVALENTS-BEGINNING OF YEAR 1,069 1,821 1,813 ------------------ ---------------- ----------------- CASH AND CASH EQUIVALENTS-END OF YEAR $ 1,894 $ 1,069 $ 1,821 ================= =============== ================ SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION Cash paid during the year for interest, net of amounts capitalized $ 15,199 $ 12,339 $ 9,000 ================= =============== ================
See notes to consolidated financial statements. F-7 MEGO FINANCIAL CORP. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS For the years ended August 31, 2001, 2000 and 1999 1. Nature of Operations Mego Financial Corp. (Mego Financial) is a premier developer and operator of timeshare properties and a provider of consumer financing to purchasers of timeshare intervals and land parcels through its wholly-owned subsidiary, Preferred Equities Corporation (PEC), established in 1970. PEC is engaged in originating, selling, servicing and financing consumer receivables generated through timeshare and land sales. Mego Financial and its subsidiaries are herein individually or collectively referred to as the Company as the context requires. PEC markets and finances timeshare interests and land in select resort areas. By providing financing to virtually all of its customers, PEC also originates consumer receivables that it hypothecates or sells, and services. 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. In February 1988, Mego Financial acquired PEC, pursuant to an assignment by the Assignors, as defined below, of their contract right to purchase PEC. 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. In 1992, Mego Financial organized a subsidiary, Mego Mortgage Corporation (MMC), which was a specialized consumer finance company that originated, purchased, sold, securitized and serviced consumer loans consisting primarily of conventional uninsured home improvement and debt consolidation loans. After an initial public offering (IPO) of MMC common stock in November 1996, Mego Financial held 81.3% of the outstanding stock of MMC. On September 2, 1997, Mego Financial distributed all of its remaining 10,000,000 shares of MMC's common stock to Mego Financial's shareholders in a tax-free spin-off (Spin-off). Acquisition of Preferred Equities Corporation --------------------------------------------- The acquisition of PEC on February 1, 1988, was effected pursuant to an Assignment Agreement, dated October 25, 1987, between Mego Financial and several corporations (Assignors) and a related Assignment and Assumption Agreement (Assignment and Assumption Agreement), dated February 1, 1988, and amended on July 29, 1988, between Mego Financial and the Assignors (collectively, such agreements constitute the Assignment). The acquisition of PEC was accomplished by PEC issuing 2 shares of its common stock to Mego Financial for a purchase price of approximately $50,000. Simultaneously, the previously outstanding shares held by others were surrendered and redeemed by PEC at a cost to PEC of approximately $10,463,000 plus fees and expenses, leaving Mego Financial with all of the outstanding shares of PEC. The right to purchase shares from PEC was obtained by Mego Financial pursuant to the Assignment, which assigned to Mego Financial the right to purchase shares from PEC pursuant to the Stock Purchase and Redemption Agreement, dated October 6, 1987, between PEC and the Assignors, as amended on October 25, 1987. Consideration for the Assignment consisted of promissory notes (Purchase Notes) from Mego Financial to the Assignors in the aggregate amount of $2,000,000 and additional payments to the Assignors as described below. The Purchase Notes were paid in full prior to August 31, 1988. After the payment of the Purchase Notes, the Assignors were entitled to receive from Mego Financial on a quarterly basis, as determined as of the end of each quarter, additional payments equal in the aggregate to 63% of PEC's consolidated unrestricted cash balances, for a period ended on January 31, 1995. The additional payments were collateralized by a pledge of PEC stock to the Assignors. See Note 10 for further discussion. F-8 MEGO FINANCIAL CORP. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued) For the years ended August 31, 2001, 2000 and 1999 (thousands of dollars, except share and per share amounts 2. Recent Events On October 2, 2001, CNUC entered into an agreement with Utilities Inc. providing for the acquisition by Utilities Inc. of all of the assets of CNUC for $5,500,000 (Asset Sale). Utilities Inc. has deposited $500,000 of the purchase price to assure its performance of the agreement. The transaction is subject to the approval of the Nevada Public Utilities Commission, which approval is expected on or before April 15, 2002. CNUC has assigned a portion of the proceeds from the Asset Sale to secure the Note mentioned below. The proceeds from the Asset Sale will be used for working capital and to reduce debt. The Asset Sale is not expected to have a significant impact on the Company's fiscal 2002 results of operations. On October 15, 2001, the Company and LC Acquisition Corp., a California corporation (LC), entered into a short-term financing agreement, modified on November 8, and November 15, 2001, pursuant to which LC agreed to lend to the Company an aggregate of $3,000,000 in two tranches. In connection with this financing arrangement, the Company issued to LC a promissory note (Note) bearing interest at 12% per annum. Payment of the Note is guaranteed by PEC and the guaranty is secured by a pledge of the stock of CNUC and a partial assignment of proceeds from the Asset Sale referred to above. The Note is payable on the date the Asset Sale is consummated or August 31, 2002, whichever is earlier. 3. Summary of Significant Accounting Policies Principles of Consolidation and Basis of Presentation--The ----------------------------------------------------- accompanying Consolidated Financial Statements include the accounts of Mego Financial and its subsidiaries. All significant intercompany accounts and transactions have been eliminated in consolidation. See Note 1. Parent Company Only Basis--At August 31, 2001 and 2000, respectively, ------------------------- Mego Financial, on a "parent company only" basis, reflected total assets of $41,999,000 and $34,398,000, which were comprised principally of its equity investment in subsidiaries of $34,650,000 and $32,962,000, and other assets, including amounts due from subsidiaries, of $7,349,000 and $1,438,000, and liabilities of $10,826,000 and $4,187,000, excluding subordinated debt. At August 31, 2001 and 2000, respectively, liabilities, excluding subordinated debt, were comprised principally of notes payable of $5,927,000 and $0 and deferred income taxes of $1,617,000 and $2,975,000. At August 31, 2001 and 2000, subordinated debt of $4,211,000 and $4,286,000, respectively, was outstanding. See Notes 1, 10 and 17. Cash Equivalents--Cash equivalents consist primarily of certificates ---------------- of deposit with original maturities of 90 days or less. Restricted Cash--Restricted cash represents: cash on deposit which --------------- relates to CNUC's customer deposits and betterment fees; cash on deposit in accordance with notes receivable sale agreements; and, untransmitted funds received from collection of notes receivable which have not as yet been disbursed to the purchasers of such notes receivable in accordance with the related sale and servicing agreements. Notes Receivable--Notes receivable are stated at amortized cost ---------------- reduced by the allowance for cancellations and discounts. If the note receivable is at a "below market" interest rate, a discount is applied to the note receivable balance and amortized over the note's term so that the effective yield is 10%. Allowance for Cancellations--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. The Company records the provision for cancellations at the time revenue is recognized based upon periodic analysis of the portfolio, collateral values, historical credit loss experience, borrowers' ability to repay and current economic factors. The allowance for cancellations represents the Company's estimate of the future credit losses to be incurred over the lives of the notes receivable. The Company'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 F-9 MEGO FINANCIAL CORP. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued) For the years ended August 31, 2001, 2000 and 1999 consideration changes in the nature and level of the portfolio, current economic conditions which may affect the purchasers' ability to pay, the estimated value of inventory that may be reacquired and overall portfolio quality. Changes in the allowance as a result of such reviews are reflected in the provision for cancellations. Timeshare Interests Held for Sale--Costs incurred in connection with --------------------------------- preparing timeshare interests for sale are capitalized and include all costs of acquisition, renovation and furnishings. Timeshare interests held for sale are valued at the lower of cost or fair value. Land and Improvements Inventory--Land and improvements inventory ------------------------------- include carrying costs capitalized during the development period and costs of improvements incurred to date and are stated at the lower of cost or fair value. Property and Equipment--Property and equipment is stated at cost and ---------------------- is depreciated over its estimated useful life (generally 3 - 40 years) using the straight-line method. Costs of maintenance and repairs that do not improve or extend the life of the respective assets are recorded as expense. Utility Accounting Policies--The Company, through a wholly-owned --------------------------- subsidiary, provides water and sewer services to customers in the Pahrump valley of Nevada. This subsidiary is subject to regulation by the Public Utilities Commission of Nevada and the Company's accounting policies conform to generally accepted accounting principles as applied in the case of regulated public utilities in accordance with the accounting requirements of the regulatory authority having jurisdiction. Contributions in aid of construction (CIAC) received by the Company from its customers are included as a separate liability and amortized over the period of 9 - 25 years, which represents the estimated remaining useful life of the corresponding improvements. Amortization of CIAC reduces depreciation expense. CIAC is included in Accounts Payable and Accrued Liabilities on the Balance Sheet in the amounts of $9,244,000 and $9,173,000 at August 31, 2001 and 2000, respectively. Reserve for Notes Receivable Sold with Recourse--Recourse to the ----------------------------------------------- Company on sales of notes receivable is governed by the agreements between the purchasers and the Company. The reserve for notes receivable sold with recourse represents the Company's estimate of the fair value of future credit losses to be incurred over the lives of the notes receivable. Proceeds from the sale of notes receivable sold with recourse were $14,858,000, $19,594,000 and $0 for the years ended August 31, 2001, 2000 and 1999, respectively. A liability for reserve for notes receivable sold with recourse is established at the time of each sale based upon the Company's estimate of the fair value of the recourse obligation under each agreement of sale and is reviewed for adequacy on a quarterly basis. At August 31, 2001 and 2000, the outstanding balance of notes receivable sold with recourse was $52,180,000 and $59,600,000, respectively. Income Taxes--The Company utilizes the provisions of SFAS No. 109, ------------ "Accounting for Income Taxes" (SFAS 109). SFAS 109 requires the Company to adhere to an asset/liability approach for financial accounting and reporting for income taxes. Income tax expense is provided for the tax effects of transactions reported in the financial statements and consists of taxes currently due plus deferred taxes related primarily to differences between the bases of the balance sheet for financial and income tax reporting. The deferred tax assets and liabilities represent the future tax return consequences of those differences, which will either be taxable or deductible when they are recovered or settled. See Note 11. Revenue and Profit Recognition--Timeshare Interests and Land Sales-- ------------------------------ Sales of timeshare interests and land are recognized and included in revenues after certain "down payment" and other "continuing investment" criteria are met. Land sale revenues are recorded using the deposit method in accordance with the provisions of SFAS No. 66, "Accounting for Sales of Real Estate." The agreement for sale generally provides for a down payment and a note secured by a deed of trust or mortgage payable to the Company in monthly installments, including interest, over a period of up to 12 years. Revenue 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 usually meet these requirements within eight to ten months from closing and sales of timeshare interests usually 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 is recorded as F-10 MEGO FINANCIAL CORP. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued) For the years ended August 31, 2001, 2000 and 1999 expense in the year 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. All payments received prior to the recognition of the sale as revenue accounted for as deposits. Selling costs directly attributable to unrecognized sales are accounted for as deferred selling costs until the sale is recognized . Cancellations occur when the note receivable is determined to be uncollectible and the related collateral, if any, has been recovered. Cancellation of a sale 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. Sales of Notes Receivable--The Company generally sells its notes ------------------------- receivable at par value. When the Company sells notes receivable, it retains certain participation in the cash flows of the notes receivable sold and generally retains the associated servicing rights. The sales are generally subject to limited recourse provisions as provided in the respective notes receivable sales agreements. Under these agreements, the Company is generally obligated to replace or repurchase accounts that become over 60 days delinquent or are otherwise subject to replacement or repurchase in either cash or receivables. Reserve for notes receivable sold with recourse represents the Company's estimate of losses to be incurred in connection with the recourse provisions of the sales agreements and is shown separately as a liability in the Company's Balance Sheet. Gain on sale of receivables depends in part on the previous carrying amount of the financial assets involved in the transfer, allocated between the assets sold and the retained interests based on their relative fair value at the date of transfer. To obtain fair values on the retained interests (both at the point of the related receivable sale and periodically thereafter), the Company generally estimates fair value based on the present value of future expected cash flows estimated using management's best estimates of the key assumptions-- default rates, rates of prepayment, loss reserve rates and discount rates commensurate with the risks involved. The Company's retained interests in receivables sold are carried at fair market value as either derivatives or available-for-sale investments. Unrealized holding gains or losses on the retained interests are included in earnings for those transactions structured so that the Company, through its retained interest, receives fixed interest amounts and pays the buyer variable amounts based on a floating interest rate index, as the resulting financial interest meets the definition of a derivative in accordance with Statement of Financial Accounting Standards No. 133 (SFAS 133) "Accounting for Derivative Instruments and Hedging Activities". Unrealized holding gains, if any, on retained interests in notes receivable sold not meeting the definition of a derivative would be included in shareholders' equity, net of income taxes. Losses in such retained interests are reflected in earnings. In September 2000, the Company sold to a financial institution $9.5 million of land receivables at par. The Company recognized a $286,000 gain on the sale of the receivables and recorded a $273,000 retained interest in notes receivable sold and a $625,000 recourse obligation which is included in Reserve for notes receivable sold with recourse on the Consolidated Balance Sheet. In August 2001, the Company sold to a financial institution $5.4 million of timeshare interest receivables at par. The Company recognized a $382,000 gain on the sale of the receivables and recorded a $356,000 retained interest in notes receivable sold and a $711,000 recourse obligation which is included in Reserve for notes receivable sold with recourse on the Consolidated Balance Sheet. The assumptions used to measure the initial fair value of the retained interest and recourse obligation for the above sales are as follows: F-11 MEGO FINANCIAL CORP. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued) For the years ended August 31, 2001, 2000 and 1999
Land Receivables Sale Timeshare Receivables Sales ----------------------------- ------------------------------------ Contractual rate 12.9% 13.84% Guarantee rate 10.5% 9.75% Discount rate 15.0% 15.00% Prepayment rate 19.0% 19.00% Loss reserve rate 8.8% 15.00% Servicing fee 1.0% not applicable Weighted-average life (in months) 93 92
