10-K 1 w58410e10-k.txt 10-K DECEMBER 31 2001 -------------------------------------------------------------------------------- -------------------------------------------------------------------------------- SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 ------------------------ FORM 10-K (MARK ONE) [X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE FISCAL YEAR ENDED DECEMBER 31, 2001 OR TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 FOR THE TRANSITION PERIOD FROM TO COMMISSION FILE NO. 0-14120 ADVANTA CORP. (EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER) DELAWARE 23-1462070 (STATE OR OTHER JURISDICTION OF ORGANIZATION) (I.R.S. EMPLOYER IDENTIFICATION NO.) WELSH & MCKEAN ROADS, P. O. BOX 844, SPRING HOUSE, PENNSYLVANIA 19477 (ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (ZIP CODE)
REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (215) 657-4000 SECURITIES REGISTERED PURSUANT TO SECTION 12(b) OF THE ACT:
TITLE OF EACH CLASS NAME OF EACH EXCHANGE ON WHICH REGISTERED ------------------- ----------------------------------------- NONE N/A
SECURITIES REGISTERED PURSUANT TO SECTION 12(g) OF THE ACT: CLASS A COMMON STOCK, $.01 PAR VALUE CLASS B COMMON STOCK, $.01 PAR VALUE CLASS A RIGHT CLASS B RIGHT (TITLE OF EACH CLASS) Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes [X] No [ ] Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of registrant's knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K Yes [ ]. State the aggregate market value of the voting and nonvoting common equity held by non-affiliates of the registrant. The aggregate market value shall be computed by reference to the price at which the stock was sold, or the average bid and asked prices of such stock, as of a specified date within 60 days prior to the date of filing. (See definition of affiliate in Rule 405.) $264,825,636 as of March 11, 2002 which amount excludes the value of all shares beneficially owned (as defined in Rule 13d-3 under the Securities Exchange Act of 1934) by officers and directors of the Company (however, this does not constitute a representation or acknowledgment that any of such individuals is an affiliate of the Registrant). (APPLICABLE ONLY TO CORPORATE REGISTRANTS) Indicate the number of shares outstanding of each of the registrant's classes of common stock, as of the latest practicable date. As of March 11, 2002 there were 10,041,017 shares of the Registrant's Class A Common Stock, $.01 par value, outstanding and 18,730,170 shares of the Registrant's Class B Common Stock, $.01 par value, outstanding. DOCUMENTS INCORPORATED BY REFERENCE List hereunder the following documents if incorporated by reference and the Part of the Form 10-K (e.g., Part I, Part II, etc.) into which the document is incorporated: (1) Any annual report to security holders; (2) Any proxy or information statement; and (3) Any prospectus filed pursuant to Rule 424(b) or (e) under the Securities Act of 1933. The listed documents should be clearly described for identification purposes (e.g., annual report to security holders for fiscal year ended December 24, 1980).
DOCUMENT FORM 10-K REFERENCE -------- ------------------- Definitive Proxy Statement relating to the Registrant's 2002 Part III, Items 10-13 Annual Meeting of Stockholders, to be filed pursuant to Regulation 14A not later than 120 days following the end of the Registrant's last fiscal year
-------------------------------------------------------------------------------- -------------------------------------------------------------------------------- PART I ITEM 1. BUSINESS In this Form 10-K, "Advanta", "we", "us", "our" and the "Company" refer to Advanta Corp. and its subsidiaries, unless the context otherwise requires. OVERVIEW Advanta is a highly focused financial services company. We have been providing innovative financial products and solutions since 1951. Currently, our lending business consists of Advanta Business Cards, one of the nation's largest issuers of MasterCard(R)* business credit cards to small businesses. In addition to Advanta Business Cards, we have venture capital investments. We own two depository institutions, or banks, Advanta Bank Corp. and Advanta National Bank. We primarily fund and operate our business credit card business through Advanta Bank Corp. We also own two insurance companies, Advanta Life Insurance Company and Advanta Insurance Company, through which we offer specialty credit-related insurance and related products to our existing customers. At December 31, 2001, we had approximately $2.1 billion in managed receivables. Managed receivables include both owned and securitized receivables. Through the first quarter of 2001, we had two additional lending businesses, Advanta Mortgage and Advanta Leasing Services. During the first quarter of the year ended December 2001, we exited our mortgage business and ceased originating new leases in our small ticket equipment leasing business. We are, however, continuing to service the existing leases in our small ticket equipment leasing portfolio rather than sell the business or the portfolio. Pursuant to the terms of the purchase and sale agreement, dated January 8, 2001, as amended, by and between Advanta and Chase Manhattan Mortgage Corporation, a New Jersey corporation ("Buyer"), Advanta and certain of its subsidiaries transferred and assigned to Buyer and certain of its affiliates substantially all of the assets and operating liabilities associated with Advanta's mortgage business. This transaction is referred to throughout this Form 10-K as the "Mortgage Transaction." The Mortgage Transaction was consummated on March 1, 2001, effective as of February 28, 2001 (the "Closing Date"). The assets acquired by Buyer in the Mortgage Transaction consist of loans receivable, retained interests in securitizations and other receivables, contractual mortgage servicing rights and other contractual rights, property and equipment, and prepaid assets. The liabilities assumed by Buyer in the Mortgage Transaction consist primarily of certain of our contractual obligations and other liabilities that appeared on our balance sheet, as well as specified contingent liabilities arising out of the operation of the mortgage business before closing that are identified in the purchase and sale agreement. Following the Mortgage Transaction, we no longer operate a mortgage business. However, we have retained contingent liabilities, primarily relating to litigation, arising out of our operation of the mortgage business before the Closing Date that were not specifically assumed by Buyer in the Mortgage Transaction. Advanta Corp. was incorporated in Delaware in 1974 as Teachers Service Organization, Inc., the successor to a business originally founded in 1951. In January 1988, we changed our name from TSO Financial Corp. to Advanta Corp. Our principal executive office is located at Welsh & McKean Roads, P.O. Box 844, Spring House, Pennsylvania 19477-0844. Our telephone number at our principal executive office is (215) 657-4000. --------------- * MasterCard(R) is a federally registered servicemark of MasterCard International, Inc. 1 CONTINUING OPERATIONS ADVANTA BUSINESS CARDS Overview Advanta Business Cards, a business unit of Advanta, is one of the nation's leading providers of business credit cards to small businesses. Advanta Business Cards offers business credit cards to small businesses using targeted direct mail, the Internet and telemarketing solicitation of potential cardholders. The "Advanta Business Card" is issued and funded by Advanta Bank Corp. Our principal objectives are to use our information based strategy to continue to prudently grow our business while increasing profitability. Based on our experience and expertise in analyzing the credit behavior and characteristics of consumers and small businesses, we have developed an extensive database of customer information and attributes. We use this information in conjunction with proprietary credit scoring, targeting and other sophisticated analytical models we have developed to market our products to prospective customers. We measure the expected behavior of our prospects by analyzing, among other things, a prospect's responsiveness, creditworthiness, sensitivity to price and expected transaction volume. We continually validate our models based on actual results from marketing campaigns, and use this information to refine and improve our analytical assumptions. The information we gather and analyze allows us to market directly to specific customer segments, target prospects effectively, anticipate customer needs, customize our pricing and products to meet those needs. Our primary product is a MasterCard business credit card. We also offer a limited number of Visa(R)** business credit cards. MasterCard and Visa license banks and other financial institutions, such as Advanta Bank Corp., to issue credit cards using their servicemarks and to use the interchange network. Advanta Bank Corp. receives an interchange fee as compensation for the funding and credit and fraud risks it assumes when its cardholders use the Advanta Business Card. Our business credit cards provide our customers with access, through merchants, banks and ATMs, to an instant unsecured revolving business credit line. Under the terms of our cardholder agreements, our business cards may be used for business purposes only. We offer a number of benefits that we believe are important to small business owners including: - additional cards for employees at no fee with the ability to set individual spending limits; - on-line detailed expense management reports that categorize purchases and itemize charges for recordkeeping and tax purposes; and - customized cards and business checks. Our business credit card also offers free auto rental insurance, free purchase protection service for a specified time period and several free emergency assistance and referral services. We also offer rewards programs on a limited basis, generally for an annual fee. Under the rewards programs, the cardholder may receive credit toward the purchase of airline tickets and/or other rewards, such as cash rebates, based on their card purchases. Additionally, we offer a travel card. Use of the travel card entitles the cardholder to earn bonus miles toward free air travel and other travel-related benefits. We expect to continue to expand our business credit card product offerings and look for innovative ways to tailor products to the unique needs of small businesses. The interest rate and credit line size we offer vary and are ultimately determined based upon the credit history and creditworthiness of the borrower. At December 31, 2001, the average credit line was approximately $10,000. The interest rate is generally based on a LIBOR (London Interbank Offered Rate) or Prime Rate index. In most cases, the interest rate will change with changes in LIBOR or the Prime Rate, as applicable, and is subject to a minimum below which the interest rate cannot fall. --------------- ** Visa(R) is a registered servicemark of Visa International, Inc. 2 We generate interest and other income through finance charges assessed on outstanding loans, interchange income, and cash advance and other credit card fees. We also generate income through specialty credit-related insurance products and services we offer to our business credit card customers through our insurance subsidiaries. The managed portfolio of Advanta Business Cards grew from $1.66 billion at December 31, 2000 to $2.04 billion at December 31, 2001. In 2001, approximately 98% of Advanta's total revenues from continuing operations were derived from Advanta Business Cards. See Note 18 to the consolidated financial statements for additional segment financial information about Advanta Business Cards. Originations We originate substantially all of our business credit card accounts using direct marketing techniques, including direct mail, telemarketing solicitation and the Internet. We periodically mail solicitations for an Advanta MasterCard or Visa business credit card. Similarly, we use inbound and outbound telemarketing to solicit applicants. We offer applications and instant credit decisions online. Our marketing program is the result of extensive ongoing testing of various marketing campaigns that target different segments of the small business market. The success of each campaign is measured by the profitability of the campaign, including both the cost of acquisition of new business and the credit performance of the resulting business. We originated over 224,000 new business credit card accounts during the year ended December 31, 2001. Our sources for potential customers include the use of external credit reporting agencies, the purchase of customer lists from establishments with a small business customer base, strategic alliances with companies and associations with a small business customer base and linking with other websites on the Internet that serve small businesses. In an effort to expand our customer reach, we are testing new sources for identifying potential customers. Underwriting We have developed sophisticated modeling techniques for assessing the creditworthiness of potential cardholders. Because the owner of the business is a joint obligor on our business credit card, we may consider credit-related and other relevant data about both the business and the individual owner of the business in our assessment of the creditworthiness of potential cardholders. Through the application process, we verify the applicant's demographic information and collect current sales and income statistics. This information, coupled with credit reports received from external credit reporting agencies, forms the basis for our decision to extend credit. Using a proprietary scoring system, we rank our prospective cardholders based upon their expected creditworthiness and profitability potential. When a cardholder is first approved, our profile of that cardholder is limited and based solely on historical information generated by third parties and information provided by the customer at the time of application. As we compile information regarding each cardholder's behavior over time, we maintain and continually update our performance database. We use the information we gather over time regarding actual account performance and cardholder behavior as a basis for predicting a cardholder's future performance. We use this information to periodically re-score the cardholder based on all of the information we accumulate, and to evaluate and potentially adjust the interest rate and the credit line size that we make available to the cardholder. Pricing We continually test different pricing strategies. Our pricing strategies include a combination of promotional pricing and risk-based pricing. We offer a range of potential interest rates to potential cardholders. Our offers are subject to verification of information provided by the potential cardholder through the application process. We offer primarily variable rate credit card accounts. The periodic finance charge assessed on balances in most of these accounts is indexed to LIBOR or the Prime Rate, plus an add-on percentage or spread. In most cases, the rate will change with changes in LIBOR or the Prime Rate, as applicable, and is subject to a 3 minimum below which the rate cannot fall. In addition the rate may vary depending on the type of transaction. For example, cash advances are generally subject to a higher periodic finance charge rate than merchandise transactions. With notice, we may reprice any account at our discretion, based upon a variety of factors indicating a risk of future nonpayment, such as changes in a cardholder's credit standing. The credit line size may also be adjusted up or down based on our continual credit monitoring. To discourage delinquent payments, we use "penalty pricing" and automatically increase the interest rate on any account that exceeds the delinquency level set forth in the applicable cardholder agreement or is otherwise in default. The amount of the automatic increase may vary, but typically we add 3% to the existing interest rate on an account. Servicing and Collections We perform most of the servicing and collections for our business credit card accounts in-house. Certain data processing and administrative functions associated with the servicing of our business credit card portfolio are outsourced to First Data Resources, Inc. Services performed by First Data Resources include: authorizing transactions through the MasterCard and Visa systems; performing billing and settlement processes; generating and monitoring monthly billing statements; and issuing credit card plastics and new account agreements. We have a collections staff that performs the collection activities for our business credit cards. Accounts are "contractually delinquent" if the minimum payment is not received by the due date. We discourage delinquent payments by assessing a late fee and the collections staff pursues late payments aggressively and immediately. Efforts to collect contractually delinquent credit cards currently are made by our collections personnel or their designees. Collection activities include statement messages, formal collection letters and telephone calls. Collection personnel initiate telephone contact with delinquent cardholders as early as the first day the cardholder becomes contractually delinquent. The intensity with which collection activity is pursued depends on the risk the account presents to us, which is determined by behavioral scoring and adaptive control techniques. If initial telephone contact fails to resolve the delinquency, we continue to contact the cardholder by telephone and by mail. Delinquency levels are monitored by management of our collections, asset quality and credit departments and information is reported daily to senior management. Accounts are charged-off when they become 180 days contractually delinquent, at which time delinquent accounts of cardholders who have not filed bankruptcy are generally referred to outside collection agencies. We charge-off accounts suspected of being fraudulent after a 90-day investigative period unless our investigation shows no evidence of fraud. Effective October 1, 2000, the accounts of customers who become debtors in bankruptcy cases are charged-off when they become 180 days contractually delinquent or within 60 days of receipt of notification of filing from the bankruptcy court, whichever is shorter. Prior to October 1, 2000, instead of a 60-day investigation period we used a 90-day investigation period prior to charge-off to determine whether we should challenge the cardholder's bankruptcy petition or the discharge of amounts owed to us. Our credit evaluation, servicing and charge-off policies and collection practices may change from time to time in accordance with our business judgment and applicable laws and regulations. VENTURE CAPITAL INVESTMENTS We make venture capital investments through our affiliates, including Advanta Partners LP and Advanta Growth Capital Fund L.P. Advanta Partners LP focuses primarily on growth capital financings, restructurings and management buyouts in the financial services, electronic commerce relationship management services and other consumer and data information management services industries. Advanta Growth Capital Fund L.P. focuses primarily on earlier stage investment opportunities in the technology and information services sectors, including the areas of wireless services, electronic commerce and direct marketing. The investment objective of our investment affiliates is to earn attractive returns by building the long-term values of the businesses in which they invest. Our investment affiliates combine transaction expertise, management skills and a broad contact base with strong industry-specific knowledge. Our investments in specific companies and industry 4 segments may vary over time. We primarily invest in privately-held companies, including early stage companies. These investments are inherently risky as the market for the technologies and products the investees have under development may never materialize. See Note 18 to the consolidated financial statements for additional segment financial information about our venture capital investments. ADVANTA INSURANCE Our life/health and property/casualty insurance subsidiaries, Advanta Life Insurance Company and Advanta Insurance Company, respectively, provide insurance and related products mostly to existing Advanta customers. Together with unaffiliated insurance carriers, we offer specialty credit-related insurance products and services to our existing business credit card and leasing customers. Advanta Insurance uses direct mail marketing and telemarketing to enroll customers in these programs. The focus of these products is on the customers' ability to repay their debt. These products include coverage for loss of life, disability, involuntary unemployment, accidental death, and lost or damaged equipment. Our insurance subsidiaries generally reinsure all or a portion of the risks associated with these products or services. Under reinsurance agreements, our insurance subsidiaries assume a proportional quota share of the risk from the unaffiliated insurance carriers. In consideration for assuming these risks, our insurance subsidiaries receive reinsurance premiums equal to the proportional percentage of the net premiums collected by the insurance carriers, less a ceding fee as defined by the reinsurance treaties, and proportional acquisition expenses, premium taxes and loss payments made by the carriers on these risks. Through a strategic alliance with Progressive Casualty Insurance Company formed in 1996 for an initial term of 5 years, Advanta Insurance provided its direct marketing expertise to market Progressive's automobile insurance policies nationwide. In the first quarter of 2001, we negotiated an early termination of the strategic alliance. DEPOSITORY INSTITUTIONS We own two depository institutions, Advanta Bank Corp. and Advanta National Bank. Advanta Bank Corp. is an industrial loan corporation organized under the laws of the State of Utah with its principal executive offices located in Draper, Utah. Advanta Bank Corp.'s principal activity consists of the issuance of the "Advanta Business Card" credit card to small businesses. Prior to first quarter 2001, Advanta Bank Corp. also was involved in our small ticket equipment leasing business and our mortgage business. We no longer operate a mortgage business or originate new equipment leases. However, Advanta Bank Corp. continues to be involved in the small ticket equipment leasing business because we are continuing to service our existing lease portfolio. See "-- DISCONTINUED OPERATIONS." Advanta National Bank is a national banking association organized under the laws of the United States of America with its headquarters and sole branch currently located in Wilmington, Delaware. Prior to February 28, 2001, we conducted a large portion of our mortgage business through Advanta National Bank. DEPOSIT, SAVINGS AND INVESTMENT PRODUCTS Deposits with each of our bank subsidiaries are insured by the Federal Deposit Insurance Corporation ("FDIC"). Through our banks we are able to offer a range of insured deposit products. Advanta Bank Corp.'s deposit products include retail certificates of deposit and large denomination certificates of deposit of $99,000 or more. Advanta Bank Corp. generates retail deposits from repeat deposits from existing customers and from new depositors attracted by direct mail solicitations, newspaper and other media advertising, and the Internet. In the past, Advanta National Bank's deposit products have included money market savings accounts, retail certificates of deposit and large denomination certificates of deposit of $99,000 or more. Following the Mortgage Transaction, Advanta National Bank had excess cash liquidity. As a result, Advanta National Bank suspended originating deposit accounts. To further reduce this excess liquidity, on June 25, 2001, Advanta 5 National Bank sold substantially all of its deposit liabilities to E*TRADE Bank, a subsidiary of E*TRADE Group, Inc. At December 31, 2001, we had total deposits of $636.9 million at our banks, compared to $1.3 billion as of December 31, 2000. Substantially all of the deposits as of December 31, 2001 were at Advanta Bank Corp. Since 1951, Advanta Corp. and its predecessor, Teachers Service Organization, Inc., have offered unsecured debt securities of the corporation, in the form of RediReserve Certificates and Investment Notes, to retail investors through our retail note programs. These debt securities, also referred to in this Form 10-K as "retail notes," have been sold predominantly on a direct basis by Advanta in select states. The RediReserve Variable Rate Certificates are payable on demand and the maturities on the Investment Notes range from 90 days to ten years. The RediReserve Certificates and Investment Notes generally require an initial minimum investment of $5,000 and are obligations of Advanta Corp. and are not insured or guaranteed by any public or private entity. We change the interest rates that we offer frequently, depending on market conditions and our funding needs. The rates also vary depending on the size of each investment. At December 31, 2001, $323.4 million of RediReserve Certificates and Investment Notes were outstanding with interest rates ranging from 3.00% to 11.56%. DISCONTINUED OPERATIONS ADVANTA LEASING SERVICES Overview On January 23, 2001, after a thorough review of strategic alternatives available to our leasing business, we decided to cease originating new equipment leases. However, we are continuing to service the existing leasing portfolio. Prior to January 23, 2001, Advanta Leasing Services, a business unit of Advanta, offered flexible lease financing programs to small businesses. The primary products that we offered through our leasing business consisted of leases for small-ticket items such as computers, copiers, fax machines and other office equipment. Advanta Leasing Services originated and funded its leases and other equipment financing arrangements through Advanta Bank Corp. Advanta Business Services Corp. conducted the marketing, lease originations, customer service and collections for our leasing business. Our leases are generally priced on a fixed rate basis. At December 31, 2001, the leases in our portfolio had an average lease size of approximately $6,700 and an average lease term remaining of approximately 26 months. Managed lease receivables at December 31, 2001 totaled approximately $421 million, compared to approximately $758 million at December 31, 2000. By the end of 2002, the managed lease receivables are expected to total approximately $200 million. See Note 2 to the consolidated financial statements for additional financial information about Advanta Leasing Services. Originations Prior to our decision to cease new leasing originations, Advanta Leasing Services originated leases through marketing programs, vendors, brokers and bulk or portfolio purchases. Servicing and Collections We are continuing to service our existing portfolio of equipment leases. As part of our servicing we will continue to perform collection activities with respect to delinquent contracts. Each lease contract has a provision for assessing late charges in the event that a customer fails to make a payment on the contract on the 6 related due date. We typically initiate telephone contact when an account is between one and 16 days past due, depending on certain established criteria. Telephone contact is continued throughout the delinquency period. If the account continues to be delinquent, Advanta Leasing Services may exercise any remedies available to it under the terms of the contract, including termination and acceleration of the payments due pursuant to the lease contract. We evaluate each contract on the merits of the individual situation taking into consideration the equipment value and the current financial strength of the customer. If collection activities are unsuccessful, we typically charge-off the account at 120 days past due. An account may be charged-off prior to 120 days if we determine that no further payments will be made. In cases where the customer files for bankruptcy, Advanta Leasing Services' Legal Recovery Department follows up with the debtor to determine whether the debtor intends to assume or reject the contract. In many cases, although the customer has filed for bankruptcy protection from its creditors, it continues to make regular payments on its contract. At the time a non-bankruptcy account is charged-off, the account is referred to our in-house litigation department to determine whether we will pursue the customer or any personal guarantor on the contract through litigation. If we determine not to pursue an account through litigation it may be referred to a third party collection agency to enforce the original terms of the contract. ADVANTA MORTGAGE Effective February 28, 2001, we closed the Mortgage Transaction and no longer operate a mortgage business. In accordance with the terms of the purchase and sale agreement, Buyer acquired substantially all of the assets and operating liabilities associated with our mortgage business for a purchase price, net of operating liabilities assumed by Buyer, exceeding $1 billion. Following the Mortgage Transaction, we retained contingent liabilities, primarily relating to litigation arising out of the operation of the mortgage business through the Closing Date, that were not specifically assumed by Buyer. See "-- OVERVIEW." Prior to the closing of the Mortgage