-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, ISC7dgpK1aaC/XyYR7RMSymDcPhFCOG8bD9vfHDWEhWPV8h9KzIR+rdRpt+w23KV z/CvBSQtzw3VfGoHpBfdrg== /in/edgar/work/0000893220-00-001294/0000893220-00-001294.txt : 20001116 0000893220-00-001294.hdr.sgml : 20001116 ACCESSION NUMBER: 0000893220-00-001294 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 3 CONFORMED PERIOD OF REPORT: 20000930 FILED AS OF DATE: 20001114 FILER: COMPANY DATA: COMPANY CONFORMED NAME: ADVANTA CORP CENTRAL INDEX KEY: 0000096638 STANDARD INDUSTRIAL CLASSIFICATION: [6141 ] IRS NUMBER: 231462070 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q SEC ACT: SEC FILE NUMBER: 000-14120 FILM NUMBER: 768925 BUSINESS ADDRESS: STREET 1: P.O. BOX 844 STREET 2: WELSH & MCKEAN ROADS CITY: SPRING HOUSE STATE: PA ZIP: 19477 BUSINESS PHONE: 2154445051 MAIL ADDRESS: STREET 1: C/O WELSH & MCKEAN ROADS STREET 2: P.O. BOX 844 CITY: SPRING HOUSE STATE: PA ZIP: 19477-0844 FORMER COMPANY: FORMER CONFORMED NAME: TSO FINANCIAL CORP DATE OF NAME CHANGE: 19880306 FORMER COMPANY: FORMER CONFORMED NAME: TEACHERS SERVICE ORGANIZATION INC DATE OF NAME CHANGE: 19850812 10-Q 1 w42469e10-q.txt QUARTERLY REPORT FOR ADVANTA CORP. 1 Form 10Q SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 [X] Quarterly report pursuant to section 13 or 15(d) of the Securities Exchange Act of 1934 for the quarterly period ended September 30, 2000 or [ ] Transition report pursuant to section 13 or 15(d) of the Securities Exchange Act of 1934 for the transition period from ______ to _______ Commission File Number 0-14120 Advanta Corp. (Exact name of registrant as specified in its charter) Delaware 23-1462070 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) Welsh and McKean Roads, P.O. Box 844, Spring House, PA 19477 (Address of Principal Executive Offices) (Zip Code) (215) 657-4000 (Registrant's telephone number, including area code) Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [X] No [ ] Applicable only to issuers involved in bankruptcy proceedings during the preceding five years: Indicate by check mark whether the registrant has filed all documents and reports required to be filed by Sections 12, 13 or 15(d) of the Securities Exchange Act of 1934 subsequent to the distribution of securities under a plan confirmed by a court. Yes [ ] No [ ] Applicable only to corporate issuers: Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date. Class A Outstanding at November 6, 2000 Common Stock, $.01 par value 10,040,230 shares Class B Outstanding at November 6, 2000 Common Stock, $.01 par value 17,132,849 shares 1 2 TABLE OF CONTENTS PAGE PART I - FINANCIAL INFORMATION Item 1. Financial Statements Consolidated Balance Sheets 3 Consolidated Income Statements 4 Consolidated Statements of Changes in Stockholders' Equity 5-6 Consolidated Statements of Cash Flows 7 Notes to Consolidated Financial Statements 8 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 20 Item 3. Quantitative and Qualitative Disclosures About Market Risk 42 PART II - OTHER INFORMATION 43 Item 6. Exhibits and Reports on Form 8-K 43 2 3 ITEM 1. FINANCIAL STATEMENTS ADVANTA CORP. AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS
($ IN THOUSANDS) SEPTEMBER 30, DECEMBER 31, 2000 1999 - ------------------------------------------------------------------------------------------------- (UNAUDITED) ASSETS Cash $ 77,067 $ 29,301 Federal funds sold 107,046 144,938 Restricted interest-bearing deposits 42,556 93,688 Investments available for sale 800,567 748,881 Loan and lease receivables, net: Held for sale 580,578 711,303 Other 292,459 738,321 ----------- ----------- Total loan and lease receivables, net 873,037 1,449,624 Retained interests in securitizations 432,253 515,789 Contractual mortgage servicing rights 95,954 92,636 Premises and equipment (at cost, less accumulated depreciation of $69,485 in 2000 and $54,613 in 1999) 96,639 89,869 Other assets 594,187 524,936 - ------------------------------------------------------------------------------------------------- TOTAL ASSETS $ 3,119,306 $ 3,689,662 - ------------------------------------------------------------------------------------------------- LIABILITIES Deposits: Noninterest-bearing $ 17,338 $ 5,768 Interest-bearing 1,512,947 1,506,591 ----------- ----------- Total deposits 1,530,285 1,512,359 Long-term debt 759,900 788,508 Other borrowings 6,030 409,601 Other liabilities 290,322 289,563 - ------------------------------------------------------------------------------------------------- TOTAL LIABILITIES 2,586,537 3,000,031 - ------------------------------------------------------------------------------------------------- Company-obligated mandatorily redeemable preferred securities of subsidiary trust holding solely subordinated debentures of Advanta 100,000 100,000 STOCKHOLDERS' EQUITY Class A preferred stock, $1,000 par value: Authorized, issued and outstanding - 1,010 shares in 2000 and 1999 1,010 1,010 Class A voting common stock, $.01 par value: Authorized - 214,500,000 shares; Issued - 10,040,230 shares in 2000, and 10,465,883 shares in 1999 100 105 Class B non-voting common stock, $.01 par value: Authorized - 230,000,000 shares; Issued - 17,708,494 shares in 2000, and 18,256,029 in 1999 177 182 Additional paid-in capital 221,486 232,585 Deferred compensation (10,131) (16,597) Unearned ESOP shares (11,818) (12,132) Accumulated other comprehensive loss (6,317) (10,794) Retained earnings 256,227 421,741 Less: Treasury stock at cost, 0 Class A and 527,168 Class B common shares in 2000 and 405,000 Class A and 972,768 Class B common shares in 1999 (17,965) (26,469) - ------------------------------------------------------------------------------------------------- TOTAL STOCKHOLDERS' EQUITY 432,769 589,631 - ------------------------------------------------------------------------------------------------- TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 3,119,306 $ 3,689,662 - -------------------------------------------------------------------------------------------------
See Notes to Consolidated Financial Statements 3 4 ADVANTA CORP. AND SUBSIDIARIES CONSOLIDATED INCOME STATEMENTS ($ IN THOUSANDS, EXCEPT PER SHARE DATA)
THREE MONTHS ENDED NINE MONTHS ENDED SEPTEMBER 30, SEPTEMBER 30, 2000 1999 2000 1999 - ------------------------------------------------------------------------------------------------------ (UNAUDITED) (UNAUDITED) REVENUES: Interest income $ 80,529 $ 61,185 $ 249,207 $ 185,700 Securitization income (loss) 48,868 51,360 (99,484) 127,245 Servicing revenues 39,055 29,548 119,273 86,835 Other revenues, net 20,443 18,650 75,535 76,270 - ------------------------------------------------------------------------------------------------------ TOTAL REVENUES 188,895 160,743 344,531 476,050 - ------------------------------------------------------------------------------------------------------ EXPENSES: Operating expenses 97,927 82,702 286,405 251,314 Interest expense 52,005 41,935 151,490 128,529 Provision for credit losses 20,999 10,452 59,858 28,007 Minority interest in income of consolidated subsidiary 2,220 2,220 6,660 6,660 Unusual charges 0 0 0 6,713 - ------------------------------------------------------------------------------------------------------ TOTAL EXPENSES 173,151 137,309 504,413 421,223 - ------------------------------------------------------------------------------------------------------ Income (loss) before income taxes 15,744 23,434 (159,882) 54,827 Income tax expense 0 9,256 0 21,564 - ------------------------------------------------------------------------------------------------------ NET INCOME (LOSS) $ 15,744 $ 14,178 $(159,882) $ 33,263 - ------------------------------------------------------------------------------------------------------ Basic earnings (loss) per share Class A $ .61 $ .56 $ (6.41) $ 1.28 Class B .63 .57 (6.36) 1.33 Combined .62 .57 (6.38) 1.31 - ------------------------------------------------------------------------------------------------------ Diluted earnings (loss) per share Class A $ .61 $ .54 $ (6.41) $ 1.26 Class B .63 .56 (6.36) 1.31 Combined .62 .55 (6.38) 1.30 - ------------------------------------------------------------------------------------------------------ Basic weighted average shares outstanding (000's) Class A 9,109 8,984 9,098 9,078 Class B 16,150 14,429 15,995 14,143 Combined 25,259 23,413 25,093 23,221 - ------------------------------------------------------------------------------------------------------ Diluted weighted average shares outstanding (000's) Class A 9,158 9,030 9,098 9,110 Class B 16,168 14,960 15,995 14,410 Combined 25,326 23,990 25,093 23,520 - ------------------------------------------------------------------------------------------------------ Cash dividends declared Class A $ .063 $ .063 $ .189 $ .189 Class B .076 .076 .227 .227 - ------------------------------------------------------------------------------------------------------
See Notes to Consolidated Financial Statements 4 5 ADVANTA CORP. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY (UNAUDITED) ($ IN THOUSANDS)
CLASS A CLASS A CLASS B ADDITIONAL COMPREHENSIVE PREFERRED COMMON COMMON PAID-IN INCOME (LOSS) STOCK STOCK STOCK CAPITAL - ------------------------------------------------------------------------------------------------------- BALANCE AT DECEMBER 31, 1998 $1,010 $104 $163 $229,304 Net income $ 49,818 Other comprehensive income (loss): Change in unrealized appreciation (depreciation) of investments, net of tax benefit (expense) of $5,763 (10,703) --------- Comprehensive income (loss) $ 39,115 ========= Conversion of Class B Preferred Stock 14 (14) Preferred and common cash dividends declared Exercise of stock options 20 Issuance of stock: Benefit plans 1 9 10,579 Amortization of deferred compensation Termination benefit- Benefit plans (4) (7,421) Stock buyback ESOP shares committed to be released 117 - ------------------------------------------------------------------------------------------------------- BALANCE AT DECEMBER 31, 1999 $1,010 $105 $182 $232,585 - ------------------------------------------------------------------------------------------------------- Net loss $(159,882) Other comprehensive income (loss): Change in unrealized appreciation (depreciation) of investments, net of tax benefit (expense) of $(2,411) 4,477 --------- Comprehensive income (loss) $(155,405) ========= Preferred and common cash dividends declared Exercise of stock options 155 Issuance of stock: Benefit plans 2 2,380 Amortization of deferred compensation Termination benefit- Benefit plans (1) (3) (5,209) Retirement of treasury stock (4) (4) (8,496) ESOP shares committed to be released 71 - ------------------------------------------------------------------------------------------------------- BALANCE AT SEPTEMBER 30, 2000 $1,010 $100 $177 $221,486 - -------------------------------------------------------------------------------------------------------
See Notes to Consolidated Financial Statements 5 6 ($ IN THOUSANDS)
DEFERRED ACCUMULATED COMPENSATION OTHER TOTAL & UNEARNED COMPREHENSIVE RETAINED TREASURY STOCKHOLDERS' ESOP SHARES LOSS EARNINGS STOCK EQUITY - ----------------------------------------------------------------------------------------------------------------- BALANCE AT DECEMBER 31, 1998 $(29,764) $ (91) $382,092 $(22,514) $560,304 Net income 49,818 49,818 Other comprehensive income (loss): Change in unrealized appreciation (depreciation) of investments, net of tax benefit (expense) of $5,763 (10,703) (10,703) Comprehensive income (loss) Conversion of Class B Preferred Stock 0 Preferred and common cash dividends declared (10,169) (10,169) Exercise of stock options 20 Issuance of stock: Benefit plans (10,589) 0 Amortization of deferred compensation 3,781 3,781 Termination benefit- Benefit plans 7,425 0 Stock buyback (3,955) (3,955) ESOP shares committed to be released 418 535 - ----------------------------------------------------------------------------------------------------------------- BALANCE AT DECEMBER 31, 1999 $(28,729) $(10,794) $421,741 $(26,469) $589,631 - ----------------------------------------------------------------------------------------------------------------- Net loss (159,882) (159,882) Other comprehensive income (loss): Change in unrealized appreciation (depreciation) of investments, net of tax benefit (expense) of $(2,411) 4,477 4,477 Comprehensive income (loss) Preferred and common cash dividends declared (5,632) (5,632) Exercise of stock options 155 Issuance of stock: Benefit plans (2,382) 0 Amortization of deferred compensation 3,635 3,635 Termination benefit- Benefit plans 5,213 0 Retirement of treasury stock 8,504 0 ESOP shares committed to be released 314 385 - ----------------------------------------------------------------------------------------------------------------- BALANCE AT SEPTEMBER 30, 2000 $(21,949) $(6,317) $256,227 $(17,965) $432,769 - -----------------------------------------------------------------------------------------------------------------
See Notes to Consolidated Financial Statements 6 7 ADVANTA CORP. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS
NINE MONTHS ENDED ($ IN THOUSANDS) SEPTEMBER 30, - ---------------------------------------------------------------------------------------------- 2000 1999 - ---------------------------------------------------------------------------------------------- (UNAUDITED) OPERATING ACTIVITIES Net income (loss) $ (159,882) $ 33,263 Adjustments to reconcile net income (loss) to net cash provided by operating activities: Investment securities gains (10,422) (29,781) Noncash charges associated with exit of auto finance business 0 16,900 Depreciation and amortization 15,627 13,754 Provision for credit losses, excluding auto 59,858 23,107 Valuation adjustment for loans held for sale 6,307 0 Proceeds from sale of trading investments 0 185,042 Origination of loans and leases held for sale (1,895,390) (2,533,678) Proceeds from sales of loans and leases held for sale 2,142,431 2,831,799 Change in other assets and other liabilities (42,512) 26,942 Change in retained interests in securitizations and contractual mortgage servicing rights, excluding auto charge 80,218 (65,016) - ---------------------------------------------------------------------------------------------- Net cash provided by operating activities 196,235 502,332 - ---------------------------------------------------------------------------------------------- INVESTING ACTIVITIES Change in federal funds sold and interest- bearing deposits 89,024 (105,339) Purchase of investments available for sale (1,449,619) (933,747) Proceeds from sales of investments available for sale 630,969 621,660 Proceeds from maturing investments available for sale 784,392 224,064 Principal collected on Advanta Mortgage loans and leases not held for sale 96,426 125,649 Origination of Advanta Mortgage loans and leases not held for sale (181,757) (143,191) Proceeds from sale of loans and leases originally classified as not held for sale 397,735 0 Change in business credit card receivables and other loans not held for sale (73,747) (8,493) Purchases of premises and equipment, net (22,162) (16,371) - ---------------------------------------------------------------------------------------------- Net cash provided by (used in) investing activities 271,261 (235,768) - ---------------------------------------------------------------------------------------------- FINANCING ACTIVITIES Change in demand and savings deposits (148,113) 97,015 Proceeds from the issuance of time deposits 1,110,682 539,584 Payments for maturing time deposits (944,643) (682,213) Change in repurchase agreements and FHLB advances (324,191) 0 Proceeds from issuance of long-term debt 197,831 82,615 Payments on redemption of long-term debt (226,439) (262,948) Change in other borrowings (79,380) (25,719) Stock buyback 0 (3,955) Proceeds from issuance of stock 155 20 Cash dividends paid (5,632) (8,146) - ---------------------------------------------------------------------------------------------- Net cash used in financing activities (419,730) (263,747) - ---------------------------------------------------------------------------------------------- Net increase in cash 47,766 2,817 Cash at beginning of period 29,301 16,267 - ---------------------------------------------------------------------------------------------- Cash at end of period $ 77,067 $ 19,084 - ----------------------------------------------------------------------------------------------