Interest Income--Interest income is recorded as earned. Interest --------------- income represents the interest earned on notes receivable and short-term investments. Interest income is reversed on all notes receivable when principal or interest payments are more than three months contractually past due and not resumed and such loans are less than three months past due. Loan Origination Fees--The direct incremental cost of originating --------------------- loans to customers is deferred and amortized to interest income as an adjustment to yield over the estimated life of the related loans. Financial Income--Fees for servicing notes receivable originated by ---------------- the Company 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. Financial income includes changes in the fair value of retained interests in receivables sold and interest income accreted on such interests. Advertising--The Company expenses advertising costs as incurred. ----------- Timeshare Owners' Associations--The Company is responsible for a ------------------------------ portion of operating expenses of the timeshare Owners' Associations based on the Company's ownership percentage in the unsold timeshare interests at each of the respective timeshare properties. These costs are referred to as Association Assessments and are included in the Income Statement in General and administrative expenses. Management fees and costs received from the Associations are included in Revenues under the caption of Other. Income Per Common Share--Basic income per common share is based on the ----------------------- net income applicable to common stock for each period divided by the weighted- average number of common shares outstanding during the period. Diluted income per common share is computed by dividing net income applicable to common stock by the weighted-average number of common shares plus common share equivalents. In loss periods, or periods whereby the option and warrants' exercise price exceeds the average market price, anti-dilutive common share equivalents are excluded. At August 31, 2001, options to purchase 48,570 shares of common stock at $6.00 per share were outstanding and warrants to purchase 83,333 shares of common stock at $6.00 per share were outstanding. The options and warrants were not included in the computation of diluted EPS because the options' and warrants' exercise prices were greater than the average market price of the common shares and, thus, would be anti-dilutive. The options, which expire on September 2, 2002 through September 22, 2008, and the warrants, which expire on January 1, 2004, were still outstanding at August 31, 2001. Effective September 9, 1999, the Company consummated a one for six reverse stock split for all of the Company's common shares outstanding. All share and per share references have been restated to retroactively show the effect of this reverse stock split. Comprehensive Income--Comprehensive income, summarized on Consolidated -------------------- Statements of Stockholders' Equity, consists of net income for the fiscal year and the change in net unrealized gain (loss) on interest rate swaps, net of related tax benefit. F-12 MEGO FINANCIAL CORP. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued) For the years ended August 31, 2001, 2000 and 1999 Interest Rate Swaps--In August 2000, the Company entered into a $25 ------------------- million, 5-year, interest rate swap transaction with a financial institution to hedge potential exposure to its variable rate notes' payable portfolio. In August 2001, the Company entered into a similar $20 million, 5-year, interest rate swap transaction. The interest rate swaps are considered and are documented as highly effective cash flow hedges. The interest rate swaps are carried at fair value and the unrealized gain or loss is included, in the Consolidated Balance Sheets in Accounts payable and accrued liabilities, and the amount net of income taxes, in a separate Stockholders' Equity caption titled "Accumulated Other Comprehensive Loss". The unrealized loss on the two swaps as of August 31, 2001 was $1,393,000, net of related income tax benefit of $718,000. Evaluation of Long-Lived Assets--Statement of Financial Accounting ------------------------------- Standards No. 121, "Accounting for the Impairment of Long-Lived Assets and For Long-Lived Asses to Be Disposed Of" requires that impairment losses be recognized when the carrying value of an asset will not be recoverable based on future cash flows. The Company's policy is to evaluate, at each balance sheet date, the appropriateness of the net carrying values of its long-lived assets. If such evaluation were to indicate a material impairment of these assets, such impairment would be recognized by a write down of the applicable asset to its estimated fair value. Segment Information-- In accordance with SFAS No. 131, "Disclosures ------------------- about Segments of an Enterprise and Related Information", the Company considers its business to consist of one reportable operating segment. The Company does not allocate revenues and expenses, or assets and liabilities, in a segmented format for internal use or decision-making processes. Recent Accounting Standards--In July 2000, the EITF reached a --------------------------- consensus on Issue 99-20, "Recognition of Interest Income and Impairment on Purchased and Retained Beneficial Interests in Securitized Financial Assets". The issue is how to record interest income and to measure impairment on retained and purchased beneficial interests. The Task Force concluded that the holder of a beneficial interest should recognize interest income over the life of the investment based on an anticipated yield determined by periodically estimating cash flows. If the fair value of the beneficial interest has declined below its carrying amount and the decline is other-than-temporary, an entity should apply impairment of securities guidance similar to SFAS 115 (fair value method). This EITF is effective for all beneficial interests in securitization transactions for quarters beginning after December 15, 2000. The adoption of this statement did not have a significant impact on the Company's financial statements. In September 2000, the FASB issued SFAS No. 140, "Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities" (SFAS 140). SFAS 140 replaces SFAS Statement No. 125, "Accounting for Transfers and Servicing of Financial Assets and Extinguishment of Liabilities" and provides accounting and reporting standards for transfers and servicing of financial assets and extinguishments of liabilities. SFAS 140 is effective for transfers and servicing of financial assets and extinguishment of liabilities occurring after March 31, 2001 and is effective for recognition and reclassification of collateral and for disclosures relating to securitization transactions and collateral for fiscal years ending after December 31, 2000. The adoption of SFAS 140 in fiscal 2001 did not have a material effect on the Company's financial statements. In July 2001, the FASB issued Statements of Financial Accounting Standards No. 141, "Business Combinations" (SFAS 141), and No. 142, "Goodwill and Other Intangible Assets" (SFAS 142). SFAS 141 eliminated the use of the pooling-of-interests method of accounting for business combinations initiated after June 30, 2001 and is effective for any business combination accounted for by the purchase method that is completed after June 30, 2001. SFAS 142, which includes the requirements to test goodwill and indefinite lived intangible assets for impairment rather than amortize them, will be effective for fiscal years beginning after December 15, 2001. Management does not believe the adoption of these statements will have a significant impact on the Company's financial statements. In August 2001, the FASB issued SFAS No. 143, "Accounting for Asset Retirement Obligations" (SFAS 143). SFAS 143 requires entities to record the fair value of a liability for an asset retirement obligation in the period in which it is incurred. SFAS 143 is effective for fiscal years beginning after June 15, 2002, with earlier application encouraged. Management does not believe that the adoption of SFAS 143 will have a material effect on the Company's financial statements. F-13 MEGO FINANCIAL CORP. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued) For the years ended August 31, 2001, 2000 and 1999 In September 2001, the FASB issued SFAS No. 144 on asset impairment that is applicable to financial statements issued for fiscal years beginning after December 15, 2001. The FASB's new rules on asset impairment supersede SFAS No. 121 and provide a single accounting model for long-lived assets to be disposed of. Management does not believe that the adoption of SFAS 144 will have a material effect on the Company's financial statements. Reclassification--Certain prior period amounts have been reclassified to ---------------- conform with the current year presentation. Use of Estimates--The preparation of financial statements in conformity ---------------- with accounting principles generally accepted in the United States (GAAP) requires management to make estimates and assumptions that affect the amounts reported in the Consolidated Financial Statements. Actual results could differ from those estimates. 4. Notes Receivable The Company provides financing to the purchasers of its timeshare interests and land. This financing is generally evidenced by notes secured by deeds of trust or mortgages. These notes receivable are generally payable over a period of up to 12 years, bear interest at rates generally ranging from 12.5% to 15.5% and require equal monthly installments of principal and interest. Notes receivable consist of the following (thousands of dollars): August 31 ---------------------------- 2001 2000 ---------- ---------- Related to timeshare sales $ 93,011 $ 71,306 Related to land sales 27,200 25,084 --------- --------- 120,211 96,390 --------- --------- Less: Allowance for cancellations (14,707) (12,827) Discounts (377) (407) --------- --------- (15,084) (13,234) --------- --------- Total $ 105,127 $ 83,156 ========= ========= The Company has entered into financing arrangements with certain purchasers of timeshare interests and land whereby a 5% interest rate is charged if 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 $5,777,000 and $6,421,000 at August 31, 2001 and 2000, respectively, made under this arrangement are included in the table above. A discount is established to provide for an effective interest rate (currently 10%) on notes receivable bearing a below market interest rate at the time of sale, and is applied to the principal balance and amortized over the terms of the notes receivable. The effective interest rate is based upon the economic interest rate environment and similar industry data. The Company is obligated under certain agreements for the sale of notes receivable and certain loan agreements to maintain various minimum tangible net worth requirements. The most restrictive of these agreements requires PEC to maintain a minimum tangible net worth of $27,500,000. PEC's tangible net worth at August 31, 2001 was $33,684,000. Allowance for Cancellations--Changes in both the allowance for --------------------------- cancellations and the reserve for notes receivable sold with recourse consist of the following (thousands of dollars): F-14 MEGO FINANCIAL CORP. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued) For the years ended August 31, 2001, 2000 and 1999