Transaction, Advanta Mortgage, a business unit of Advanta, offered a broad range of mortgage products and services to consumers throughout the country. Advanta Mortgage originated and serviced non-conforming credit first and second lien mortgage loans, including home equity lines of credit. In addition to servicing and managing the loans we originated, Advanta Mortgage serviced the home equity loans of unaffiliated third parties through our subservicing business. Subserviced loans are not included in our portfolio of managed receivables and we did not bear the risk of credit loss on our subserviced portfolio. Prior to the closing of the Mortgage Transaction, at December 31, 2000, Advanta Mortgage's portfolio of subserviced loans totaled approximately $7.9 billion and our total serviced portfolio, including the "subserviced" portfolio, was $15.8 billion. See Note 2 to the consolidated financial statements for additional financial information about Advanta Mortgage. GOVERNMENT REGULATION ADVANTA CORP. Advanta Corp. is not required to register as a bank holding company under the Bank Holding Company Act of 1956, as amended (the "BHCA"). We own Advanta National Bank, which is a "bank" as defined under the BHCA, as amended by the Competitive Equality Banking Act of 1987 ("CEBA"). However, under grandfathering provisions of CEBA, we are not required to register as a bank holding company because Advanta National Bank, which takes demand deposits but does not make commercial loans, did not come within the BHCA definition of the term "bank" prior to the enactment of CEBA. Under CEBA, our other banking subsidiary, Advanta Bank Corp., also is not considered a "bank" for purposes of the BHCA. Accordingly, our ownership of Advanta Bank Corp. does not impact our exempt status under the BHCA. Because we are not a bank holding company, we are not subject to examination by the Federal Reserve Board, other than for purposes of assuring continued compliance with the CEBA restrictions discussed below. Under CEBA, Advanta National Bank is subject to certain restrictions, such as the limitation that it may either take demand deposits or make commercial loans, but may not do both. In addition, under CEBA Advanta National Bank may not acquire control of more than 5% of the stock or assets of an additional "bank" or "savings association," as these terms are defined in the BHCA. The Gramm-Leach-Bliley Financial 7 Modernization Act of 1999 ("GLB Act") was adopted on November 12, 1999 and became effective on May 12, 2000. Prior to the enactment of the GLB Act, if Advanta Corp. or Advanta National Bank had ceased complying with the restrictions set forth in CEBA, registration as a bank holding company under the BHCA would have been required. Registration as a bank holding company is not automatic and, if we were to register, it would subject us and our subsidiaries to inspection and regulation by the Federal Reserve Board. Under the GLB Act, should Advanta Corp. or Advanta National Bank fail to comply with any of the restrictions applicable to them under CEBA, there is a 180-day right to cure period following receipt of a notice from the Federal Reserve Board. The opportunity to cure or remediate an activity that is out of compliance significantly reduces the risk that Advanta Corp. will be required to register as a bank holding company under the BHCA. ADVANTA BANK CORP. Advanta Bank Corp., a Utah-chartered industrial loan corporation, is a depository institution subject to regulatory oversight and examination by both the FDIC and the Utah Department of Financial Institutions. See "-- Regulatory Agreements." Under its banking charter, Advanta Bank Corp. may make consumer and commercial loans and may accept all FDIC-insured deposits other than demand deposits such as checking accounts. Advanta Bank Corp. is subject to the same regulatory and supervisory processes as commercial banks. Advanta Bank Corp. is subject to provisions of federal law which restrict and control its ability to extend credit and provide or receive services between affiliates. In addition, the FDIC has regulatory authority to prohibit Advanta Bank Corp. from engaging in any unsafe or unsound practice in conducting its business. Advanta Bank Corp. is subject to capital adequacy guidelines issued by the Federal Financial Institutions Examination Council (the "FFIEC"). These guidelines make regulatory capital requirements more sensitive to differences in risk profiles among banking organizations and consider off-balance sheet exposures in determining capital adequacy. Under the rules and regulations of the FFIEC, at least half of a bank's total capital is required to be "Tier I capital," comprised of common equity, retained earnings and a limited amount of non-cumulative perpetual preferred stock. The remaining capital, "Tier II capital," may consist of other preferred stock, certain hybrid debt/equity instruments, a limited amount of term subordinated debt or a limited amount of the reserve for possible credit losses. The FFIEC has also adopted minimum leverage ratios for banks, which are calculated by dividing Tier I capital by total average assets. Recognizing that the risk-based capital standards address only credit risk, and not interest rate, liquidity, operational or other risks, many banks are expected to maintain capital in excess of the minimum standards. In addition, pursuant to provisions of the FDIC Improvement Act of 1991 (the "FDICIA") and related regulations with respect to prompt corrective action, FDIC-insured institutions such as Advanta Bank Corp. may only accept brokered deposits without FDIC permission if they meet specified capital standards, and are subject to restrictions with respect to the interest they may pay on deposits unless they are "well-capitalized." To be "well-capitalized" under the prompt corrective action provisions, a bank must have a ratio of combined Tier I and Tier II capital to risk-weighted assets of not less than 10%, Tier I capital to risk-weighted assets of not less than 6%, and a Tier I leverage ratio of not less than 5%. In each case, Advanta Bank Corp. met the capital requirements of the FDICIA and was categorized as well-capitalized under the regulatory framework for prompt corrective action. See Note 16 to the consolidated financial statements. ADVANTA NATIONAL BANK Advanta National Bank is subject to regulation and periodic examination, primarily by the Office of the Comptroller of the Currency (the "OCC"). The OCC's regulations relate to the maintenance of reserves for certain types of deposits and other products offered by a bank, the maintenance of certain financial ratios, the terms on which a bank may engage in transactions with its affiliates and a broad range of other banking practices. As a national bank, Advanta National Bank is also subject to provisions of federal law which restrict its ability to extend credit to its affiliates or pay dividends to Advanta Corp. 8 Advanta National Bank is subject to the FFIEC capital adequacy guidelines and the FDICIA provisions for accepting brokered deposits described above. See "-- Advanta Bank Corp." Presently, Advanta National Bank is required to maintain capital in excess of the minimum regulatory standards. At December 31, 2001, Advanta National Bank 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 its agreement with the OCC, even though we have achieved the higher imposed capital ratios required by the agreement with the OCC. See Note 16 to the consolidated financial statements and "-- Regulatory Agreements." 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 required us to change our charge-off policy for delinquent mortgages to 180 days and to modify our accounting processes and estimate of our allowance for credit losses and valuation of residual assets. The agreement between Advanta Bank Corp. and the FDIC established temporary deposit growth limits at Advanta Bank Corp. and provided for prior FDIC approval of the payment by Advanta Bank Corp. of any future cash dividends. The agreement between Advanta National Bank and the OCC established temporary asset growth limits at Advanta National Bank and imposed restrictions on taking brokered deposits at Advanta National Bank. The June 2000 agreement with the OCC required that Advanta National Bank maintain certain capital ratios in excess of the minimum regulatory standards. In July 2000, we announced that Advanta National Bank signed a second agreement with the OCC resulting in a significant reduction to the carrying value of Advanta National Bank's retained interests in mortgage securitizations and requiring that Advanta National Bank increase its allowance for credit losses. See Note 15 to the consolidated financial statements. In 2001, in connection with the Mortgage Transaction, Advanta National Bank sought approval of the OCC for a return of capital to Advanta Corp. in the amount of $261 million. On February 28, 2001, the OCC approved the amount requested and, at the same time, Advanta National Bank entered into an agreement with the OCC regarding restrictions on new business activities and product lines at Advanta National Bank after the Mortgage Transaction and the resolution of outstanding Advanta National Bank liabilities. The February 2001 agreement superseded the capital ratio requirements of the June 2000 agreement and lowered the capital requirements for Advanta National Bank to 12.7% for Tier 1 capital and Total capital to risk-weighted assets, and to 5% for Tier 1 capital to adjusted total assets, as defined in the agreement. The February 2001 agreement requires that Advanta National Bank obtain prior OCC approval of any future dividends. Advanta Bank Corp. is unaffected by Advanta National Bank's agreements with the OCC. Management believes that Advanta Bank Corp. and Advanta National Bank were each in compliance with their respective regulatory agreements at December 31, 2001. LENDING AND LEASING ACTIVITIES Although our current lending activities are principally directed to small businesses, certain aspects of various federal and state laws, including the Equal Credit Opportunity Act, the Community Reinvestment Act, the Electronic Funds Transfer Act, the Truth-in-Lending Act and the Fair Credit Reporting Act, apply to us. Provisions of these statutes and related regulations require disclosure to borrowers of finance charges in terms of an annual percentage rate, prohibit discriminatory practices in extending credit, require our FDIC-insured banking institutions to serve the banking needs of their local communities and regulate the dissemination and use of information relating to a borrower's creditworthiness. Additionally, the GLB Act imposes privacy requirements dealing with the use of nonpublic information about consumer customers. Retail deposit customers of Advanta National Bank and Advanta Bank Corp. as 9 well as investors who purchase Advanta Corp.'s retail notes are subject to the GLB Act and its accompanying regulations. This statute is not preemptive and states may impose additional and more burdensome privacy requirements. To date, North Dakota has extended these requirements and other states are considering similar legislative or regulatory initiatives. DIVIDENDS There are various legal limitations on the extent to which national banks, including Advanta National Bank, can supply funds through dividends to their parent companies or affiliates. The prior approval of the OCC is required if the total of all dividends declared by the national bank in any calendar year exceeds its net profits for that year combined with its retained net profits for the preceding two years, less any required transfers to surplus accounts. In addition, a national bank may not pay a dividend in an amount greater than its undivided profits then on hand after deducting its losses and bad debts. The OCC also has authority under the Financial Institutions Supervisory Act to prohibit a national bank from engaging in any unsafe or unsound practice in conducting its business. It is possible, depending upon the financial condition of the bank in question and other factors, that the OCC, pursuant to its authority under the Financial Institutions Supervisory Act, could claim that a dividend payment might under some circumstances be an unsafe or unsound practice. In February 2001, in connection with the Mortgage Transaction, the OCC approved the payment of a return of capital in the amount of $261 million from Advanta National Bank to Advanta Corp. Under Advanta National Bank's current agreement with the OCC, Advanta National Bank is not eligible to pay any dividends without the OCC's prior approval. In addition, as a result of Advanta Bank Corp.'s agreement with the FDIC, Advanta Bank Corp. may not pay cash dividends without prior FDIC approval. See "-- Regulatory Agreements." TRANSFERS OF FUNDS Sections 23A and 23B of the Federal Reserve Act also impose restrictions on Advanta National Bank and Advanta Bank Corp. These restrictions limit the transfer of funds by the depository institution to certain of its affiliates, including Advanta Corp., in the form of loans, extensions of credit, investments or purchases of assets. These transfers by any one depository institution to us or any other single affiliate are limited in amount to 10% of the depository institution's capital and surplus, and transfers to all affiliates are limited in the aggregate to 20% of the depository institution's capital and surplus. These loans and extensions of credit are also subject to various collateral requirements. Sections 23A and 23B of the Federal Reserve Act also require generally that the depository institution's transactions with its affiliates be on terms no less favorable to the bank than comparable transactions with unrelated third parties. In addition, in order for us to maintain our grandfathered exemption under CEBA, Advanta National Bank is not permitted to make any loans to us or any of our subsidiaries. REGULATION OF INSURANCE Our insurance subsidiaries are subject to the laws and regulations of, and supervision by, the states in which they are domiciled or have obtained authority to transact insurance business. These states have adopted laws and regulations which govern all insurance policy underwriting, rating, licensing, marketing, administration and financial operations of an insurance company, including dividend payments and financial solvency. In addition, our insurance subsidiaries have registered as an Arizona Holding Company which requires an annual registration and the approval of certain transactions between all affiliated entities. The maximum dividend that any of our insurance subsidiaries can distribute to Advanta Corp., in any twelve-month period, without prior approval of the State of Arizona Department of Insurance, is the lesser of: - 10% of the subsidiary's statutory surplus; or - for any given twelve-month period, the subsidiary's net income, if it is a life insurance company; or - for any given twelve-month period, the subsidiary's net investment income, if it is a property and casualty insurance company. 10 During 2001, the State of Arizona Department of Insurance approved payments to Advanta Corp. from its insurance subsidiaries totaling $63.6 million, consisting of a $57.5 million return of capital and dividends of $6.1 million. The State of Arizona has adopted minimum risk-based capital standards as developed by the National Association of Insurance Commissioners. Risk-based capital is the quantification of an insurer's investment, underwriting, reserve and business risks in relation to its total adjusted capital and surplus. The ratio of an insurer's total adjusted capital and surplus is compared to various levels of risk-based capital to determine what intervention, if any, is required by either the insurance company or an insurance department. At December 31, 2001, our insurance subsidiaries met all risk-based capital standards and required no intervention by any party. Our insurance subsidiaries reinsure risks using underwriting insurance practices and rates, which are regulated in part or fully by state insurance departments. State insurance departments continually review and modify these rates based on prior historical experience. Any modifications may impact the future profitability of our insurance subsidiaries. LEGISLATIVE AND REGULATORY DEVELOPMENTS The banking and finance businesses in general are the subject of the extensive regulation described above at both the state and federal levels, and numerous legislative and regulatory proposals are advanced each year which, if adopted, could affect our profitability or the manner in which we conduct our activities. It is impossible to determine the extent of the impact of any new laws, regulations or initiatives, or whether any of the federal or state proposals will become law and, if so, what impact they will have on us. In the fourth quarter of 2001, the bank regulatory agencies issued an interagency policy statement that revised the regulatory capital treatment of recourse, direct credit substitutes, and residual interests in asset securitizations. This rule applies to our banking subsidiaries and supercedes the former low-level recourse rules and requires that banks hold one dollar in total risk-based capital against every dollar of residual interest, with some exceptions. It further requires that credit enhancing interest-only strips in excess of 25% of Tier 1 capital be deducted from Tier 1 capital for purposes of calculating bank capital ratios. This rule has an effective date of January 1, 2002. Early adoption was permitted for transactions entered into prior to the effective date that result in a reduced capital requirement. Banks can delay until December 31, 2002 the application of the final rule to transactions entered into prior to January 1, 2001 that result in increased capital requirements. Advanta Bank Corp. elected to adopt the rule effective December 31, 2001 and it resulted in a reduced capital requirement. We do not anticipate the adoption of this rule will have an effect on the capital requirements of Advanta National Bank. Other federal legislative proposals and initiatives that could impact Advanta and its businesses include financial privacy initiatives that would restrict the permissible use of customer-specific financial and other credit information and statutory changes to those aspects of the Truth in Lending Act that are applicable to our business. In addition, Congress is currently considering legislation to reform the Bankruptcy Code. The bankruptcy reform bills would require that debtors pass a means test to determine eligibility for bankruptcy relief while adding new consumer protections, such as new minimum payment and introductory rate disclosures for credit cards and exemptions for retirement savings in bankruptcy. They also would promote education and credit counseling as alternatives to resolving financial difficulties, allowing more debtors to avoid a bankruptcy filing. While these provisions are primarily directed at consumer bankruptcies, they would also impact small businesses that file for bankruptcy liquidation under Chapter 7 of the Bankruptcy Code. Our current marketing is based on direct marketing to small businesses using direct mail, telemarketing and the Internet. There are a number of federal and state legislative initiatives that would restrict the use of unsolicited commercial e-mail and telemarketing to wireless telephones and would strengthen "do not call list" laws. Additionally, the Federal Trade Commission has proposed a nationwide registry for consumers who wish to block telemarketing calls, including provisions that would allow the blocking of telephone solicitations from companies with which they already do business. While this proposal is intended to apply to individual consumers, the practical application of the registry may impact our marketing to small businesses as well. 11 Following the attack on the United States on September 11, 2001, a number of law enforcement-related financial privacy initiatives have also been enacted or proposed. In addition, there are initiatives under consideration that could affect the imposition of credit card late fees during periods when mail service is limited or interrupted. Additionally, federal and state legislatures are considering legislative and regulatory initiatives related to credit scoring disclosure, minimum monthly payments and other legislation relating to credit card lending and marketing has been proposed. While these initiatives are generally directed at consumer transactions, it is possible that final legislation could impact small business lending as well. COMPETITION As a marketer of credit products, we face intense competition from numerous financial services providers. Many of these companies are substantially larger and have more capital and other resources than we do. Competition among lenders can take many forms, including convenience in obtaining a loan, the size of their existing customer base and the ability to cross sell products to that customer base, customer service, size of loans, interest rates, and other types of finance or service charges, the nature of the risk the lender is willing to assume and the type of security, if any, required by the lender. Although we believe we are generally competitive in most of the geographic areas in which we offer our products and services, there can be no assurance that our ability to market our services successfully or to obtain an adequate yield on our loans will not be impacted by the nature of the competition that now exists or may develop. In seeking investment funds from the public, we face competition from banks, savings institutions, money market funds, mutual funds, credit unions and a wide variety of private and public entities that sell debt securities, some of which are publicly traded. Many of our competitors are larger and have more capital and other resources than we have. Competition relates to matters such as: rate of return, collateral, insurance or guarantees applicable to the investment, if any; the amount required to be invested; convenience and the cost to and conditions imposed upon the investor in investing and liquidating the investment, including any commissions which must be paid or interest forfeited on funds withdrawn; customer service; service charges, if any; and the taxability of interest. EMPLOYEES As of December 31, 2001, we had 734 employees. We believe that we have good relationships with our employees. None of our employees is represented by a collective bargaining unit. ------------------------ Information or statements provided by the Company from time to time may contain certain "forward-looking information" including information relating to: anticipated earnings per share; anticipated returns on equity; realizability of net deferred tax asset; anticipated growth in loans outstanding and credit card accounts; anticipated net interest margins; anticipated operations costs and employment growth; anticipated payment and prepayment rates of outstanding loans; anticipated marketing expense; estimated values of our retained interests in securitizations and anticipated cash flows; our ability to replace existing credit facilities, when they expire, with appropriate levels of funding on similar terms and conditions; anticipated delinquencies and charge-offs; and anticipated outcome and effects of litigation. The cautionary statements provided below are being made pursuant to the provisions of the Private Securities Litigation Reform Act of 1995 (the "Act") and with the intention of obtaining the benefits of the "safe harbor" provisions of the Act for any such forward-looking information. We caution readers that any forward-looking information provided by us is not a guarantee of future performance and that actual results may differ materially from those in the forward-looking information as a result of various factors, including but not limited to: - Increased credit losses and collection costs associated with a worsening of general economic conditions, rising interest rates, shifts in product mix within our portfolio of loans, rising delinquency levels, 12 increases in the number of customers seeking protection under the bankruptcy laws resulting in accounts being charged off as uncollectible, and the effects of fraud by third parties or customers. - Intense and increasing competition from numerous providers of financial services who may employ various competitive strategies. We face competition from originators of business credit cards, some of which have greater resources than we do. - The completion of post-closing procedures following the Mortgage Transaction and revisions to estimated charges associated with the discontinued operations of our mortgage and leasing businesses. - The effects of interest rate fluctuations on our net interest margin and the value of our assets and liabilities; the continued legal or commercial availability of techniques, including loan pricing and repricing, hedging and other techniques, that we use to manage the risk of those fluctuations. - Difficulties or delays in the securitization of our receivables and the resulting impact on the cost and availability of such funding. Difficulties and delays may result from the current economic, legal, regulatory, accounting and tax environments and adverse changes in the performance of the securitized assets. - The amount, type and cost of financing available to us, including secured financing, and any changes to that financing including any impact from changes in the current economic, legal, regulatory, accounting and tax environments, adverse changes in the performance of our loan portfolio, any impact from changes in our debt ratings and the activities of parties with which we have agreements or understandings, including any activities affecting any investment. - Changes in our aggregate accounts or loan balances, and the growth rate thereof, including changes resulting from factors such as shifting product mix, amount of actual marketing investment made by us, the rate of repayment of loan balances, changes in general economic conditions and other factors beyond our control. - The impact of "seasoning" (the average age of a lender's portfolio) on our level of delinquencies and losses which may require a higher allowance for loan losses for on-balance sheet assets and may adversely impact securitization income. The addition of account originations or balances and the attrition of those accounts or balances could significantly impact the seasoning of our overall portfolio. - The amount of, and rate of growth in, our expenses (including employee and marketing expenses) as our businesses develop or change and we expand into new market areas; the acquisition or disposition of assets (interest-earning, fixed or other); and the effects of changes within our organization or in our compensation and benefit plans. - Difficulties or delays in the development, production, testing and marketing of products or services, including, but not limited to, a failure to implement new product or service programs when anticipated, the failure of or delay in customers' acceptance of these products or services, losses associated with the testing and implementation of new products or services or financial, legal or other difficulties as may arise in the course of such implementation. - The effects of, and changes in, tax laws, rates, regulations and policies. - The effects of, and changes in, political conditions, social conditions and general economic conditions, including inflation, recession or other adverse economic conditions. - The effects of, and changes in the level of scrutiny, regulatory requirements and regulatory initiatives resulting from the fact that our banking and finance businesses are highly regulated and subject to periodic review and examination by federal and state regulators, including the OCC and the FDIC. - The effects of, and changes in, monetary and fiscal policies, federal and state laws and regulations (financial, consumer, regulatory or otherwise), and other activities of governments, agencies and other similar organizations, including the OCC and the FDIC. 13 - The costs and other effects of legal and administrative cases and proceedings, settlements and investigations, claims and changes in those items, developments or assertions by or against us or any of our subsidiaries arising in the ordinary course of business or in connection with our discontinued operations. - Adoptions of new, or changes in existing, accounting policies and practices and the application of such policies and practices. - Our relationships with customers, significant vendors and business partners. - Our ability to attract and retain key personnel. ITEM 2. PROPERTIES At December 31, 2001, Advanta owned two buildings in Horsham, Pennsylvania totaling 198,000 square feet. During January and February 2001, these buildings were primarily used by Advanta Mortgage and Advanta Business Cards. As of March 1, 2001, these buildings were 100% leased to the buyer of Advanta's mortgage business. Advanta leased 109,511 square feet in Spring House, Pennsylvania for its principal executive offices and for use by Advanta Business Cards. Advanta leased an additional 39,203 square feet in two buildings in the Pennsylvania suburbs of Philadelphia for certain corporate staff functions, until August 31, 2001 when Advanta vacated one 33,000 square foot building. In the adjoining state of New Jersey, Advanta owned one building consisting of 56,196 square feet for its Leasing operations, until December 10, 2001, at which time the building was