See Notes to Consolidated Financial Statements 7 8 ADVANTA CORP. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (DOLLARS IN THOUSANDS) SEPTEMBER 30, 2000 (UNAUDITED) In these notes to consolidated financial statements, "we", "us", and "our" refer to Advanta Corp. and its subsidiaries, unless the context otherwise requires. NOTE 1) BASIS OF PRESENTATION Advanta Corp. (collectively with its subsidiaries, "Advanta") has prepared the consolidated financial statements included herein pursuant to the rules and regulations of the Securities and Exchange Commission. We have condensed or omitted certain information and footnote disclosures normally included in consolidated financial statements prepared in accordance with generally accepted accounting principles pursuant to such rules and regulations. In the opinion of management, the statements include all adjustments (which include normal recurring adjustments and the valuation adjustments discussed in Note 2) required for a fair statement of financial position, results of operations and cash flows for the interim periods presented. These financial statements should be read in conjunction with the financial statements and notes thereto included in our latest annual report on Form 10-K. The results of operations for the interim periods are not necessarily indicative of the results for the full year. The preparation of financial statements in accordance with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting periods. Estimates are used when accounting for securitization income (loss), retained interest in securitizations, contractual mortgage servicing rights, the allowance for credit losses and income taxes, among others. Actual results could differ from those estimates. Certain prior period balances have been reclassified to conform to the current period presentation. NOTE 2) RECENT REGULATORY DEVELOPMENTS In June 2000, we announced that our banking subsidiaries, Advanta National Bank and Advanta Bank Corp., reached agreements with their respective bank regulatory agencies, primarily relating to the banks' subprime lending operations. The agreements outlined a series of steps to modify processes and formalize and document certain practices and procedures for the banks' subprime lending operations. The agreements also established temporary asset growth limits at Advanta National Bank and deposit growth limits at Advanta Bank Corp., imposed restrictions on taking brokered deposits at Advanta National Bank, and required that by September 30, 2000 Advanta National Bank's capital ratios be maintained at approximately the levels at March 31, 2000. At September 30, 2000, Advanta National Bank was in compliance with the increased capital ratios required by the agreements. We achieved these ratios through a combination of decreasing the assets at Advanta National Bank and making aggregate capital contributions and other investments in Advanta National Bank of approximately $70 million. The agreements also required us to change our charge-off policy for delinquent mortgages to 180 days and to modify our accounting processes and methodology for our allowance for credit losses and valuation of residual assets. In July 2000, we announced that Advanta National Bank signed an agreement with the Office of the Comptroller of the Currency regarding the carrying value of Advanta National Bank's retained interests in mortgage securitizations and allowance for mortgage credit losses. For Advanta National Bank's June 30, 2000 Call Report, in 8 9 accordance with the provisions of the agreement, we calculated the valuation of the retained interests based on an 18% discount rate on the interest-only strip and subordinated trust assets, a 15% discount rate on the contractual mortgage servicing rights, a prepayment rate that represents the average prepayment experience for the six months ended February 29, 2000 and cumulative loss rates as a percentage of original principal balance of 6% on closed end mortgage loans and 8% for HELOC (open end) mortgage loans. The agreement required that based on these assumptions, the carrying value of Advanta National Bank's contractual mortgage servicing rights be reduced by $13 million and the carrying value of Advanta National Bank's subordinated trust assets and retained interest-only strip be reduced by a total amount of $201 million. The agreement further required that Advanta National Bank's allowance for credit losses be increased by $22 million. The agreement contains provisions regarding the use of similar discount rate and credit loss assumptions for the calculation of the carrying value of the residual assets in future periods. NOTE 3) RECENT ACCOUNTING PRONOUNCEMENTS In June 1998, the Financial Accounting Standards Board ("FASB") issued SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities." SFAS No. 133 establishes accounting and reporting standards requiring that every derivative instrument (including certain derivative instruments embedded in other contracts) be recorded in the balance sheet as either an asset or liability measured at its fair value. SFAS No. 133 requires that changes in the derivative's fair value be recognized currently in earnings unless specific hedge accounting criteria are met. SFAS No. 133, as amended by SFAS No. 137 and SFAS No. 138, cannot be applied retroactively and will be adopted as required January 1, 2001. We anticipate that the adoption of SFAS No. 133 will not have a material effect on the results of operations; however, we continue to monitor potential changes and implementation guidance to this new accounting standard. In September 2000, the FASB issued SFAS No. 140, "Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities- a Replacement of FASB Statement No. 125." SFAS No. 140 revises the standards for accounting for securitizations and other transfers of financial assets and collateral and requires certain disclosures, but it carries over most of SFAS No. 125's provisions without amendment. SFAS No. 140 is effective for transfers and servicing of financial assets and extinguishments of liabilities occurring after March 31, 2001. The statement is effective for recognition and reclassification of collateral and for disclosures relating to securitization transactions and collateral for fiscal years ending after December 15, 2000. We anticipate that the adoption of SFAS No. 140 will not have a material effect on our results of operations. NOTE 4) INVESTMENTS AVAILABLE FOR SALE Investments available for sale consisted of the following:
SEPTEMBER 30, 2000 DECEMBER 31, 1999 AMORTIZED MARKET AMORTIZED MARKET COST VALUE COST VALUE - ---------------------------------------------------------------------------------------------------- U.S. Treasury & other U.S. Government securities $436,545 $433,644 $145,112 $140,444 State and municipal securities 4,273 4,333 3,473 3,388 Collateralized mortgage obligations 171,489 166,966 456,288 448,068 Mortgage-backed securities 94,561 92,203 98,190 94,556 Equity securities(1) 75,726 75,726 60,892 60,892 Other 27,690 27,695 1,531 1,533 - ---------------------------------------------------------------------------------------------------- Total investments available for sale $810,284 $800,567 $765,486 $748,881 ====================================================================================================
(1) Includes venture capital investments. The amount shown as amortized cost represents carrying value for these investments. 9 10 NOTE 5) LOAN AND LEASE RECEIVABLES Loan and lease receivables on the balance sheet, including those held for sale, consisted of the following:
SEPTEMBER 30, DECEMBER 31, 2000 1999 - --------------------------------------------------------------------------------- Advanta Mortgage loans $ 332,074 $ 1,050,478 Business credit cards 462,366 275,095 Leases 100,471 132,802 Other loans 26,080 21,930 - --------------------------------------------------------------------------------- Gross loan and lease receivables 920,991 1,480,305 - --------------------------------------------------------------------------------- Add: Deferred origination costs, net of deferred fees, and unamortized purchase premiums 16,670 11,166 Less: Allowance for credit losses Advanta Mortgage loans (25,073) (21,743) Business credit cards (31,164) (14,663) Leases (6,056) (3,110) Other loans (2,331) (2,331) - --------------------------------------------------------------------------------- Total allowance for credit losses (64,624) (41,847) - --------------------------------------------------------------------------------- Net loan and lease receivables $ 873,037 $ 1,449,624 - ---------------------------------------------------------------------------------
Securitized receivables consisted of the following:
SEPTEMBER 30, DECEMBER 31, 2000 1999 - ------------------------------------------------------------ Advanta Mortgage loans $7,900,399 $7,333,058 Business credit cards 1,067,417 765,019 Leases 694,354 662,841 - ------------------------------------------------------------ Total $9,662,170 $8,760,918 - ------------------------------------------------------------
Advanta Mortgage loans include home equity loans, home equity lines of credit and auto loans. We also contract with third parties to service their nonconforming home equity loans on a subservicing basis. Subservicing receivables were $12.7 billion at September 30, 2000 and $11.9 billion at December 31, 1999. We bear no risk of credit loss on the receivables in our subservicing portfolio and subserviced receivables are not included in Advanta Mortgage loans. NOTE 6) ALLOWANCE FOR CREDIT LOSSES The following table presents activity in the allowance for credit losses for the periods presented:
NINE MONTHS YEAR ENDED ENDED SEPTEMBER 30, DECEMBER 31, 2000 1999 - ------------------------------------------------------------------------------- Beginning balance $ 41,847 $ 33,437 Provision for credit losses 59,858 42,647 Valuation allowance on loans transferred to held for sale (7,730) 0 Allowance on receivables sold 0 (6,690) Gross charge-offs: Advanta Mortgage loans (14,948) (15,132) Business credit cards (14,460) (11,341) Leases (5,710) (4,429) Other loans 0 (2,404) - ------------------------------------------------------------------------------- Total gross charge-offs (35,118) (33,306) Recoveries: Advanta Mortgage loans 2,499 3,011 Business credit cards 1,486 1,238 Leases 1,782 1,503 Other loans 0 7 - ------------------------------------------------------------------------------- Total recoveries 5,767 5,759 - ------------------------------------------------------------------------------- Net charge-offs (29,351) (27,547) - ------------------------------------------------------------------------------- Ending Balance $ 64,624 $ 41,847 ===============================================================================
10 11 The provision for credit losses in the nine months ended September 30, 2000 includes an increase in the credit loss assumption made in response to our bank regulatory examination process, including the implementation of the agreements with the bank regulators that were signed during the second quarter and in July 2000 (see Note 2), and changes during the second quarter in the market and the political and regulatory environment for subprime lending. During the nine months ended September 30, 2000, $520 million of loans were transferred to the held for sale classification due to a change in management's intention regarding the sale of those loans. Approximately $398 million of the transferred loans were sold in the third quarter of 2000 as part of the planned decrease of assets at Advanta National Bank, in order to meet required capital levels. NOTE 7) RETAINED INTERESTS IN SECURITIZATIONS AND CONTRACTUAL MORTGAGE SERVICING RIGHTS Retained interests in securitizations include the retained interest-only ("IO") strip and subordinated trust assets related to Advanta Mortgage loan securitizations. The following table presents activity in the retained interests in securitizations and contractual mortgage servicing rights ("CMSR") related to Advanta Mortgage loan securitizations:
NINE MONTHS YEAR ENDED ENDED SEPTEMBER 30, DECEMBER 31, 2000 1999 - -------------------------------------------------------------------------------------- Beginning balance retained interests in securitizations $ 515,789 $ 501,038 Beginning balance CMSR $ 92,636 $ 74,425 Retained interests in securitizations activity: Retained IO on sales, net 55,736 50,462 Collateral deposits to subordinated trust assets 73,884 45,717 Interest income 57,457 46,581 Cash released to Advanta (82,932) (86,241) Fair value adjustments (210,654) (32,000) Fair value adjustment related to auto exit 0 (12,000) Net change in subordinated trust assets associated with off-balance sheet warehouse facilities 21,260 (416) Other 1,713 2,648 CMSR activity: Servicing rights retained 39,312 54,124 Amortization, net (20,619) (39,134) Valuation provision (15,375) 3,221 Ending balance retained interests in securitizations $ 432,253 $ 515,789 Ending balance CMSR $ 95,954 $ 92,636 ======================================================================================
The par value of subordinated trust assets was $510,718 at September 30, 2000 and $411,417 at December 31, 1999. Valuation adjustments recorded to the retained interests in securitizations and CMSR in the nine months ended September 30, 2000 resulted from an increase in discount rate and credit loss assumption used in the valuation of these assets. These changes were made in response to our bank regulatory examination process, including the implementation of the agreements with the bank regulators that were signed during the second quarter and in July 2000 (see Note 2), and 11 12 changes during the second quarter in the market and the political and regulatory environment for subprime lending. NOTE 8) SELECTED BALANCE SHEET INFORMATION
SEPTEMBER 30, DECEMBER 31, OTHER ASSETS 2000 1999 - -------------------------------------------------------------------------- Servicing advances $133,662 $105,302 Current and deferred income taxes, net 89,516 89,788 Accrued interest receivable 37,931 32,410 Other real estate (A) 6,235 9,560 Goodwill 3,115 3,323 Other 323,728 284,553 - -------------------------------------------------------------------------- Total other assets $594,187 $524,936 ==========================================================================
(A) Carried at the lower of cost or fair market value less selling costs
SEPTEMBER 30, DECEMBER 31, OTHER LIABILITIES 2000 1999 - ------------------------------------------------------------------------ Accounts payable and accrued expenses $ 75,984 $107,692 Accrued interest payable 73,680 36,554 Other 140,658 145,317 - ------------------------------------------------------------------------ Total other liabilities $290,322 $289,563 ========================================================================
NOTE 9) LONG-TERM DEBT Long-term debt consists of borrowings having an original maturity of over one year. The composition of long-term debt was as follows:
SEPTEMBER 30, DECEMBER 31, 2000 1999 - ---------------------------------------------------------------------------------------------- SENIOR DEBT: 12 month senior notes (8.62%-10.66%) $141,278 $ 86,647 18 month senior notes (8.57%-10.89%) 9,185 8,344 24 month senior notes (7.47%-11.11%) 78,473 50,571 30 month senior notes (7.23%-11.15%) 13,458 13,852 48 month senior notes (6.39%-11.20%) 8,357 8,427 60 month senior notes (6.02%-11.24%) 32,536 28,863 Value notes, fixed (7.00%-7.85%) 4,137 7,779 Medium-term notes, fixed (6.81%-7.47%) 335,100 490,650 Medium-term notes, floating 30,500 47,400 Medium-term bank notes, fixed (6.45%-7.12%) 7,353 7,347 Other senior notes (7.33%-11.34%) 98,752 37,670 - ---------------------------------------------------------------------------------------------- Total senior debt 759,129 787,550 Subordinated notes (9.08%-10.44%) 771 958 - ---------------------------------------------------------------------------------------------- Total long-term debt $759,900 $788,508 ==============================================================================================
We have priced our floating rate medium-term notes based on a spread over LIBOR. At September 30, 2000, the rates on these notes varied from 7.06% to 7.30%. At September 30, 2000 and December 31, 1999, we used derivative financial instruments to effectively convert certain fixed rate debt to a LIBOR-based variable rate. NOTE 10) OTHER BORROWINGS The composition of other borrowings was as follows:
SEPTEMBER 30, DECEMBER 31, 2000 1999 - ------------------------------------------------------------------------------ Warehouse facility $ 0 $ 76,435 FHLB advances 0 220,000 Securities sold under repurchase agreements 0 104,191 Other borrowings 6,030 8,975 - ------------------------------------------------------------------------------ Total $ 6,030 $409,601 ==============================================================================
12 13 NOTE 11) CAPITAL STOCK In the three months ended March 31, 2000, we retired 405,000 shares of Class A Treasury stock and 445,600 shares of Class B Treasury stock. NOTE 12) SEGMENT INFORMATION During the first quarter of 2000, we made changes to the methods used to allocate centrally incurred interest and operating expenses to the reportable segments in order to better reflect the use of the related assets or personnel by the segments. These changes included the allocation of certain expenses based on consumption rather than based on average managed assets, and a change in the classification of certain employee groups. Prior period segment results have been restated to reflect the current allocation methods. The results for the Advanta Mortgage segment in the nine months ended September 30, 2000 include the carrying value adjustments described in Note 2.