For the Years Ended August 31 ------------------------------------------------ 2001 2000 1999 ----------- ----------- ------------ Balance at beginning of year $ 16,860 $ 18,149 $ 18,488 Provision for cancellations 9,647 7,354 5,626 Amounts charged to allowance for cancellations and reserve for notes receivable sold with recourse (7,802) (8,643) (5,965) ---------- ---------- ---------- Balance at end of year $ 18,705 $ 16,860 $ 18,149 ========== ========== ========== Allowance for cancellations $ 14,707 $ 12,827 $ 13,987 Reserve for notes receivable sold with recourse 3,998 4,033 4,162 ---------- ---------- ---------- Total $ 18,705 $ 16,860 $ 18,149 ========== ========== ==========
Number of Notes Receivable Accounts Serviced--The number of notes -------------------------------------------- receivable accounts serviced at August 31, 2001 and 2000, was 22,000 and 19,300, including 5,100 and 5,900, respectively, serviced for others. At August 31, 2001 and 2000, the amount of notes receivable with payment delinquencies of 90 days or more was $7,689,000 and $6,593,000, including $14,000 and $0, respectively, serviced for others. Notes Receivable Serviced and Originated--At August 31, 2001 and 2000, ---------------------------------------- notes receivable serviced were $172,485,000 and $152,990,000, including $35,783,000 and $39,671,000, respectively, serviced for others. Notes receivable originated were $85,821,000 and $82,388,000 for the years ended August 31, 2001 and 2000, respectively. 5. Timeshare Interests Held for Sale Timeshare interests held for sale consist of the following (thousands of dollars):
August 31 ------------------------------ 2001 2000 ----------- ------------ Timeshare interests (including capitalized interest of $32 and $100 in fiscal 2001 and 2000, respectively) $ 14,972 $ 18,755 Timeshare interests in process (including capitalized interest of $85 and $130 in fiscal 2001 and 2000, respectively) 3,167 4,552 ----------- ----------- $ 18,139 $ 23,307 =========== ===========
At August 31, 2001 and 2000, 7,396 and 9,423 timeshare interests, respectively, were available for sale. Timeshare units amounting to 42 and 32, representing 2,184 and 1,632 timeshare interests, at August 31, 2001 and 2000, respectively, were awaiting registration and/or completion of construction. 6. Other Investments Other investments consist of the following (thousands of dollars): August 31 ------------------ 2001 2000 ------- ------- Ramada All Suites Inn, Orlando $ 5,927 $ - Water rights: Huerfano County, Colorado 543 548 Nye County, Nevada 417 417 Land: Nye County, Nevada 944 1,108 Biloxi, Mississippi 2,080 2,080 Other 340 339 ------- ------- Total $10,251 $ 4,492 ======= ======= F-15 MEGO FINANCIAL CORP. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued) For the years ended August 31, 2001, 2000 and 1999 7. Property and Equipment Property and equipment and related accumulated depreciation, consist of the following (thousands of dollars): August 31 -------------------------------- 2001 2000 --------- ---------- Water and sewer systems $ 20,390 $ 19,391 Furniture and equipment 6,814 6,745 Vehicles 3,155 3,051 Buildings 2,820 9,737 Leasehold improvements 563 533 Land 223 1,342 -------- --------- 33,965 40,799 Less: Accumulated depreciation (17,098) (17,632) -------- --------- Total $ 16,867 $ 23,167 ======== ========= Leases--In fiscal 2001, the Company entered into sale/leaseback ------ transactions for its two primary office buildings. The two buildings were sold for a total consideration of $8,300,000, less transaction costs. The gains of $1,621,000 were deferred and are being amortized into income in proportion to the related gross rental charged to expense over the lease terms. The deferred gain as of August 31, 2001 was $1,478,300 and is included in the Consolidated Balance Sheet in Accounts payable and accrued liabilities. The Company leases certain real estate for sales offices and also leases its Hawaii real estate for timeshare usage. Rental expense for fiscal 2001, 2000 and 1999 was $4,199,000, $2,327,000 and $2,112,000, respectively, and is included in the Income Statement in General and administrative expenses. Future minimum rental payments under operating leases are set forth below (thousands of dollars): For the Years Ending August 31 ------------------------------ 2002 $ 3,732 2003 2,028 2004 1,490 2005 1,287 2006 939 Thereafter 3,669 ------- Total $13,145 ======= 8. Other Assets Other assets consist of the following (thousands of dollars): F-16 MEGO FINANCIAL CORP. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued) For the years ended August 31, 2001, 2000 and 1999
August 31 --------------------------------------- 2001 2000 ---------------- ----------------- Trust deeds' clearing account $ 2,811 $ 4,450 Sold receivables' reserves held by lender 2,190 2,922 Prepaid expenses 2,805 1,527 Owners' association receivables 1,828 2,314 Cash surrender value of split-dollar life insurance plan 1,546 1,411 Interest receivable 1,165 1,059 White Sands HOA maintenance fees receivable 785 424 Inventories 775 861 Deposits and impounds 530 973 Ramada license 367 466 Other 2,242 1,634 ---------------- ----------------- Total $ 17,044 $ 18,041 ================ =================
9. Notes and Contracts Payable The Company's debt consists of the following (thousands of dollars):
August 31 ------------------------------------- Borrowings Under Lines of Credit 2001 2000 -------------------------------- ---------------- --------------- Notes collateralized by receivables Borrowings bearing interest at prime plus 2-2.50% $ 96,665 $ 80,593 Mortgages collateralized by real estate properties Mortgages collateralized by the respective underlying assets with various repayment terms and variable rates of prime plus 2% to 3% and 90-day LIBOR plus 4.25% 16,253 26,619 ---------------- --------------- 112,918 107,212 Other --------- Other mortgages collateralized by the respective underlying assets with various repayment terms and fixed interest rates of 8% and variable rates of prime plus 2% 5,995 788 Installment contracts and other notes payable 1,325 1,131 ---------------- --------------- Total $ 120,238 $ 109,131 ================ ===============
The prime rate of interest was 6.50% and the 90-day LIBOR was 3.49% at August 31, 2001. In the preceding table, mortgages collateralized by real estate properties consists of the following:
August 31 ------------------------------------- 2001 2000 ---------------- --------------- Acquisition and development loans $ 10,646 $ 22,074 Working capital loans 5,607 4,545 ---------------- --------------- $ 16,253 $ 26,619 ================ ===============
Lines of Credit-- At August 31, 2001, PEC had $152.0 million in lines --------------- of credit 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. These lines of credit bear interest at variable rates tied to the prime rate and 90-day London Interbank Offering Rate (LIBOR) and are secured by timeshare and land receivables and inventory. At F-17 MEGO FINANCIAL CORP. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued) For the years ended August 31, 2001, 2000 and 1999 August 31, 2001, an aggregate of $112.9 million was outstanding under such lines of credit and $39.1 million was available for borrowing. Under the terms of these lines of credit, PEC may, depending upon the terms and conditions of the respective line of credit, 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 maintains a minimum tangible net worth of $27.5 million. At August 31, 2001, PEC's tangible net worth was $33.7 million. Summarized lines of credit information and accompanying notes relating to these lines of credit outstanding at August 31, 2001, consist of the following (thousands of dollars):
Outstanding Borrowing Maximum Balance at Borrowing Revolving August 31, 2001 Amounts Expiration Date (a) Maturity Date (a) Interest Rate ----------------------- --------------- ----------------------- ------------------- ------------------------ $ 57,418 $ 65,000 (b) December 31, 2001 Various Prime + 2.0 - 2.25% 24,829 35,000 (c) December 1, 2002 Various Prime + 2.0 - 3% 27,950 30,000 (d) April 30, 2003 Various Libor + 4.0 - 4.25% 245 5,000 (e) February 4, 2002 Prime + 1.0% 987 15,000 (f) August 8, 2004 August 8, 2004 Prime + 2.5% 1,489 1,972 (g) N/A July 31, 2003 Prime + 2.25% ----------------------- --------------- $ 112,918 $ 151,972 ======================= ===============