sold. Advanta leased back 21,328 square feet on the third floor of the building in New Jersey for Advanta Leasing Services. Advanta also leased 12,000 square feet of office space and 3,000 square feet of storage space in two buildings in New Jersey for Advanta Leasing Services and a portion of Advanta Business Cards operations. In Delaware, Advanta leased 36,589 square feet of office space for Advanta National Bank. In New York, Advanta leased 6,000 square feet of office space in two buildings for Advanta Partners LP and Advanta Growth Capital Fund, LP. Advanta also leased 50,625 square feet of office space in Utah for Advanta Bank Corp. In addition to the principal locations in Pennsylvania, New Jersey, New York, Delaware and Utah, until February 28, 2001 Advanta leased approximately 84,923 square feet of office space in twenty-one states to support the mortgage loan production offices and an additional 6,213 square feet of office space in five states to support Advanta Mortgage and Advanta Leasing Services. Since Advanta ceased origination of new leases and exited the mortgage business in the first quarter of 2001, Advanta has been buying out, assigning or subleasing this space. Accordingly, as of December 31, 2001, the remaining leased space totaled approximately 31,112 square feet. At December 31, 2001, the total leased and owned office space was approximately 474,368 square feet. ITEM 3. LEGAL PROCEEDINGS On January 22, 1999, Fleet Financial Group, Inc. ("Fleet") and certain of its affiliates filed a lawsuit against Advanta Corp. and certain of its subsidiaries in Delaware Chancery Court. Fleet's allegations, which we deny, center around Fleet's assertions that we failed to complete certain post-closing adjustments to the value of the assets and liabilities we contributed to Fleet Credit Card LLC in connection with the transfer of our consumer credit card business in 1998 (the "Consumer Credit Card Transaction"). Fleet seeks damages of approximately $141 million. We filed an answer to the complaint denying the material allegations of the complaint, but acknowledging that we contributed $1.8 million in excess liabilities in the post-closing adjustment process, after taking into account the liabilities we have already assumed. We also filed a countercomplaint against Fleet for approximately $101 million in damages we believe have been caused by certain actions of Fleet following the closing of the Consumer Credit Card Transaction. In October 2001, the court issued a ruling on summary judgment in favor of Fleet on certain legal issues and positions advocated by Fleet and against others that Fleet advocated. As a result, for purposes of trial only, the parties stipulated to a number of issues relating to the court's orders including certain amounts that would be owed by each party to the other, while preserving their rights to appeal. Many issues remained to be determined at trial, including the financial impact of all 14 issues in dispute. The trial took place in November and December 2001. The court ordered a post-trial briefing schedule, which has the parties submitting briefs through March 2002, with oral argument scheduled for April 2002. As a result of related litigation with Fleet, $70.1 million of our reserves in connection with this litigation were funded in an escrow account in February 2001. Taking into account amounts that Fleet owes to us and the amount escrowed, including interest, we have funded our estimated maximum net exposure to Fleet in the litigation. Management expects that the ultimate resolution of this litigation will not have a material adverse effect on our financial position or future operating results given the amount escrowed, our reserves and amounts that Fleet owes us. On December 5, 2000, a former executive of Advanta obtained a jury verdict against Advanta in the amount of $3.9 million in the United States District Court for the Eastern District of Pennsylvania, in connection with various claims against Advanta related to the executive's termination of employment. In September 2001, the District Court Judge issued orders denying both parties' post-trial motions. A judgment in the amount of approximately $6 million, which includes the $3.9 million described above, was entered against Advanta. In September 2001, Advanta filed an appeal to the United States Court of Appeals for the Third Circuit. Advanta has posted a supersedeas bond in the amount of $8 million and has filed its principal brief in the Court of Appeals. The plaintiff filed a cross-appeal from the order adverse to him. Advanta is vigorously pursuing its appeal. The District Court Judge has not yet ruled on the executive's petition for attorney's fees and costs in the amount of approximately $1.2 million, which Advanta has contested. Management expects that the ultimate resolution of this litigation will not have a material adverse effect on our financial position or future operating results. On December 21, 2000, Banc One Financial Services, Inc. and Bank One, N.A (together "Banc One") filed a complaint in the United States District Court for the Northern District of Illinois, Eastern Division, that alleges, among other things, that Advanta breached two mortgage loan servicing agreements by wrongfully withholding as termination fees an amount in excess of $23 million, from amounts that we had collected under the loan servicing agreements. An answer to Banc One's second amended complaint was filed in July 2001 denying liability, raising affirmative defenses and asserting a counterclaim. Various motions were filed, including Advanta's motion for partial summary judgment under one of the two loan servicing agreements, Banc One's motion for summary judgment on liability under both loan servicing agreements, and Banc One's motions to strike Advanta's counterclaim and ninth affirmative defense (both alleging breach of the implied covenant of good faith and fair dealing). In January 2002, the court entered an opinion and order on the pending motions, which granted in part and denied in part both parties' motions for summary judgment. The court treated Banc One's motions to strike as motions for summary judgment, and although not entirely clear on this point, apparently granted them in part and denied them in part. Banc One's motions to strike were denied as moot. The court's ruling is essentially an interlocutory ruling in favor of Advanta under one of the two agreements and in favor of Banc One under the other of the two agreements. Advanta's counterclaim survives in part. The court's order does not constitute a final judgment and no assessment of damages either on Advanta's counterclaim or Banc One's claim has occurred. Further proceedings in the trial court on the matter of damages on both the surviving portion of Advanta's counterclaim and Banc One's surviving claim are to ensue. The amount of damages which Banc One might ultimately be entitled to recover from Advanta remains undetermined and dependent upon a number of factors, including the resolution of various legal issues which remain to be resolved and the amount of any damages Advanta might be entitled to recover against Banc One, which likewise remains undetermined. Management expects that the ultimate resolution of this litigation will not have a material adverse effect on our financial position or future operating results. On July 26, 2001, Chase Manhattan Mortgage Corporation ("Chase") filed a complaint against Advanta and certain of its subsidiaries in the United States District Court for the District of Delaware alleging, among other things, that Advanta breached its contract with Chase in connection with the Mortgage Transaction. Chase claims that Advanta misled Chase concerning the value of certain of the assets sold to Chase. In September 2001, Advanta filed an answer to the complaint in which Advanta denied all of the substantive allegations of the complaint and asserted a counterclaim against Chase for breach of contract relating to funds owed by Chase to Advanta in connection with the transaction. The matter is in discovery and trial is scheduled for April 2003. We believe that the lawsuit is without merit and will vigorously defend Advanta. We do not 15 expect this lawsuit to have any impact on our continuing business and, based on the complete lack of merit, we do not anticipate that the lawsuit will have a material adverse impact to Advanta or the named subsidiaries. On November 8, 2001 and January 28, 2002, Grant Thornton, LLP ("Grant Thornton") filed third-party complaints against Advanta Mortgage Corp., USA ("AMCUSA") in two related lawsuits in the United States District Court for the Southern District of West Virginia. The third-party claims allege negligent misrepresentation, claiming without specificity or factual support that Grant Thornton received inaccurate information from AMCUSA concerning the amount of loans that AMCUSA had been servicing for the First National Bank of Keystone, West Virginia ("Keystone"). Grant Thornton was the former auditor for Keystone, which failed. Grant Thornton was sued on November 9, 1999 and January 28, 2000 by shareholders and others with purported ownership interests in Keystone, alleging that Grant Thornton rendered an unqualified opinion for Keystone's financial statements, when in fact the financial statements fraudulently overstated Keystone's assets by approximately $500 million. In December 2001 and February 2002, AMCUSA filed motions to dismiss the third-party complaints. We plan to vigorously defend this litigation, and because we believe that the likelihood of a final judgment of liability against AMCUSA is remote, we do not expect that the ultimate resolution of this litigation will have a material adverse effect on our financial position or future operating results. On December 20, 2001, a purported shareholder of Advanta filed a complaint in the Court of Common Pleas of Montgomery County, Pennsylvania, that alleges, among other things that certain members of Advanta's Board of Directors breached their fiduciary duties in connection with their oversight of Advanta management relating to certain issues in dispute between Advanta and Fleet. The action is a derivative lawsuit pursuant to which certain members of Advanta's Board of Directors are named as defendants and Advanta is merely a nominal defendant. In essence, the complaint alleges that the directors failed to cause Advanta to voluntarily pay Fleet the amounts that Fleet claims in the dispute. The complaint was served in January 2002. We believe that the lawsuit is without merit both substantively and procedurally and will vigorously defend the claims. In February 2002 preliminary objections to the allegations were filed with the court, asserting that the complaint failed to allege any viable claim and that the plaintiff failed to comply with the procedural requirements to bring his claim. In addition to the cases described above, Advanta Corp. and its subsidiaries are involved in class action lawsuits, other litigation, claims and legal proceedings arising in the ordinary course of business or discontinued operations, including litigation arising from our operation of the mortgage business prior to the Mortgage Transaction in the first quarter of 2001. Management believes that the aggregate liabilities, if any, resulting from all litigation, claims and other legal proceedings will not have a material adverse effect on the consolidated financial position or results of our operations based on the level of litigation reserves we have established and our expectations regarding the ultimate resolutions of these actions. However, due to the inherent uncertainty in litigation and since the ultimate resolutions of our litigation, claims and other legal proceedings are influenced by factors outside of our control, it is reasonably possible that our estimated liability under these proceedings may change or that actual results will differ from our estimates. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS Not applicable. 16 EXECUTIVE OFFICERS OF THE REGISTRANT Each of the executive officers of Advanta Corp. and its subsidiaries listed below was elected by the applicable Board of Directors, to serve at the pleasure of the Board in the capacities indicated.
NAME AGE OFFICE DATE ELECTED ------------------------------------------------------------------------------------------------------ Dennis Alter 59 Chairman of the Board and Chief Executive 1972 Officer William A. Rosoff 58 Vice Chairman of the Board and President 1996 Jeffrey D. Beck 53 Vice President and Treasurer of Advanta Corp. 2001 and President and Chief Investment Officer, Advanta Bank Corp. Philip M. Browne 42 Senior Vice President and Chief Financial 1998 Officer Christopher J. Carroll 42 Chief Credit Officer 2001 Rosemary Cauchon 44 Senior Vice President of Advanta Corp. and 2001 President, Advanta Small Business Services David B. Weinstock 37 Vice President and Chief Accounting Officer 2001
Mr. Alter became Executive Vice President and a Director of Advanta Corp.'s predecessor organization in 1967. He was elected President and Chief Executive Officer in 1972, and Chairman of the Board of Directors in August 1985. In February 1986, he relinquished the title of President, and in August 1995 he relinquished the title of Chief Executive Officer. In October 1997, Mr. Alter reassumed the title of Chief Executive Officer Mr. Rosoff joined Advanta Corp. in January 1996 as a Director and Vice Chairman. In October 1999, Mr. Rosoff became President and Vice Chairman of the Board of Advanta Corp. Prior to joining Advanta Corp., Mr. Rosoff was a long time partner of the law firm of Wolf, Block, Schorr and Solis-Cohen LLP, Advanta Corp.'s outside counsel, where he advised Advanta Corp. for over 20 years. While at Wolf, Block, Schorr and Solis-Cohen LLP, he served as Chairman of its Executive Committee and, immediately before joining Advanta Corp., as a member of its Executive Committee and Chairman of its Tax Department. Mr. Rosoff is a Trustee of Atlantic Realty Trust, a publicly held real estate investment trust. Mr. Beck joined Advanta Corp. in 1986 as Senior Vice President of Advanta National Bank and was elected Vice President and Treasurer of Advanta Corp. in 1992. In June 2000, Mr. Beck was elected Chief Investment Officer of Advanta Bank Corp. and in May 2001, he was elected President of Advanta Bank Corp. Mr. Browne joined Advanta Corp. in June 1998 as Senior Vice President and Chief Financial Officer. Prior to joining Advanta Corp., he was an Audit and Business Advisory Partner at Arthur Andersen LLP where, for over sixteen years, he audited public and private companies and provided business advisory and consulting services to financial services companies. Mr. Browne had served as the Arthur Andersen engagement partner for Advanta Corp. since 1994. Mr. Browne is a director of AF&L Insurance Company, a privately held long-term care and home health care insurance company. Mr. Carroll joined Advanta Corp. in 2001 as Chief Credit Officer. Prior to joining Advanta Corp., Mr. Carroll was a consultant with The Secura Group for two years where he assisted clients, including Advanta, with bank regulatory issues in areas such as credit risk management, credit policy and process management, regulatory compliance, due diligence, and consolidation and conversion projects. Prior to that, he held a variety of positions in credit management and administration at First Interstate Bancorp. (now Wells Fargo), where he spent 11 years as a consumer and commercial lender, credit administrator, regulatory liaison and credit risk manager. Ms. Cauchon joined Advanta Corp. in 2001 as Senior Vice President of Advanta Corp. and President, Advanta Small Business Services. Prior to joining Advanta Corp., she was Executive Vice President, Partnership Marketing and Business Card Group at First USA Bank where she managed a $30 billion portfolio and 1,900 partnership relationships. Prior to assuming that position, between 1994 and 2000 17 Ms. Cauchon served First USA Bank in various other capacities including Executive Vice President, Cobrand Marketing and Business Card Group and Senior Vice President, Marketing Analysis and Database Marketing. Mr. Weinstock joined Advanta Corp. in 1998 and became Vice President and Chief Accounting Officer in March 2001. Mr. Weinstock joined the Company in December 1998 as Controller and he became Vice President of Investor Relations in October 1999. Prior to joining Advanta Corp., Mr. Weinstock served as Senior Manager at Arthur Andersen LLP from 1996 to 1998, where he audited public and private companies and provided business advisory and consulting services to financial services companies. PART II ITEM 5. MARKET FOR THE REGISTRANT'S COMMON STOCK AND RELATED STOCKHOLDER MATTERS. COMMON STOCK PRICE RANGES AND DIVIDENDS The Company's common stock is traded on the National Market System of The Nasdaq Stock Market, Inc. under the symbols ADVNA (Class A voting common stock) and ADVNB (Class B non-voting common stock). Following are the high, low and closing sale prices and cash dividends declared for the last two years as they apply to each class of stock:
CASH DIVIDENDS QUARTER ENDED: HIGH LOW CLOSE DECLARED -------------- ------ ------ ------ --------- CLASS A: March 31, 2000 $21.88 $16.88 $20.31 $0.063 June 30, 2000 21.00 10.88 12.19 0.063 September 30, 2000 13.56 10.69 11.25 0.063 December 31, 2000 11.88 5.75 8.81 0.063 March 31, 2001 $16.00 $ 8.75 $15.81 $0.063 June 30, 2001 16.00 12.86 16.00 0.063 September 30, 2001 19.10 8.00 9.40 0.063 December 31, 2001 11.72 8.00 9.94 0.063 CLASS B: March 31, 2000 $15.50 $11.50 $14.48 $0.076 June 30, 2000 15.13 7.75 8.50 0.076 September 30, 2000 10.19 7.50 8.14 0.076 December 31, 2000 8.38 4.13 7.19 0.076 March 31, 2001 $14.00 $ 7.16 $13.69 $0.076 June 30, 2001 14.00 11.90 13.97 0.076 September 30, 2001 17.10 8.10 8.95 0.076 December 31, 2001 10.79 6.85 9.10 0.076
At March 1, 2002, the Company had approximately 260 and 748 holders of record of Class A and Class B common stock, respectively. Although we anticipate that comparable cash dividends will continue to be paid in the future, the payment of future dividends by Advanta will be at the discretion of the Board of Directors and will depend on numerous factors including Advanta's cash flow, financial condition, capital requirements and such other factors as the Board of Directors deems relevant. 18 ITEM 6. SELECTED FINANCIAL DATA FINANCIAL HIGHLIGHTS
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) YEAR ENDED DECEMBER 31, ---------------------------------------------------------------------------------------------------------- 2001 2000 1999 1998 1997 ---------------------------------------------------------------------------------------------------------- Summary of Operations(1) Noninterest revenues $ 188,960 $ 157,081 $ 105,370 $ 140,408 $ 655,605 Interest revenues 117,851 136,100 104,584 111,502 331,021 Interest expense 82,470 86,508 80,800 101,226 266,118 Provision for credit losses 35,976 36,309 22,506 38,329 199,509 Operating expenses 180,186 150,292 95,506 136,835 466,535 Minority interest in income of consolidated subsidiary 8,880 8,880 8,880 8,880 8,880 Unusual charges(2) 41,750 0 16,713 125,072 0 Gain on transfer of consumer credit card business 0 0 0 541,288 0 Income (loss) before income taxes (42,451) 11,192 (14,451) 382,856 45,584 Income (loss) from continuing operations (30,456) 11,192 41,334 408,604 25,920 Income (loss) from discontinued operations, net of tax (8,438) (163,578) 8,484 39,276 45,705 Loss, net, on discontinuance of mortgage and leasing businesses, net of tax (31,639) (4,298) 0 0 0 Net income (loss) (70,533) (156,684) 49,818 447,880 71,625 ---------------------------------------------------------------------------------------------------------- Per Common Share Data Basic income (loss) from continuing operations Class A $ (1.23) $ 0.39 $ 1.59 $ 15.14 $ 0.38 Class B (1.17) 0.47 1.66 15.21 0.50 Combined(3) (1.19) 0.44 1.63 15.18 0.45 Diluted income (loss) from continuing operations Class A (1.23) 0.39 1.58 14.32 0.38 Class B (1.17) 0.46 1.65 14.35 0.49 Combined(3) (1.19) 0.44 1.62 14.33 0.45 Basic net income (loss) Class A (2.79) (6.28) 1.95 16.62 1.45 Class B (2.73) (6.21) 2.02 16.68 1.57 Combined(3) (2.75) (6.24) 1.99 16.65 1.52 Diluted net income (loss) Class A (2.79) (6.23) 1.94 15.69 1.43 Class B (2.73) (6.16) 2.00 15.73 1.54 Combined(3) (2.75) (6.19) 1.98 15.71 1.50 Cash dividends declared Class A 0.252 0.252 0.252 0.252 0.440 Class B 0.302 0.302 0.302 0.302 0.528 Book value-combined 14.20 17.06 23.14 21.26 19.01 Closing stock price Class A 9.94 8.81 18.25 13.25 26.25 Class B 9.10 7.19 14.06 11.06 25.38 ---------------------------------------------------------------------------------------------------------- Financial Condition -- Year End Investments(4) $ 476,568 $ 866,376 $ 893,819 $1,290,373 $1,378,772 Gross business credit card receivables Owned 416,265 335,087 275,095 150,022 140,399 Securitized 1,626,709 1,324,137 765,019 664,712 522,688 -------------------------------------------------------------- Managed 2,042,974 1,659,224 1,040,114 814,734 663,087 Total assets 1,636,680 2,843,472 3,538,560 3,662,062 6,637,617 Deposits 636,915 1,346,976 1,512,359 1,749,790 3,017,611 Debt 323,582 755,184 788,508 1,030,147 2,248,172 Capital securities(5) 100,000 100,000 100,000 100,000 100,000 Stockholders' equity 366,299 440,902 589,631 560,304 926,950 ----------------------------------------------------------------------------------------------------------
19
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) YEAR ENDED DECEMBER 31, ---------------------------------------------------------------------------------------------------------- 2001 2000 1999 1998 1997 ---------------------------------------------------------------------------------------------------------- Selected Financial Ratios Return on average assets (3.39)% (4.35)% 1.34% 11.95% 1.09% Return on average common equity (17.50) (31.37) 8.82 82.76 8.47 Return on average total equity(6) (12.82) (25.11) 8.30 64.81 8.12 Equity/owned assets(6) 28.49 19.02 19.49 18.03 15.47 Dividend payout(7) N/M N/M 15.67 1.62 33.34 As a percentage of managed receivables: Total receivables 30 days or more delinquent 6.6 5.0 3.7 4.4 5.2 Net charge-offs(8) 7.6 4.6 5.1 6.7 6.8 ==========================================================================================================
(1) Results through February 1998 include the results of the consumer credit card unit. The results of the mortgage and leasing businesses are reported as discontinued operations in all periods presented. (2) 2001 amounts included severance, outplacement and other compensation costs associated with restructuring our corporate functions commensurate with the ongoing businesses as well as expenses associated with exited businesses and assets impairments. 1999 amounts included charges associated with cost reduction initiatives in the first quarter and additional costs associated with products exited in the first quarter of 1998. 1998 amounts included severance and outplacement costs associated with workforce reduction, option exercises and other employee costs associated with the disposition of our consumer credit card business and tender offer, and expense associated with exited business/products and asset impairment. (3) Combined represents a weighted average of Class A and Class B (see Note 1 to the consolidated financial statements). (4) Includes federal funds sold, investments available for sale and trading investments. (5) Represents company-obligated mandatorily redeemable preferred securities of subsidiary trust holding solely subordinated debentures of Advanta Corp. (6) Return on average total equity and equity/owned assets include capital securities as equity. The ratios without capital securities for 2001 were (17.42%) and 22.38%, respectively, for 2000 were (31.28%) and 15.51%, respectively, for 1999 were 8.82% and 16.66%, respectively, for 1998 were 74.75% and 15.30%, respectively and for 1997 were 8.33% and 13.97%, respectively. (7) The dividend payout ratio for the years ended December 31, 2001 and 2000 is negative and therefore, not meaningful. (8) Effective October 1, 2000, business credit card charge-off statistics reflect the adoption of a new charge-off policy for bankruptcies. Bankrupt business credit cards are charged off within a 60-day investigative period after receipt of notification. The previous policy provided a 90-day investigative period. Managed business credit card charge-offs for the year ended December 31, 2000 include a 0.2% acceleration of charge-offs in connection with the adoption of this policy. 20 ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OVERVIEW Our primary business segment is Advanta Business Cards, one of the nation's largest issuers of business credit cards to small businesses. In addition to our business credit card lending business, we have venture capital investments. Through the first quarter of 2001, we had two additional lending businesses, Advanta Mortgage and Advanta Leasing Services. In the first quarter of 2001, we exited our mortgage business, announced the discontinuance of our leasing business, and restructured our corporate functions to a size commensurate with our ongoing businesses. We are continuing to service the existing leasing portfolio rather than sell the business or the portfolio. The results of the mortgage and leasing businesses are reported as discontinued operations in all periods presented. The results of our ongoing businesses are reported as continuing operations for all periods presented. For the year ended December 31, 2001, we reported net loss from continuing operations of $30.5 million or $1.19 per combined common share, assuming dilution, compared to net income of $11.2 million or $0.44 per combined diluted common share for the year ended December 31, 2000. For the year ended December 31, 1999, we reported net income from continuing operations of $41.3 million or $1.62 per combined diluted common share. The loss from continuing operations for the year ended December 31, 2001 includes pretax investment losses on venture capital investments of $28.9 million and $41.8 million of pretax unusual charges representing costs associated with the restructure of our corporate functions to a size commensurate with our ongoing businesses and certain other unusual charges related to employee costs. In 2000, income from continuing operations includes pretax investment gains, net, on venture capital investments of $7.7 million, a pretax increase in the provision for credit losses on business credit cards of $18.4 million, and a $7.0 million pretax charge for an increase in litigation reserves. In 1999, income from continuing operations includes a tax benefit of $50.0 million related to the former consumer credit card business. Income from continuing operations for the year ended December 31, 1999 also includes pretax unusual charges of $6.7 million for severance and outplacement costs associated with cost cutting initiatives implemented in the first quarter of 1999 and $10.0 million of additional costs associated with products exited in the first quarter of 1998. In addition, in 1999 we recognized pretax investment gains on venture capital investments of $29.2 million, and non-operating charges of $16.9 million related to our exit from the auto finance business. Net income (loss) from continuing operations included the following business segment results:
YEAR ENDED DECEMBER 31, ----------------------------- 2001 2000 1999 ------------------------------------------------------------------------------------------- ADVANTA BUSINESS CARDS Pretax income $ 63,515 $45,325 $ 11,997 Income tax (expense) (24,452) 0 (4,727) ------------------------------------------------------------------------------------------- Net income $ 39,063 $45,325 $ 7,270 ------------------------------------------------------------------------------------------- VENTURE CAPITAL Pretax income (loss) $(33,158) $ 3,382 $ 26,329 Income tax (expense) benefit 12,765 0 (10,068) ------------------------------------------------------------------------------------------- Net income (loss) $(20,393) $ 3,382 $ 16,261 ===========================================================================================