ADVANTA ADVANTA THREE MONTHS ENDED ADVANTA BUSINESS LEASING SEPTEMBER 30, MORTGAGE CARDS SERVICES OTHER(1) TOTAL - --------------------------------------------------------------------------------------------------------------------- 2000 Noninterest revenues $ 68,346 $ 41,060 $ 804 $ (1,844) $ 108,366 Interest revenue 37,186 24,007 3,894 15,442 80,529 Interest expense 24,240 10,035 3,308 14,422 52,005 Pretax income (loss) 16,311 14,202 (12,019) (2,750) 15,744 Average managed receivables $ 8,323,026 $ 1,472,729 $ 796,375 $ 24,250 $10,616,380 - --------------------------------------------------------------------------------------------------------------------- 1999 Noninterest revenues $ 66,076 $ 20,509 $ 10,672 $ 2,301 $ 99,558 Interest revenue 28,239 12,428 2,632 17,886 61,185 Interest expense 17,882 4,530 2,050 17,473 41,935 Pretax income (loss) 14,189 9,216 1,640 (1,611) 23,434 Average managed receivables $ 8,389,792 $ 906,032 $ 741,571 $ 17,322 $10,054,717 - ---------------------------------------------------------------------------------------------------------------------
13 14
ADVANTA ADVANTA NINE MONTHS ENDED ADVANTA BUSINESS LEASING SEPTEMBER 30, MORTGAGE CARDS SERVICES OTHER(1) TOTAL - --------------------------------------------------------------------------------------------------------------------------- 2000 Noninterest revenues $ (28,884) $ 111,443 $ 3,243 $ 9,522 $ 95,324 Interest revenue 133,762 59,027 11,532 44,886 249,207 Interest expense 75,878 23,681 9,417 42,514 151,490 Pretax income (loss) (189,527) 52,197 (28,898) 6,346 (159,882) Average managed receivables $ 8,408,983 $ 1,304,881 $ 801,461 $ 21,657 $ 10,536,982 - --------------------------------------------------------------------------------------------------------------------------- 1999 Noninterest revenues $ 180,364 $ 56,835 $ 33,206 $ 19,945 $ 290,350 Interest revenue 99,345 25,391 7,112 53,852 185,700 Interest expense 60,142 9,740 6,216 52,431 128,529 Pretax income (loss) 29,109 22,685 5,404 (2,371) 54,827 Average managed receivables $ 8,370,460 $ 865,510 $ 699,551 $ 17,385 $ 9,952,906 - ---------------------------------------------------------------------------------------------------------------------------
(1) Other includes insurance operations, investment activities not attributable to the reportable segments, and costs associated with exiting the auto finance business in 1999. NOTE 13) NET INTEREST INCOME The following table presents the components of net interest income:
THREE MONTHS ENDED NINE MONTHS ENDED SEPTEMBER 30, SEPTEMBER 30, - -------------------------------------------------------------------------------------------------------- 2000 1999 2000 1999 - -------------------------------------------------------------------------------------------------------- Interest income: Loans and leases $ 44,942 $ 32,152 $ 141,295 $ 89,380 Investments 17,596 18,415 50,455 61,214 Retained interests in mortgage securitizations 17,991 10,618 57,457 35,106 - -------------------------------------------------------------------------------------------------------- Total interest income 80,529 61,185 249,207 185,700 - -------------------------------------------------------------------------------------------------------- Interest expense: Deposits 33,294 25,503 95,628 79,098 Debt and other borrowings 18,711 16,432 55,862 49,431 - -------------------------------------------------------------------------------------------------------- Total interest expense 52,005 41,935 151,490 128,529 - -------------------------------------------------------------------------------------------------------- Net interest income 28,524 19,250 97,717 57,171 Less: Provision for credit losses (20,999) (10,452) (59,858) (28,007) - -------------------------------------------------------------------------------------------------------- Net interest income after provision for credit losses $ 7,525 $ 8,798 $ 37,859 $ 29,164 ========================================================================================================
14 15 NOTE 14) INCOME TAX EXPENSE Income tax expense is based on the estimated annual effective tax rate of 0% for the nine months ended September 30, 2000, compared to a 39% tax rate for the comparable 1999 period. Income tax expense consisted of the following:
THREE MONTHS ENDED NINE MONTHS ENDED SEPTEMBER 30, SEPTEMBER 30, - -------------------------------------------------------------------------------- 2000 1999 2000 1999 - -------------------------------------------------------------------------------- Current: Federal $ 2,523 $ 5,000 $ 3,972 $15,000 State 2,066 (747) 2,306 1,548 - -------------------------------------------------------------------------------- Total current 4,589 4,253 6,278 16,548 - -------------------------------------------------------------------------------- Deferred: Federal 0 3,012 0 4,025 State (4,589) 1,991 (6,278) 991 - -------------------------------------------------------------------------------- Total deferred (4,589) 5,003 (6,278) 5,016 - -------------------------------------------------------------------------------- Total tax expense $ 0 $ 9,256 $ 0 $21,564 ================================================================================
The reconciliation of the statutory federal income tax to the consolidated tax expense is as follows:
THREE MONTHS ENDED NINE MONTHS ENDED SEPTEMBER 30, SEPTEMBER 30, - ------------------------------------------------------------------------------------------------ 2000 1999 2000 1999 - ------------------------------------------------------------------------------------------------ Statutory federal income tax $ 5,510 $ 8,202 $(55,959) $ 19,189 Valuation allowance (5,015) 0 57,993 0 State income taxes (1,696) 808 (2,478) 1,650 Compensation limitation 35 44 105 132 Non taxable investment income (160) (144) (398) (460) Other 1,326 346 737 1,053 - ------------------------------------------------------------------------------------------------ Consolidated tax expense $ 0 $ 9,256 $ 0 $ 21,564 ================================================================================================
The net deferred tax asset is comprised of the following:
SEPTEMBER 30, DECEMBER 31, 2000 1999 - -------------------------------------------------------------------- Gross deferred tax liabilities $ (91,967) $(102,248) Gross deferred tax assets 331,583 277,593 Valuation allowance (140,993) (83,000) - -------------------------------------------------------------------- Net deferred tax asset $ 98,623 $ 92,345 ====================================================================
A summary of deferred tax assets and (liabilities) follows:
SEPTEMBER 30, DECEMBER 31, 2000 1999 - ---------------------------------------------------------------------- Deferred loan fees and costs $ (4,119) $ (6,149) Allowance for credit losses 22,267 22,273 Net operating loss carryforwards 162,833 182,437 Securitization income (loss) 66,828 (41,547) Leasing income (loss) (34,960) (19,009) Deferred compensation 6,849 9,054 Noncash unusual charges 6,835 18,321 Other 13,083 9,965 Valuation allowance (140,993) (83,000) - ---------------------------------------------------------------------- Net deferred tax asset $ 98,623 $ 92,345 ======================================================================
15 16 As a result of the carrying value adjustments discussed in Note 2, we reported a pretax loss for the nine months ended September 30, 2000. A valuation allowance has been provided against the resulting deferred tax asset given our pre-existing net operating loss carryforwards and the uncertainty of the realizability of the incremental deferred tax asset. In establishing the valuation allowance, management considered (1) the level of expected future taxable income, (2) existing and projected book/tax differences, (3) tax planning strategies available, and (4) the general and industry specific economic outlook. Based on this analysis, management believes the net deferred tax asset will be realized. The net deferred federal tax asset is presented with current federal income taxes for financial reporting purposes, and is included in other assets. NOTE 15) UNUSUAL CHARGES In accordance with the terms of the contribution agreement, dated as of October 28, 1997, as amended February 20, 1998, by and between Advanta Corp. and Fleet Financial Group, Inc. ("Fleet"), Advanta Corp. and certain of its subsidiaries and Fleet and certain of its subsidiaries each contributed certain assets and liabilities of their respective consumer credit card businesses to Fleet Credit Card LLC ("Fleet LLC") in exchange for an ownership interest in Fleet LLC (the "Consumer Credit Card Transaction"). Concurrently with the Consumer Credit Card Transaction, we purchased 7,882,750 shares of its Class A Common Stock and 12,482,850 of its Class B Common Stock, each at $40 per share net, and 1,078,930 of our depositary shares each representing one one-hundredth interest in a share of 6 3/4% Convertible Class B Preferred Stock, Series 1995 Stock Appreciated Income Linked Securities at $32.80 per share net, through an issuer tender offer (the "Tender Offer") which was completed on February 20, 1998. In connection with the Consumer Credit Card Transaction, we made major organizational changes during the first quarter of 1998 to reduce corporate expenses incurred in the past: (a) to support the business contributed to Fleet LLC in the Consumer Credit Card Transaction; and (b) associated with the business and products no longer being offered or not directly associated with our mortgage, business credit card and leasing units. In addition, in the first quarter of 1999, we implemented a plan to exit the auto finance business and to implement cost reduction initiatives throughout the organization including the consolidation of support functions. Costs associated with these changes were included in unusual charges on the consolidated income statements. The following table presents activity in the accrual related to these costs:
12/31/99 CHARGED 9/30/00 ACCRUAL TO ACCRUAL ACCRUAL BALANCE IN 2000 BALANCE - ------------------------------------------------------------------------------------------------ Employee costs associated with staff reductions $ 822 $ 822 $ 0 Employee costs associated with Consumer Credit Card Transaction/Tender Offer 3,008 3,008 0 Expenses associated with exited businesses/products 20,648 5,291 15,357 - ------------------------------------------------------------------------------------------------ Total $24,478 $ 9,121 $15,357 ================================================================================================
Employee costs associated with staff reductions In the first quarter of 1999, we recorded a $3.3 million charge for costs associated with staff reductions. These expenses included severance and outplacement costs associated with cost reduction initiatives and the consolidation of support functions. There were 121 employees severed who were entitled to benefits. This staff reduction was substantially complete by June 30, 1999. 16 17 Employee costs associated with Consumer Credit Card Transaction/Tender Offer In connection with the organizational changes in 1998, we incurred approximately $26.8 million of severance and related costs classified as employee costs associated with the Consumer Credit Card Transaction/Tender Offer. These expenses included severance and outplacement costs associated with the workforce reduction, option exercise and re-measurement costs, and other employee costs directly attributable to the Consumer Credit Card Transaction/Tender Offer. In connection with these organizational changes, 255 employees who ceased to be employed by Advanta were entitled to benefits, of which 190 employees were directly associated with the business contributed to Fleet LLC and 65 employees were associated with the workforce reduction. Additionally, during the first quarter of 1998, we incurred approximately $35.5 million of other compensation charges. This amount includes $21.3 million attributable to payments under change of control plans and $14.2 million associated with the execution of the Tender Offer. Exited businesses/products In the first quarter of 1999, we implemented a plan to cease the origination of auto loans and recorded a $3.4 million charge for costs associated with exited businesses/products. The charges included severance and outplacement costs for 22 employees in the auto origination group, and professional fees associated with exited businesses/products not directly associated with our mortgage, business credit card and leasing units. We completed the closing of the auto loan origination center and termination of related employees during the second quarter of 1999. We expect to pay a substantial portion of the remaining costs during the year ended December 31, 2000. During the first quarter of 1998, we implemented a plan to exit certain businesses and product offerings not directly associated with our mortgage, business credit card and leasing units. In connection with this plan, contractual vendor commitments of approximately $10.0 million associated with discontinued development and other activities were accrued. We have substantially completed the settlement of these contractual commitments. We also have contractual commitments to certain customers, and non-related financial institutions that are providing benefits to those customers, under a product that will no longer be offered and for which no future revenues or benefits will be received. In 1998, we recorded a charge of $22.8 million associated with this commitment, and an $8.3 million charge associated with the write-down of assets associated with this program. In the fourth quarter of 1999, we recorded an additional charge of $10.0 million based on a change in the estimate of total expected costs for exited businesses. We expect to pay a substantial portion of these costs over the next 27 months. The actions required to complete this plan include the settlement of contractual commitments and the payment of customer benefits. In connection with the Consumer Credit Card Transaction/Tender Offer and the other exited business and product offerings in 1998, Advanta also incurred $11.5 million of related professional fees and $1.5 million of other expenses related to these plans. 17 18 NOTE 16) EARNINGS (LOSS) PER SHARE The following table presents the calculation of basic earnings (loss) per share and diluted earnings (loss) per share.