(a) As it has typically done in the past, management expects to extend the Revolving Expiration Date and Maturity Date on similar terms. When the Revolving Expiration Date expires as shown, the loans convert to term loans with maturities as stated or extended. (b) Covenants includes PEC's requirement to maintain a minimum tangible net worth of $25 million; PEC's requirement not to exceed a ratio of 4:1 of consolidated total liabilities to consolidated tangible net worth; PEC's requirement to maintain a minimum net processed sales for each fiscal quarter; and, PEC's requirement to maintain a maximum percentage of costs and expenses for Marketing and sales and General and administrative expenses relating to net processed sales for each rolling 12-month period. The maximum percentage related to costs and expenses referred to above has been exceeded in the last three quarters. This does not constitute an Event of Default under this loan agreement, or this line of credit; however, it gives the lender the option to suspend advances to PEC under this line of credit. The lender has not elected to exercise this option, has continued to make regular advances and has informed PEC verbally that it intends to continue such advances. At August 31, 2001, $55.4 million of loans secured by receivables were outstanding related to financings at prime plus 2%, of which $24.3 million of loans secured by land receivables mature May 15, 2010 and $31.1 million of loans secured by timeshare receivables mature May 15, 2007. The outstanding borrowing amount includes a real estate loan with an outstanding balance of $523,000 maturing December 31, 2001, bearing interest at prime plus 2.25%. The remaining Acquisition and Development (A&D) loans, receivables loans and a resort lobby loan outstanding of $1.5 million are at prime plus 2% and mature December 31, 2001. Negotiations are currently under way for extensions of the A&D, real estate and lobby loans. (c) Covenants 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 August 31, 2001, $4.8 million was outstanding under the A&D loan, which matures on February 28, 2004, and $14.5 million was outstanding under the receivables loan, which matures on June 30, 2004. There also are two working capital loans: $2.4 million at prime plus 3% which expires December 31, 2001, and $3.2 million at prime plus 2%, which expires April 1, 2005, and is secured by inventory. (d) Covenants include PEC's requirement to maintain a minimum tangible net worth of $25 million. These credit lines include available financings for A&D and receivables. At August 31, 2001, $2.5 million was outstanding F-18 MEGO FINANCIAL CORP. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued) For the years ended August 31, 2001, 2000 and 1999 under the A&D loans, which have a maturity date of April 30, 2003 and bear interest at the 90-day LIBOR plus 4%. The available receivable financings, of which $25.5 million was outstanding at August 31, 2001, are at 90-day LIBOR plus 4% and have a maturity date of March 30, 2006. (e) Covenants include PEC's requirement to maintain a minimum tangible net worth of $20 million. This is a receivables line, which bears interest at prime plus 1% and matures on February 4, 2002. (f) Covenants include PEC's requirement to maintain a minimum tangible net worth of $27.5 million. This is a receivables line, which bears interest at prime plus 2.5% and matures on August 8, 2004. (g) Covenants include PEC's requirement to maintain a minimum tangible net worth of $25 million. At August 31, 2001 and 2000, receivables aggregating $108,456,000 and $88,641,000, respectively, were pledged to lenders to collateralize certain of the Company's indebtedness. Receivables, which qualify for the lenders' criteria, may be pledged as collateral whether or not sales related to such receivables have been recognized for accounting purposes. Maturities--Scheduled maturities of the Company's notes and contracts ---------- payable are as follows (thousands of dollars):
Years Ending August 31 ---------------------- 2002.......................................................... $ 13,101 2003.......................................................... 6,355 2004.......................................................... 17,952 2005.......................................................... 1,577 2006.......................................................... 25,824 Thereafter.................................................... 55,429 --------- $ 120,238 =========
10. Subordinated Debt On March 2, 1995, Mego Financial entered into the Amendment whereby the Assignors agreed to defer payment of $10,000,000 of the amount payable to Assignors and to subordinate such amount, constituting Subordinated Debt, in right of payment to debt for money borrowed by Mego Financial or obligations of subsidiaries guaranteed by Mego Financial. Warrants for 166,666 shares of Mego Financial common stock, at an exercise price of $25.50 per share (the closing market price per share on March 2, 1995) were granted to the Assignors in consideration of the payment deferral and subordination. The Warrants were exercised in August 1997 in a non-cash transaction whereby the Subordinated Debt was reduced by $4,250,000. The Amendment calls for interest to be paid semi-annually at the rate of 10% per annum starting September 1, 1995, and semi-annual payments of $1,429,000 plus interest, which commenced March 1, 1997. In connection with the exercise of Warrants, payments aggregating $4,250,000 were deemed paid and the semiannual payments were scheduled to resume in March 1999 (subsequently deferred until February 1, 2000) with a partial payment in September 1998. The final $4.29 million was scheduled to be paid in 3 equal installments on March 1, 1999, September 1, 1999 and March 1, 2000. In accordance with the Amended and Restated Fourteenth Amendment to Assignment and Assumption Agreement, the principal payments totaling $4,211,000 have been deferred until March 1, 2002. At that date, any interest owed is also scheduled to be paid. Interest of $429,000 on Subordinated Debt was paid during each fiscal year 2001 and 2000, respectively. The Subordinated Debt is collateralized by a pledge of PEC's outstanding stock. See Notes 1 and 16. The following table represents Subordinated Debt activity (thousands of dollars): F-19 MEGO FINANCIAL CORP. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued) For the years ended August 31, 2001, 2000 and 1999
For the Years Ended August 31 --------------------------------------------- 2001 2000 -------------------- ------------------- Balance at beginning of year $ 4,286 $ 4,478 Accreted interest (1) - 237 Less: Interest payments (1) - (429) Principal paydowns (75) - -------------------- ------------------- Balance at end of year $ 4,211 $ 4,286 ==================== ===================
(1) Until originally scheduled maturity date of March 1, 2000, due to the discounting of the Subordinated Debt, interest calculations were included in the carrying value. 11. Income Taxes Mego Financial files a consolidated federal income tax return with its subsidiaries for its tax year, which ends the last day of February. The income tax benefits of $656,000, $530,000 and $830,000, respectively, in fiscal 2001, 2000 and 1999 all represent deferred income tax benefits. Deferred income taxes shown in Consolidated Balance Sheets reflect the net tax effects of (a) temporary differences between the carrying amount of assets and liabilities for financial reporting purposes and the amounts used for income tax purposes, (b) temporary differences between the timing of revenue recognition for book purposes and for income tax purposes, and (c) operating loss and tax credit carryforwards. The tax effects of significant items comprising the Company's net deferred income taxes as of August 31, 2001 and 2000 are as follows (thousands of dollars):
August 31 ---------------------------------------- 2001 2000 ----------------- ----------------- Deferred tax liabilities Timing of revenue recognition $ 45,646 $ 21,612 Deferred tax assets Net operating loss carryforwards 44,029 18,637 ----------------- ----------------- Net deferred income taxes $ 1,617 $ 2,975 ================= =================
At August 31, 2001, the Company had net operating loss carryforwards totaling approximately $129.5 million that expire beginning in 2008 through 2022. The provision for income taxes as reported is different from the tax provision computed by applying the statutory federal rate of 34%. The differences are as follows (thousands of dollars): F-20 MEGO FINANCIAL CORP. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued) For the years ended August 31, 2001, 2000 and 1999
For the Years Ended August 31 ------------------------------------------- 2001 2000 1999 ----------- ----------- ---------- Income before income taxes $ 3,181 $ 3,419 $ 220 ========= ========= ======== Tax at the statutory federal rate $ 1,082 $ 1,162 $ 75 Decrease in income taxes resulting from changes in certain income tax liability reserves (1,738) (1,692) (905) --------- --------- -------- Income taxes (benefit) $ (656) $ (530) $ (830) ========= ========= ========