Loss from discontinued operations, net of tax, was $8.4 million for the period from January 1, 2001 through February 28, 2001, the effective date of the Mortgage Transaction. Loss from discontinued operations, net of tax, was $163.6 million for the year ended December 31, 2000 and income from discontinued operations, net of tax, was $8.5 million for the year ended December 31, 1999. In addition to the operating results of the discontinued operations, we recorded a loss on the discontinuance of our leasing business of $4.3 million, net of tax, effective December 31, 2000. We also recorded an after tax loss on the discontinuance of our mortgage and leasing businesses of $31.6 million for the year ended December 31, 2001. The components of the net loss recorded in 2001 include a pretax gain on the Mortgage Transaction of 21 $20.8 million, a pretax loss on the discontinuance of our leasing business of $45.0 million, and tax expense of $7.4 million. The loss on the discontinuance of our leasing business in the year ended December 31, 2001 represents a revision to the estimated valuation of leasing assets and a decrease in the estimated pretax operating results over the remaining life of the lease portfolio, due primarily to the impact of a former leasing vendor's bankruptcy. CRITICAL ACCOUNTING POLICIES AND ESTIMATES Our significant accounting policies are described in Note 1 to the consolidated financial statements. The preparation of financial statements in accordance with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenues and expenses, and disclosure of contingent assets and liabilities. Actual results could differ from those estimates. We have identified accounting for securitizations, the allowance for credit losses, valuation of venture capital investments, valuation allowances on deferred tax assets and litigation contingencies as our most critical accounting policies and estimates in that they are important to the portrayal of our financial condition and results, and they require management's most difficult, subjective or complex judgments as a result of the need to make estimates about the effect of matters that are inherently uncertain. These accounting policies, including the nature of the estimates and types of assumptions used, are described throughout Management's Discussion and Analysis. ADVANTA BUSINESS CARDS OVERVIEW Advanta Business Cards offers business credit cards to small businesses using targeted direct mail, the Internet and telemarketing solicitation of potential cardholders. This product provides approved customers with access, through merchants, banks, checks and ATMs, to an instant unsecured revolving business credit line. Advanta Business Cards generates interest and other income through finance charges assessed on outstanding balances, interchange income, and cash advance and other credit card fees. The managed business credit card receivable portfolio grew from $1.0 billion at December 31, 1999 to $1.7 billion at December 31, 2000 and $2.0 billion at December 31, 2001. Advanta Business Cards originated 224,255 new accounts during the year ended December 31, 2001, 311,275 new accounts in 2000 and 146,436 new accounts in 1999. The growth in receivables and level of originations in 2001 reflected our plan to grow our portfolio in a controlled manner that we believed was prudent given the prevailing economic environment. Pretax income for Advanta Business Cards was $63.5 million for the year ended December 31, 2001 as compared to $45.3 million for year ended December 31, 2000 and $12.0 million for the year ended December 31, 1999. The components of pretax income for Advanta Business Cards for the years ended December 31 were as follows:
2001 2000 1999 ------------------------------------------------------------------------------------------- Net interest income on owned receivables $ 43,337 $ 47,039 $23,185 Noninterest revenues 225,364 155,500 84,252 Provision for credit losses 35,373 36,307 17,926 Operating expenses 169,813 120,907 77,514 ------------------------------------------------------------------------------------------- Pretax income $ 63,515 $ 45,325 $11,997 -------------------------------------------------------------------------------------------
The increase in noninterest revenues in both years is due primarily to growth in securitized receivables and increased interchange income. The increases in operating expenses in both years resulted from growth in managed receivables. The provision for credit losses and noninterest revenues in the year ended December 31, 2001 include the impact of an increase in managed credit losses due to the seasoning of the business credit card portfolio and the current economic environment. The provision for credit losses for the year ended December 31, 2000 includes an $8 million increase attributable to a revision of our estimate of the allowance for credit losses as a result of the following factors: (1) discussions with our banking regulators relating to the 22 implementation of the agreement between Advanta Bank Corp. and the Federal Deposit Insurance Corporation that was disclosed in June 2000; (2) changes in the economic environment; and (3) the use of more conservative loss estimates for certain segments of the loan portfolio. See further discussion in the "Provision and Allowance for Credit Losses" section of Management's Discussion and Analysis. The following table provides selected information on a managed loan portfolio basis. MANAGED PORTFOLIO DATA ($ IN THOUSANDS)
2001 2000 1999 ------------------------------------------------------------------------------------------------- Average managed business credit card receivables $1,872,314 $1,372,717 $ 892,862 Ending managed business credit card receivables 2,042,974 1,659,224 1,040,114 Ending number of accounts -- managed 682,890 585,836 352,312 As a percentage of average managed receivables: Net interest margin 15.0% 12.8% 11.5% Fee revenues 5.6 5.4 4.4 Net charge-offs 7.7 4.7 5.0 Risk-adjusted revenues(1) 12.9 13.5 10.9 Total receivables 30 days or more delinquent at December 31 6.7% 5.0% 3.7% -------------------------------------------------------------------------------------------------
(1) Risk-adjusted revenues represent net interest margin and fee revenues, less net charge-offs. SECURITIZATION INCOME A significant portion of our funding is through off-balance sheet business credit card securitizations via a securitization trust. The securitization trust was created to hold the collateral (the securitized receivables) and issue debt to investors. The securitization trust is a qualifying special-purpose entity as defined by Statement of Financial Accounting Standards ("SFAS") No. 140, "Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities -- a Replacement of FASB Statement No. 125," and therefore, is not consolidated as part of Advanta Corp.'s consolidated financial statements. We do not provide any guarantee of the debt issued by the special-purpose entity and our recourse in the transactions is limited to the value of our interests in securitizations that act as credit enhancement to the investors' interests. We sell business credit card receivables through securitizations with servicing retained. When we securitize, we surrender control over the transferred assets and account for the transaction as a sale to the extent that consideration other than beneficial interests in the transferred assets is received in exchange. We allocate the previous carrying amount of the securitized receivables between the assets sold and the retained interests, based on their relative estimated fair values at the date of sale. Securitization income is recognized at the time of the sale, equal to the excess of the fair value of the assets obtained (principally cash) over the allocated cost of the assets sold and transaction costs. During the revolving period of each business credit card securitization, securitization income is recorded representing estimated gains on the sale of new receivables to the securitization trust on a continuous basis to replenish the investors' interest in securitized receivables that have been repaid by the business credit card account holders. Fair value estimates used in the recognition of securitization income require certain assumptions of payment, default and interest rates. To the extent actual results are different than those estimates, the impact is recognized in securitization income. Retained interests in securitizations include restricted cash reserve accounts, retained interest-only strips and subordinated trust assets related to securitizations. Subordinated trust assets represent an ownership interest in the securitized receivables that is subordinated to the other investors' interests. Retained interests in securitizations serve as credit enhancement for the securitization transactions. We account for retained interests in securitizations as trading securities. These assets are recorded at estimated fair value and the resulting unrealized gain or loss from the valuation is included in securitization income. We estimate the fair value of retained interests in securitizations based on a discounted cash flow analysis. The cash flows of the retained interest-only strip are estimated as the excess of the weighted average 23 finance charge yield on each pool of the receivables sold over the sum of the interest rate paid to the note holder, the servicing fee and an estimate of future credit losses over the life of the receivables. Cash flows are discounted from the date the cash is expected to become available to us (the "cash-out" method). These cash flows are projected over the life of the receivables using payment, default, and interest rate assumptions that management believes would be used by market participants for similar financial instruments subject to prepayment, credit and interest rate risk. The cash flows are discounted using an interest rate that management believes a purchaser unrelated to the seller of the financial instrument would demand. As all estimates used are influenced by factors outside our control, there is uncertainty inherent in these estimates, making it reasonably possible that they could change in the near term. See Note 6 to the consolidated financial statements for the key assumptions used in the estimation of fair values of the retained interests in securitizations at December 31, 2001 and 2000. Interest income is recognized over the life of the retained interests in securitizations using the discount rate used in the valuation. Advanta Business Cards recognized securitization income of $113.5 million for the year ended December 31, 2001, $70.8 million for the year ended December 31, 2000, and $33.5 million for the year ended December 31, 1999. The increase in securitization income in 2001 and 2000 was due to increased volume of securitized receivables and increased yields on securitized receivables, partially offset by increased credit losses on securitized receivables. In September 2000, the FASB issued SFAS No. 140 which revised the standards for accounting for securitizations and other transfers of financial assets and collateral and required certain disclosures, but carried over most of SFAS No. 125's provisions without amendment. SFAS No. 140 was effective for transfers and servicing of financial assets and extinguishments of liabilities occurring after March 31, 2001. The statement was effective for recognition and reclassification of collateral and for disclosures relating to securitization transactions and collateral for fiscal years ending after December 15, 2000. The adoption of SFAS No. 140 did not have a material effect on our financial position or results of operations. We adopted Emerging Issues Task Force Issue 99-20, "Recognition of Interest Income and Impairment on Purchased and Retained Beneficial Interest in Securitized Financial Assets" on April 1, 2001. The implementation of EITF 99-20 did not have a material effect on our financial position or results of operations. SERVICING REVENUES Advanta Business Cards recognized servicing revenue of $29.2 million for the year ended December 31, 2001, $17.3 million for the year ended December 31, 2000, and $13.8 million for the year ended December 31, 1999. The increase in servicing revenue in 2001 and 2000 was due to increased volume of securitized receivables. INTERCHANGE INCOME Business credit card interchange income on the managed portfolio was $80.7 million for the year ended December 31, 2001, $61.7 million for the year ended December 31, 2000, and $33.8 million for the year ended December 31, 1999. The increase in interchange income in both years was primarily due to higher purchase volume related to the increase in average managed business credit card accounts and receivables. The average interchange rate was 2.2% for the year ended December 31, 2001 and 2.1% for the years ended December 31, 2000 and 1999. VENTURE CAPITAL Our venture capital segment makes venture capital investments through our affiliates. Our investment objective is to earn attractive returns by building the long-term values of the businesses in which we invest. Our investment affiliates combine transaction expertise, management skills and a broad contact base with strong industry-specific knowledge. We actively monitor the performance of our venture capital investments and employees and officers of our investment affiliates participate on the boards of directors of some investees. Investments of our venture capital unit are included in investments available for sale and are carried at estimated fair value following the specialized industry accounting principles of this unit. Management makes fair value determinations based on quoted market prices, when available, and considers the investees' financial 24 results, conditions and prospects when market prices are not available. In accordance with the specialized industry accounting principles of venture capital investment companies, the unrealized and realized gains and losses on these investments are included in other revenues rather than other comprehensive income and the equity method of accounting for investments is not applied. The fair value of our venture capital investments was $18.6 million at December 31, 2001 and $45.3 million at December 31, 2000. The fair values of these equity investments are subject to significant volatility. Our investments in specific companies and industry segments may vary over time, and changes in concentrations may affect price volatility. We primarily invest in privately-held companies, including early stage companies. These investments are inherently risky as the market for the technologies or products the investees have under development may never materialize. Consistent with market conditions for venture capital investments, pretax loss for the venture capital segment was $33.2 million for the year ended December 31, 2001, and included $28.9 million of realized losses and decreases in valuations of venture capital investments. Pretax income for the venture capital segment was $3.4 million for the year ended December 31, 2000, and included $11.4 million in gains on the sale of venture capital investments and $3.7 million of net decreases in valuations of venture capital investments. Pretax income for the venture capital segment was $26.3 million for the year ended December 31, 1999, and included $29.2 million of gains on the sale of venture capital investments. DISCONTINUED OPERATIONS We recorded a loss on the discontinuance of our leasing business of $4.3 million, net of tax, effective December 31, 2000. We also recorded an after tax loss on the discontinuance of our mortgage and leasing businesses of $31.6 million for the year ended December 31, 2001. The components of the net loss recorded in 2001 include a pretax gain on the Mortgage Transaction of $20.8 million, a pretax loss on the discontinuance of our leasing business of $45.0 million, and tax expense of $7.4 million. Effective February 28, 2001, we completed the Mortgage Transaction and exit of our mortgage business, Advanta Mortgage, through a purchase and sale agreement with Chase Manhattan Mortgage Corporation as buyer. Prior to the Mortgage Transaction, Advanta Mortgage made nonconforming home equity loans directly to consumers and through brokers. This business unit originated and serviced 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 originated, Advanta Mortgage contracted with third parties to service their nonconforming home equity loans on a subservicing basis. Following the Mortgage Transaction, we no longer operate a mortgage business. The purchase and sale agreement provided for the sale, transfer and assignment of substantially all of the assets and operating liabilities associated with our mortgage business, as well as specified contingent liabilities arising from our operation of the mortgage business prior to closing that were identified in the purchase and sale agreement. We retained contingent liabilities, primarily relating to litigation, arising from our operation of the mortgage business before closing that were not specifically assumed by the buyer. The proceeds from the sale exceeded $1 billion, subject to closing adjustments, resulting in an estimated gross gain of approximately $60 million before transaction expenses, severance expenses and other costs. The gain on the Mortgage Transaction does not reflect any impact from the post-closing adjustment process. Although the Mortgage Transaction resulted in a gain for financial reporting purposes, due to book/tax differences, we will not pay any material federal income tax as a result of the sale. See Note 11 to the consolidated financial statements for a discussion of litigation related to the Mortgage Transaction. On January 23, 2001, we announced that after a thorough review of strategic alternatives available for our leasing business, Advanta Leasing Services, we decided to cease originating leases. Advanta Leasing Services offered flexible lease financing programs on small-ticket equipment to small businesses. The primary products financed included office machinery, security systems and computers. We will continue to service the existing portfolio rather than sell the business or the portfolio. In connection with the discontinuance of the leasing business, we recorded a $4.3 million pretax loss effective December 31, 2000, representing the estimated operating results through the remaining term of the leasing portfolio. Estimated operating results of the leasing 25 business included estimated valuations of retained interests in leasing securitizations, estimated cash flows from on-balance sheet lease receivables, interest expense and operating expenses. As all estimates used are influenced by factors outside our control, there is uncertainty inherent in these estimates, making it reasonably possible that they could change in the near term. In the year ended December 31, 2001, we incurred an additional $45.0 million pretax loss on the discontinuance of the leasing business due to changes in the estimate of those operating results. These changes in estimate were needed due to an increase in estimated credit losses expected throughout the remaining term of the leasing portfolio based on credit loss experience in 2001. The primary factor contributing to the increased credit losses is that one of our former leasing vendors filed for bankruptcy protection and this vendor's financial problems have impacted its ability to service a segment of our leasing portfolio. This vendor is unique from our other leasing vendors in that it had a significant servicing relationship with our customers and the equipment under lease provided fee revenue to our customers for usage. Also, our contract with the vendor provided that the vendor would provide a guaranty if the performance of the leases did not meet certain criteria. This guaranty was considered when underwriting the leases. Loss from discontinued operations, net of tax, was $8.4 million for the period from January 1, 2001 through February 28, 2001, the effective date of the Mortgage Transaction. Loss from discontinued operations, net of tax, was $163.6 million for the year ended December 31, 2000. Income from discontinued operations, net of tax, was $8.5 million for the year ended December 31, 1999. Loss from discontinued operations for the year ended December 31, 2000 includes 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 and third quarters of 2000, and changes during the second quarter in the market and the political and regulatory environment for subprime lending. These charges included a pretax 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. These Advanta National Bank charges reduced net income by $236.0 million or $9.31 per combined common diluted share. In addition, loss from discontinued operations for the year ended December 31, 2000 includes $20.3 million of pretax charges resulting 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. These charges reduced net income by $20.3 million or $0.80 per combined common diluted share. Loss from discontinued operations for the year ended December 31, 2000 also includes $25.3 million of revenues related to termination fees received under a mortgage servicing agreement. See Note 11 to the consolidated financial statements. Income from discontinued operations for the year ended December 31, 1999 includes $28.8 million of pretax valuation adjustments to the retained interests in mortgage securitizations and contractual mortgage servicing rights, which decreased net income by $17.4 million or $0.73 per combined diluted share. Of the total valuation adjustment, $10 million was recorded in the second quarter of 1999, which resulted from an increase in credit losses expected in the off-balance sheet mortgage loan portfolio based on portfolio trends and experience. The majority of the remaining charge was recorded in the fourth quarter of 1999 and resulted from an increase in the discount rate on the retained interest-only strip and an increase in the credit loss assumption. The discount rate was increased due to an increase in market interest rates and an observed trend toward higher discount rates in available public disclosures relating to comparable instruments. The increase in the loss assumption was due to an additional increase in credit losses expected in the off-balance sheet mortgage loan portfolio based on trends and experience. The decrease in the valuation caused by the increased discount rate and credit loss assumption was slightly offset by a decrease in prepayment speeds experienced. Additionally, in the first quarter of 1999, we recorded pretax valuation adjustments to the retained interests in auto loan securitizations of $12 million, which decreased net income by $7.4 million, or $0.31 per combined diluted share. In the first quarter of 1999, management implemented a plan to exit the auto finance business and engaged an investment banker to solicit bids for the business as a whole, including our retained interests in auto securitizations and certain auto loan receivables. Although management did not ultimately accept any offers to acquire the retained interests, the informal bids received were considered as part of our 26 fair value analysis of the retained interests, which resulted in a decrease in the valuation of the assets as of March 31, 1999. INTEREST INCOME AND EXPENSE Interest income decreased by $18.2 million for the year ended December 31, 2001 as compared to the year ended December 31, 2000. During the same period, interest expense decreased by $4.0 million. The decrease in interest income was due primarily to a decrease in on-balance sheet business credit card receivables and investments. Also contributing to the decreased interest income was a decrease in the average yield earned on our investment portfolio caused by the interest rate environment and a shift in the composition of the portfolio. Short-term investments, including federal funds sold and interest-bearing deposits, represented 71% of the average investment portfolio for the year ended December 31, 2001 as compared to 27% for the year ended December 31, 2000. Excess liquid assets were held in short-term, high-quality investments earning money market rates until they could be deployed. See further discussion in the "Liquidity and Capital Resources" section of Management's Discussion and Analysis. The decrease in interest expense was due to a decrease in interest-bearing liabilities, partially offset by an increase in our average cost of funds. Interest income increased by $31.5 million for the year ended December 31, 2000 as compared to the year ended December 31, 1999. During the same period, interest expense increased by $5.7 million. The increase in interest income was due to an increase in yields on business credit card receivables as well as an increase in average on-balance sheet business credit card receivables. The increase in interest expense was due to an increase in our average cost of funds. Our average cost of funds increased to 7.24% in 2001 from 6.89% in 2000. Our average cost of funds was 5.87% in 1999. The increase in the average cost of funds in 2001 as compared to 2000 was attributable to the increase in debt as a percentage of total interest-bearing liabilities and an increase in the average interest rate on debt funding. Debt represented 35% of total average interest-bearing liabilities for the year ended December 31, 2001 as compared to 27% for the same period of 2000. The average interest rate on debt funding was 9.47% for the period ended December 31, 2001 as compared to 8.17% for the same period of 2000. The average interest rate on debt funding increased in 2001 due to a change in the composition of our debt. We paid off substantially all of our medium-term notes in 2001 and did not renew or originate senior notes for a portion of 2001 due to our liquidity position. We expect our average interest rate on debt funding to decrease in the future as we replace the maturities of our higher rate notes with notes bearing lower interest rates more in line with the current market rates. The increase in the average cost of funds in 2000 as compared to 1999 was primarily attributable to rising market interest rates. During 2001, 2000 and 1999, we used interest rate swaps to manage the impact of fluctuating interest rates on our cost of funds. The interest rate swaps effectively converted fixed rate medium-term notes to a LIBOR-based variable rate. Interest rate swap agreements generally involve the exchange of fixed and floating rate interest payments without the exchange of the underlying notional amount on which the interest payments are calculated. There were no interest rate swaps outstanding related to continuing operations at December 31, 2001 because of the substantial reduction in outstanding medium-term notes during the year. 27 The following table provides an analysis of owned interest income and expense data, average balance sheet data, net interest spread, and net interest margin for both continuing and discontinued operations. 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. Interest income includes late fees on business credit card receivables. Average owned receivables include deferred origination costs, net of deferred fees. INTEREST RATE ANALYSIS
YEAR ENDED DECEMBER 31, ($ IN THOUSANDS) --------------------------------------------------------------------------------------------------- 2001 2000 1999 ------------------------------- ------------------------------- ------------------------------- AVERAGE AVERAGE AVERAGE AVERAGE AVERAGE AVERAGE BALANCE INTEREST RATE BALANCE INTEREST RATE BALANCE INTEREST RATE --------------------------------------------------------------------------------------------------------------------------------- ON-BALANCE SHEET ---------------------------- Interest-earning assets: Receivables: Business credit cards $ 382,262 $ 75,998 19.88% $ 399,692 $ 77,528 19.40% $ 212,311 $ 35,265 16.61% Other receivables 28,271 1,245 4.40 23,067 979 4.25 17,450 2,188 12.54 ---------- -------- ------ ---------- -------- ------ ---------- -------- ------ Total receivables 410,533 77,243 18.82 422,759 78,507 18.57 229,761 37,453 16.30 Federal funds sold 347,569 13,169 3.79 218,387 13,896 6.36 272,330 13,535 4.97 Restricted interest-bearing deposits 269,317 10,572 3.93 26,121 1,762 6.75 27,586 1,416 5.13 Trading investments 0 0 0.00 0 0 0.00 110,565 6,752 6.11 Tax-free securities(1) 4,295 392 9.13 3,786 348 9.19 3,857 319 8.27 Taxable investments 251,808 15,741 6.25 656,868 41,964 6.39 798,633 44,842 5.61 Interest earning assets of discontinued operations 205,605 29,121 14.16 1,457,218 179,957 12.35 1,565,773 142,632 9.11 ---------- -------- ------ ---------- -------- ------ ---------- -------- ------ Total interest-earning assets(2) $1,489,127 $146,238 9.82% $2,785,139 $316,434 11.36% $3,008,505 $246,949 8.21% ========== ======== ====== ========== ======== ====== ========== ======== ====== Interest-bearing liabilities: Deposits Savings $ 29,438 $ 1,472 5.00% $ 182,112 $ 10,206 5.60% $ 262,501 $ 13,120 5.00% Time deposits under $100,000 682,088 42,303 6.20 1,227,550 79,810 6.50 1,063,354 60,271 5.67 Time deposits of $100,000 or more 177,371 10,138 5.72 441,856 28,755 6.51 500,268 27,995 5.60 ---------- -------- ------ ---------- -------- ------ ---------- -------- ------ Total deposits 888,897 53,913 6.07 1,851,518 118,771 6.41 1,826,123 101,386 5.55 Debt 482,801 45,700 9.47 747,182 61,030 8.17 893,720 58,441 6.53 Other borrowings 17,730 1,035 5.84 137,024 8,792 6.42 54,008 3,225 5.92 ---------- -------- ------ ---------- -------- ------ ---------- -------- ------ Total interest-bearing liabilities 1,389,428 100,648 7.24 2,735,724 188,593 6.89 2,773,851 163,052 5.87 Net noninterest-bearing liabilities 99,699 49,415 234,654 ---------- ---------- ---------- Sources to fund interest-earning assets(3) $1,489,127 $100,648 6.76% $2,785,139 $188,593 6.77% $3,008,505 $163,052 5.42% ========== ======== ====== ========== ======== ====== ========== ======== ====== Net interest spread 2.58% 4.47% 2.34% ====== ====== ====== Net interest margin 3.06% 4.59% 2.79% =================================================================================================================================
(1) Interest and average rate for tax-free securities are computed on a tax equivalent basis using a statutory rate of 35%. (2) Includes assets held and available for sale and nonaccrual receivables. (3) Includes funding of assets for both continuing and discontinued operations. 28 INTEREST VARIANCE ANALYSIS: ON-BALANCE SHEET The following table presents the effects of changes in average volume and interest rates on individual financial statement line items on a tax equivalent basis. Changes not solely due to volume or rate have been allocated on a pro rata basis between volume and rate. The effects on individual financial statement line items are not necessarily indicative of the overall effect on net interest income.