THREE MONTHS ENDED NINE MONTHS ENDED SEPTEMBER 30, SEPTEMBER 30, - -------------------------------------------------------------------------------------------------------- 2000 1999 2000 1999 - -------------------------------------------------------------------------------------------------------- Net income (loss) $ 15,744 $ 14,178 $(159,882) $ 33,263 Less: Preferred A dividends 0 0 (141) (141) Less: Preferred B dividends (2) N/A (887) N/A (2,661) - -------------------------------------------------------------------------------------------------------- Income (loss) available to common shareholders $ 15,744 $ 13,291 $(160,023) $ 30,461 Less: Class A dividends declared (573) (567) (1,665) (1,789) Less: Class B dividends declared (1,299) (1,172) (3,826) (3,555) - -------------------------------------------------------------------------------------------------------- Undistributed earnings (loss) $ 13,872 $ 11,552 $(165,514) $ 25,117 Basic shares (000's) Class A 9,109 8,984 9,098 9,078 Class B 16,150 14,429 15,995 14,143 Combined (1) 25,259 23,413 25,093 23,221 Options Class A 1 1 0 1 Options Class B 18 294 0 187 Restricted shares Class A 48 45 0 31 Restricted shares Class B 0 237 0 80 Diluted shares (000's) Class A 9,158 9,030 9,098 9,110 Class B 16,168 14,960 15,995 14,410 Combined (1) 25,326 23,990 25,093 23,520 Basic earnings (loss) per share Class A $ .61 $ .56 $ (6.41) $ 1.28 Class B .63 .57 (6.36) 1.33 Combined (1) .62 .57 (6.38) 1.31 Diluted earnings (loss) per share Class A $ .61 $ .54 $ (6.41) $ 1.26 Class B .63 .56 (6.36) 1.31 Combined (1) .62 .55 (6.38) 1.30 Antidilutive shares (000's) Preferred Class B (2) N/A 14 N/A 14 Options Class A 1 1 2 1 Options Class B 1,952 1,351 2,682 1,568 Restricted shares Class A 46 54 97 46 Restricted shares Class B 1,030 1,038 1,188 1,197 - --------------------------------------------------------------------------------------------------------
(1) Combined represents a weighted average of Class A and Class B shares and earnings (loss) per share. (2) Each share of Class B convertible preferred stock was mandatorily converted into one share of Class B Common Stock effective September 15, 1999. 18 19 NOTE 17) CONTINGENCIES On January 22, 1999, Fleet and certain of its affiliates filed a lawsuit against Advanta and certain of its subsidiaries in Delaware Chancery Court. Fleet's allegations, which Advanta denies, center around Fleet's assertions that Advanta has failed to complete certain post-closing adjustments to the value of the assets and liabilities Advanta contributed to Fleet LLC in connection with the Consumer Credit Card Transaction. Fleet seeks damages of approximately $141 million. Advanta has filed an answer to the complaint denying the material allegations of the complaint, but acknowledging that Advanta contributed $1.8 million in excess liabilities in the post-closing adjustment process, after taking into account the liabilities Advanta has already assumed. Advanta also has filed a countercomplaint against Fleet for approximately $101 million in damages Advanta believes have been caused by certain actions of Fleet following the closing of the Consumer Credit Card Transaction. Formal discovery has begun and is ongoing. The court has scheduled trial in this matter to begin in September 2001. Management expects that the ultimate resolution of this litigation will not have a material adverse effect on the financial position or future operating results of Advanta. Advanta Corp. and its subsidiaries are involved in other legal proceedings, claims and litigation, including those arising in the ordinary course of business. Management believes that the aggregate liabilities, if any, resulting from those actions will not have a material adverse effect on the consolidated financial position or results of operations of Advanta. However, as the ultimate resolution of these proceedings is influenced by factors outside of our control, it is reasonably possible that our estimated liability under these proceedings may change. 19 20 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS In this form 10-Q, "Advanta", "we", "us", and "our" refer to Advanta Corp. and its subsidiaries, unless the context otherwise requires. OVERVIEW For the three months ended September 30, 2000, we reported net income of $15.7 million or $0.62 per combined diluted common share, compared to net income of $14.2 million or $0.55 per combined diluted common share for the three months ended September 30, 1999. Pro forma net income, reflecting income for Advanta Mortgage that is essentially the same as a portfolio lender, was $464 thousand, or $0.02 per combined diluted common share, for the three months ended September 30, 2000. For the three months ended September 30, 1999, pro forma net income on a portfolio lender basis was equal to reported net income of $14.2 million. Net income as reported and on a pro forma portfolio lender basis for the three months ended September 30, 2000 includes $23 million of provisions and charges consisting of the following: a charge of approximately $10 million in the leasing business due to continued charge-offs largely concentrated within certain unprofitable segments of this business originated in prior periods; an increase of approximately $10 million in the on-balance sheet allowance for credit losses for business credit cards; and a charge of approximately $3 million in the insurance business relating to a large policy claim settled during the quarter. Approximately $6 to $8 million of the $10 million increase in allowance for credit losses for business cards strengthened on-balance sheet reserves and is attributable to a revision of the methodology for estimating loan losses as a result of our recent discussions with the FDIC relating to the implementation of the agreement between Advanta Bank Corp. and the FDIC that was previously disclosed in June 2000, and the remainder of the increase is due to the maturing and growth of the portfolio. Excluding the $23 million of provisions and charges, net income would have been $1.53 per combined diluted share for the three months ended September 30, 2000 and net income on a pro forma portfolio lender basis for the same period would have been $0.58 per combined diluted share. For the nine months ended September 30, 2000, we reported a net loss of $159.9 million or $6.38 per combined diluted common share. These results include charges, which were made in response to our regulatory review process, including the implementation of the agreements with the bank regulators that were signed during the second quarter and in July 2000, and changes during the second quarter in the market and the political and regulatory environment for subprime lending. These charges include a reduction in the valuation of Advanta National Bank's retained interests in mortgage securitizations of $214.0 million and an increase in Advanta National Bank's on-balance sheet allowance for credit losses related to mortgage loans of $22.0 million. In addition, the results for the nine months ended September 30, 2000 include a non-operating gain of $6.7 million, after tax, on investments held by Advanta Partners, our private equity investment affiliate, and a $5.8 million charge, after tax, for a reduction in the valuation of retained interests in leasing securitizations. For the nine months ended September 30, 1999, we reported net income of $33.3 million or $1.30 per combined diluted common share. The earnings for the nine months ended September 30, 1999 include non-recurring charges, after tax, of approximately $14.5 million that were principally related to our exit from the auto finance business and severance and outplacement associated with cost cutting initiatives implemented in the first quarter of 1999. We also recognized non-operating gains of approximately $16.7 million, after tax, in connection with an investment held by Advanta Partners, and recorded a reduction in the Advanta Mortgage retained interest-only strip of approximately $6.1 million, after tax, associated with more conservative fair value assumptions. 20 21 Pretax income (loss) by reportable segment for the three months ended September 30, 2000 was $16.3 million for Advanta Mortgage, $14.2 million for Advanta Business Cards and ($12.0) million for Advanta Leasing Services. Pretax income by reportable segment for the three months ended September 30, 1999 was $14.2 million for Advanta Mortgage, $9.2 million for Advanta Business Cards and $1.6 million for Advanta Leasing Services. On October 24, 2000 we announced that we have accepted a proposal to sell our mortgage business to a major financial institution in a cash transaction for a price in excess of book value and we are negotiating an agreement with this party. Under the terms of the proposal, we expect to receive proceeds that will result in excess liquidity when added to our existing cash and equivalent position. As a result, we intend to use a portion of this liquidity to pay off all institutional medium term notes currently outstanding. We also intend to seek shareholder approval for the transaction. While there can be no assurance that a definitive agreement will be reached and a number of items remain to be negotiated, if the transaction is consummated under the terms of the proposal, it will result in the sale of virtually all mortgage assets. Mortgage assets represented 33% of owned assets at September 30, 2000. We are also actively pursuing strategic alternatives for our leasing business. The initial due diligence has been completed with respect to the leasing business and bids are being solicited from interested parties. This report contains forward-looking statements that are subject to certain risks and uncertainties that could cause actual results to differ materially from those projected. These forward-looking statements can be identified by the use of forward-looking phrases such as "will likely result," "may," "are expected to," "is anticipated," "estimate," "projected," "intends to" or other similar words. The most significant among these risks and uncertainties are: (1) our managed net interest margin; (2) competitive pressures; (3) factors that affect the level of delinquencies and charge-offs, including a deterioration of general economic conditions; (4) the rate of prepayments; (5) interest rate fluctuations; (6) the level of expenses; (7) managed and subserviced receivables volume; (8) the timing of the securitizations of our receivables; (9) the level of insurance policy renewals; (10) the effects of government regulation, including restrictions and limitations imposed by banking laws, regulators, examinations, and the agreements between our bank subsidiaries and their respective regulators; (11) the level of conservatism and volatility associated with the assumptions underlying the valuation of retained interests in securitizations; (12) relationships with significant vendors, business partners and customers; (13) the amount and cost of financing available to us; (14) the ratings on the debt of Advanta Corp. and its subsidiaries; (15) the ability to attract and retain key personnel and customers; and (16) the results of our previously announced evaluation of strategic alternatives with respect to Advanta Mortgage and Advanta Leasing Services, including the completion of a definitive agreement and the closing and timing of any transaction. Additional risks that may affect our future performance are set forth elsewhere in this Quarterly Report on Form 10-Q, in our Annual Report on Form 10-K for the year ended December 31, 1999 and in our other filings with the Securities and Exchange Commission. ADVANTA BUSINESS CARDS OVERVIEW Advanta Business Cards offers MasterCard(R)* business credit cards to small businesses using targeted direct mail and the Internet. Pretax income for Advanta Business Cards was $14.2 million for the three months ended September 30, 2000 as compared to $9.2 million for the same period in 1999. The results for the three months ended September 30, 2000 include an increase in the on-balance sheet allowance for credit losses of $10 million. Approximately $6 to $8 million of this $10 million increase strengthened on-balance sheet reserves and is attributable to a revision of the methodology for estimating credit losses as a result of our recent discussions with the FDIC relating to the implementation of the agreement between Advanta Bank Corp. and the FDIC that was disclosed in June 2000, and the remainder of the increase is due to the maturing and - ---------- * MasterCard(R) is a federally registered servicemark of MasterCard International, Inc. 21 22 growth of the portfolio. Pretax income for the nine months ended September 30, 2000 was $52.2 million as compared to $22.7 million for the same period in 1999. The increase in pretax income in both periods resulted from increased volume of managed receivables, increases in portfolio yields and increased interchange income. These increased revenues were partially offset by the increase in the allowance for credit losses in the three months ended September 30, 2000 and an increase in operating expenses in both periods due to increased marketing and account origination activities. SECURITIZATION INCOME Advanta Business Cards recognized securitization income of $19.2 million for the three months ended September 30, 2000 and $50.4 million for the nine months ended September 30, 2000. This compares to $7.2 million of securitization income recognized for the three months ended September 30, 1999 and $21.1 million of securitization income recognized for the nine months ended September 30, 1999. Advanta Business Cards sells receivables to existing securitization trusts on a continuous basis to replenish the investors' interests in trust receivables that have been repaid by the cardholders. The increase in securitization income in both periods was due to increased yields on the securitized receivables and increased volume of securitized receivables. ORIGINATIONS Originations for Advanta Business Cards were as follows ($ in thousands):
THREE MONTHS ENDED NINE MONTHS ENDED SEPTEMBER 30, PERCENTAGE SEPTEMBER 30, PERCENTAGE 2000 1999 INCREASE 2000 1999 INCREASE - ---------------------------------------------------------------------------------------------------------------- Dollar volume $ 881,215 $ 484,727 82% $2,529,183 $1,356,394 86% Number of accounts 55,895 26,881 108 257,536 79,009 226
The increase in business credit card originations over the comparable periods in 1999 resulted from the successful application of our information based strategy to expand the universe of potential business credit card customers. ADVANTA MORTGAGE OVERVIEW Advanta Mortgage makes nonconforming home equity loans directly to consumers and through brokers. This business unit originates and services first and second lien mortgage loans, including home equity lines of credit, through subsidiaries of Advanta. In addition to servicing and managing the loans it originates, Advanta Mortgage contracts with third parties to service their nonconforming home equity loans on a subservicing basis. Advanta Mortgage pretax income for the three months ended September 30, 2000 was $16.3 million as compared to $14.2 million for the same period of the prior year. Pro forma pretax income for Advanta Mortgage on a portfolio lender basis for the three months ended September 30, 2000, was $1.3 million. Pro forma pretax income on a portfolio lender basis for the three months ended September 30, 1999 was equal to reported pretax income of $14.2 million. The decrease in pro forma pretax income is due to lower mortgage origination volumes as a result of continued implementation of processes required by the regulatory agreements and the costs related to maintenance of an infrastructure at a level that is commensurate with our prior mortgage volumes. These decreases were partially offset by an increase in servicing revenues from growth in the subservicing portfolio, and a decrease in the provision for credit losses. Advanta Mortgage pretax income (loss) for the nine months ended September 30, 2000 was ($190.0) million as compared to $29.1 million for the same period of the prior 22 23 year. The decrease in pretax income was due to the reduction in the valuation of the retained interests in mortgage securitizations and increase in on-balance sheet reserves recorded in the second quarter of 2000. These adjustments were made in response to our bank regulatory examination process, including the implementation of the agreements with the bank regulators that were signed during the second quarter and in July 2000, and changes during the second quarter in the market and the political and regulatory environment for subprime lending. SECURITIZATION INCOME (LOSS) Advanta Mortgage recognized gains of $35.2 million from the securitization and sale of $1.0 billion of loans in the three months ended September 30, 2000, and recognized gains of $40.1 million from the securitization and sale of $747 million of loans in the three months ended September 30, 1999. Advanta Mortgage recognized gains of $99.8 million from the securitization and sale of $2.0 billion of loans for the nine months ended September 30, 2000 and recognized gains of $115.1 million from the securitization and sale of $2.1 billion of loans in the nine months ended September 30, 1999. Gains on the sale of receivables represented 3.4% of the loans sold in the three months ended September 30, 2000, as compared to 5.4% of the loans sold in the same period of 1999. The gains recognized in the nine months ended September 30, 2000 represented 5.0% of loans sold, as compared to 5.5% of loans sold in the same period of 1999. The decreases in the gains recognized as a percentage of loans sold are due to changes in assumptions used in the calculation of gains in order to comply with the regulatory agreements, and also due to changes in the mix of loans sold. In the three months ended September 30, 2000, a significant portion of loans sold represented loans indirectly originated, which typically have lower yields. The sale of these loans was part of a planned decrease in assets at Advanta National Bank in order to meet capital levels required by the regulatory agreements. In June 2000, we announced that our banking subsidiaries, Advanta National Bank and Advanta Bank Corp., reached agreements with their respective bank regulatory agencies, primarily relating to the banks' subprime lending operations. The agreements outlined a series of steps to modify processes and formalize and document certain practices and procedures for the banks' subprime lending operations. The agreements also established temporary asset growth limits at Advanta National Bank and deposit growth limits at Advanta Bank Corp., imposed restrictions on taking brokered deposits at Advanta National Bank, and required that by September 30, 2000 Advanta National Bank's capital ratios be maintained at approximately the levels at March 31, 2000. At September 30, 2000, Advanta National Bank was in compliance with the increased capital ratios required by the agreements. We achieved these ratios through a combination of decreasing the assets at Advanta National Bank and making aggregate capital contributions and other investments in Advanta National Bank of approximately $70 million. The agreements also required us to change our charge-off policy for delinquent mortgages to 180 days and to modify our accounting processes and methodology for our allowance for credit losses and valuation of residual assets. In July 2000, we announced that Advanta National Bank signed an agreement with the Office of the Comptroller of the Currency regarding the carrying value of Advanta National Bank's retained interests in mortgage securitizations and allowance for mortgage credit losses. For Advanta National Bank's June 30, 2000 Call Report, in accordance with the provisions of the agreement, we calculated the valuation of the retained interests based on an 18% discount rate on the interest-only strip and subordinated trust assets, a 15% discount rate on the contractual mortgage servicing rights, a prepayment rate that represents the average prepayment experience for the six months ended February 29, 2000 and cumulative loss rates as a percentage of original principal balance of 6% on closed end mortgage loans and 8% for HELOC (open end) mortgage loans. The agreement required that based on these assumptions, the carrying value of Advanta National Bank's contractual mortgage servicing rights be reduced by $13 million and the carrying value of Advanta National Bank's subordinated trust assets and retained interest-only strip be reduced by a total 23 24 amount of $201 million. The agreement further required that Advanta National Bank's allowance for credit losses be increased by $22 million. The agreement contains provisions regarding the use of similar discount rate and credit loss assumptions for the calculation of the carrying value of the residual assets in future periods. For the nine months ended September 30, 2000, Advanta Mortgage securitization income (loss) included a $214.0 million charge due to the increases described above in the discount rate and credit loss assumption used in the valuation of Advanta National Bank's retained interests in mortgage securitizations, including the retained interest-only strip, subordinated trust assets and contractual mortgage servicing rights. During the three months ended June 30, 2000, the subprime lending industry was going through tremendous change due to regulatory and legislative initiatives, changes in market participants caused by the failure of some participants and new entrants into the market, and publicized concerns regarding the business model of certain subprime lenders. The change in the valuation assumptions was made in response to our regulatory examination process, including the implementation of the agreements with the bank regulators that were signed during the second quarter and in July 2000, and changes during the second quarter in the market and the political and regulatory environment for subprime lending. Although the mortgage loan portfolio is performing in line with management's expectations, the change in valuation assumptions in the second quarter was made in light of the more conservative regulatory view and changes during the second quarter in the market and the political and regulatory environment for subprime lending. In the nine months ended September 30, 1999, securitization income included a $10.0 million charge for additional reserves recorded on the retained interest-only strip that resulted from the adoption of more conservative fair value assumptions. There were no similar charges to retained interests in mortgage securitizations in the three months ended September 30, 2000 or 1999. The following summarizes the fair value assumptions used in the valuation of our retained interests at September 30, 2000 and December 31, 1999.