12. Stockholders' Equity Mego Financial has a stock option plan (Stock Option Plan), adopted November 1993, amended September 9, 1997, and amended and restated as of September 16, 1998 by approval of shareholders, for officers, key employees and directors which provides for non-qualified and qualified incentive options. The Stock Option Committee of the Board of Directors determines the option price (not to be less than fair market value for qualified incentive options) at the date of grant. The options generally expire ten years from the date of grant and are exercisable over the period stated in each option generally at the cumulative rate of 20% per year for three years from the date of grant, and the remaining 40% at the end of the fourth year. In August 1997, in connection with the Spin-off of MMC, the Stock Option Committee vested all options previously granted, excluding those granted subsequent to February 26, 1997. On September 23, 1998, an additional 18,500 incentive and non-incentive stock options were granted under the Stock Option Plan. In addition, the exercise prices of 50,750 of options issued on September 2, 1997 were revised from $18.75 per share to $6.00 per share (restated for the one for six reverse stock split effective September 9, 1999), which represented the fair value at date of repricing. The following table sets forth shares reserved and options exercised, granted and forfeited for the following periods:
Exercise Number of Price Per Reserve Shares Options Share ------------------ ------------- ----------------- At August 31, 1998 94,000 57,406 $ 18.75 / 33.75 Forfeited - (17,000) 15.00 / 52.50 Granted - 18,500 6.00 ------------------ ------------- ----------------- At August 31, 1999 94,000 58,906 6.00 / 33.75 Forfeited - (7,254) 6.00 / 33.75 ------------------ ------------- ----------------- At August 31, 2000 94,000 51,652 6.00 Forfeited - (3,082) 6.00 ------------------ ------------- ----------------- At August 31, 2001 94,000 48,570 $ 6.00 ================== ============= =================
SFAS 123 establishes financial accounting and reporting standards for stock-based employee compensation plans and for transactions in which an entity issues its equity instruments to acquire goods or services from non-employees. Those transactions must be accounted for based on the fair value of the consideration received or the fair value of the equity instruments issued, whichever is more reliably measurable. The Company elected to continue to apply the provisions of APB Opinion No. 25 as permitted by SFAS 123 and, accordingly, provides pro forma disclosure herein. F-21 MEGO FINANCIAL CORP. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued) For the years ended August 31, 2001, 2000 and 1999 Stock options granted under Mego Financial's Stock Option Plan are qualified and unqualified stock options that: (1) are generally granted at prices which are equal to the fair value of the stock on the date of grant; (2) generally subject to a grantee's continued employment with the Company, vest at various periods over a four-year period; and (3) generally expire ten years subsequent to the award. A summary of the status of Mego Financial's stock options granted under the Stock Option Plan as of August 31, 2001, 2000 and 1999 and the changes during those years is presented below:
August 31, 2001 August 31, 2000 August 31, 1999 ------------------------- --------------------------- --------------------------- Weighted- Weighted- Weighted- Average Average Average Exercise Exercise Exercise Shares Price Shares Price Shares Price ----------- ------------ ------------ ------------- ------------ ------------- Outstanding at beginning of year 51,652 $ 6.00 58,906 $ 9.14 57,406 $ 9.22 Granted - - - - 18,500 6.00 Forfeited (3,082) 6.00 (7,254) 31.50 (17,000) 6.00 ---------- ---------- --------- Outstanding at end of year 48,570 6.00 51,652 6.00 58,906 9.14 ========== ========== ========= Options exercisable at end of year 26,242 6.00 17,532 6.00 9,783 13.56 ========== ========== =========
The fair value of each option granted during fiscal 1999 (none were granted during fiscal 2001 and 2000) is estimated on the date of grant using the Black-Scholes option-pricing model with the following weighted-average assumptions: (1) dividend yield of zero; (2) expected volatility of 35%; (3) risk-free interest rate of 6%; and, (4) expected life of 7 years. The weighted-average fair value of options granted during fiscal 1999 was $1.63. As of August 31, 2001, there were 48,570 options outstanding, which have an exercise price of $6.00 per common share and a weighted-average remaining contractual life of 6 years. Had compensation cost for grants of stock options been determined consistent with SFAS 123, the Company's pro forma net income and pro forma net income per common share for fiscal 2001, 2000 and 1999 would approximate the pro forma amounts below (thousand of dollars, except per share amounts):
August 31, 2001 August 31, 2000 August 31, 1999 ----------------------------- ----------------------------- ----------------------------- As Reported Pro Forma As Reported Pro Forma As Reported Pro Forma ------------- ----------- ------------- ----------- ------------- ----------- Net income applicable to common stock $ 3,837 $ 3,817 $ 3,949 $ 3,929 $ 1,050 $ 850 Net income per common share: Basic and Diluted 1.10 1.09 1.13 1.12 0.30 0.24
13. Fair Values of Financial Instruments SFAS No. 107, "Disclosure about Fair Value of Financial Instruments" (SFAS 107), requires disclosure of estimated fair value information for financial instruments, whether or not recognized in the Balance Sheets. Fair values are based upon estimates using present value or other valuation techniques in cases where quoted market prices are not available. Those techniques are significantly affected by the assumptions used, including the discount rate and estimates of future cash flows. In that regard, the derived fair value estimates cannot be substantiated by comparison to independent markets and, in many cases, could not be realized in immediate settlement of the instrument. SFAS 107 excludes certain financial instruments and all nonfinancial instruments from its disclosure requirements. Accordingly, the aggregate fair value amounts presented do not represent the underlying value of the Company. Estimated fair values, carrying values and various methods and assumptions used in valuing the Company's financial instruments at August 31, 2001 and 2000 are set forth below (thousands of dollars): F-22 MEGO FINANCIAL CORP. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued) For the years ended August 31, 2001, 2000 and 1999
August 31, 2001 August 31, 2000 ------------------------------- -------------------------------- Carrying Estimated Fair Carrying Estimated Fair Value Value Value Value ---------- ---------------- ---------- ----------------- Financial Assets: Cash and cash equivalents (a) $ 1,894 $ 1,894 $ 1,069 $ 1,069 Notes receivable, net (b) 105,127 116,302 83,156 86,864 Retained interests in receivables sold (c) 3,603 3,603 2,701 2,701 Interest rate swaps (d) (2,111) (2,111) - (255) Financial Liabilities: Notes and contracts payable (e) 120,238 120,238 109,131 109,131 Subordinated debt (a) 4,211 4,211 4,286 4,286
(a) Carrying value is approximately the same as fair value. (b) The fair value was estimated by discounting future cash flows of the outstanding notes receivable, net of the allowance for cancellations. (c) The fair value was estimated by discounting future cash flows of the instruments using discount rates, default, loss and prepayment assumptions based upon available market data, opinions from financial advisors and historical portfolio experience. (d) Fair value was estimated by obtaining a third-party quote. (e) Notes payable generally are adjustable rate, indexed to the prime rate or LIBOR; therefore, carrying value approximates fair value. Fair value estimates were based upon pertinent market data and relevant information on the financial instruments at that time. Because no market exists for a certain portion of the financial instruments, fair value estimates may be based upon judgments regarding future expected loss experience, current economic conditions, risk characteristics of various financial instruments and historical and other factors. Changes in assumptions could significantly affect the estimates and do not reflect any premium or discount that could result from the bulk sale of the entire portion of the financial instruments. These estimates are subjective in nature and involve uncertainties and matters of significant judgment and therefore cannot be determined with precision. Fair value estimates are based upon existing on- and off-balance sheet financial instruments without attempting to estimate the value of anticipated future business and the value of assets and liabilities that are not considered financial instruments. In addition, the tax implications related to the realization of the unrealized gains and losses can have an effect on fair value estimates and have not been considered in any of the estimates. 