2001 VS. 2000 2000 VS. 1999 ($ IN THOUSANDS) --------------------------------- ------------------------------ INCREASE (DECREASE) DUE TO INCREASE (DECREASE) DUE TO --------------------------------- ------------------------------ VOLUME RATE TOTAL VOLUME RATE TOTAL --------------------------------------------------------------------------------------------------------- Interest income from: Receivables: Business credit cards $ (3,424) $ 1,894 $ (1,530) $ 35,506 $ 6,757 $42,263 Other receivables 230 36 266 551 (1,760) (1,209) Federal funds sold 6,238 (6,965) (727) (2,989) 3,350 361 Restricted interest-bearing deposits 9,842 (1,032) 8,810 (79) 425 346 Trading investments 0 0 0 (6,752) 0 (6,752) Tax-free securities 46 (2) 44 (6) 35 29 Taxable investments (25,323) (900) (26,223) (8,600) 5,722 (2,878) Interest earning assets of discontinued operations (173,912) 23,076 (150,836) (10,463) 47,788 37,325 --------- ------- --------- -------- ------- ------- Total interest income(1) $(186,303) $16,107 $(170,196) $ 7,168 $62,317 $69,485 --------- ------- --------- -------- ------- ------- Interest expense on: Deposits: Savings $ (7,744) $ (990) $ (8,734) $ (4,357) $ 1,443 $(2,914) Time deposits under $100,000 (33,977) (3,530) (37,507) 10,030 9,509 19,539 Time deposits of $100,000 or more (15,479) (3,138) (18,617) (3,489) 4,249 760 Debt (23,975) 8,645 (15,330) (10,556) 13,145 2,589 Other borrowings (7,028) (729) (7,757) 5,277 290 5,567 --------- ------- --------- -------- ------- ------- Total interest expense (88,203) 258 (87,945) (3,095) 28,636 25,541 --------- ------- --------- -------- ------- ------- Net interest income $ (98,100) $15,849 $ (82,251) $ 10,263 $33,681 $43,944 =========================================================================================================
(1) Includes income from assets held and available for sale. PROVISION AND ALLOWANCE FOR CREDIT LOSSES The allowance for credit losses is established as losses are estimated to have occurred through a provision for credit losses charged to earnings. The allowance for credit losses is evaluated on a regular basis by management and is based upon management's periodic review of the collectibility of receivables in light of historical experience by loan type, the nature and volume of the loan portfolio, adverse situations that may affect the borrowers' ability to repay and prevailing economic conditions. Since our loan portfolio is comprised of large groups of smaller balance homogeneous loans, we evaluate each group collectively for impairment. The allowance is determined primarily based on a migration analysis of delinquent and current accounts and certain qualitative factors consistent with applicable bank regulatory guidelines. As part of our evaluation, we compare actual credit loss performance to previously estimated credit losses, and make modifications to estimates as needed. This allowance for credit loss evaluation is inherently subjective, as it requires estimates that are susceptible to significant revision as more information becomes available. The allowance for credit losses is maintained for on-balance sheet receivables and is intended to cover all credit losses inherent in the owned loan portfolio. Anticipated losses on securitized assets are reflected in the calculations of securitization income and the fair value of retained interests in securitizations. See Note 1 to the consolidated financial statements. Such loss estimates are intended to cover all probable credit losses over the life of the securitized receivables. Management continually evaluates both its on-balance sheet and off-balance sheet estimates and, as appropriate, effects changes to these amounts. 29 Nonperforming assets include receivables past due 90 days or more, and bankrupt, decedent and fraudulent business credit card accounts. We charge losses on business credit card accounts against the allowance 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. Effective October 1, 2000, bankrupt business credit cards are charged off within a 60-day investigative period after receipt of notification. The previous policy provided a 90-day investigative period. Net charge-offs include the principal amount of losses less current period recoveries. The accrued interest and fee portion of the charged-off receivable balance is deducted from current period income. Receivables are put on nonaccrual status when they become 90 days past due. Gross interest income that would have been recorded for owned nonperforming assets, had interest been accrued throughout the year in accordance with the assets' original terms, was $2.7 million in 2001. The provision for credit losses for the year ended December 31, 2001 was $36.0 million as compared to $36.3 million for the year ended December 31, 2000. The provision for credit losses in 2000 includes a revision in our estimate of the allowance for credit losses on business credit card receivables. The revised estimate for the overall portfolio was recorded in September 2000 and was developed based on discussions with our banking regulators, changes in the economic environment and the use of more conservative loss estimates for certain segments of the loan portfolio. Those segments included accounts with lower credit scores, accounts held by businesses in operation less than twelve months, and accounts in which cash borrowings comprise a significant portion of the outstanding balance. As a result of these changes in estimate in 2000, we increased our allowance for credit losses by approximately $8 million, which increased the provision for credit losses and decreased net income by approximately $8 million or $0.32 per diluted combined share for the year ended December 31, 2000. The provision for credit losses in 2001 reflects the seasoning of the business credit card portfolio and the current economic environment. These factors were evident in the delinquency rates and charge-off rates. Total owned business credit card receivables 30 days or more delinquent increased from 5.5% at December 31, 2000 to 6.7% at December 31, 2001. The charge-off rate on owned business credit card receivables for the year ended December 31, 2001 was 7.2% as compared to 4.5% for the year ended December 31, 2000. We expect the trend of increasing charge-off rates to continue in 2002 due to the continued seasoning of the portfolio and the current economic environment. Although charge-off levels are not always predictable since they are impacted by the economic environment and other factors, we currently expect the twelve month average charge-off rate for 2002 to be between 8.5% and 9.5% on managed business credit card receivables. We expect charge-off rates to be higher in the first half of 2002 than in the second half based on the current composition of the portfolio. For the year ended December 31, 2000, the provision for credit losses increased by $13.8 million as compared to 1999. The increase in the provision was primarily due to a change in estimate of the allowance for credit losses for business credit cards as discussed above and the maturing and growth of the business credit card portfolio in 2000. Average on-balance sheet business credit card receivables increased 88% in 2000 as compared with 1999. At December 31, 2001, the allowance for credit losses on a consolidated basis was $42.0 million, or 9.4% of owned receivables, compared to $33.4 million, or 9.3%, at December 31, 2000. The allowance for credit losses on business credit card receivables was $41.2 million, or 9.9% of owned receivables, at December 31, 2001, as compared to $33.2 million, or 9.9%, at December 31, 2000. The allowance for credit losses on other receivables was $802 thousand at December 31, 2001 and $202 thousand at December 31, 2000. The increase in the allowance for credit losses on other receivables in the year ended December 31, 2001 was due to growth in other receivables from $24.2 million at December 31, 2000 to $28.2 million at December 31, 2001. There were no significant changes or trends in credit quality statistics of other receivables in 1999 through 2001. 30 CREDIT QUALITY The following table provides a summary of allowances for credit losses, nonperforming assets, delinquencies and charge-offs for the past five years. Consolidated data includes business credit cards, consumer credit cards through February 1998, and other receivables.
DECEMBER 31, ------------------------------------------------------ ($ IN THOUSANDS) 2001 2000(A) 1999 1998 1997 -------------------------------------------------------------------------------------------------------------- CONSOLIDATED -- MANAGED Nonperforming assets $ 81,666 $45,160 $24,118 $ 25,469 $118,815 Accruing receivables past due 90 days or more 0 0 0 0 203,069 Total receivables 30 days or more delinquent 137,517 83,798 39,681 36,578 623,919 As a percentage of gross receivables: Nonperforming assets 3.9% 2.7% 2.3% 3.1% 1.0% Accruing receivables past due 90 days or more 0.0 0.0 0.0 0.0 1.7 Total receivables 30 days or more delinquent 6.6 5.0 3.7 4.4 5.2 Net charge-offs: Amount $143,593 $64,638 $46,707 $173,687 $814,859 As a percentage of average gross receivables 7.6% 4.6% 5.1% 6.7% 6.8% -------------------------------------------------------------------------------------------------------------- CONSOLIDATED -- OWNED Allowance for credit losses $ 41,971 $33,367 $14,865 $ 10,650 $129,053 Nonperforming assets 20,052 10,700 7,028 7,719 25,906 Accruing receivables past due 90 days or more 0 0 0 0 49,410 Total receivables 30 days or more delinquent 29,520 19,395 11,591 7,885 149,094 As a percentage of gross receivables: Allowance for credit losses 9.4% 9.3% 4.9% 6.3% 4.7% Nonperforming assets 4.5 3.0 2.3 4.6 0.9 Accruing receivables past due 90 days or more 0.0 0.0 0.0 0.0 1.8 Total receivables 30 days or more delinquent 6.6 5.4 3.8 4.7 5.4 Net charge-offs: Amount $ 27,372 $17,807 $12,500 $ 38,312 $143,218 As a percentage of average gross receivables 6.7% 4.2% 5.4% 7.0% 7.4% -------------------------------------------------------------------------------------------------------------- BUSINESS CREDIT CARDS -- MANAGED Nonperforming assets $ 81,083 $44,600 $23,498 $ 25,231 $ 17,362 Total receivables 30 days or more delinquent 136,037 82,915 38,437 35,900 29,340 As a percentage of gross receivables: Nonperforming assets 4.0% 2.7% 2.3% 3.1% 2.6% Total receivables 30 days or more delinquent 6.7 5.0 3.7 4.4 4.4 Net charge-offs: Amount $143,590 $64,636 $44,309 $ 43,732 $ 18,928 As a percentage of average gross receivables 7.7% 4.7% 5.0% 5.9% 3.7% -------------------------------------------------------------------------------------------------------------- BUSINESS CREDIT CARDS -- OWNED Allowance for credit losses $ 41,169 $33,165 $14,663 $ 6,916 $ 6,899 Nonperforming assets 19,469 10,140 6,408 7,481 4,696 Total receivables 30 days or more delinquent 28,040 18,512 10,347 7,207 7,918 As a percentage of gross receivables: Allowance for credit losses 9.9% 9.9% 5.3% 4.6% 4.9% Nonperforming assets 4.7 3.0 2.3 5.0 3.3 Total receivables 30 days or more delinquent 6.7 5.5 3.8 4.8 5.6 Net charge-offs: Amount $ 27,369 $17,805 $10,103 $ 10,033 $ 6,198 As a percentage of average gross receivables 7.2% 4.5% 4.8% 6.9% 3.3% --------------------------------------------------------------------------------------------------------------
(A) Effective October 1, 2000, business credit card charge-off statistics reflect the adoption of a new charge-off policy for bankruptcies. Bankrupt business credit cards are charged off within a 60-day investigative period after receipt of notification. The previous policy provided a 90-day investigative period. Managed and owned business credit card charge-offs for the year ended December 31, 2000 include a 0.2% acceleration of charge-offs in connection with the adoption of this policy. 31 OTHER REVENUES
YEAR ENDED DECEMBER 31, ($ IN THOUSANDS) ------------------------------ 2001 2000 1999 -------------------------------------------------------------------------------------------- Investment securities gains (losses), net $(26,227) $ 5,473 $30,132 Business credit card rewards (8,979) (3,162) (834) Loss on sale of deposits (2,835) 0 0 Insurance revenues, net and other 3,581 4,995 7,279 -------------------------------------------------------------------------------------------- Total other revenues, net $(34,460) $ 7,306 $36,577 ============================================================================================
Investment securities gains (losses) include changes in the fair value and realized gains (losses) on venture capital investments. Investment securities losses for the year ended December 31, 2001 include $9.3 million in realized losses on venture capital investments, $19.6 million in decreases in valuations of venture capital investments, and $2.7 million of realized gains on other investments. Investment securities gains (losses) for the year ended December 31, 2000 include $11.4 million in gains on the sale of venture capital investments, $3.7 million of net decrease in valuations of venture capital investments, and $2.2 million of realized losses on other investments. Investment securities gains (losses) for the year ended December 31, 1999 include $29.2 million of gains on the sale of venture capital investments. Business credit card rewards, which include bonus miles and cash-back rewards, are earned by eligible cardholders based on net purchases charged to their accounts. The cost of future reward redemptions are estimated and recorded at the time bonus mile points or cash-back rewards are earned by the cardholder. We estimate that 80% to 100% of cardholders will ultimately claim rewards. The estimate varies depending on the structure of the rewards program. These costs of future reward redemptions are recorded as a reduction of other revenues. Increases in business credit card rewards in the years ended December 31, 2001 and 2000 were due to the increase in average managed business credit card accounts in the rewards programs and the corresponding purchase activity in those accounts. In the second quarter of 2001, we sold $389.7 million of deposit liabilities to E*TRADE Bank, a wholly owned subsidiary of E*TRADE Group, Inc., resulting in a $2.8 million loss. In the first quarter of 2001, we successfully negotiated an early termination of our strategic alliance with Progressive Casualty Insurance Company to direct market auto insurance. Insurance revenues, net and other for the year ended December 31, 2001 includes operating results of insurance operations, the impact of the termination of the strategic alliance with Progressive Casualty Insurance Company and $10 million of charges related to the write-off of insurance-related deferred acquisition costs that were unrealizable subsequent to the termination of the auto insurance strategic alliance. Insurance revenues, net and other for the year ended December 31, 2000 includes a charge of approximately $3 million in the insurance business relating to the settlement of a large policy claim. OPERATING EXPENSES
($ IN THOUSANDS) 2001 2000 1999 --------------------------------------------------------------------------------------------- Salaries and employee benefits $ 59,823 $ 42,499 $35,300 Amortization of business credit card deferred origination costs, net 39,118 23,961 5,863 External processing 17,272 13,236 8,507 Professional/consulting fees 15,320 18,451 12,159 Marketing 10,574 11,492 2,397 Equipment 8,768 8,101 4,717 Occupancy 5,941 5,852 6,710 Credit 5,419 4,772 3,926 Insurance 4,607 4,628 2,622 Postage 3,304 2,947 1,846 Fraud loss 2,568 1,965 833 Telephone 2,404 1,811 1,322 Other 5,068 10,577 9,304 --------------------------------------------------------------------------------------------- Total operating expenses $180,186 $150,292 $95,506 =============================================================================================
32 Salaries and employee benefits, amortization of business credit card deferred origination costs, net, external processing and fraud loss expenses increased for the year ended December 31, 2001 as compared to the year ended December 31, 2000 due primarily to growth in managed business credit card receivables. Average managed business credit card receivables increased 36% in 2001 from $1.4 billion at December 31, 2000 to $1.9 billion at December 31, 2001. We expect our total operating expenses to continue to increase in 2002 as we make additional investments in initiatives to strengthen our position as a leading issuer of business credit cards to the small business market. These include initiatives to provide additional value to our existing customers, customer retention campaigns, development of ancillary non-financial products and services, development of affinity cards and partnership relationships, and enhancement of internet capabilities for servicing our customers. Professional fees decreased by $3.1 million for the year ended December 31, 2001 as compared to the year ended December 31, 2000. The decrease in professional fees was due to consulting costs incurred in 2000 associated with the implementation of our bank regulatory agreements, partially offset by increased legal costs in 2001. The decrease in marketing expenses in the year ended December 31, 2001 as compared to 2000 reflects our decreased origination activities related to senior notes as a result of our liquidity position subsequent to the Mortgage Transaction in the first quarter of 2001. See further discussion in the "Liquidity and Capital Resources" section of Management's Discussion and Analysis. Other expenses decreased $5.5 million in the year ended December 31, 2001 as compared to the year ended December 31, 2000. Other expenses in the year ended December 31, 2000 included an increase in litigation reserves of $7.0 million. Salaries and employee benefits, amortization of business credit card deferred origination costs, net, external processing, marketing, equipment, and fraud loss expenses increased for the year ended December 31, 2000 as compared to the year ended December 31, 1999 due primarily to increased marketing and account origination activities in Advanta Business Cards as well as the resulting growth in managed business credit card receivables. Business credit card new account originations increased by 113% for the year ended December 31, 2000 as compared to 1999, and average managed business credit card receivables grew by 54% in the same period. The increase in equipment expense for the year ended December 31, 2000 as compared to 1999 also includes an increase in depreciation expense associated with information technology upgrades placed in service during 1999. Professional fees increased by $6.3 million for the year ended December 31, 2000 as compared to the year ended December 31, 1999. The increase was due to increased legal activity and consulting costs, including consulting costs associated with the implementation of our bank regulatory agreements. LITIGATION CONTINGENCIES Advanta Corp. and its subsidiaries are involved in class action lawsuits, other litigation, claims and legal proceedings arising in the ordinary course of business or discontinued operations, including litigation arising from our operation of the mortgage business prior to the Mortgage Transaction in the first quarter of 2001. See discussion in Note 11 to the consolidated financial statements. Management believes that the aggregate liabilities, if any, resulting from these actions will not have a material adverse effect on the consolidated financial position or results of our operations based on the level of litigation reserves we have established and our expectations regarding the ultimate resolutions of these actions. However, due to the inherent uncertainty in litigation and since the ultimate resolutions of these proceedings are influenced by factors outside of our control, it is reasonably possible that our estimated liability under these proceedings may change or that actual results will differ from our estimates. Our litigation reserves at December 31, 2001 are included in other liabilities on the consolidated balance sheets. UNUSUAL CHARGES Subsequent to the Mortgage Transaction and discontinuance of our leasing business in the first quarter of 2001, we implemented a plan to restructure our corporate functions to a size commensurate with our ongoing businesses and incurred certain other unusual charges related to employee costs. Also, in 1999, we implemented a plan to exit the auto finance business and to implement cost reduction initiatives throughout 33 the organization including the consolidation of support functions. Costs associated with these restructuring activities and other employee costs are included in unusual charges in the consolidated income statements. The restructuring activities had no significant impact on operations while they were ongoing. Due to the termination of employees and the write-off of certain assets no longer used, we expect to realize lower personnel expenses in support functions in the 12 months following the charges, and expect to realize lower depreciation and amortization expense over the following 5-7 years. These decreases were due to the termination of employees and the write-off or write-down of assets previously deployed in connection with exited businesses. We also expected and realized the elimination of the costs of the contractual commitments associated with exited business products from future operating results over the estimated timeframe of the contracts. Employee Costs In the first quarter of 2001, we recorded a $4.1 million charge for severance and outplacement costs associated with the restructuring of corporate functions. There were 69 employees severed who were entitled to benefits. These employees worked in corporate support functions including accounting and finance, human resources, information technology, legal and facilities management. Employees were notified in March 2001, and we expect to pay severance amounts over a 12-month period. Additionally, during 2001, we incurred $23.2 million of other employee costs. This amount includes approximately $10 million attributable to bonuses to certain key employees in recognition of their efforts on behalf of Advanta in the strategic alternatives process. It also includes approximately $4.5 million of bonuses in recognition of the restructuring of the company and other significant transitional efforts. These bonuses will be paid over a 12-month period. In the second quarter of 2001, we recorded a $1.0 million increase in employee costs related to a revision in estimate associated with these bonuses. In 2001, we accelerated vesting of 32% of outstanding options that were not vested at the date of the closing of the Mortgage Transaction. This acceleration resulted in a noncash charge of $1.3 million. In connection with reviewing our compensation plans after the Mortgage Transaction and restructuring of corporate functions, we implemented a program whereby all outstanding stock appreciation rights and shares of phantom stock were terminated in exchange for cash to be paid through a deferred compensation arrangement. We recorded charges of $2.9 million associated with this exchange. The charge reflects a $0.7 million reduction recorded in the three months ended September 30, 2001, as actual cash settlement costs were less than estimated. Due to the restructuring of the company, we implemented programs whereby certain out-of-the-money options were exchanged for shares of stock, and whereby certain shares of restricted stock were exchanged for cash and stock options in a tender offer, subject to certain performance conditions and vesting requirements. Noncash charges associated with the issuance of the stock, stock options and the tender offer totaled $3.6 million. This charge reflects a $1.4 million increase recorded in the three months ended September 30, 2001, as actual noncash charges associated with the tender offer were more than estimated. In the first quarter of 1999, in connection with cost reduction initiatives and the consolidation of support functions, we recorded a $3.3 million charge for costs associated with staff reductions. These expenses included severance and outplacement costs. 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 employee costs was paid in the three months ended March 31, 2000. Expenses Associated with Exited Businesses/Products In the first quarter of 2001, we recorded charges of $2.2 million related to other products exited for which no future revenues or benefits would be received. In the third quarter of 2001, we were able to settle some of these commitments for less than originally estimated, and reduced the charge by $0.7 million. We expect to pay the remaining costs, which include lease and other commitments, in 2002. 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 34 completed the closing of the auto loan origination center and termination of related employees during the second quarter of 1999. We completed payment of the remaining professional fees during the first quarter of 2001. In 1998, in connection with the transfer of our consumer credit card business to Fleet Credit Card LLC, we made major organizational changes to reduce corporate expenses incurred in the past: (a) to support the business contributed to Fleet Credit Card LLC in the transfer of our consumer credit card business, 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. As of December 31, 1998, the remaining accrual related to expenses associated with exited businesses/products was $14.8 million. We had contractual commitments to certain customers, and non-related financial institutions that were providing benefits to those customers, under a product that was no longer offered and for which no future revenues or benefits would be received. In 1998, we recorded a charge of $22.8 million associated with these commitments, and an $8.3 million charge associated with the write-off of assets associated with this program that became unrealizable when the product was exited. In 1999, an additional charge of $10.0 million was recorded based on a change in the estimate of total expected costs for the contractual commitments related to the exited product. Updated information regarding future benefits to be provided in connection with these contractual commitments indicated a higher level of benefits than originally estimated. A third party assumed the liabilities associated with these commitments in the first quarter of 2001, and we recorded an additional charge relating to the settlement of these commitments of $10.3 million. Asset Impairments In connection with our plan to restructure our corporate functions to a size commensurate with our ongoing businesses during the first quarter of 2001, we identified certain assets that would no longer be used, and the carrying costs of these assets were written off resulting in a charge of $2.6 million. We estimated the realizable value of these assets to be zero due to the nature of the assets, which include leasehold improvements and capitalized software. INCOME TAXES As a result of unusual charges, valuation adjustments on venture capital investments and the loss on the discontinuance of the leasing business in 2001, we reported a pretax loss for the year ended December 31, 2001. A valuation allowance has been provided against a portion of 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 the year ended December 31, 2000, we also reported a pretax loss and a valuation allowance was provided against the resulting deferred tax asset, resulting in a 0% effective tax rate. In establishing the valuation allowance, management considered (1) estimates 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 of $107 million at December 31, 2001 will be realized. This analysis is inherently subjective, as it requires estimates that are susceptible to significant revision as more information becomes available. In 1999, in connection with the filing of the 1998 tax returns, additional book/tax differences related to the disposition of our consumer credit card business in 1998 were quantified. These book/tax differences, when combined with certain less significant recurring differences, resulted in net operating loss carryforwards of approximately $521 million at December 31, 1999. This amount is net of $96 million carried back to prior years, and includes $500 million that pertains to losses incurred on the consumer credit card portfolio after the date of the disposition of our consumer credit card business. A deferred tax asset of $50 million, net of valuation allowance, resulting from the net operating loss carryforwards was recorded as an income tax benefit in the fourth quarter of 1999. At December 31, 2001, remaining net operating loss carryforwards were $662 million, of which $407 million expire in 2018, $29 million expire in 2019, $15 million expire in 2020 and $211 million expire in 2021. We utilized net operating loss carryforwards of $85 million in 2000. Additionally in 2000, $29 million was carried back to prior years. 35 ASSET/LIABILITY MANAGEMENT We manage our financial condition with a focus on maintaining high credit quality standards, disciplined management of market risks and prudent levels of growth, leverage and liquidity. MARKET RISK SENSITIVITY Market risk is the potential for loss or diminished financial performance arising from adverse changes in market forces including interest rates and market prices. Market risk sensitivity is the degree to which a financial instrument, or a company that owns financial instruments, is exposed to market forces. Fluctuations in interest rates, changes in economic conditions, shifts in customer behavior, and other factors can affect our financial performance. Changes in economic conditions and shifts in customer behavior are difficult to predict, and our financial performance generally cannot be insulated from these forces. We are exposed to equity price risk on the equity securities in our investments available for sale portfolio. The majority of our equity securities at December 31, 2001 represented venture capital investments. We typically do not attempt to reduce or eliminate the market exposure on these investments. A 20% adverse change in equity prices would result in an approximate $5 million decrease in the fair value of our equity investments as of December 31, 2001. A 20% adverse change would have resulted in an approximate $15 million decrease in fair value as of December 31, 2000. Financial performance variability as a result of fluctuations in interest rates is commonly called interest rate risk. Interest rate risk generally results from mismatches in the timing of asset and liability repricing (gap risk) and from differences between the repricing indices of assets and liabilities (basis risk). We regularly evaluate our market risk profile and attempt to minimize the impact of interest rate risk on net interest income and net income. In managing interest rate risk exposure, we periodically securitize receivables, sell and purchase assets, alter the mix and term structure of our funding base, change our investment portfolio and use derivative financial instruments. Derivatives are not used for trading or speculative activities. We adopted SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities," and SFAS No. 138, "Accounting for Certain Derivative Instruments and Certain Hedging Activities -- an amendment of FASB Statement No. 133," on January 1, 2001. The adoption of SFAS No. 133 and No. 138 had no impact on income from continuing operations and was not material to income from discontinued operations. Risk exposure levels vary continuously, as changes occur in our asset/liability mix, market interest rates and other factors affecting the timing and magnitude of cash flows. We attempt to analyze the impact of interest rate risk by regularly evaluating the perceived risks inherent in our asset and liability structure, including derivative instruments. Computer simulations are used to generate expected financial performance in a variety of interest rate environments. Those results are analyzed to determine if actions need to be taken to mitigate our interest rate risk. 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 also measure the effect of interest rate risk on our managed net interest income, which includes net interest income on owned assets and net interest income on securitized receivables. Both increasing and decreasing rate scenarios assume an instantaneous shift in rates and measure the corresponding change in expected net interest income as compared to a base case scenario. As of December 31, 2001 and 2000, we estimated that our net interest income and managed net interest income would change as follows over a twelve-month period:
2001 2000 -------------------------------------------------------------------------- Estimated percentage increase (decrease) in owned net interest income: Assuming 200 basis point increase in interest rates 5% 13% Assuming 200 basis point decrease in interest rates (3)% (2)% Estimated percentage increase (decrease) in managed net interest income: Assuming 200 basis point increase in interest rates (7)% 4% Assuming 200 basis point decrease in interest rates 7% 13% --------------------------------------------------------------------------
Our business credit card receivables include interest rate floors that cause our managed net interest income to rise in the declining rate scenario. As of December 31, 2001, the interest rate floors also cause a 36 decrease in managed net interest income in a rising rate scenario. This is because rates at December 31, 2001 are well below certain of the interest rate floors, and a 200 basis point increase in rates would not impact the contractual rate on a substantial portion of the receivables. Changes in the size and the composition of our balance sheet from December 31, 2001 to December 31, 2000, including a significant reduction in debt and deposits, also have impacted the results of sensitivity analysis in the owned net interest income scenarios. 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. 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. Since Advanta Corp.'s debt rating is not investment grade, our access to unsecured, institutional debt is limited. However, we do have access to a diversity of funding sources as described below, and have a high level of liquidity at December 31, 2001. At December 31, 2001, we had $230 million of federal funds sold, $203 million of receivables held for sale, and $162 million of investments, which could be sold to generate additional liquidity. Components of funding were as follows at December 31:
2001 2000 1999 ---------------- ---------------- ---------------- AMOUNT % AMOUNT % AMOUNT % ------------------------------------------------------------------------------------------------------------ Off-balance sheet business credit card receivables $1,626,709 53% $1,324,137 33% $ 765,019 19% Deposits 636,915 21 1,346,976 34 1,512,359 37 Debt and other borrowings 355,899 11 759,473 19 1,121,674 27 Equity, including capital securities 466,299 15 540,902 14 689,631 17 ------------------------------------------------------------------------------------------------------------ Total $3,085,822 100% $3,971,488 100% $4,088,683 100% ============================================================================================================
Off-Balance Sheet Business Credit Card Securitizations We completed our first two public business credit card securitizations in 2000 and completed an additional public securitization in 2001. These public securitizations enabled us to grow off-balance sheet business credit card receivables as a component of our funding in 2000 and 2001. In addition to the public securitizations, the securitization trust has two non-public series outstanding. The first series provides off-balance sheet funding through a $280 million committed commercial paper conduit facility, of which $160 million was unused at December 31, 2001. The commitment can be withdrawn under certain conditions, similar to the conditions for an early amortization event as described below for the other series of the securitization trust. Our commercial paper conduit facility also requires the servicer, Advanta Bank Corp., to be well-capitalized. Upon the expiration of this commercial paper conduit facility in June 2002, management expects to obtain the appropriate level of replacement funding under similar terms and conditions. The second non-public series was a securitization completed in 2000. The revolving periods of the series of the securitization trust extend to the following dates:
INVESTOR PRINCIPAL BALANCE AT SCHEDULED END OF DECEMBER 31, 2001 REVOLVING PERIOD ----------------------------------------------------- Series 1997-A $129,750 June 2002 Series 2000-A 157,068 September 2002 Series 2000-B 600,000 October 2002 Series 2000-C 400,000 January 2005 Series 2001-A 300,000 July 2007
When the revolving periods of these series end and the series amortize, management expects to complete new securitizations under similar terms and conditions. The securitization agreements contain conditions that 37 would trigger an early amortization event. An early amortization event would result in the repayment of principal to investors prior to the expected dates above, which would require us to find an alternate means of funding new receivables. The conditions include the failure to make payments under the terms of the agreement, or the insolvency, receivership or other similar event of the servicer, Advanta Bank Corp. An early amortization event would also be triggered for each individual series if the three-month average excess spread percentage was not maintained at a level greater than 0% for that series. Excess spread represents income-related cash flows on securitized receivables (finance charges, interchange and fees) net of note holders' interest, servicing fees, and credit losses. At December 31, 2001, our three-month average excess spread was 13%. Based on the current levels of excess spread, our financial condition and other considerations, management believes that it is unlikely that the trust or individual series will have an early amortization event. The business credit card securitization agreements do not have any provisions or conditions involving the debt rating of Advanta Corp. Deposits, Debt, Other Borrowings and Equity In the first quarter of 2001, we received in excess of $1 billion in cash proceeds from the Mortgage Transaction. We have strategically used the proceeds to strengthen Advanta for the future, including a significant reduction in our leverage. In the second quarter of 2001, we sold $389.7 million of our deposit liabilities to E*TRADE Bank, a wholly owned subsidiary of E*TRADE Group, Inc. We also paid off substantially all of our outstanding medium-term notes and reduced our outstanding senior notes. In the year ended December 31, 2001, we reduced debt and deposits by $1.1 billion. Also, Advanta National Bank has suspended originations of deposit accounts. The Mortgage Transaction in the first quarter of 2001 resulted in liquidity in excess of the needs of our continuing businesses. Excess liquid assets were held in short-term, high-quality investments earning money market rates until they could be deployed. As a result, we had interest expense in excess of interest income on this excess liquidity in 2001. The deposit sale and significant debt reduction in the second quarter of 2001 reduced this net interest expense and excess liquidity. However, we expect to continue to have interest expense in excess of interest income for the next several quarters due to the time required for our higher-rate debt to mature. We anticipate replacing these debt maturities with notes bearing lower interest rates more in line with the current market rates. In the first quarter of 2001, we successfully negotiated an early termination of our strategic alliance with Progressive Casualty Insurance Company to direct market auto insurance and received regulatory approval for a return of capital from our insurance subsidiary to the parent company, Advanta Corp. The return of capital from the insurance subsidiary to Advanta Corp., along with other payments from the insurance subsidiary in the first quarter of 2001, increased Advanta Corp. liquidity by $62.5 million. In the first quarter of 2001, after consideration of the liquidity and the capital requirements for the ongoing business, the Board of Directors of Advanta Corp. authorized management to purchase up to 1.5 million shares of Advanta Corp. common stock or the equivalent dollar amount of our capital securities, or some combination thereof. We intend to make purchases modestly and when we believe it is prudent to do so. As of December 31, 2001, we have repurchased 693,300 shares of our Class B Common Stock. The following tables detail the composition of the deposit base and the composition of debt and other borrowings at year end for each of the past five years. COMPOSITION OF DEPOSIT BASE
($ IN MILLIONS) AS OF DECEMBER 31, -------------------------------------------------------------------------------- 2001 2000 1999 1998 1997 ------------ -------------- -------------- -------------- -------------- AMOUNT % AMOUNT % AMOUNT % % AMOUNT % --------------------------------------------------------------------------------------------------------------- Demand deposits $ 6.5 1% $ 4.6 0% $ 5.8 0% $ 4.3 0% $ 41.6 1% Money market savings 3.5 1 64.0 5 242.4 16 181.5 10 506.8 17 Time deposits of $100,000 or less 389.9 61 916.9 68 1,046.6 69 1,445.8 83 2,163.0 72 Time deposits of more than $100,000 237.0 37 361.5 27 217.6 15 118.2 7 306.2 10 --------------------------------------------------------------------------------------------------------------- Total deposits $636.9 100% $1,347.0 100% $1,512.4 100% $1,749.8 100% $3,017.6 100% ===============================================================================================================
38 COMPOSITION OF DEBT AND OTHER BORROWINGS
($ IN MILLIONS) AS OF DECEMBER 31, ------------------------------------------------------------------------------- 2001 2000 1999 1998 1997 ------------- ------------ -------------- -------------- -------------- AMOUNT % AMOUNT % AMOUNT % AMOUNT % AMOUNT % --------------------------------------------------------------------------------------------------------------- Subordinated notes and certificates $ 0.6 0% $ 0.7 0% $ 1.0 0% $ 1.5 0% $ 55.5 2% Senior notes and certificates 322.8 91 404.2 53 234.4 21 145.6 14 151.0 7 Short-term bank notes 0.0 0 0.0 0 0.0 0 0.0 0 242.0 11 Medium-term bank notes 0.0 0 3.4 1 7.3 0 7.3 1 669.5 29 Medium-term notes 0.2 0 343.6 45 538.0 48 866.5 83 1,099.5 48 Value notes 0.0 0 3.3 0 7.8 1 9.3 1 30.7 1 Term fed funds, fed funds purchased and FHLB advances 0.0 0 0.0 0 220.0 20 0.0 0 0.0 0 Securities sold under agreements to repurchase 32.3 9 0.0 0 104.2 9 0.0 0 0.0 0 Other borrowings 0.0 0 4.3 1 9.0 1 17.8 1 48.9 2 --------------------------------------------------------------------------------------------------------------- Total debt and other borrowings $355.9 100% $759.5 100% $1,121.7 100% $1,048.0 100% $2,297.1 100% ===============================================================================================================
Contractual Cash Obligations The following table summarizes our contractual cash obligations as of December 31, 2001 by period:
PAYMENTS DUE BY PERIOD ----------------------------------------------------- LESS THAN OR EQUAL TO 2-3 4-5 AFTER 5 TOTAL 1 YEAR YEARS YEARS YEARS --------------------------------------------------------------------------------------------------- Time deposits $626,905 $419,907 $204,614 $ 2,384 $ 0 Debt and other borrowings 355,899 283,535 56,537 15,827 0 Operating leases 17,009 5,119 8,261 3,432 197 --------------------------------------------------------------------------------------------------- Total contractual cash obligations $999,813 $708,561 $269,412 $21,643 $197 ===================================================================================================
Management expects to fund our deposit and debt obligations with replacement deposits or debt having similar terms and conditions. We expect to fund commitments related to operating leases with operating cash flows. In addition to these obligations, we make commitments to extend credit to our business credit card customers in the normal course of business. We had unused commitments to extend credit of $4.6 billion at December 31, 2001. We believe that our customers' utilization of their lines of credit will continue to be substantially less than the amount of the commitments, as has been our experience to date. We expect to fund the commitments to extend credit with the various components of funding described above, similar to the funding of other new receivables. Regulatory Agreements and Restrictions at Subsidiaries 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 Advanta National Bank maintain certain capital ratios in excess of the minimum regulatory standards. Our regulatory agreements with the Federal Deposit Insurance Corporation and the Office of the Comptroller of the Currency (the "OCC") prohibit the payment of cash dividends by Advanta Bank Corp. or Advanta National Bank without prior regulatory approval. Management believes that Advanta Bank Corp. and Advanta National Bank were each in compliance with their respective regulatory agreements at December 31, 2001. 39 In connection with the Mortgage Transaction in the first quarter of 2001, Advanta National Bank sought approval of the OCC for a return of capital to Advanta Corp. in the amount of $261 million. On February 28, 2001, the OCC approved the amount requested and, at the same time, Advanta National Bank entered into an agreement with the OCC regarding restrictions on new business activities and product lines at Advanta National Bank after the Mortgage Transaction and the resolution of outstanding Advanta National Bank liabilities. The agreement also reduced the capital requirements for Advanta National Bank to 12.7% for Tier 1 and Total capital to risk-weighted assets, and to 5% for Tier 1 capital to adjusted total assets as defined in the agreement. In addition, the agreement provides for prior OCC approval of any future dividends. Advanta Bank Corp. is unaffected by the agreement with the OCC. At December 31, 2001, Advanta Bank Corp.'s combined total capital ratio (combined Tier I and Tier II capital) was 18.80%, and Advanta National Bank's combined total capital ratio was 23.34%. At December 31, 2000, Advanta Bank Corp.'s combined total capital ratio was 14.60%, and Advanta National Bank's combined total capital ratio was 15.08%. In each case, Advanta Bank Corp. and Advanta National Bank 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 our agreement with the OCC, even though we have achieved the higher imposed capital ratios required by the agreement. In the fourth quarter of 2001, the bank regulatory agencies issued an interagency policy statement that revised the regulatory capital treatment of recourse, direct credit substitutes, and residual interests in asset securitizations. This rule supercedes the former low-level recourse rules and requires that banks hold one dollar in total risk-based capital against every dollar of residual interest, with some exceptions. It further requires that credit enhancing interest-only strips in excess of 25% of Tier 1 capital be deducted from Tier 1 capital for purposes of calculating bank capital ratios. This rule has an effective date of January 1, 2002. Early adoption was permitted for transactions entered into prior to the effective date that result in a reduced capital requirement. Banks can delay until December 31, 2002, the application of the final rule to transactions entered into prior to January 1, 2002 that result in increased capital requirements. Advanta Bank Corp. elected to adopt the rule effective December 31, 2001 and it resulted in a reduced risk-based capital requirement. We do not anticipate the adoption of this rule will have an effect on the capital requirements of Advanta National Bank. Advanta Bank Corp. and Advanta National Bank are prevented by regulatory restrictions from lending to Advanta Corp. and its affiliates unless these extensions of credit are secured by U.S. Government obligations or other specified collateral. Further, secured extensions of credit are limited in amount: (a) as to Advanta Corp. or any affiliate, to 10% of each bank's capital and surplus, and (b) as to Advanta Corp. and all affiliates in the aggregate, to 20% of each bank's capital and surplus. See "Part I -- Government Regulation." Our insurance subsidiaries are also subject to certain capital and dividend rules and regulations as prescribed by state jurisdictions in which they are authorized to operate. Total stockholders' equity of our banking and insurance affiliates was $220 million at December 31, 2001, of which $218 million was restricted. At January 1, 2002, $2.2 million of stockholders' equity of our insurance affiliates was available for payment of cash dividends in 2002 under applicable regulatory guidelines without prior regulatory approval. In addition to dividend restrictions at banking subsidiaries, certain non-bank subsidiaries are subject to minimum equity requirements as part of securitization or other agreements. The total minimum equity requirement of non-bank subsidiaries was $20 million at December 31, 2001. At December 31, 2001, the non-bank subsidiaries were in compliance with these minimum equity requirements. Management believes that the restrictions, for both bank and non-bank subsidiaries, will not have an adverse effect on Advanta Corp.'s ability to meet its cash obligations due to the current levels of liquidity and diversity of funding sources. ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK See "Item 7, Management's Discussion and Analysis -- ASSET/LIABILITY MANAGEMENT." 40 ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA ADVANTA CORP. AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS
DECEMBER 31, ($ IN THOUSANDS) ------------------------ 2001 2000 -------------------------------------------------------------------------------------- ASSETS Cash $ 20,952 $ 1,716 Federal funds sold 229,889 107,584 Restricted interest-bearing deposits 113,956 16,398 Investments available for sale 246,679 758,792 Receivables, net: Held for sale 202,612 154,265 Other 220,795 186,026 ------------------------ Total receivables, net 423,407 340,291 Retained interests in securitizations 88,658 72,908 Amounts due from securitizations 80,325 61,610 Premises and equipment (at cost, less accumulated depreciation of $21,667 in 2001 and $21,983 in 2000) 25,722 26,185 Other assets 264,689 256,658 Net assets of discontinued operations 142,403 1,201,330 -------------------------------------------------------------------------------------- TOTAL ASSETS $1,636,680 $2,843,472 ====================================================================================== LIABILITIES Deposits: Noninterest-bearing $ 6,500 $ 4,546 Interest-bearing 630,415 1,342,430 ------------------------ Total deposits 636,915 1,346,976 Debt 323,582 755,184 Other borrowings 32,317 4,289 Other liabilities 177,567 196,121 -------------------------------------------------------------------------------------- TOTAL LIABILITIES 1,170,381 2,302,570 -------------------------------------------------------------------------------------- Commitments and contingencies Company-obligated mandatorily redeemable preferred securities of subsidiary trust holding solely subordinated debentures of Advanta Corp. 100,000 100,000 STOCKHOLDERS' EQUITY Class A preferred stock, $1,000 par value: Authorized, issued and outstanding -- 1,010 shares in 2001 and 2000 1,010 1,010 Class A voting common stock, $.01 par value; Authorized -- 200,000,000 shares; Issued -- 10,041,017 shares in 2001 and 10,040,230 shares in 2000 100 100 Class B non-voting common stock, $.01 par value; Authorized -- 200,000,000 shares; Issued -- 17,939,639 shares in 2001 and 17,613,166 shares in 2000 179 176 Additional paid-in capital 223,362 220,371 Deferred compensation (64) (7,336) Unearned ESOP shares (11,295) (11,714) Accumulated other comprehensive income (loss) 1,259 (1,302) Retained earnings 179,370 257,562 Less: Treasury stock at cost, 1,348,079 Class B common shares in 2001 and 527,168 Class B common shares in 2000 (27,622) (17,965) -------------------------------------------------------------------------------------- TOTAL STOCKHOLDERS' EQUITY 366,299 440,902 -------------------------------------------------------------------------------------- TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $1,636,680 $2,843,472 ======================================================================================
See Notes to Consolidated Financial Statements. 41 ADVANTA CORP. AND SUBSIDIARIES CONSOLIDATED INCOME STATEMENTS
YEAR ENDED DECEMBER 31, (IN THOUSANDS, EXCEPT PER SHARE DATA) --------------------------------- 2001 2000 1999 --------------------------------------------------------------------------------------------- INTEREST INCOME: Receivables $ 77,799 $ 78,506 $ 37,718 Trading investments 0 0 6,752 Investments available for sale 40,052 57,594 60,114 --------------------------------------------------------------------------------------------- Total interest income 117,851 136,100 104,584 INTEREST EXPENSE: Deposits 43,968 53,201 48,856 Debt 37,658 29,369 29,848 Other borrowings 844 3,938 2,096 --------------------------------------------------------------------------------------------- Total interest expense 82,470 86,508 80,800 --------------------------------------------------------------------------------------------- Net interest income 35,381 49,592 23,784 Provision for credit losses 35,976 36,309 22,506 --------------------------------------------------------------------------------------------- Net interest after provision for credit losses (595) 13,283 1,278 NONINTEREST REVENUES: Securitization income 113,478 70,797 21,188 Servicing revenues 29,221 17,310 13,819 Interchange income 80,721 61,668 33,786 Other revenues, net (34,460) 7,306 36,577 --------------------------------------------------------------------------------------------- Total noninterest revenues 188,960 157,081 105,370 EXPENSES: Operating expenses 180,186 150,292 95,506 Minority interest in income of consolidated subsidiary 8,880 8,880 8,880 Unusual charges 41,750 0 16,713 --------------------------------------------------------------------------------------------- Total expenses 230,816 159,172 121,099 --------------------------------------------------------------------------------------------- Income (loss) before income taxes (42,451) 11,192 (14,451) Income tax (benefit) (11,995) 0 (55,785) --------------------------------------------------------------------------------------------- Income (loss) from continuing operations (30,456) 11,192 41,334 Income (loss) from discontinued operations, net of tax (8,438) (163,578) 8,484 Loss, net, on discontinuance of mortgage and leasing businesses, net of tax (31,639) (4,298) 0 --------------------------------------------------------------------------------------------- NET INCOME (LOSS) $(70,533) $(156,684) $ 49,818 ============================================================================================= Basic income (loss) from continuing operations per common share Class A $ (1.23) $ 0.39 $ 1.59 Class B (1.17) 0.47 1.66 Combined (1.19) 0.44 1.63 --------------------------------------------------------------------------------------------- Diluted income (loss) from continuing operations per common share Class A $ (1.23) $ 0.39 $ 1.58 Class B (1.17) 0.46 1.65 Combined (1.19) 0.44 1.62 --------------------------------------------------------------------------------------------- Basic net income (loss) per common share Class A $ (2.79) $ (6.28) $ 1.95 Class B (2.73) (6.21) 2.02 Combined (2.75) (6.24) 1.99 --------------------------------------------------------------------------------------------- Diluted net income (loss) per common share Class A $ (2.79) $ (6.23) $ 1.94 Class B (2.73) (6.16) 2.00 Combined (2.75) (6.19) 1.98 --------------------------------------------------------------------------------------------- Basic weighted average common shares outstanding Class A 9,101 9,110 9,057 Class B 16,581 16,033 14,515 Combined 25,682 25,143 23,572 --------------------------------------------------------------------------------------------- Diluted weighted average common shares outstanding Class A 9,101 9,149 9,078 Class B 16,581 16,202 14,680 Combined 25,682 25,351 23,758 ---------------------------------------------------------------------------------------------
See Notes to Consolidated Financial Statements. 42 ADVANTA CORP. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY ($ IN THOUSANDS)