SEPTEMBER 30, DECEMBER 31, 2000 1999 ---- ---- Assumed constant prepayment rates: Fixed rate loans 20% 25% Variable rate loans 34 39 Lines of credit 25 30 Assumed loss rate (annualized) 1.87% 1.38%
The weighted average discount rate used in the estimation of the fair value of the retained interest-only strip and subordinated trust assets was 18% at September 30, 2000 and approximately 12% at December 31, 1999. PORTFOLIO LENDER ANALYSIS Gain on sale accounting is required under generally accepted accounting principles for securitizations structured as sales. In the fourth quarter of 1998, we began to analyze and evaluate Advanta Mortgage's financial results from a portfolio lender's perspective as well as under generally accepted accounting principles. The following tables present Advanta Mortgage's reported results, adjusted to approximate the results, excluding valuation adjustments made during the three months ended June 30, 2000, of a portfolio lender for the three and nine months ended September 30, 2000 and 1999 ($ in thousands). 24 25 PORTFOLIO LENDER ANALYSIS
THREE MONTHS ENDED THREE MONTHS ENDED SEPTEMBER 30, 2000 SEPTEMBER 30, 1999 ------------------------------------------ ----------------------------------------- Advanta Advanta Pro Mortgage Pro Mortgage Advanta Forma as a Advanta Forma as a Mortgage Adjust- Portfolio Mortgage Adjust- Portfolio As Reported ments Lender As Reported ments Lender - ------------------------------------------------------------------------------------------------------------------------- REVENUES: Interest income $ 37,186 $ 199,420 $ 236,606 $ 28,239 $ 182,379 $ 210,618 Securitization income 35,236 (35,236) 0 40,139 (40,139) 0 Servicing revenues 33,717 (13,324) 20,393 24,802 (7,815) 16,987 Other revenues, net (607) 0 (607) 1,135 0 1,135 - ------------------------------------------------------------------------------------------------------------------------- Total revenues 105,532 150,860 256,392 94,315 134,425 228,740 - ------------------------------------------------------------------------------------------------------------------------- EXPENSES: Operating expenses 63,237 1,920 65,157 56,301 1,895 58,196 Interest expense 24,240 135,354 159,594 17,882 117,076 134,958 Provision for credit losses 0 28,575 28,575 4,078 15,454 19,532 Minority interest in income of consolidated subsidiary 1,744 0 1,744 1,865 0 1,865 - ------------------------------------------------------------------------------------------------------------------------- Total expenses 89,221 165,849 255,070 80,126 134,425 214,551 - ------------------------------------------------------------------------------------------------------------------------- Income before income taxes 16,311 (14,989) 1,322 14,189 0 14,189 Income tax expense 0 509 509 5,605 0 5,605 - ------------------------------------------------------------------------------------------------------------------------- Net income $ 16,311 $ (15,498) $ 813 $ 8,584 $ 0 $ 8,584 =========================================================================================================================
NINE MONTHS ENDED NINE MONTHS ENDED SEPTEMBER 30, 2000 SEPTEMBER 30, 1999 ------------------------------------------- ----------------------------------------- Advanta Mortgage as a Portfolio Advanta Pro Forma & Lender Pro Mortgage Advanta Other Before Advanta Forma as a Mortgage Adjust- Valuation Mortgage Adjust- Portfolio As Reported ments Adjustments As Reported ments Lender - ------------------------------------------------------------------------------------------------------------------------------ REVENUES: Interest income $ 133,762 $ 562,498 $ 696,260 $ 99,345 $ 523,827 $ 623,172 Securitization income (loss) (134,325) 134,325 0 105,115 (105,115) 0 Servicing revenues 102,056 (39,868) 62,188 72,123 (24,143) 47,980 Other revenues, net 3,385 0 3,385 3,126 0 3,126 - ------------------------------------------------------------------------------------------------------------------------------ Total revenues 104,878 656,955 761,833 279,709 394,569 674,278 - ------------------------------------------------------------------------------------------------------------------------------ EXPENSES: Operating expenses 189,701 5,598 195,299 175,696 5,576 181,272 Interest expense 75,878 383,067 458,945 60,142 343,076 403,218 Provision for credit losses 23,508 52,744 76,252 9,145 35,917 45,062 Minority interest in income of consolidated subsidiary 5,318 0 5,318 5,617 0 5,617 - ------------------------------------------------------------------------------------------------------------------------------ Total expenses 294,405 441,409 735,814 250,600 384,569 635,169 - ------------------------------------------------------------------------------------------------------------------------------ Income (loss) before income taxes (189,527) 215,546 26,019 29,109 10,000 39,109 Income tax expense 0 10,017 10,017 11,444 3,950 15,394 - ------------------------------------------------------------------------------------------------------------------------------ Net income (loss) $(189,527) $ 205,529 $ 16,002 $ 17,665 $ 6,050 $ 23,715 ==============================================================================================================================
25 26 With respect to the pro forma portfolio lender results, individual line items are stated as if the securitized mortgages were still owned by Advanta and remained on the balance sheet. The pro forma adjustments (1) eliminate the gain on sale, including the servicing component, (2) reflect interest income, interest expense and operating expenses as if the sales had not occurred, and (3) eliminate the impact of valuation adjustments reflected in the reported results. The pro forma adjustment to provision for credit losses represents the amount by which the provision would have increased from that reported had the securitized Advanta Mortgage loans remained on the balance sheet and the provision for credit losses on the securitized loans been equal to actual reported charge-offs. The provision for credit losses is also adjusted to exclude the increase recorded in connection with the regulatory agreements in the three months ended June 30, 2000. The actual provision for credit losses of a portfolio lender could differ from the charge-offs depending upon the age and composition of the portfolio and the timing of charge-offs. Carrying value adjustments to retained interests in securitizations, including contractual mortgage servicing rights, and loan loss reserves in the three months ended June 30, 2000 are excluded from the pro forma results above. Income tax expense amounts for the three and nine month periods ended September 30, 2000 are adjusted to a normalized rate of 38.5%. ORIGINATIONS Originations for Advanta Mortgage were as follows ($ in thousands):
THREE MONTHS ENDED NINE MONTHS ENDED SEPTEMBER 30, PERCENTAGE SEPTEMBER 30, PERCENTAGE 2000 1999 DECREASE 2000 1999 DECREASE ---------- ---------- ---------- ---------- ---------- ---------- Direct $ 233,149 $ 368,654 (37)% $ 914,582 $1,179,738 (22)% Indirect: Broker 80,974 163,720 (51) 462,505 537,696 (14) Other Indirect 0 34,941 (100) 4,692 288,920 (98) ---------- ---------- ---------- ---------- Subtotal Indirect 80,974 198,661 (59) 467,197 826,616 (43) Auto 0 0 0 0 5,103 (100) ---------- ---------- ---------- ---------- Total $ 314,123 $ 567,315 (45) $1,381,779 $2,011,457 (31) ========== ========== ========== ==========
We continue to shift the composition of the managed mortgage portfolio toward a higher proportion of direct and broker originations, which tend to have higher yields and are typically more profitable than loans originated through other indirect channels. The dollar volume of originations from direct to consumer channels represented 74% of total originations for the three months ended September 30, 2000 as compared to 65% for the three months ended September 30, 1999 and 66% for the nine months ended September 30, 2000 as compared to 59% for the nine months ended September 30, 1999. At September 30, 2000, 48% of the managed mortgage portfolio consisted of loans originated directly from consumers. This compares to 42% at December 31, 1999 and 40% at September 30, 1999. Home equity lines of credit represented 14% of the managed mortgage loan portfolio at September 30, 2000, as compared to 10% at December 31, 1999, and 9% at September 30, 1999. The decrease in the dollar volume of direct originations for the three and nine months ended September 30, 2000 as compared to the same periods of 1999 is primarily due to the impact of the implementation of the regulatory agreements in the second and third quarters of 2000. The decrease in indirect originations for the three and nine months ended September 30, 2000 as compared to the same periods of 1999 resulted from our decision in 1999 to curtail the purchase of pools of loans through indirect channels, other than broker originations. Consistent with the strategy of focusing on profitable loan growth over volume, the decision was based on unfavorable market pricing and management's commitment to purchasing loans only when the loans exceed certain profitability characteristics. There were no auto loans originated in 2000 due to our exit from the auto finance business in the first quarter of 1999. 26 27 SERVICING REVENUES Servicing revenues were $33.7 million for the three months ended September 30, 2000, as compared to $24.8 million for the same period in 1999. For the nine months ended September 30, 2000, servicing revenues were $102.1 million, as compared to $72.1 million for the nine months ended September 30, 1999. The increase in servicing revenues is due to an increase in average serviced receivables of $3.1 billion and $3.7 billion for the three and nine months ended September 30, 2000, respectively, as compared to the same periods of 1999. Advanta Mortgage's subservicing portfolio was $12.7 billion at September 30, 2000, as compared to $11.9 billion at December 31, 1999 and $10.5 billion at September 30, 1999. The increase in the subservicing portfolio resulted primarily from growth in existing clients' portfolios. One of our larger subservicing clients, which represented 37% of the subservicing portfolio at September 30, 2000, has decided to move aspects of its servicing in-house and, therefore, will terminate its subservicing contract effective during the fourth quarter of 2000. We expect to collect a termination fee in connection with cancellation of the contract, which will partially offset the financial impact of the cancellation. ADVANTA LEASING SERVICES OVERVIEW Advanta Leasing Services offers flexible lease financing programs on small-ticket equipment to small businesses. Pretax loss for Advanta Leasing Services was $12.0 million for the three months ended September 30, 2000 as compared to pretax income of $1.6 million for the three months ended September 30, 1999. The pretax loss in the three months ended September 30, 2000 as compared to the income from the same period of 1999 was primarily attributable to $3.0 million of additional on-balance sheet loan loss reserves and a $7.0 million reduction in the valuation of retained interests in leasing securitizations recorded in the three months ended September 30, 2000. Both of these charges were related to higher credit losses associated with certain unprofitable segments of broker originations from prior periods. Originations from these unprofitable broker segments were discontinued in 2000. In addition, net income in the three months ended September 30, 2000 was lower than the same period of the prior year due to a decrease in origination volume. Pretax loss for the nine months ended September 30, 2000 was $28.9 million as compared to pretax income of $5.4 million for the comparable period in 1999. In addition to the reasons for the variance in pretax income discussed above relating to the three months ended September 30, 2000 and 1999, the decrease in pretax income in the nine months ended September 30, 2000 was attributable to lower margins and a $9.5 million pretax reduction in the valuation of retained interests in leasing securitizations in the three months ended March 31, 2000. SECURITIZATION INCOME Advanta Leasing Services recognized $1.4 million in gains on the sale of $70 million of leases for the three months ended September 30, 2000, as compared to $4.0 million in gains on the sale of $107 million of leases for the three months ended September 30, 1999. As a percentage of receivables sold, the gains during the three months ended September 30, 2000 represented 2.1%, while the gains during the three months ended September 30, 1999 represented 3.8%. In the nine months ended September 30, 2000, Advanta Leasing Services recognized $6.3 million in gains on the sale of $304 million of leases, as compared to $13.3 million in gains on the sale of $308 million of leases in the same period of 1999. As a percentage of receivables sold, these gains represented 2.1% in 2000 and 4.3% in 1999. The decrease in gain as a percentage of loans sold in both periods resulted from a reduction in net interest income spread on securitized receivables. The sales were 27 28 through a combination of commercial paper conduit programs and a public lease securitization. Securitization income included a $7.0 million pretax charge in the three months ended September 30, 2000 and $20.3 million of pretax charges in the nine months ended September 30, 2000. These charges resulted from changes in valuation assumptions related to retained interests in leasing securitizations, primarily due to higher credit losses associated with certain unprofitable segments of broker originations from prior periods. There were no similar charges in the three or nine months ended September 30, 1999. ORIGINATIONS Originations for Advanta Leasing Services were as follows ($ in thousands):
THREE MONTHS ENDED NINE MONTHS ENDED PERCENTAGE SEPTEMBER 30, PERCENTAGE SEPTEMBER 30, INCREASE 2000 1999 DECREASE 2000 1999 (DECREASE) - ---------------------------------------------------------------------------------------- Vendor $ 42,877 $ 52,441 (18)% $130,806 $152,560 (14)% Broker 9,910 39,700 (75) 57,906 122,497 (53) Other 18,027 20,474 (12) 79,621 60,778 31 - ---------------------------------------------------------------------------------------- Total $ 70,814 $112,615 (37) $268,333 $335,835 (20) ========================================================================================
The decreases in vendor and broker originations were consistent with our focus on profitable loan growth over volume. The increase in other originations for the nine months ended September 30, 2000 as compared to the same period in 1999 resulted from a private label service agreement with a national direct marketer of leases. This agreement was discontinued effective October 1, 2000. ADVANTA CORP. INTEREST INCOME AND EXPENSE Interest income on receivables and investments, excluding the interest component of previously discounted cash flows on retained interests in securitizations, increased by $12.0 million for the three months ended September 30, 2000 as compared to the same period in 1999, and increased $41.2 million for the nine months ended September 30, 2000 as compared to the same period in 1999. During the three months ended September 30, 2000, interest expense increased by $10.1 million as compared to the same period in 1999, and increased $23.0 million for the nine months ended September 30, 2000 as compared to the same period in 1999. The increase in interest income in both periods was due to an increase in yields on receivables as well as an increase in average on-balance sheet receivables. The increase in interest expense in both periods was due to an increase in the cost of funds. Our cost of funds increased to 7.15% for the three months ended September 30, 2000 from 5.84% in the same period in 1999, and increased to 6.77% in the nine months ended September 30, 2000 from 5.80% in the same period in 1999. The increase in the cost of funds in 2000 was primarily attributable to rising market interest rates. The following table provides an analysis of owned interest income and expense data, average balance sheet data, net interest spread, and net interest margin. Net interest spread represents the difference between the yield on interest-earning assets and the average rate paid on interest-bearing liabilities. Net interest margin represents the difference between the yield on interest-earning assets and the average rate paid to fund interest-earning assets. Average owned loan and lease receivables and the related interest revenues include certain loan fees and costs. 28 29 INTEREST RATE ANALYSIS ($ IN THOUSANDS)