14. Concentrations of Risk Availability of Funding Sources--The Company funds substantially all of ------------------------------- the notes receivable, timeshare inventory and land inventory with borrowings through its financing facilities and internally generated funds. These borrowings are in turn repaid with the proceeds received by the Company from such notes receivable through loan sales and payments. Any failure to renew or obtain adequate financing under its financing facilities, or other borrowings, or any substantial reduction in the size of or pricing in the markets for the Company's notes receivable, could have a material adverse effect on the Company's operations. Geographic Concentrations--The Company services notes receivable in all ------------------------- 50 states, the District of Columbia and Canada. At August 31, 2001, 25.3%, 19.9% and 13.3%, respectively, of the dollar value of notes receivable serviced had been originated in California, Texas and Colorado. No other state accounted for more than 10% of the F-23 MEGO FINANCIAL CORP. AND SUBSIDIARIES NOTES TO CONCOLIDATED FINANCIAL STATEMENTS (continued) For the years ended August 31, 2001, 2000 and 1999 portfolio of the Company's receivables. The risk inherent in such concentrations is dependent upon regional and general economic stability, which affects property values, and the financial stability of the borrowers. The Company's timeshare and land inventories are concentrated in Nevada, New Jersey, Colorado, Florida and Hawaii. The risk inherent in such concentrations is in the continued popularity of these resort destinations, which affects the marketability of the Company's products. Credit Risk--The Company is exposed to on-balance sheet credit risk related ----------- to its notes receivable. The Company is exposed to off-balance sheet credit risk related to notes receivable sold under recourse provisions. The outstanding balance of notes receivable sold with recourse provisions totaled $52,180,000 and $59,588,000 at August 31, 2001 and 2000, respectively. Interest Rate Risk--The Company's profitability is in part determined by ------------------ the difference, or "spread," between the effective rate of interest received on the notes receivable originated by the Company and the interest rates payable under its financing facilities to fund the Company's notes receivable and inventory held for sale and the yield required by financial institutions on notes receivable hypothecated or sold. The spread can be adversely affected after a note is originated and while it is held, by increases in the interest rate. Additionally, the fair value of the retained interests in receivables sold by the Company may be adversely affected by changes in the interest rate environment, which could affect the discount rate and prepayment assumptions used to value the assets. The Company engages in business activities that expose it to interest rate risk. The financial exposure is managed as an integral part of the Company's risk management program, which seeks to reduce the potentially adverse effects that the volatility of the interest rate market may have on the Company's operating results. The Company does not engage in speculative transactions or hold financial instruments for trading purposes. In August 2000, the Company entered into a $25 million, 5-year, interest rate swap transaction to hedge potential exposure to its variable rate notes' portfolio. In August 2001, the Company entered into a similar $20 million, 5-year, interest rate swap transaction. The interest rate swaps are considered and are documented as highly effective cash flow hedges. See Note 3. 15. Timeshare Interest Sales and Land Sales Timeshare interest sales, net -- A summary of the components is as follows ----------------------------- (thousands of dollars):
For the Years Ended August 31 -------------------------------------------------------------- 2001 2000 1999 ------------------ ------------------ ----------------- Timeshare interest sales $ 61,759 $ 55,317 $ 45,830 Less: Provision for cancellations (7,785) (6,255) (4,568) ------------------ ------------------ ----------------- Total $ 53,974 $ 49,062 $ 41,262 ================== ================== =================
Land sales, net -- A summary of the components is as follows (thousands of --------------- dollars):
For the Years Ended August 31 -------------------------------------------------------------- 2001 2000 1999 ------------------- ------------------ ------------------ Land sales $ 23,549 $ 20,723 $ 17,037 Less: Provision for cancellations (1,862) (1,099) (1,058) ------------------- ------------------ ------------------ Total $ 21,687 $ 19,624 $ 15,979 =================== ================== ==================
F-24 MEGO FINANCIAL CORP. AND SUBSIDIARIES NOTES TO CONCOLIDATED FINANCIAL STATEMENTS (continued) For the years ended August 31, 2001, 2000 and 1999 The following table reflects the maturities of notes receivable from land sales for each of the five years after August 31, 2001 (thousands of dollars):
2002 2003 2004 2005 2006 ----------- -------------- -------------- -------------- -------------- Land notes receivable maturities $ 323 $ 1,166 $ 1,792 $ 402 $ 724
The range of interest rates are from 0% to 15.0% and the weighted-average interest rate at August 31, 2001 was 12.0%. The delinquency information related to land loans at August 31, 2001 is as follows (thousands of dollars): Principal Balance % of Loans Serviced --------------------- ----------------------- 30 - 59 days $ 1,444 .9% 60 - 90 days 830 .5 Over 90 days 3,648 2.4 At August 31, 2001, there were no material estimated costs and expenditures for improvements on these loans for the next five years. No material obligations for future improvements on land existed at August 31, 2001. 16. Related Party Transactions Timeshare Owners' Associations--Owners' Associations (Associations) have ------------------------------ been incorporated for the Grand Flamingo, Reno Spa, Brigantine, Steamboat Springs, Aloha Bay and Orlando timesharing resorts. The respective Associations are independent not-for-profit corporations. PEC acts as the managing agent for these Associations and the White Sands Waikiki Resort Club, which is a division of PEC, and has received management fees for its services of $2,884,000, $2,692,000 and $2,540,000 in 2001, 2000 and 1999, respectively. Such fees were recorded in Revenues under the caption of Other. The expenses of PEC for management of each timeshare resort are incurred to preserve the integrity of the property and the portfolio performance on an ongoing basis beyond the end of the sales period. The owners of timeshare interests in each Association are responsible for payment to the Associations of assessments, which are intended to fund all of the operating expenses at each of the resort facilities. The Company's share of the Association assessments, based on unsold inventory owned, net of room income, was $934,000, $1,581,000 and $968,000 for 2001, 2000 and 1999, respectively, and has been recorded in Costs and Expenses under the caption of General and administrative. The Company has in the past financed budget deficits of the Associations as is reflected in the receivable from such Associations, but is not obligated to do so in the future, except in its Florida resorts. The Public Offering Statements for the Indian Shores and Orlando resorts contain a provision whereby PEC guarantees that the annual assessment fees will not exceed a specified amount, in which case PEC agrees to pay any monetary deficiencies. These guarantees are effective through the Associations' calendar year of December 31, 2001. In calendar 2000, PEC financed a budget deficit of $132,000 and $645,000 for the Associations at Indian Shores and Orlando respectively. The Company has agreed to pay to the Associations the lien amount fees of timeshare interest owners who are delinquent with respect to such fees, but have paid the Company in full for their timeshare interests. In exchange for the payment by the Company of such fees, the Associations assign their liens for non-payment on the respective timeshare interests to the Company. In the event the timeshare interest holder does not satisfy the lien after having an opportunity to do so, the Company typically acquires the timeshare interest for the amount of the lien and any related foreclosure costs. At August 31, 2001 and 2000, $1,828,000 and $2,314,000, respectively, were due from the Associations and are included under the caption of Other assets. Payments to Assignors--Certain transactions have been entered into with the --------------------- Assignors, who are affiliates of certain officers and directors of the Company, and these transactions are more fully described in Notes 1 and 10. During the years ended August 31, 2001 and 2000, respectively, approximately $429,000 of interest for both years and principal of $75,000 and $0 was paid to the Assignors. In fiscal 2001, an advance by the Company of $100,000 at an F-25 MEGO FINANCIAL CORP. AND SUBSIDIARIES NOTES TO CONCOLIDATED FINANCIAL STATEMENTS (continued) For the years ended August 31, 2001, 2000 and 1999 interest rate of 10% was made to an affiliate of one of the Assignors against the amount owed to it. The balance outstanding under the advance was $11,000 as of August 31, 2001. Subordinated Debt--See Note 10. ----------------- 17. Commitments and Contingencies Litigation-- On August 27, 1998, an action was filed in Nevada District ---------- Court, County of Clark, No. A 392585, 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 associated sewer and water lines. The court determined that plaintiffs had not properly pursued