---------------------------------------------------------------------- COMPREHENSIVE CLASS A CLASS B CLASS A CLASS B ADDITIONAL INCOME PREFERRED PREFERRED COMMON COMMON PAID-IN (LOSS) STOCK STOCK STOCK STOCK CAPITAL ---------------------------------------------------------------------------------------------------------- Balance at Dec. 31, 1998 $1,010 $0 $104 $163 $229,304 Net income (loss) $ 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 restricted stock 1 9 10,579 Amortization of deferred compensation Retirement of restricted stock (4) (7,421) Stock buyback ESOP shares committed to be released 117 ---------------------------------------------------------------------------------------------------------- Balance at Dec. 31, 1999 $1,010 $0 $105 $182 $232,585 Net income (loss) $(156,684) Other comprehensive income (loss): Change in unrealized appreciation (depreciation) of investments, net of tax benefit (expense) of $(5,111) 9,492 --------- Comprehensive income (loss) $(147,192) ========= Preferred and common cash dividends declared Exercise of stock options 155 Issuance of restricted stock 2 2,545 Amortization of deferred compensation Retirement of restricted stock (1) (4) (6,455) Retirement of treasury stock (4) (4) (8,496) ESOP shares committed to be released 37 ---------------------------------------------------------------------------------------------------------- Balance at Dec. 31, 2000 $1,010 $0 $100 $176 $220,371 Net income (loss) $ (70,533) Other comprehensive income (loss): Change in unrealized appreciation (depreciation) of investments, net of tax benefit (expense) of $1,379 2,561 --------- Comprehensive income (loss) $ (67,972) ========= Preferred and common cash dividends declared Exercise of stock options 4 3,476 Stock option exchange for stock and restricted stock tender offer 934 Modification of stock options 1,966 Issuance of restricted stock 1 720 Amortization of deferred compensation Retirement of restricted stock (2) (4,118) Stock buyback ESOP shares committed to be released 13 --------------------------------------------------------------------------------------------------------- Balance at Dec. 31, 2001 $1,010 $0 $100 $179 $223,362 ========================================================================================================= --------------------------------------------------------------------- DEFERRED ACCUMULATED COMPENSATION OTHER TOTAL & UNEARNED COMPREHENSIVE RETAINED TREASURY STOCKHOLDERS' ESOP SHARES INCOME (LOSS) EARNINGS STOCK EQUITY ---------------------------------- --------------------------------------------------------------------- Balance at Dec. 31, 1998 $(29,764) $ (91) $382,092 $(22,514) $ 560,304 Net income (loss) 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 restricted stock (10,589) 0 Amortization of deferred compensation 3,781 3,781 Retirement of restricted stock 7,425 0 Stock buyback (3,955) (3,955) ESOP shares committed to be released 418 535 --------------------------------------------------------------------------------------------------------- Balance at Dec. 31, 1999 $(28,729) $(10,794) $421,741 $(26,469) $ 589,631 Net income (loss) (156,684) (156,684) Other comprehensive income (loss): Change in unrealized appreciation (depreciation) of investments, net of tax benefit (expense) of $(5,111) 9,492 9,492 Comprehensive income (loss) Preferred and common cash dividends declared (7,495) (7,495) Exercise of stock options 155 Issuance of restricted stock (2,547) 0 Amortization of deferred compensation 5,348 5,348 Retirement of restricted stock 6,460 0 Retirement of treasury stock 8,504 0 ESOP shares committed to be released 418 455 --------------------------------------------------------------------------------------------------------- Balance at Dec. 31, 2000 $(19,050) $ (1,302) $257,562 $(17,965) $ 440,902 Net income (loss) (70,533) (70,533) Other comprehensive income (loss): Change in unrealized appreciation (depreciation) of investments, net of tax benefit (expense) of $1,379 2,561 2,561 Comprehensive income (loss) Preferred and common cash dividends declared (7,659) (7,659) Exercise of stock options 3,480 Stock option exchange for stock and restricted stock tender offer 618 (2,152) (600) Modification of stock options 1,966 Issuance of restricted stock (721) 0 Amortization of deferred compensation 3,256 3,256 Retirement of restricted stock 4,120 0 Stock buyback (7,505) (7,505) ESOP shares committed to be released 418 431 -------------------------------------------------------------------------------------------------------- Balance at Dec. 31, 2001 $(11,359) $ 1,259 $179,370 $(27,622) $ 366,299 ========================================================================================================
See Notes to Consolidated Financial Statements. 43 ADVANTA CORP. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS
YEAR ENDED DECEMBER 31, ------------------------------------------ ($ IN THOUSANDS) 2001 2000 1999 -------------------------------------------------------------------------------------------------------- OPERATING ACTIVITIES -- CONTINUING OPERATIONS Net income (loss) $ (70,533) $ (156,684) $ 49,818 Adjustments to reconcile net income (loss) to net cash provided by (used in) operating activities: (Income) loss from discontinued operations, net of tax 8,438 163,578 (8,484) Loss, net, on discontinuance of mortgage and leasing businesses, net of tax 31,639 4,298 0 Investment securities (gains) losses 26,227 (5,473) (30,132) Loss on sale of deposits 2,835 0 0 Depreciation 9,428 11,471 7,794 Provision for credit losses 35,976 36,309 22,506 Change in deferred origination costs, net of deferred fees (6,556) (6,252) (6,038) Proceeds from sale of trading investments 0 0 185,042 Change in receivables held for sale (320,896) (509,989) (450,920) Proceeds from sale of receivables held for sale 272,549 512,619 318,692 Change in amounts due from securitizations, other assets and other liabilities (32,072) (17,427) (100,164) Change in retained interests in securitizations (15,750) (28,116) 854 -------------------------------------------------------------------------------------------------------- Net cash provided by (used in) operating activities (58,715) 4,334 (11,032) -------------------------------------------------------------------------------------------------------- INVESTING ACTIVITIES -- CONTINUING OPERATIONS Change in federal funds sold and interest-bearing deposits (219,863) 50,454 115,953 Purchase of investments available for sale (1,144,064) (1,826,620) (12,872,622) Proceeds from sales of investments available for sale 896,016 937,617 812,562 Proceeds from maturing investments available for sale 737,874 899,286 12,171,704 Change in receivables not held for sale (64,189) (74,330) (11,124) Purchases of premises and equipment, net (7,698) (18,273) (8,203) -------------------------------------------------------------------------------------------------------- Net cash provided by (used in) investing activities 198,076 (31,866) 208,270 -------------------------------------------------------------------------------------------------------- FINANCING ACTIVITIES -- CONTINUING OPERATIONS Change in demand and savings deposits (8,055) (179,542) 62,329 Proceeds from issuance of time deposits 724,665 1,325,125 600,747 Payments for maturing time deposits (1,044,640) (1,310,966) (900,507) Payments for sale of deposits and related accrued interest (392,511) 0 0 Change in repurchase agreements, term fed funds and FHLB advances 32,317 (324,191) 324,191 Proceeds from issuance of debt 182,975 256,098 123,537 Payments on redemption of debt (614,577) (289,422) (365,176) Change in other borrowings (4,289) (4,686) (8,809) Proceeds from issuance of stock 3,480 155 20 Stock buyback (7,505) 0 (3,955) Cash dividends paid (7,659) (7,495) (10,169) -------------------------------------------------------------------------------------------------------- Net cash used in financing activities (1,135,799) (534,924) (177,792) -------------------------------------------------------------------------------------------------------- DISCONTINUED OPERATIONS Proceeds from Mortgage Transaction 1,093,975 0 0 Other cash used in operating activities (78,301) 312,668 241,938 ----------- ----------- ------------ Net cash provided by operating activities 1,015,674 312,668 241,938 Net cash provided by (used in) investing activities 0 322,155 (325,616) Net cash provided by (used in) financing activities 0 (76,435) 57,918 -------------------------------------------------------------------------------------------------------- Net cash provided by (used in) discontinued operations 1,015,674 558,388 (25,760) -------------------------------------------------------------------------------------------------------- Net increase (decrease) in cash 19,236 (4,068) (6,314) Cash at beginning of period 1,716 5,784 12,098 ======================================================================================================== Cash at end of period $ 20,952 $ 1,716 $ 5,784 ========================================================================================================
See Notes to Consolidated Financial Statements. 44 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS ($ IN THOUSANDS EXCEPT PER SHARE DATA, UNLESS OTHERWISE NOTED) In these notes to consolidated financial statements, "Advanta", "we", "us", and "our" refer to Advanta Corp. and its subsidiaries, unless the context otherwise requires. Advanta is a highly focused financial services company. We have been providing innovative financial solutions since 1951. Our primary business segment is Advanta Business Cards, one of the nation's largest issuers of business credit cards to small businesses. In addition to our business credit card lending business, we have venture capital investments. We own two depository institutions, Advanta Bank Corp. and Advanta National Bank. Our banks offer a variety of deposit products, such as retail and large denomination certificates of deposit, that are insured by the Federal Deposit Insurance Corporation (the "FDIC"). Advanta Business Cards is primarily funded and operated through Advanta Bank Corp. At December 31, 2001, we serviced approximately 680,000 business credit card customers and managed business credit card receivables of $2.0 billion. Through the first quarter of 2001, we had two additional lending businesses, Advanta Mortgage and Advanta Leasing Services. In the first quarter of 2001, we exited our mortgage business, announced the discontinuance of our leasing business, and restructured our corporate functions to a size commensurate with our ongoing businesses. The mortgage and equipment leasing businesses represented 26% of our customers and 84% of our managed receivables at December 31, 2000. We are continuing to service the existing leasing portfolio rather than sell the business or the portfolio. The results of the mortgage and leasing businesses are reported as discontinued operations in all periods presented. The results of our ongoing businesses are reported as continuing operations for all periods presented. NOTE 1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES BASIS OF PRESENTATION AND CONSOLIDATION The consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States and include the accounts of Advanta Corp. and its subsidiaries. All significant intercompany balances and transactions have been eliminated in consolidation. Certain prior period amounts have been reclassified to conform to the current year's presentation. USE OF ESTIMATES The preparation of financial statements in accordance with accounting principles generally accepted in the United States 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, retained interests in securitizations, the allowance for credit losses, the fair value of venture capital investments, litigation and income taxes, among others. Actual results could differ from those estimates. INVESTMENTS Investments available for sale include securities that we sell from time to time to provide liquidity and in response to changes in the market. Debt and equity securities classified as available for sale are reported at market value and unrealized gains and losses on these securities are reported in other comprehensive income, net of income taxes. Trading investments are securities that are bought and held principally for the purpose of selling them in the near term. Trading investments are reported at fair value, with unrealized gains and losses included in earnings. There were no investments classified as trading at December 31, 2001 or 2000. Investments of our venture capital unit are included in investments available for sale and are carried at estimated fair value following the specialized industry accounting principles of this unit. Management makes 45 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) fair value determinations based on quoted market prices, when available, and considers the investees' financial results, conditions and prospects when market prices are not available. In accordance with the specialized industry accounting principles of venture capital investment companies, the unrealized and realized gains and losses on these investments are included in other revenues rather than other comprehensive income and the equity method of accounting for investments is not applied. Purchase premiums and discounts are recognized in interest income using the interest method over the terms of the securities. Gains and losses on the sale of securities are recorded on the trade date and are determined using the specific identification method. RECEIVABLES HELD FOR SALE Receivables held for sale represent loans currently on the balance sheet that we intend to sell or securitize within the next six months. These assets are reported at the lower of aggregate cost or fair market value by loan type. Net unrealized losses, if any, are recognized through a valuation allowance by charges to income. ALLOWANCE FOR CREDIT LOSSES The allowance for credit losses is established as losses are estimated to have occurred through a provision for credit losses charged to earnings. The allowance for credit losses is evaluated on a regular basis by management and is based upon management's periodic review of the collectibility of receivables in light of historical experience by loan type, the nature and volume of the loan portfolio, adverse situations that may affect the borrowers' ability to repay and prevailing economic conditions. This evaluation is inherently subjective, as it requires estimates that are susceptible to significant revision as more information becomes available. Since our loan portfolio is comprised of large groups of smaller balance homogeneous loans, we evaluate each group collectively for impairment. Accordingly, we do not separately identify individual loans for impairment disclosures. Credit losses are charged against the allowance when management believes the uncollectibility of a receivable balance is confirmed. Subsequent recoveries, if any, are credited to the allowance. Our charge-off policy for 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. Effective October 1, 2000, bankrupt business credit cards are charged off within a 60-day investigative period after receipt of notification. The previous policy provided a 90-day investigative period. Net charge-offs include the principal amount of losses less current period recoveries. The accrued interest and fee portion of the charged-off receivable balance is deducted from current period income. INTEREST AND FEE INCOME ON RECEIVABLES Interest income is accrued on the unpaid principal balance of receivables. Interest income includes late fees on business credit card receivables. Fee income is recognized when billed to the cardholder, with the exception of origination fees as discussed in "Origination Costs and Fees." The accrual of interest and fees is discontinued when the related receivable becomes 90 days past due. ORIGINATION COSTS AND FEES We engage unrelated third parties to solicit and originate business credit card account relationships. Amounts paid to third parties to acquire business credit card accounts and certain other origination costs are deferred and netted against any related business credit card origination fee, and the net amount is amortized on a straight-line basis over the privilege period of one year. These costs represent the cost of acquiring business credit card account relationships, and the net amortization is included in operating expenses. 46 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) SECURITIZATION ACTIVITIES A significant portion of our funding is through off-balance sheet business credit card securitizations via a securitization trust. The securitization trust was created to hold the collateral (the securitized receivables) and issue debt to investors. The securitization trust is a qualifying special-purpose entity as defined by Statement of Financial Accounting Standards ("SFAS") No. 140, "Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities -- a Replacement of FASB Statement No. 125," and therefore, is not consolidated as part of Advanta Corp.'s consolidated financial statements. We do not provide any guarantee of the debt issued by the special-purpose entity and our recourse in the transactions is limited to the value of our interests in securitizations that act as credit enhancement to the investors' interests. We sell business credit card receivables through securitizations with servicing retained. When we securitize, we surrender control over the transferred assets and account for the transaction as a sale to the extent that consideration other than beneficial interests in the transferred assets is received in exchange. We allocate the previous carrying amount of the securitized receivables between the assets sold and the retained interests, based on their relative estimated fair values at the date of sale. Securitization income is recognized at the time of the sale, equal to the excess of the fair value of the assets obtained (principally cash) over the allocated cost of the assets sold and transaction costs. During the revolving period of each business credit card securitization, securitization income is recorded representing estimated gains on the sale of new receivables to the securitization trust on a continuous basis to replenish the investors' interest in securitized receivables that have been repaid by the business credit card account holders. Fair value estimates used in the recognition of securitization income require certain assumptions of payment, default and interest rates. To the extent actual results are different than those estimates, the impact is recognized in securitization income. On a monthly basis, income-related cash flows on securitized receivables (finance charges, interchange and fees) are used to pay note holders' interest and servicing fees, and any excess cash flow serves as credit enhancement to cover credit losses in that month. In September 2000, the FASB issued SFAS No. 140 which revised the standards for accounting for securitizations and other transfers of financial assets and collateral and required certain disclosures, but carried over most of SFAS No. 125's provisions without amendment. SFAS No. 140 was effective for transfers and servicing of financial assets and extinguishments of liabilities occurring after March 31, 2001. The statement was effective for recognition and reclassification of collateral and for disclosures relating to securitization transactions and collateral for fiscal years ending after December 15, 2000. The adoption of SFAS No. 140 did not have a material effect on our financial position or results of operations. We adopted Emerging Issues Task Force Issue 99-20, "Recognition of Interest Income and Impairment on Purchased and Retained Beneficial Interest in Securitized Financial Assets" on April 1, 2001. The implementation of EITF 99-20 did not have a material effect on our financial position or results of operations. RETAINED INTERESTS IN SECURITIZATIONS Retained interests in securitizations include restricted cash reserve accounts, retained interest-only strips and subordinated trust assets related to securitizations. Subordinated trust assets represent an ownership interest in the securitized receivables that is subordinated to the other investors' interests. Retained interests in securitizations serve as credit enhancement for the securitization transactions. We account for retained interests in securitizations as trading securities. These assets are recorded at estimated fair value and the resulting unrealized gain or loss from the valuation is included in securitization income. We estimate the fair value of retained interests in securitizations based on a discounted cash flow analysis. The cash flows of the retained interest-only strip are estimated as the excess of the weighted average finance charge yield on each pool of the receivables sold over the sum of the interest rate paid to the note holder, the servicing fee and an estimate of future credit losses over the life of the receivables. Cash flows are discounted from the date the cash is expected to become available to us (the "cash-out" method). These cash 47 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) flows are projected over the life of the receivables using payment, default, and interest rate assumptions that management believes would be used by market participants for similar financial instruments subject to prepayment, credit and interest rate risk. The cash flows are discounted using an interest rate that management believes a purchaser unrelated to the seller of the financial instrument would demand. As all estimates used are influenced by factors outside our control, there is uncertainty inherent in these estimates, making it reasonably possible that they could change in the near term. Interest income is recognized over the life of the retained interests in securitizations using the discount rate used in the valuation. SERVICING RIGHTS Servicing assets associated with business credit card securitization transactions are not material as the benefits of servicing are not expected to be more or less than adequate compensation for performing the servicing. AMOUNTS DUE FROM SECURITIZATIONS Amounts due from securitizations consists primarily of accrued interest and fees on securitized receivables, amounts owed from the trust for the purchase of new loan receivables during the revolving period, and amounts owed from the trust for one month's servicing fee and one month's income-related cash flows in excess of that month's note holders' interest, servicing fees and credit losses. INTERCHANGE INCOME Interchange income includes interchange revenue on both owned and securitized business credit cards. PREMISES AND EQUIPMENT Premises, equipment, computers and software are stated at cost less accumulated depreciation and amortization. Depreciation is calculated using the straight-line method over the estimated useful lives of the assets. Repairs and maintenance are charged to expense as incurred. Estimated useful lives used for premises and equipment are as follows: Furniture, fixtures and equipment 4 to 7 years Computers and software 3 to 4 years
Leasehold improvements are amortized over the shorter of the lives of the leases or estimated service lives. SECURITIES SOLD UNDER REPURCHASE AGREEMENTS Securities sold under agreements to repurchase are accounted for as secured borrowings because we maintain effective control over the transferred assets. Securities sold under agreements to repurchase are reflected at the amount of cash received in connection with the transaction. We may be required to provide additional collateral based on the fair value of the underlying securities. DERIVATIVE FINANCIAL INSTRUMENTS We use derivative financial instruments as part of our risk management strategy to reduce interest rate risk. Derivatives are not used for trading or speculative activities. We adopted SFAS No. 133, "Accounting for Derivative Instruments and Hedging Activities," and SFAS No. 138, "Accounting for Certain Derivative Instruments and Certain Hedging Activities -- an amendment of FASB Statement No. 133," on January 1, 2001. The adoption of SFAS No. 133 and No. 138 had no impact on income from continuing operations and was not material to income from discontinued operations. We recognize all derivatives on the balance sheet at fair value. On the date the derivative instrument is entered into, we may designate the derivative as either (1) a hedge of the fair value of a recognized asset or 48 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) liability or of an unrecognized firm commitment, (2) a hedge of a forecasted transaction or of the variability of cash flows to be received or paid related to a recognized asset or liability ("cash flow hedge"), or (3) a hedge of a net investment in a foreign operation. All derivatives used in continuing operations in the year ended December 31, 2001 were designated as fair value hedges. There were no derivatives designated as cash flow hedges or net investment hedges in the year ended December 31, 2001. Changes in the fair value of a derivative that is designated as, and meets all the required criteria for, a fair value hedge, along with the gain or loss on the hedged asset or liability that is attributable to the hedged risk, are recorded in current period earnings. Changes in the fair value of a derivative that is designated as, and meets all the required criteria for, a cash flow hedge are recorded in accumulated other comprehensive income and reclassified into earnings as the underlying hedged item affects earnings. Changes in the fair value of a derivative or non-derivative instrument that is designated as, and meets all the required criteria for, a hedge of a net investment are recorded in accumulated other comprehensive income. The portion of the change in fair value of a derivative associated with hedge ineffectiveness or the component of a derivative instrument excluded from the assessment of hedge effectiveness is recorded currently in earnings. Also, changes in the entire fair value of a derivative that is not designated as a hedge are recorded immediately in earnings. We formally document all relationships between hedging instruments and hedged items, as well as our risk-management objective and strategy for undertaking various hedge transactions. This process includes relating all derivatives that are designated as fair value or cash flow hedges to specific assets and liabilities on the balance sheet or to specific firm commitments or forecasted transactions. We also formally assess, both at the inception of the hedge and on an ongoing basis, whether each derivative is highly effective in offsetting changes in fair values or cash flows of the hedged item. If it is determined that a derivative is not highly effective as a hedge or if a derivative ceases to be a highly effective hedge, we will discontinue hedge accounting prospectively. Prior to the adoption of SFAS No. 133 on January 1, 2001, gains or losses on derivatives designated as hedges of balance sheet items not carried at fair value were deferred and were ultimately recognized in income as part of the carrying amount of the related balance sheet item exposing us to interest rate risk. Accrual accounting was applied for derivatives designated as synthetic alterations with income and expense recorded in the same category as the related underlying on-balance sheet or off-balance sheet item synthetically altered. For derivatives designated as hedges of balance sheet items where changes in fair value were recognized currently in earnings, the related derivative was included in the balance sheet at fair value, and changes in the fair value of the derivative were also recognized currently in earnings. BUSINESS CREDIT CARD REWARDS PROGRAMS We offer bonus mile and cash-back reward programs with certain of our business credit cards. Eligible cardholders earn points for bonus miles or up to 2% cash-back rewards based on net purchases charged on their business credit card account. The cost of future reward redemptions are estimated and recorded at the time bonus mile points or cash-back rewards are earned by the cardholder. We estimate that 80% to 100% of cardholders will ultimately claim rewards. The estimate varies depending on the structure of the rewards program. These costs of future reward redemptions are recorded as a reduction of other revenues. INSURANCE Insurance premiums and commission revenues are earned ratably over the period of insurance coverage provided. Reinsurance premiums, net of commission expenses, on credit life, disability and unemployment policies, are earned monthly based upon the outstanding balance of the underlying receivables. Acquisition costs are deferred and amortized over the period the related premiums or commissions will be earned in order to match the expense with the anticipated revenue. Insurance loss reserves are based on estimated settlement amounts for both reported losses, incurred but not reported losses and loss adjustment expenses. 