THREE MONTHS ENDED SEPTEMBER 30, 2000 1999 --------------------------------------- --------------------------------------- AVERAGE YIELD/ AVERAGE YIELD/ BALANCE(1) INTEREST RATE BALANCE(1) INTEREST RATE ----------- ---------- ------ ----------- ---------- ------ ON-BALANCE SHEET Mortgage loans $ 637,627 $ 16,983 10.60% $ 697,713 $ 16,477 9.37% Business credit cards 473,210 23,789 20.00 284,874 12,367 17.22 Leases 87,349 3,745 17.15 110,132 2,918 10.60 Auto loans 5,910 228 15.37 2,699 84 12.40 Other loans 24,250 233 3.82 17,322 548 12.56 ----------- ---------- ----------- ---------- Total receivables(2) 1,228,346 44,978 14.57 1,112,740 32,394 11.56 Retained interests in securitizations 388,961 17,991 18.50 513,957 10,618 8.26 Investments(2) 1,126,681 17,632 6.21 1,396,623 20,937 5.97 ----------- ---------- ----------- ---------- Total interest-earning assets $ 2,743,988 $ 80,601 11.70% $ 3,023,320 $ 63,949 8.42% Interest-bearing liabilities $ 2,833,029 $ 50,876 7.15% $ 2,788,784 $ 40,975 5.84% Net interest spread 4.55% 2.58% Net interest margin 4.31% 3.01% OFF-BALANCE SHEET Mortgage loans securitized $ 7,632,239 $ 7,580,722 Business credit cards securitized 999,519 621,158 Leases securitized 709,026 631,439 Auto loans securitized 47,250 108,658 ----------- ----------- Total average securitized receivables $ 9,388,034 $ 8,941,977 =========== =========== Total average managed receivables $10,616,380 $10,054,717 =========== =========== Managed net interest margin (3) 4.43% 3.75%
(1) Includes assets held and available for sale and nonaccrual loans and leases. (2) Interest and average rate for tax-exempt securities, loans and leases are computed on a tax equivalent basis using a statutory rate of 35%. (3) Managed net interest margin represents a combination of owned interest-earning assets/owned interest-bearing liabilities and securitized mortgage and business credit card assets/liabilities. 29 30 INTEREST RATE ANALYSIS ($ IN THOUSANDS)
NINE MONTHS ENDED SEPTEMBER 30, 2000 1999 --------------------------------------- -------------------------------------- AVERAGE YIELD/ AVERAGE YIELD/ BALANCE(1) INTEREST RATE BALANCE(1) INTEREST RATE ----------- ---------- ------ ---------- ---------- ------ ON-BALANCE SHEET Mortgage loans $ 913,848 $ 70,462 10.30% $ 781,960 $ 53,549 9.16% Business credit cards 407,266 58,369 19.14 204,189 25,218 16.51 Leases 109,135 11,455 14.00 108,371 7,639 9.40 Auto loans 5,777 787 18.19 18,827 2,079 14.77 Other loans 21,657 629 3.88 17,385 1,640 12.61 ----------- ---------- ---------- ---------- Total receivables(2) 1,457,683 141,702 12.98 1,130,732 90,125 10.66 Retained interests in securitizations 483,611 57,457 15.84 516,442 35,106 9.06 Investments(2) 1,054,341 50,542 6.37 1,454,935 60,960 5.57 ----------- ---------- ---------- ---------- Total interest-earning assets $ 2,995,635 $ 249,701 11.12% $3,102,109 $ 186,191 8.00% Interest-bearing liabilities $ 2,920,584 $ 148,117 6.77% $2,881,632 $ 125,030 5.80% Net interest spread 4.35% 2.20% Net interest margin 4.53% 2.64% OFF-BALANCE SHEET Mortgage loans securitized $ 7,429,278 $7,438,740 Business credit cards securitized 897,615 661,321 Leases securitized 692,326 591,180 Auto loans securitized 60,080 130,933 ----------- ---------- Total average securitized receivables $ 9,079,299 $8,822,174 =========== ========== Total average managed receivables $10,536,982 $9,952,906 =========== ========== Managed net interest margin (3) 4.36% 3.55%
(1) Includes assets held and available for sale and nonaccrual loans and leases. (2) Interest and average rate for tax-exempt securities, loans and leases are computed on a tax equivalent basis using a statutory rate of 35%. (3) Managed net interest margin represents a combination of owned interest-earning assets/owned interest-bearing liabilities and securitized mortgage and business credit card assets/liabilities. 30 31 OTHER REVENUES
($ in thousands) THREE MONTHS ENDED NINE MONTHS ENDED SEPTEMBER 30, SEPTEMBER 30, - --------------------------------------------------------------------------------------------- 2000 1999 2000 1999 - --------------------------------------------------------------------------------------------- Business credit card interchange income $16,349 $ 8,909 $44,348 $23,273 Leasing other revenues 2,294 3,862 9,158 12,613 Investment securities gains, net 556 2,109 10,422 29,781 Insurance revenues, net and other 1,244 3,770 11,607 10,603 - --------------------------------------------------------------------------------------------- Total other revenues, net $20,443 $18,650 $75,535 $76,270 =============================================================================================
Business credit card interchange income increased by $7.4 million for the three months ended September 30, 2000 and $21.1 million for the nine months ended September 30, 2000, as compared to the same periods of 1999. The increase in both periods was due to higher purchase volume related to the increase in average managed business credit card accounts and receivables. Investment securities gains, net, include changes in the fair value and realized gains on venture capital investments. Investment securities gains for the nine months ended September 30, 2000 include a $9.4 million gain on the sale of an investment. Included in investment securities gains in the nine months ended September 30, 1999, is an $18 million gain on an investment in a company that was merged with another entity in exchange for that entity's stock in the first quarter of 1999. The stock received had a value significantly higher than our basis in its investment. In the second quarter of 1999, we sold the majority of this stock, realizing an additional gain of approximately $10 million. Insurance revenues, net and other in the three months ended September 30, 2000 includes a charge of approximately $3 million in the insurance business relating to a large policy claim settled during the quarter. We have been notified by Progressive Casualty Insurance Company that it does not intend to renew the strategic alliance with Advanta Insurance when the original five year term for the alliance expires next year. The agreement governing the relationship between Advanta Insurance and Progressive requires that upon termination, we transfer our interest in the assets and liabilities of the strategic alliance to Progressive, and that Progressive make certain payments to us, subject to certain adjustments. 31 32 OPERATING EXPENSES
($ in thousands) THREE MONTHS ENDED NINE MONTHS ENDED SEPTEMBER 30, SEPTEMBER 30, - --------------------------------------------------------------------------------------------------------- 2000 1999 2000 1999 - --------------------------------------------------------------------------------------------------------- Salaries and employee benefits $ 30,125 $ 32,128 $ 90,629 $ 95,064 Marketing expense 23,258 11,644 66,908 39,785 Amortization of business credit card deferred origination costs, net 6,720 1,208 16,279 3,564 Equipment expense 6,336 5,253 18,286 15,767 Professional fees 5,403 6,503 15,818 19,419 External processing expense 5,182 4,112 15,047 11,001 Occupancy expense 4,370 4,132 12,942 12,297 Credit and collection expense 3,859 5,697 13,444 14,606 Telephone expense 3,324 2,743 9,646 8,279 Postage expense 1,682 1,556 4,920 4,551 Credit card fraud losses 565 191 1,258 625 Other 7,103 7,535 21,228 26,356 - --------------------------------------------------------------------------------------------------------- Total operating expenses $ 97,927 $ 82,702 $286,405 $251,314 ========================================================================================================= At quarter end: Number of accounts managed (in 000's) 884 621 N/A N/A Number of employees 2,763 2,574 N/A N/A For the quarter: Efficiency ratio 65.52% 62.01% 62.75% 66.80% Operating expenses as a percentage of average managed receivables (1) 3.44% 3.24% 3.42% 3.32% - ---------------------------------------------------------------------------------------------------------
(1) Excludes amortization of business credit card deferred origination costs, net. Operating expenses as a percentage of average managed receivables for the three months and nine months ended September 30, 2000 were higher than the same periods of 1999. The increase in the operating expense ratios are due to the costs related to maintenance of an infrastructure at a level that is commensurate with our prior mortgage origination volumes, although volumes have decreased as a result of the implementation of processes required by the regulatory agreements. Marketing expense increased by $11.6 million for the three months ended September 30, 2000 as compared to the same period of 1999, and increased by $27.1 million for the nine months ended September 30, 2000 as compared to the same period of 1999. These increases are primarily due to increased marketing and account origination activities in Advanta Business Cards. In the three months ended September 30, 2000, there was a $5.5 million increase in the amortization of business credit card deferred origination costs, net, and a $1.1 million increase in external processing expense compared to the same period of 1999. In the nine months ended September 30, 2000 there was a $12.7 million increase in the amortization of business credit card deferred origination costs, net, and a $4.0 million increase in external processing expense compared to the same period of 1999. These increases in deferred origination cost amortization and external processing expenses are due to the growth in managed business credit card receivables. For the three months ended September 30, 2000 there was a $1.1 million decrease in professional fees, as compared to the same period of 1999. In the nine months ended September 30, 2000 there was a $3.6 million decrease in professional fees, as compared to the same period of 1999. These decreases were due to a decrease in consulting and outsourcing costs, including consulting costs associated with the year 2000 computer issue. 32 33 PROVISION FOR CREDIT LOSSES For the three months ended September 30, 2000, the provision for credit losses of $21.0 million represented an increase of $10.5 million from the provision for credit losses of $10.5 million in the same period of 1999. The increase was due to an $11.3 million increase in the provision for credit losses relating to business credit cards, a $4.1 million decrease in the provision related to Advanta Mortgage loans, and a $3.3 million increase in the provision related to lease receivables. Approximately $6 to $8 million of the increase in the business credit card provision strengthened on-balance sheet reserves and is attributable to a revision of the methodology for estimating credit losses as a result of our recent discussions with the FDIC relating to the implementation of the agreement between Advanta Bank Corp. and the FDIC that was previously disclosed in June 2000, and the remainder of the increase is due to the maturing and growth of the portfolio. The decrease in the provision for credit losses related to Advanta Mortgage loans was due a decrease in on-balance sheet Advanta Mortgage loans of $750 million in the three months ended September 30, 2000. The increase in the provision for credit losses related to lease receivables was due to higher credit loss experience associated with certain unprofitable segments of broker originations from prior periods. For the nine months ended September 30, 2000, the provision for credit losses increased to $59.9 million from $28.0 million for the same period in 1999. The increase in the provision in the nine months ended September 30, 2000 was $31.9 million, of which $14.4 million related to provisions for credit losses on Advanta Mortgage loans, $17.7 million related to provisions for credit losses on business credit cards, and $4.4 million related to provisions for credit losses on lease receivables. The provision for credit losses for the nine months ended September 30, 1999 also included a $4.6 million provision related to our exit from the auto finance business. The increase in the provision relating to Advanta Mortgage loans represents an increase in the credit loss assumption made in response to our regulatory examination process including the implementation of the agreements with the bank regulators that were signed during the second quarter and in July 2000, and changes during the second quarter in the market and the political and regulatory environment for subprime lending. In addition to the increase discussed above for the three month period ended September 30, 2000, the increase in Advanta Business Cards' provision for the nine months ended September 30, 2000 relates to a $203 million increase in average on-balance sheet business credit card receivables. ASSET QUALITY Nonperforming assets include: Advanta Mortgage loans, business credit cards and leases past due 90 days or more; real estate owned; and bankrupt, decedent and fraudulent business credit cards. The carrying value for real estate owned is based on fair value, net of estimated costs of disposition, and is reflected in other assets. We charge losses on nonperforming Advanta Mortgage loans against the allowance generally at the earlier of foreclosure or when they have become 180 days delinquent. This policy was implemented in the three months ended June 30, 2000. The previous policy was the earlier of foreclosure or 12 months delinquent. Losses on lease receivables are generally charged against the allowance when 121 days contractually delinquent. During the three months ended June 30, 2000 the timing of the delinquency measurement of lease receivables was changed from mid-month to month end. See the following tables for charge-off rates using the new and prior methodologies for both mortgage loans and leases. Our charge-off policy, as it relates to business credit card accounts, is to charge-off an unpaid receivable at 180 days contractually delinquent. Business credit card accounts suspected of being fraudulent are charged-off after a 90-day investigative period, unless our investigation shows no evidence of fraud. Bankrupt business credit card accounts are currently charged off within a 90-day investigative period after receipt of notification. However, this policy for bankrupt accounts will be changed to within 60 days of notification in the fourth quarter of 2000 in accordance with FFIEC 33 34 guidelines. This change in policy is not expected to have an impact on net income for the fourth quarter, since our current policy is to provide an allowance for credit losses for bankrupt accounts when we receive notification of bankruptcy. We had lower mortgage originations during the three and nine months ended September 30, 2000 in comparison with the same periods of the prior year due to the implementation of the regulatory agreements, as well as our focus on profitable loan growth over volume. These factors have resulted in a significant reduction in the rate of portfolio growth relative to prior periods. The decline in the growth rate has reduced the proportion of new, unseasoned loans in the portfolio. This "seasoning" effect results in higher reported delinquencies and charge-offs consistent with an aging portfolio. The increase in reported delinquency and charge-off rates for mortgage loans is partially attributable to seasoning of the mortgage loan portfolio. In addition, the increase in delinquencies was impacted by temporary operational considerations and a general increase in delinquencies experienced across the mortgage lending industry. Delinquency and charge-off rates on business credit cards continued to perform in line with our expectations. After increasing the allowance for credit losses in the three months ended September 30, 2000, reserves as a percentage of owned receivables increased to 6.7% at September 30, 2000 as compared to 5.3% at December 31, 1999. Based on the average owned net charge-offs for the quarter, the on-balance sheet allowance for credit losses represents 16 months of charge-off coverage at September 30, 2000. Managed charge-offs for the three months ended September 30, 2000 were 4.8% as compared to 5.3% for the same period of the prior year. As the accounts that we added during the second half of 1999 mature, we anticipate that charge-offs on business credit cards will increase, but remain within our current reserve level. The charge-off rate for the fourth quarter of 2000 will be higher in part due to the implementation of a new charge-off policy for bankrupt accounts discussed above. Charge-off rates on leases have increased in the nine months ended September 30, 2000 as compared to the same period in the prior year. This increase is due to the performance of certain unprofitable segments of broker originations from prior periods. We expect the impact of this segment of the lease portfolio to moderate by the end of the year. The following tables provide a summary of nonperforming assets, delinquencies and charge-offs, under the new and prior methodologies where applicable, as of and for the year-to-date periods indicated ($ in thousands). 34 35