their administrative remedies with the Nevada Public Utilities Commission (PUC) and dismissed plaintiffs' complaint, as amended, without prejudice. Notwithstanding plaintiffs' appeal of the dismissal, plaintiffs 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. On May 4, 2000, plaintiffs re-filed their complaint in Nevada District Court, naming all of the above parties with the exception of CNUC. The May 4, 2000 complaint is virtually identical to the amended complaint discussed above and asserts six claims for relief against defendants: breach of deed restrictions, two claims for breach of contract, unjust enrichment, consumer fraud in violation of NRS 41.600 and violation of NRS 119.220, with all claims arising out of the alleged failure to provide water and sewer utilities to the purchasers of land in the subdivisions commonly known as Calvada Valley North and Calvada Meadows located in Nye County, Nevada. On September 8, 2000, the Company filed a motion to dismiss each of the claims made in the complaint. The Court granted the motion to dismiss with respect to Frederick H. Conte in his individual capacity and denied the motion in all other respects in an order entered on December 19, 2000. Plaintiffs then filed a motion to certify class, which defendants opposed. On September 5, 2001, the Court held that "as to Classes A and B, the showings required under NRCP 23(a) and (b)(2) have been made to the extent injunctive relief / specific performance of the subject alleged contractual obligations is sought, and the Court will certify Classes A and B to such extent only. In all other respects, the Court does not deem certification to be appropriate as to both Classes A and B". As a result of this decision, the Court refused to certify a class for the claims of: breach of contract, unjust enrichment, consumer fraud in violation of NRS 41.600 and violation of NRS 119.220. Accordingly, the defendants are no longer subject to class claims for monetary damages. The defendants' only potential liability is for the construction of water and sewer facilities. The case is now beginning the discovery phase of the litigation. The case is scheduled for a jury trial on August 13, 2002. In the general course of business the Company and PEC, at various times, have each been named in other lawsuits. The Company believes that it has meritorious defenses to these lawsuits and that resolution of these matters will not have a material adverse effect on the business or financial condition of the Company. Future Improvements-- Central Nevada Utilities Company (CNUC), a ------------------- subsidiary, has issued performance bonds of $3,709,000 outstanding at August 31, 2001, to ensure the completion of water, sewer and other improvements in portions of the Calvada development areas. The cost of the improvements will be offset by the future receipt of betterment fees and connection fees. Contingencies--At August 31, 2001, irrevocable letters of credit in the ------------- amount of $310,000 were issued and outstanding to secure certain obligations of the Company. These letters are collateralized by notes receivable. License Agreement--In April 1995, PEC entered into a strategic alliance ----------------- pursuant to which PEC was granted a ten-year (including a renewal option) exclusive license to operate both its existing and future timeshare properties under the name "Ramada Vacation Suites." PEC has renamed its timeshare resorts. The arrangement provides for the F-26 MEGO FINANCIAL CORP. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued) For the years ended August 31, 2001, 2000 and 1999 payment by PEC of an initial access fee of $1,000,000, which has been paid, and monthly recurring fees equal to 1% of PEC's Gross Sales (as defined) each month through January 1996 and 1.5% of PEC's Gross Sales each month commencing in February 1996 with certain minimums increasing each year. The initial term of the arrangement is five years and PEC has exercised its option to renew the arrangement for an additional term of five years, expiring December 31, 2005. 18. Quarterly Financial Data (unaudited). The following tables reflect consolidated quarterly financial data for the Company for the fiscal years ended August 31, 2001 and 2000 (thousands of dollars, except share and per share amounts):
Three Months Ended --------------------------------------------------------------- August 31, May 31, February 28, November 30, 2001 2001 (1) 2001 (1) 2000(1) ------------- -------------- -------------- -------------- Revenues: Net timeshare interest and land sales $ 19,077 $ 20,631 $ 17,193 $ 18,760 Net gain on sale of assets 429 22 41 300 Interest income 4,253 3,965 3,550 3,209 Financial income and other 2,467 2,328 2,170 2,011 ------------- -------------- -------------- -------------- Total revenues 26,226 26,946 22,954 24,280 ------------- -------------- -------------- -------------- Expenses: Direct costs of timeshare interest and land sales 3,054 4,033 3,232 3,926 Operating expenses 18,626 18,963 16,173 17,004 Interest expense 3,036 3,046 3,088 3,044 ------------- -------------- -------------- -------------- Total expenses 24,716 26,042 22,493 23,974 ------------- -------------- -------------- -------------- Income before income taxes 1,510 904 461 306 Income taxes (benefit) 79 (108) 13 (640) ------------- -------------- -------------- -------------- Net income applicable to common stock $ 1,431 $ 1,012 $ 448 $ 946 ============= ============== ============== ============== Income per common share: Basic and Diluted: Net income applicable to common stock $ 0.41 $ 0.29 $ 0.13 $ 0.27 ============= ============== ============== ============== Weighted-average number of common shares 3,500,557 3,500,557 3,500,557 3,500,557 ============= ============== ============== ============== Net gain on sale of assets $ 41 $ 41 $ (1,600) Operating expenses 3 3 (120) Income before income taxes 38 38 (1,480) Income taxes (benefit) 13 13 (503) Net income applicable to common stock 25 25 (977) Income per common share: Net income applicable to common stock: as restated $ 0.29 $ 0.13 $ 0.27 ============== ============= ============== as previously reported $ 0.28 $ 0.12 $ 0.47 ============== ============= ==============
(1) Certain amounts have been restated in connection with adjustment of net gain on sale of two buildings in accordance with SFAS No. 98, "Accounting for Leases", Sale-Leaseback Transactions Involving Real Estate. See Note 7. The preceding table summarizes the increase (decrease) of the line items which were restated. F-27 MEGO FINANCIAL CORP. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (continued) For the years ended August 31, 2001, 2000 and 1999
Three Months Ended ----------------------------------------------------------------- August 31, May 31, February 29, November 30, 2000 2000 2000 1999 ------------- -------------- -------------- -------------- Revenues: Net timeshare interest and land sales $ 17,979 $ 19,228 $ 15,469 $ 16,010 Net gain on sale of assets 1,179 635 678 - Interest income 3,132 3,255 3,172 2,871 Financial income and other 1,755 1,617 1,699 1,816 ------------- -------------- -------------- -------------- Total revenues 24,045 24,735 21,018 20,697 ------------- -------------- -------------- -------------- Expenses: Direct costs of timeshare interest and land sales 3,753 3,930 2,951 2,934 Operating expenses 16,634 16,216 13,948 14,242 Interest expense 3,295 3,194 3,113 2,866 ------------- -------------- -------------- -------------- Total expenses 23,682 23,340 20,012 20,042 ------------- -------------- -------------- -------------- Income before income taxes 363 1,395 1,006 655 Income taxes (benefit) (530) - - - ------------- -------------- -------------- -------------- Net income applicable to common stock $ 893 $ 1,395 $ 1,006 $ 655 ============= ============== ============== ============== Income per common share: Basic and Diluted: Net income applicable to common stock $ 0.26 $ 0.40 $ 0.29 $ 0.19 ============= ============== ============== ============== Weighted-average number of common shares 3,500,557 3,500,557 3,500,557 3,500,557 ============= ============== ============== ==============
F-28 Exhibit Index Ex # Exhibit Description 10.231 General Loan and Security Agreement for Inventory Loan III executed March 30, 2001 among Textron Financial Corporation and Preferred Equities Corporation and Brigantine Preferred Properties, Inc. 10.232 First Amendment to General Loan and Security Agreement on Receivable Loan Facility executed 7/9/01 between Steamboat Suites, Inc., Preferred Equities Corporation and Brigantine Preferred Properties and Textron Financial Corporation. 10.233 First Amended and Restated Loan and Security Agreement executed on June 22, 2001 between Preferred Equities Corporation and Colorado Land and Grazing Corporation, Mego Financial Corp, and Dorfinco Corporation. 10.234 Thirteenth Amendment to Assignment and Assumption Agreement, by and between RER Corp., COMAY Corp., Growth Realty INC., and H&H Financial dated June 29, 2001. 10.235 Loan and Security Agreement by and between Preferred Equities Corporation and Capital Source Finance LLC effective August 8, 2001. 10.236 Amended and Restated Fourteenth Amendment to Assignment and Assumption Agreement, by and between RER Corp., COMAY Corp., Growth Realty INC., and H&H Financial dated November 15, 2001.