SEPT. 30, DEC. 31, SEPT. 30, CONSOLIDATED - MANAGED 2000 1999 1999 - ---------------------------------------------------------------------------------------------------------------------- Nonperforming assets $ 495,379 $ 511,301 $ 497,859 Total loans 30 days or more delinquent 875,528 838,563 767,406 As a percentage of gross receivables: Nonperforming assets New methodology (A) 4.7% Prior methodology 5.0 5.0% 4.9% Total loans 30 days or more delinquent New methodology (A) 8.3 Prior methodology 8.6 8.2 7.6 Net charge-offs: Amount $ 195,483 $ 155,452 $ 109,951 As a percentage of average gross receivables (annualized) New methodology (A) 2.5% Prior methodology 2.0 1.6% 1.5% ADVANTA MORTGAGE LOANS - MANAGED Nonperforming assets $ 450,337 $ 475,711 $ 465,115 Total loans 30 days or more delinquent 745,903 729,187 669,954 As a percentage of gross receivables: Nonperforming assets New methodology (A) 5.5% Prior methodology 5.9 5.7% 5.6% Total loans 30 days or more delinquent New methodology (A) 9.1 Prior methodology 9.5 8.7 8.0 Net charge-offs - Closed end mortgage loans: Amount $ 94,144 $ 60,351 $ 40,104 As a percentage of average gross receivables (annualized) New methodology (A) 1.7% Prior methodology 1.2 0.8% 0.7% Net charge-offs -Open end mortgage loans: Amount $ 20,941 $ 3,952 $ 1,836 As a percentage of average gross receivables (annualized) New methodology (A) 2.6% Prior methodology 2.1 0.7% 0.5% Net charge-offs - Auto Loans: Amount $ 4,719 $ 18,855 $ 15,757 As a percentage of average gross receivables (annualized) 9.6% 13.9% 14.0% BUSINESS CREDIT CARDS - MANAGED Nonperforming assets $ 35,355 $ 23,498 $ 21,178 Total loans 30 days or more delinquent 66,036 38,437 31,829 As a percentage of gross receivables: Nonperforming assets 2.3% 2.3% 2.3% Total loans 30 days or more delinquent 4.3 3.7 3.4 Net charge-offs - Business Credit Cards: Amount $ 42,834 $ 44,309 $ 34,725 As a percentage of average gross receivables (annualized) 4.4% 5.0% 5.4% LEASES - MANAGED Nonperforming assets $ 9,126 $ 11,472 $ 11,109 Total loans 30 days or more delinquent 62,574 69,695 64,780 As a percentage of gross receivables: Nonperforming assets New methodology (A) 1.2% Prior methodology 1.5 1.4% 1.4% Total loans 30 days or more delinquent New methodology (A) 7.9 Prior methodology 8.2 8.8 8.3 Net charge-offs - Leases: Amount $ 32,845 $ 25,586 $ 17,501 As a percentage of average gross receivables (annualized) New methodology (A) 5.4% Prior methodology 5.0 3.6% 3.3%
(A) Beginning in the second quarter of 2000, charge-off and delinquency statistics reflect the adoption of new charge-off policies for mortgage loans and leases. Under the new policy, mortgage loans are generally charged-off at the earlier of foreclosure or 180 days delinquent. The previous policy was the earlier of foreclosure or 12 months delinquent. Leases are generally charged-off at 121 days delinquent, however, under the new policy, the timing of the delinquency measurement was changed from mid-month to month end in the second quarter of 2000. Cumulative catch-up adjustments included in second quarter charge-off amounts are not annualized when calculating the annualized charge-off rates under the new methodologies. 35 36
SEPT. 30, DEC. 31, SEPT. 30, CONSOLIDATED - OWNED 2000 1999 1999 - -------------------------------------------------------------------------------------------------------------------- Allowance for credit losses $ 64,624 $ 41,847 $ 35,328 Nonperforming assets 49,830 45,620 51,158 Total loans 30 days or more delinquent 74,750 62,850 62,618 As a percentage of gross receivables: Allowance for credit losses 7.0% 2.8% 3.7% Nonperforming assets New methodology (A) 5.4 Prior methodology 6.2 3.1 5.3 Total loans 30 days or more delinquent New methodology (A) 8.1 Prior methodology 8.9 4.3 6.5 Net charge-offs: Amount $ 29,351 $ 27,547 $ 19,426 As a percentage of average gross receivables (annualized) New methodology (A) 2.7% Prior methodology 2.0 2.4% 2.3% ADVANTA MORTGAGE LOANS - OWNED Allowance for credit losses $ 25,073 $ 21,743 $ 16,480 Nonperforming assets 37,713 36,709 42,355 Total loans 30 days or more delinquent 47,996 45,263 45,527 As a percentage of gross receivables: Allowance for credit losses 7.6% 2.1% 2.6% Nonperforming assets New methodology (A) 11.4 Prior methodology 13.3 3.5 6.8 Total loans 30 days or more delinquent New methodology (A) 14.5 Prior methodology 16.4 4.3 7.3 Net charge-offs - Closed end mortgage loans: Amount $ 11,234 $ 7,887 $ 5,840 As a percentage of average gross receivables (annualized) New methodology (A) 1.9% Prior methodology 1.0 1.2% 1.2% Net charge-offs - Open end mortgage loans: Amount $ 1,419 $ 502 $ 183 As a percentage of average gross receivables (annualized) New methodology (A) 1.3% Prior methodology .3 .4% .2% Net charge-offs (recoveries) - Auto Loans: Amount $ (204) $ 3,732 $ 3,777 As a percentage of average gross receivables (annualized) (4.7%) 25.6% 26.7% BUSINESS CREDIT CARDS - OWNED Allowance for credit losses $ 31,164 $ 14,663 $ 10,784 Nonperforming assets 10,922 6,408 5,906 Total loans 30 days or more delinquent 20,722 10,347 7,792 As a percentage of gross receivables: Allowance for credit losses 6.7% 5.3% 5.6% Nonperforming assets 2.4 2.3 3.1 Total loans 30 days or more delinquent 4.5 3.8 4.1 Net charge-offs - Business Credit Cards: Amount $ 12,974 $ 10,103 $ 7,874 As a percentage of average gross receivables (annualized) 4.2% 4.8% 5.1% LEASES - OWNED Allowance for credit losses $ 6,056 $ 3,110 $ 3,368 Nonperforming assets 634 1,883 2,440 Total loans 30 days or more delinquent 5,017 5,996 8,456 As a percentage of gross receivables: Allowance for credit losses 6.0% 2.3% 2.6% Nonperforming assets New methodology (A) .6 Prior methodology 1.2 1.4 1.9 Total loans 30 days or more delinquent New methodology(A) 5.0 Prior methodology 5.6 4.5 6.6 Net charge-offs - Leases: Amount $ 3,928 $ 2,926 $ 1,721 As a percentage of average gross receivables (annualized) New methodology (A) 4.8% Prior methodology 4.1 2.7% 2.1%
36 37 UNUSUAL CHARGES Employee costs associated with staff reductions In the first quarter of 1999, we recorded a $3.3 million charge for costs associated with staff reductions. These expenses included severance and outplacement costs associated with cost reduction initiatives and the consolidation of support functions. There were 121 employees severed who were entitled to benefits. This staff reduction was substantially complete by June 30, 1999. The final payment outstanding related to these severance costs was paid in the three months ended March 31, 2000. Employee costs associated with Consumer Credit Card Transaction/Tender Offer In 1998, we accelerated vesting of 43.15% of outstanding options that were not vested at the time of the closing of the Consumer Credit Card Transaction. In connection with the Tender Offer (see Note 15 to the Consolidated Financial Statements), present and former directors and employees who held exercisable options to purchase Class A and Class B Common Stock tendered these options in lieu of first exercising the options and tendering the underlying stock. We used approximately $850 million, before taking into account the exercise price of options, to repurchase the shares in the Tender Offer. In addition, we also amended the terms of options granted to employees who became employees of Fleet LLC or whose employment with us was otherwise terminated in connection with the Consumer Credit Card Transaction (the "Affected Employees") to extend the post-employment exercise period. Although there was a charge to earnings associated with this amendment, there was no net impact to capital as a result of this amendment. We also canceled options issued to certain members of the Board of Directors and replaced the canceled options with stock appreciation rights. In March 1997, the Compensation Committee of the Board of Directors approved the Advanta Senior Management Change of Control Severance Plan which provides benefits to senior management employees in the event of a change of control of Advanta if, within one year of the date of a change of control, there has been either an actual or constructive termination of the senior management employee. In February 1998, pursuant to our agreement with Fleet, the Compensation Committee approved an amendment to the management severance plan that allows the Office of the Chairman, in its sole discretion, to extend the level of benefits that would otherwise be allowed in the event of a change of control to Affected Employees. The Board of Directors also authorized the Chairman of the Board, in his sole discretion, to pay bonuses to certain key employees in recognition of their efforts on behalf of Advanta in the consumer credit card business strategic alternatives process. In accordance with our agreement with Fleet, Fleet LLC agreed to assume Advanta's management severance plan and 50% of the bonus payments with respect to those Affected Employees who became employees of Fleet LLC in connection with the Consumer Credit Card Transaction. In May 1997, the Board of Directors adopted the Office of the Chairman Supplemental Compensation Program which entitled the members of the Office of the Chairman to receive benefits in the event of a change of control or other similar transaction. In October 1997, we announced that the Chief Executive Officer of Advanta Corp. and the Chief Executive Officer of the consumer credit card business unit were leaving Advanta in connection with the Consumer Credit Card Transaction. These benefits were all contingent upon the consummation of the Consumer Credit Card Transaction and were recognized upon the closing of the transaction. 37 38 In connection with our evaluation of consumer credit card business strategic alternatives and the Consumer Credit Card Transaction, we adopted special retention programs. Under these programs, certain employees were entitled to receive special payments based on their targeted bonuses and contingent upon their continued employment with Advanta or a successor entity. The first payments under the special retention programs were made in March 1998. Further, in March 1998, we identified employees that would be terminated in connection with the Consumer Credit Card Transaction as part of the corporate restructuring to reduce corporate expenses. During the first quarter of 1998, the Board of Directors approved the corporate restructuring and affected employees were informed of the termination benefits they would receive. Substantially all of these employees ceased employment with Advanta before April 30, 1998. We recorded a $62.3 million pretax charge to earnings in connection with the foregoing plans, plan amendments and workforce reduction activities in 1998. The final payment outstanding related to these employee costs was paid in the three months ended March 31, 2000. Expense Associated with Exited Businesses/Products In the first quarter of 1999, we implemented a plan to cease the origination of auto loans and recorded a $3.4 million charge for costs associated with exited businesses/products. The charges included severance and outplacement costs for 22 employees in the auto origination group, and professional fees associated with exited businesses/products not directly associated with our mortgage, business credit card and leasing units. We completed the closing of the auto loan origination center and termination of related employees during the second quarter of 1999. We expect to pay a substantial portion of the remaining costs during the year ended December 31, 2000. In connection with our efforts to reduce expenses associated with business and product offerings which are not directly associated with our mortgage, business credit card and leasing units, management approved exit and disposition plans during the first quarter of 1998 related to certain businesses and products previously offered. We recorded charges in the quarter ended March 31, 1998 related to costs to be incurred by us in executing these plans, including contractual obligations to customers for which no future revenue will be received, and contractual vendor obligations for services from which no future benefit will be derived. The charges also include termination benefits to employees associated with the businesses and products identified in the exit plan. Related to the exit plan, certain assets were identified for disposal and written down to estimated realizable value. In addition, we recognized investment banking, professional and consulting fees that were contingent upon completion of the Consumer Credit Card Transaction as well as other professional and consulting fees associated with our corporate restructuring. During the quarter ended March 31, 1998, we recorded a $54.1 million pretax charge to earnings in connection with these exit plans. In 1999, an additional charge of $10.0 million was recorded associated with exited products based on a change in the estimate of total expected costs. We expect to pay a substantial portion of these costs over the next 27 months. The actions required to complete these plans include the settlement of contractual commitments and the payment of customer benefits. 38 39 INCOME TAXES As a result of the carrying value adjustments in the three months ended June 30, 2000, described in Note 2 to the Consolidated Financial Statements, we reported a pretax loss for the nine months ended September 30, 2000. A valuation allowance has been provided against the resulting deferred tax asset given our pre-existing net operating loss carryforwards and the uncertainty of the realizability of the incremental deferred tax asset. In establishing the valuation allowance, management considered (1) the level of expected future taxable income, (2) existing and projected book/tax differences, (3) tax planning strategies available, and (4) the general and industry specific economic outlook. Based on this analysis, management believes the net deferred tax asset as of September 30, 2000 will be realized. NEW ACCOUNTING PRONOUNCEMENTS In June 1998, the Financial Accounting Standards Board ("FASB") issued SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities." SFAS No. 133 establishes accounting and reporting standards requiring that every derivative instrument (including certain derivative instruments embedded in other contracts) be recorded in the balance sheet as either an asset or liability measured at its fair value. SFAS No. 133 requires that changes in the derivative's fair value be recognized currently in earnings unless specific hedge accounting criteria are met. SFAS No. 133, as amended by SFAS No. 137 and SFAS No. 138, cannot be applied retroactively and will be adopted as required January 1, 2001. We anticipate that the adoption of SFAS No. 133 will not have a material effect on the results of operations; however, we continue to monitor potential changes and implementation guidance to this new accounting standard. In September 2000, the FASB issued SFAS No. 140, "Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities- a Replacement of FASB Statement No. 125." SFAS No. 140 revises the standards for accounting for securitizations and other transfers of financial assets and collateral and requires certain disclosures, but it carries over most of SFAS No. 125's provisions without amendment. SFAS No. 140 is effective for transfers and servicing of financial assets and extinguishments of liabilities occurring after March 31, 2001. The statement is effective for recognition and reclassification of collateral and for disclosures relating to securitization transactions and collateral for fiscal years ending after December 15, 2000. We anticipate that the adoption of SFAS No. 140 will not have a material effect on our results of operations. ASSET/LIABILITY MANAGEMENT We manage our financial condition with a focus on maintaining disciplined management of market risks and prudent levels of leverage and liquidity. MARKET RISK SENSITIVITY We measure our interest rate risk using a rising rate scenario and a declining rate scenario. Net interest income is estimated using a third party software model that uses standard income modeling techniques. We estimate that at September 30, 2000, our net interest income over a twelve-month period would increase or decrease by approximately 1% if interest rates were to rise or fall by 200 basis points. Both increasing and decreasing rate scenarios assume an instantaneous shift in rates and measure the corresponding change in expected net interest income over one year. The above estimates of net interest income sensitivity alone do not provide a comprehensive view of our exposure to interest rate risk. The quantitative risk information is limited by the parameters and assumptions utilized in generating the results. These analyses are useful only when viewed within the context of the parameters and assumptions used. The above rate scenarios in no way reflect management's expectation regarding the future direction of interest rates, and they depict only two possibilities out of a large set of possible scenarios. In addition to interest rate risk, we are subject to prepayment risk related to other financial instruments, namely servicing rights and retained interest-only strips. Prepayments are principal payments received in excess of scheduled 39 40 principal payments. Prepayments generally result from entire loan payoffs due largely to refinancing a loan or selling a home. Actual or anticipated prepayment rates are expressed in terms of a constant prepayment rate, which represents the annual percentage of beginning loan balances that prepay. To a degree, prepayment rates are related to market interest rates and changes in those interest rates. The relationship between them, however, is not precisely determinable. Accordingly, we believe it is more relevant to disclose the fair value sensitivity of these instruments based on changes in prepayment rate assumptions rather than based on changes in interest rates. Our servicing rights and interest-only strips are derived from both fixed and variable rate loans, the majority of which are fixed. Fixed and variable rate loans are currently prepaying at different rates, which is expected to continue in the future. We have estimated the impact on the fair value of these assets assuming a 2.0% change in constant prepayment rate for fixed rate loans and a 3.1% change in constant prepayment rate for variable rate loans. We have estimated that these changes in prepayment assumptions could result in a $24 million change in the combined fair value of these assets as of September 30, 2000. These estimates do not factor in the impact of changes in the interest rate environment associated with the changes in the prepayment rates. Changes in interest rates generally affect the level of loan originations. The estimates also assume credit losses are held constant. Prepayment assumptions are not the only assumptions in the fair value calculation for these assets. Other key assumptions are not directly impacted by market forces, as defined earlier. The above prepayment scenarios do not reflect management's expectation regarding the future direction of prepayments, and they depict only two possibilities out of a large set of possible scenarios. DERIVATIVES ACTIVITIES The following table summarizes by notional amounts our derivative instruments as of September 30, 2000 and December 31, 1999 ($ in thousands):
ESTIMATED FAIR VALUE SEPTEMBER 30, SEPTEMBER 30, DECEMBER 31, 2000 ASSET/ 2000 1999 (LIABILITY) - ------------------------------------------------------------------------------------ Interest rate swaps $2,345,977 $2,975,086 $ 14,813 Interest rate caps written 344,367 409,278 (1,381) Interest rate caps purchased 344,367 409,278 1,381 Put options purchased 161,000 156,000 181 Forward contracts 276,000 565,000 (836) - ------------------------------------------------------------------------------------ Total $3,471,711 $4,514,642 $ 14,158 ====================================================================================
The notional amounts of derivatives do not represent amounts exchanged by the counterparties and, thus, are not a measure of our exposure through our use of derivatives. The amounts exchanged are determined by reference to the notional amounts and the other terms of the derivative contracts. The fair value of interest rate swaps, options and forward contracts is the estimated amount that we would pay or receive to terminate the agreement at the reporting date, taking into account current interest rates and the current creditworthiness of the counterparty. 40 41 Our credit exposure to derivatives, with the exception of caps written, is represented by contracts with a positive fair value without giving consideration to the value of any collateral exchanged. For caps written, credit exposure does not exist since the counterparty has performed its obligation to pay us a premium payment. LIQUIDITY AND CAPITAL RESOURCES Our goal is to maintain an adequate level of liquidity, for both long-term and short-term needs, through active management of both assets and liabilities. During the nine months ended September 30, 2000, we securitized or sold approximately $2.0 billion of Advanta Mortgage loans, $293 million of business credit cards and $304 million of leases. We temporarily invested cash generated from these transactions in short-term, high quality investments at money market rates pending redeployment to pay down borrowings and to fund future mortgage loan, business credit card and lease receivable growth. At September 30, 2000, we had $107 million of federal funds sold, $581 million of loan and lease receivables held for sale, and $657 million of investments that could be sold to generate additional liquidity. Equity, including capital securities, was $533 million at September 30, 2000. Our funding strategy relies on cash, cash equivalents and investments as well as deposit gathering activity at Advanta National Bank and Advanta Bank Corp. (together, the "banks"), unsecured debt of Advanta Corp., and securitizations. We use both retail and institutional on-balance sheet funding sources. During the three months ended September 30, 2000, we completed our first public business credit card securitization, adding to our funding diversification. We have the ability to issue a variety of debt securities and, through the banks, deposit products. Our regulatory agreements established temporary deposit growth limits at Advanta Bank Corp. and imposed restrictions on taking brokered deposits at Advanta National Bank. As of September 30, 2000, Advanta National Bank's total deposits were $929 million and Advanta Bank Corp.'s total deposits were $601 million. After paying down $172 million in medium term notes in the nine months ended September 30, 2000, we had approximately $220 million of unrestricted cash, cash equivalents and marketable securities at the parent company level at September 30, 2000. At September 30, 2000, the parent company's assets include advances to wholly-owned non-bank subsidiaries to fund $80 million in loans, $213 million in retained interest-only strips, subordinated trust assets and contractual mortgage servicing rights, and $49 million of equity securities accounted for at fair value. At September 30, 2000, we had a $500 million committed warehouse financing facility for mortgage loans. At September 30, 2000, we had additional uncommitted warehouse financing facilities for mortgage loans of $550 million. At September 30, 2000, we had $280 million of committed commercial paper facilities for business credit card receivables and a $200 million uncommitted repurchase agreement facility for business credit card receivables. At September 30, 2000, we had a $360 million committed commercial paper facility for lease contracts and lease residuals. At September 30, 2000, we had available $1.1 billion in unused warehouse financing facilities and commercial paper conduit facilities. We also offer unsecured debt of Advanta Corp. to retail investors through the Advanta Retail Note Program. In addition, notwithstanding our current liquidity, efforts continue to develop new sources of funding, both through previously untapped customer segments and through development of new financing structures. 41 42 At September 30, 2000, Advanta National Bank's combined total capital ratio (combined Tier I and Tier II capital) was 15.41% and Advanta Bank Corp.'s combined total capital ratio was 12.64%. At December 31, 1999, Advanta National Bank's combined total capital ratio (combined Tier I and Tier II capital) was 14.86%, and Advanta Bank Corp.'s combined total capital ratio was 13.28%. In each case, Advanta National Bank and Advanta Bank Corp. had capital at levels a bank is required to maintain to be classified as "well-capitalized" under the regulatory framework for prompt corrective action. However, Advanta National Bank does not meet the definition of "well-capitalized" because of the existence of the agreement with the Office of the Comptroller of the Currency. Our regulatory agreement with the Office of the Comptroller of the Currency required that Advanta National Bank achieve by September 30, 2000 and thereafter maintain a ratio of 14% of Tier 1 capital to risk-weighted assets and a ratio of 17% of Tier 1 capital to adjusted total assets. We achieved these ratios, as defined within the agreement, through a combination of decreasing the assets at Advanta National Bank and making aggregate capital contributions and other investments in Advanta National Bank of approximately $70 million. Recently, an FDIC discussion draft proposal has been made public regarding capital requirements for subprime lenders. Under the proposal, regulatory capital required to be held for certain loan classes included in the institution's portfolio could be increased. In a separate draft proposal issued jointly by the regulatory agencies, dated August 7, 2000, capital requirements associated with certain residual interests would be amended to require capital equal to the residual retained, regardless of recourse levels. Further, the proposal requires residuals in excess of 25% of Tier 1 capital to be treated as a deduction of Tier 1 capital for purposes of risk based and leverage capital calculations. The ultimate resolution of these proposals and their impact on financial results is uncertain at this time. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK. The information required by this item is set forth in "Item 2-Management's Discussion and Analysis of Financial Condition and Results of Operations" in this Report on Form 10-Q. See "Asset/Liability Management-Market Risk Sensitivity." 42 43 PART II - OTHER INFORMATION ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K. (a) Exhibits - The following exhibits are being filed with this report on Form 10-Q. EXHIBIT NUMBER DESCRIPTION OF DOCUMENT ------ ----------------------- 12 Consolidated Computation of Ratio of Earnings to Fixed Charges. 27 Financial Data Schedule. (b) Reports on Form 8-K (b)(1) A Current Report on Form 8-K, dated July 24, 2000, was filed by Advanta delaying its previously scheduled July 25th conference call with analysts and investors until August 2, 2000, due to ongoing discussions with bank regulators regarding adjustments to the valuation of residual assets and allowance for credit losses for the mortgage business. (b)(2) A Current Report on Form 8-K, dated July 31, 2000, was filed announcing that Advanta's bank subsidiary, Advanta National Bank, had concluded discussions and signed an agreement with the Office of the Comptroller of the Currency regarding the carrying value of Advanta National Bank's retained interests in mortgage securitizations and allowance for credit losses. (b)(3) A Current Report on Form 8-K, dated August 2, 2000, was filed by Advanta setting forth the financial highlights of Advanta's results of operations for the three months ended June 30, 2000. 43 44 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. Advanta Corp. (Registrant) November 14, 2000 By /s/Philip M. Browne ------------------- Senior Vice President and Chief Financial Officer November 14, 2000 By /s/James L. Shreero ------------------- Vice President and Chief Accounting Officer 44 45 EXHIBIT INDEX EXHIBIT DESCRIPTION - ------- ----------- Exhibit 12 Consolidated Computation of Ratio of Earnings to Fixed Charges Exhibit 27 Financial Data Schedule 45 EX-12 2 w42469ex12.txt CONSOLIDATED COMPUTATION OF EARNINGS 1 EXHIBIT 12 ADVANTA CORP. AND SUBSIDIARIES CONSOLIDATED COMPUTATION OF RATIO OF EARNINGS TO FIXED CHARGES (A) (DOLLARS IN THOUSANDS)
THREE MONTHS ENDED NINE MONTHS ENDED SEPTEMBER 30, SEPTEMBER 30, - --------------------------------------------------------------------------------------------------- 2000 1999 2000 1999 - --------------------------------------------------------------------------------------------------- Net earnings (loss) $ 15,744 $ 14,178 $(159,882) $ 33,263 Federal and state income tax expense 0 9,256 0 21,564 Earnings (loss) before income tax expense (benefit) 15,744 23,434 (159,882) 54,827 Fixed charges: Interest 52,005 41,935 151,490 128,529 One-third of all rentals 712 771 2,233 2,364 Preferred stock dividend of subsidiary trust 2,248 2,248 6,743 6,743 Total fixed charges 54,965 44,954 160,466 137,636 Earnings (loss) before income taxes (benefits) and fixed charges 70,709 68,388 584 192,463 Ratio of earnings to fixed charges 1.29x 1.52x N/M (B) 1.40x
(A) For purposes of computing these ratios, "earnings" represent income before income taxes plus fixed charges. "Fixed charges" consist of interest expense, one-third (the proportion deemed representative of the interest factor) of rental expense on operating leases, and preferred stock dividends of subsidiary trust. (B) The ratio calculated based on the loss in the nine months ended September 30, 2000 is zero and therefore not meaningful. In order to achieve a ratio of 1.00, earnings before income taxes and fixed charges would need to increase by $159,882 for the nine months ended September 30, 2000. EX-27 3 w42469ex27.txt FINANCIAL DATA SCHEDULE
9 1,000 9-MOS DEC-31-2000 SEP-30-2000 77,067 42,556 107,046 0 800,567 0 0 937,661 64,624 3,119,306 1,530,285 601,498 290,322 164,432 0 1,010 277 431,482 3,119,306 141,295 50,455 57,457 249,207 95,628 151,490 97,717 59,858 10,422 293,065 (159,882) (159,882) 0 0 (159,882) (6.38) (6.38) 4.53 49,830 0 0 0 41,847 35,118 5,767 64,624 64,624 0 0
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