49 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) STOCK-BASED COMPENSATION We have elected to account for stock-based compensation following Accounting Principles Board Opinion No. 25 "Accounting for Stock Issued to Employees" as permitted by SFAS No. 123, "Accounting for Stock Based Compensation" ("SFAS 123"). We have adopted the disclosure-only provisions of SFAS 123. INCOME TAXES Deferred income tax assets and liabilities are determined using the liability (or balance sheet) method. Under this method, the net deferred tax asset or liability is determined based on the tax effects of the temporary differences between the book and tax bases of the various assets and liabilities and gives current recognition to changes in tax rates and laws. We reduce our deferred tax assets by a valuation allowance, if necessary, by the amount of any tax benefits that, based on available evidence, are not expected to be realized. In establishing the valuation allowance, management considers (1) estimates 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. This analysis is inherently subjective, as it requires estimates that are susceptible to significant revision as more information becomes available. EARNINGS PER SHARE Basic earnings per common share is computed by dividing income available to common stockholders by the weighted-average number of common shares outstanding during the period. Income available to common stockholders is computed by deducting Class A and Class B Preferred Stock dividends from net income. Diluted earnings per common share is computed by dividing income available to common stockholders, increased by dividends on dilutive Class B Preferred Stock (if applicable for the period), by the sum of average common shares outstanding plus dilutive common shares for the period. Potentially dilutive common shares include stock options, restricted stock issued under incentive plans and, through September 15, 1999, Class B Preferred Stock. Since the cash dividends declared on our Class B Common Stock were higher than the dividends declared on the Class A Common Stock, basic and diluted earnings per common share have been calculated using the "two-class" method. The two-class method is an earnings allocation formula that determines earnings per share for each class of common stock according to dividends declared and participation rights in undistributed earnings. We have also presented combined earnings per common share, which represents a weighted average of Class A and Class B earnings per common share. CASH FLOW REPORTING Cash paid for interest was $122.4 million during 2001, $182.4 million during 2000, and $161.0 million during 1999. The net cash refund received for taxes was $1.1 million in 2001. Cash paid for taxes was $4.1 million during 2000 and $8.9 million during 1999. NOTE 2. DISCONTINUED OPERATIONS Effective February 28, 2001, we completed the exit of our mortgage business, Advanta Mortgage, through a purchase and sale agreement with Chase Manhattan Mortgage Corporation as buyer (the "Mortgage Transaction"). Prior to the Mortgage Transaction, Advanta Mortgage made nonconforming home equity loans directly to consumers and through brokers. This business unit originated and serviced 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 originated, Advanta Mortgage contracted with third parties to service their nonconforming home equity loans on a subservicing basis. Following the Mortgage Transaction, we no longer operate a mortgage business. The purchase and sale agreement provided for the sale, transfer and assignment of substantially all of the assets and operating liabilities associated with our mortgage business, as well as specified contingent liabilities arising from our operation of the mortgage business prior to closing that were identified in the purchase and sale agreement. We retained contingent liabilities, primarily relating to 50 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) litigation, arising from our operation of the mortgage business before closing that were not specifically assumed by the buyer. The proceeds from the sale exceeded $1 billion, subject to closing adjustments, resulting in an estimated gross gain of approximately $60 million before transaction expenses, severance expenses and other costs. The gain on the Mortgage Transaction does not reflect any impact from the post-closing adjustment process. Although the Mortgage Transaction resulted in a gain for financial reporting purposes, due to book/tax differences, we will not pay any material federal income tax as a result of the sale. See Note 11 for a discussion of litigation related to the Mortgage Transaction. On January 23, 2001, we announced that after a thorough review of strategic alternatives available for our leasing business, Advanta Leasing Services, we decided to cease originating leases. Advanta Leasing Services offered flexible lease financing programs on small-ticket equipment to small businesses. The primary products financed included office machinery, security systems and computers. We will continue to service the existing portfolio rather than sell the business or the portfolio. In connection with the discontinuance of the leasing business, we recorded a $4.3 million pretax loss effective December 31, 2000, representing the estimated operating results through the remaining term of the leasing portfolio. Estimated operating results of the leasing business included estimated valuations of retained interests in leasing securitizations, estimated cash flows from on-balance sheet lease receivables, interest expense and operating expenses. As all estimates used are influenced by factors outside our control, there is uncertainty inherent in these estimates, making it reasonably possible that they could change in the near term. In the year ended December 31, 2001, we incurred an additional $45.0 million pretax loss on the discontinuance of the leasing business due to changes in the estimate of those operating results. These changes in estimate were needed due to an increase in estimated credit losses expected throughout the remaining term of the leasing portfolio based on credit loss experience in 2001. The primary factor contributing to the increased credit losses is that one of our former leasing vendors filed for bankruptcy protection and this vendor's financial problems have impacted its ability to service a segment of our leasing portfolio. The exit of the mortgage business and discontinuance of the leasing business represent the disposal of business segments following Accounting Principles Board ("APB") Opinion No. 30. Accordingly, results of these operations are classified as discontinued in all periods presented. Revenues and expenses of Advanta Mortgage were as follows for the period from January 1, 2001 to the disposal date of February 28, 2001 and for the years ended December 31, 2000 and 1999:
JANUARY 1, 2001 YEAR ENDED YEAR ENDED TO FEBRUARY 28, DECEMBER 31, DECEMBER 31, 2001 2000 1999 ----------------------------------------------------------------------------------------------------- Interest revenue $ 18,922 $ 164,142 $ 131,496 Noninterest revenues 17,709 37,679 179,957 Interest expense (11,160) (93,845) (78,461) Other expenses (37,721) (245,004) (228,122) Income tax (expense) benefit 3,812 0 (1,926) ----------------------------------------------------------------------------------------------------- Income (loss) from discontinued operations, net of tax $ (8,438) $(137,028) $ 2,944 =====================================================================================================
51 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) Revenues and expenses of Advanta Leasing Services were as follows for the years ended December 31:
2000 1999 ---------------------------------------------------------------------------------- Interest revenue $ 15,632 $ 10,146 Noninterest revenues 9,459 40,970 Interest expense (12,777) (8,415) Other expenses (38,864) (33,574) Income tax expense 0 (3,587) ---------------------------------------------------------------------------------- Income (loss) from discontinued operations, net of tax $(26,550) $ 5,540 ==================================================================================
We allocated interest expense to the discontinued operations based on the ratio of net assets of discontinued operations to the total net assets of the consolidated company. The components of the gain (loss) on discontinuance of our mortgage and leasing businesses for the years ended December 31 were as follows:
2001 2000 -------------------- -------------------- ADVANTA ADVANTA ADVANTA LEASING ADVANTA LEASING MORTGAGE SERVICES MORTGAGE SERVICES ------------------------------------------------------------------------------------------------ Pretax gain (loss) on discontinuance of mortgage and leasing businesses $20,753 $(45,000) $0 $(4,298) Income tax (expense) benefit (8,637) 1,245 0 0 ------------------------------------------------------------------------------------------------ Gain (loss) on discontinuance of mortgage and leasing businesses, net of tax $12,116 $(43,755) $0 $(4,298) ================================================================================================
The estimated operating results of Advanta Leasing Services through the remaining term of the lease portfolio were estimated at the measurement date of December 31, 2000 in the determination of the loss on discontinuance. As discussed above, the estimate was revised and an additional $45.0 million loss was recorded in the year ended December 31, 2001 as a loss on discontinuance. 52 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) Per share data was as follows for the years ended December 31:
ADVANTA MORTGAGE ADVANTA LEASING SERVICES ------------------------- ------------------------- 2001 2000 1999 2001 2000 1999 ----------------------------------------------------------------------------------------------- Basic income (loss) from discontinued operations per common share Class A $(0.33) $(5.45) $0.12 $ 0.00 $(1.06) $0.24 Class B (0.33) (5.45) 0.12 0.00 (1.06) 0.24 Combined (0.33) (5.45) 0.12 0.00 (1.06) 0.24 Diluted income (loss) from discontinued operations per common share Class A $(0.33) $(5.41) $0.12 $ 0.00 $(1.05) $0.23 Class B (0.33) (5.41) 0.12 0.00 (1.05) 0.23 Combined (0.33) (5.41) 0.12 0.00 (1.05) 0.23 Basic gain (loss), net, on discontinuance of mortgage and leasing businesses, net of tax, per common share Class A $ 0.47 $ 0.00 $0.00 $(1.70) $(0.17) $0.00 Class B 0.47 0.00 0.00 (1.70) (0.17) 0.00 Combined 0.47 0.00 0.00 (1.70) (0.17) 0.00 Diluted gain (loss), net, on discontinuance of mortgage and leasing businesses, net of tax, per common share Class A $ 0.47 $ 0.00 $0.00 $(1.70) $(0.17) $0.00 Class B 0.47 0.00 0.00 (1.70) (0.17) 0.00 Combined 0.47 0.00 0.00 (1.70) (0.17) 0.00 ===============================================================================================
The components of net assets of discontinued operations were as follows at December 31:
2001 2000 ------------------------------------------------------------------------------------ Loans and leases, net $ 52,739 $ 370,682 Other assets 100,061 887,168 Liabilities (10,397) (56,520) ------------------------------------------------------------------------------------ Net assets of discontinued operations $142,403 $1,201,330 ====================================================================================
As discussed above, we will continue to service the existing lease portfolio. At December 31, 2001, there were $365 million of securitized leases outstanding, and we had retained interests in leasing securitizations of $44 million. At December 31, 2000, there were $658 million of securitized leases outstanding, and we had retained interests in leasing securitizations of $78 million. The retained interests in leasing securitizations are included in net assets of discontinued operations in the consolidated balance sheets. At December 31, 2001, the fair value of the retained interests in leasing securitizations was estimated using a 12.0% discount rate on future cash flows, loss rates ranging from 9.0% to 9.9% and a weighted average life of 1.1 years. Actual results may vary from our estimates, and the impact of any differences will be recognized in income when determined. We use interest rate swaps to manage the impact of fluctuating interest rates on the fair value of certain retained interests in leasing securitizations. The interest rate swaps effectively convert a leasing off-balance sheet variable securitization to a fixed rate. At December 31, 2001, the notional amount of interest rate swaps outstanding relating to leasing securitizations was $113.6 million, and the estimated fair value was a liability of $3.5 million. At December 31, 2000, the notional amount of interest rate swaps outstanding relating to leasing securitizations was $216.2 million, and the estimated fair value was a liability of $1.4 million. The interest rate 53 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) swaps are recorded at fair value with changes in fair value recorded in Advanta Leasing Services operating results. As discussed above, the estimated operating results of Advanta Leasing Services through the remaining term of the lease portfolio were estimated at the measurement date in the determination of the loss on discontinuance. NOTE 3. RESTRICTED INTEREST-BEARING DEPOSITS AND INVESTMENTS AVAILABLE FOR SALE Restricted interest-bearing deposits at December 31, 2001 include $72.0 million of amounts held in escrow in connection with our litigation with Fleet Financial Group ("Fleet"), and $36.1 million held in escrow in connection with other litigation-related contingencies. Investments available for sale consisted of the following:
DECEMBER 31, ----------------------------------------------------------------------------------------------- 2001 2000 ---------------------------------------------- ---------------------------------------------- GROSS GROSS GROSS GROSS AMORTIZED UNREALIZED UNREALIZED MARKET AMORTIZED UNREALIZED UNREALIZED MARKET COST GAINS LOSSES VALUE COST GAINS LOSSES VALUE ========================================================================================================================= U.S. Treasury and other U.S. Government securities $ 85,064 $1,238 $(100) $ 86,202 $401,168 $ 831 $ (774) $401,225 State and municipal securities 3,889 162 (46) 4,005 4,280 192 (36) 4,436 Collateralized mortgage obligations 20,909 409 0 21,318 165,689 119 (2,911) 162,897 Mortgage-backed securities 9,961 274 0 10,235 91,520 764 (311) 91,973 Equity securities(1) 26,621 0 0 26,621 72,403 0 0 72,403 Other(2) 98,299 0 (1) 98,298 25,735 124 (1) 25,858 ------------------------------------------------------------------------------------------------------------------------- Total investments available for sale $244,743 $2,083 $(147) $246,679 $760,795 $2,030 $(4,033) $758,792 ========================================================================================================================= DECEMBER 31, ---------------------------------------------- 1999 ---------------------------------------------- GROSS GROSS AMORTIZED UNREALIZED UNREALIZED MARKET COST GAINS LOSSES VALUE ======================================================================== U.S. Treasury and other U.S. Government securities $145,112 $0 $ (4,668) $140,444 State and municipal securities 3,473 0 (85) 3,388 Collateralized mortgage obligations 456,288 0 (8,220) 448,068 Mortgage-backed securities 98,190 0 (3,634) 94,556 Equity securities(1) 60,892 0 0 60,892 Other(2) 1,531 2 0 1,533 ------------------------------------------------------------------------- Total investments available for sale $765,486 $2 $(16,607) $748,881 =========================================================================
(1) Includes venture capital investments of $18.6 million at December 31, 2001, $45.3 million at December 31, 2000 and $36.4 million at December 31, 1999. The amount shown as amortized cost represents fair value for these investments. See Note 1. (2) Other investments at December 31, 2001 include a $97.0 million investment in the Merrill Lynch Premier Institutional Money Market Fund. Other investments also include $1.2 million of short-term investments held in a custodial account in connection with Advanta National Bank's February 2001 agreement with the Office of the Comptroller of the Currency. Maturities of investments available for sale at December 31, 2001 were as follows:
AMORTIZED MARKET COST VALUE ----------------------------------------------------------------------------------- Due in 1 year $ 33,748 $ 34,343 Due after 1 but within 5 years 19,841 20,506 Due after 5 but within 10 years 34,465 34,481 Due after 10 years 899 877 ----------------------------------------------------------------------------------- Subtotal 88,953 90,207 Collateralized mortgage obligations 20,909 21,318 Mortgage-backed securities 9,961 10,235 Equity securities 26,621 26,621 Other 98,299 98,298 ----------------------------------------------------------------------------------- Total investments available for sale $244,743 $246,679 ===================================================================================
54 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) Net realized gains on the sale of investments are included in other revenues in the consolidated income statements. Realized gains and losses on sales of investments available for sale were as follows for the years ended December 31:
2001 2000 1999 -------------------------------------------------------------------------------------------- Gross realized gains $ 3,456 $11,728 $30,697 Gross realized losses (10,100) (2,564) (64) -------------------------------------------------------------------------------------------- Net realized gains (losses) $ (6,644) $ 9,164 $30,633 ============================================================================================
Investment securities deposited with insurance regulatory authorities to meet statutory requirements or held by a trustee for the benefit of primary insurance carriers were $6.2 million at December 31, 2001 and $6.5 million at December 31, 2000. The carrying value of securities pledged to secure repurchase agreements was $32.4 million at December 31, 2001 and $0 at December 31, 2000. The carrying amount of other pledged securities was $0 at December 31, 2001 and $2.7 million at December 31, 2000. NOTE 4. RECEIVABLES Receivables on the balance sheet, including those held for sale, consisted of the following:
DECEMBER 31, ---------------------------------------------------------------------------------- 2001 2000 ---------------------------------------------------------------------------------- Business credit card receivables $416,265 $335,087 Other receivables 28,189 24,203 ---------------------------------------------------------------------------------- Gross receivables 444,454 359,290 ---------------------------------------------------------------------------------- Add: Deferred origination costs, net of deferred fees 20,924 14,368 Less: Allowance for credit losses Business credit cards (41,169) (33,165) Other receivables (802) (202) ---------------------------------------------------------------------------------- Total allowance (41,971) (33,367) ---------------------------------------------------------------------------------- Receivables, net $423,407 $340,291 ==================================================================================
Gross managed receivables (owned receivables and securitized receivables) and managed credit quality data were as follows:
DECEMBER 31, -------------------------------------------------------------------------------------- 2001 2000 -------------------------------------------------------------------------------------- Owned business credit card receivables $ 416,265 $ 335,087 Owned other receivables 28,189 24,203 Securitized business credit card receivables 1,626,709 1,324,137 -------------------------------------------------------------------------------------- Total managed receivables 2,071,163 1,683,427 -------------------------------------------------------------------------------------- Nonperforming assets -- managed 81,666 45,160 Receivables 30 days or more delinquent -- managed 137,517 83,798 Net charge-offs for the year ended December 31 -- managed 143,593 64,638 ======================================================================================
55 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) The geographic concentration of managed receivables was as follows:
DECEMBER 31, ---------------------------------------------------------------------------------------------- 2001 2000 ---------------------------------------------------------------------------------------------- California $ 269,860 13% $ 215,537 13% Florida 157,555 8 130,250 8 Texas 147,268 7 115,823 7 New York 131,602 6 108,266 6 Illinois 91,910 4 74,542 4 All other 1,272,968 62 1,039,009 62 ---------------------------------------------------------------------------------------------- Total managed receivables $2,071,163 100% $1,683,427 100% ==============================================================================================
In the normal course of business, we make commitments to extend credit to our business credit card customers. Commitments to extend credit are agreements to lend to a customer subject to certain conditions established in the contract. We do not require collateral to support business credit card commitments. We had commitments to extend credit for which there was potential credit risk of $6.6 billion at December 31, 2001 and $5.9 billion at December 31, 2000. We believe that our customers' utilization of these lines of credit will continue to be substantially less than the amount of the commitments, as has been our experience to date. Of these total commitments, $4.6 billion were unused at December 31, 2001 and $4.2 billion were unused at December 31, 2000. NOTE 5. ALLOWANCE FOR CREDIT LOSSES The following table displays five years of allowance history:
YEAR ENDED DECEMBER 31, ---------------------------------------------------------------------------------------------- 2001 2000 1999 1998 1997 ---------------------------------------------------------------------------------------------- Balance at January 1 $ 33,367 $ 14,865 $ 10,650 $ 129,053 $ 78,801 Provision for credit losses 35,976 36,309 22,506 38,329 199,509 Allowance on receivables sold or transferred 0 0 (5,791) (118,420) (6,039) Gross charge-offs: Business credit cards (30,540) (20,174) (11,341) (11,126) (6,403) Other receivables (3) (2) (2,404) 0 (4) Consumer credit cards 0 0 0 (30,999) (155,528) ---------------------------------------------------------------------------------------------- Total gross charge-offs (30,543) (20,176) (13,745) (42,125) (161,935) Recoveries: Business credit cards 3,171 2,369 1,238 1,093 205 Other receivables 0 0 7 1 1 Consumer credit cards 0 0 0 2,719 18,511 ---------------------------------------------------------------------------------------------- Total recoveries 3,171 2,369 1,245 3,813 18,717 ---------------------------------------------------------------------------------------------- Net charge-offs (27,372) (17,807) (12,500) (38,312) (143,218) Balance at December 31 $ 41,971 $ 33,367 $ 14,865 $ 10,650 $ 129,053 ==============================================================================================
As of September 30, 2000, we modified our estimate of the allowance for credit losses on business credit card receivables. The revised estimate for the overall portfolio was developed based on discussions with our banking regulators, changes in the economic environment and the use of more conservative loss estimates for certain segments of the loan portfolio. Those segments included accounts with lower credit scores, accounts held by businesses in operation less than twelve months, and accounts in which cash borrowings comprise a significant portion of the outstanding balance. As a result of these changes in estimate, we increased our 56 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) allowance for credit losses by approximately $8 million, which decreased net income from continuing operations in the year ended December 31, 2000 by approximately $8 million or $0.32 per diluted combined share. NOTE 6. SECURITIZATION ACTIVITIES The following represents business credit card securitization data for the years ended December 31, 2001 and 2000, and the key assumptions used in measuring the fair value of retained interests at the time of each new securitization or replenishment during those periods.
2001 2000 -------------------------------------------------------------------------------------------- Securitization income $ 113,478 $ 70,797 Interchange income 61,722 39,684 Servicing revenues 29,221 17,310 Proceeds from new securitizations 272,549 512,619 Proceeds from collections reinvested in revolving-period securitizations 3,283,737 2,011,733 Cash flows received on retained interests 175,445 91,517 KEY ASSUMPTIONS: Discount rate 12.0% 12.0% Monthly payment rate 17.9% - 18.8% 18.8% - 19.7% Loss rate 7.8% - 10.4% 7.2% - 7.8% Finance charge yield, net of interest paid to note holders 12.1% - 15.8% 10.4% - 10.8% --------------------------------------------------------------------------------------------
There were no purchases of delinquent accounts during 2001 or 2000. The following assumptions were used in measuring the fair value of retained interests in business credit card securitizations at December 31, 2001 and 2000. The assumptions listed represent weighted averages of assumptions used for each securitization.
2001 2000 -------------------------------------------------------------------------- Discount rate 12.0% 12.0% Monthly payment rate 18.2 19.0 Loss rate 10.4 7.8 Finance charge yield, net of interest paid to note holders 15.8 10.8 ==========================================================================
In addition to the assumptions identified above, management also considered qualitative factors such as the impact of the current economic environment on the performance of the business credit card receivables sold and the potential volatility of the current market for similar instruments in assessing the fair value of retained interests in business credit card securitizations. 57 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) We have prepared sensitivity analyses of the valuations of retained interests in securitizations. The sensitivity analyses show the hypothetical effect on the fair value of those assets of two unfavorable variations from the expected levels for each key assumption, independently from any change in another key assumption. The following are the results of those sensitivity analyses on the valuation at December 31, 2001. Fair value at December 31, 2001 $ 88,658 Effect on fair value of the following hypothetical changes in key assumptions: Discount rate increased by 2% (741) Discount rate increased by 4% (1,474) Monthly payment rate at 110% of base assumption 0 Monthly payment rate at 125% of base assumption (1,635) Loss rate at 110% of base assumption (4,031) Loss rate at 125% of base assumption (10,040) Finance charge yield, net of interest paid to note holders, decreased by 1% (3,888) Finance charge yield, net of interest paid to note holders, decreased by 2% (7,764)
The objective of these hypothetical analyses is to measure the sensitivity of the fair value of the retained interests to changes in assumptions. The methodology used to calculate the fair value in the analyses is a discounted cash flow analysis, the same methodology used to estimate fair value as described in Note 1. These estimates do not factor in the impact of simultaneous changes in other key assumptions. The above scenarios do not reflect management's expectation regarding the future direction of these rates, and they depict only certain possibilities out of a large set of possible scenarios. NOTE 7. SELECTED BALANCE SHEET INFORMATION Other assets consisted of the following:
DECEMBER 31, ---------------------------------------------------------------------------------- 2001 2000 ---------------------------------------------------------------------------------- Current and deferred federal and state income taxes, net $ 94,922 $ 87,794 Amounts due from transfer of consumer credit card business 70,545 70,545 Cash surrender value of insurance contracts 26,065 20,432 Investment in Fleet Credit Card LLC 20,000 20,000 Other 53,157 57,887 ---------------------------------------------------------------------------------- Total other assets $264,689 $256,658 ==================================================================================
Other liabilities consisted of the following:
DECEMBER 31, ---------------------------------------------------------------------------------- 2001 2000 ---------------------------------------------------------------------------------- Accounts payable and accrued expenses $ 43,554 $ 70,041 Business credit card rewards 10,389 3,463 Accrued interest payable 9,095 31,048 Other 114,529 91,569 ---------------------------------------------------------------------------------- Total other liabilities $177,567 $196,121 ==================================================================================
58 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) NOTE 8. DEPOSITS Deposit accounts consist of the following:
DECEMBER 31, ------------------------------------------------------------------------------------ 2001 2000 ------------------------------------------------------------------------------------ Demand deposits $ 6,500 $ 4,545 Money market savings 3,510 64,023 Time deposits of $100,000 or less 389,888 916,921 Time deposits of more than $100,000 237,017 361,487 ------------------------------------------------------------------------------------ Total deposits $636,915 $1,346,976 ====================================================================================
Time deposit maturities are as follows: Year Ended December 31, 2002 $419,907 2003 146,257 2004 58,357 2005 2,384
In the second quarter of 2001, we sold $389.7 million of deposit liabilities to E*TRADE Bank, a wholly owned subsidiary of E*TRADE Group, Inc. NOTE 9. DEBT The composition of debt was as follows:
DECEMBER 31, ---------------------------------------------------------------------------------- 2001 2000 ---------------------------------------------------------------------------------- SENIOR DEBT RediReserve demand certificates, variable (3.00%-4.25%) $ 28,312 $ 50,190 12 month senior notes, fixed (4.64%-11.33%) 125,450 152,553 18 month senior notes, fixed (5.59%-11.38%) 12,097 9,229 24 month senior notes, fixed (6.06%-11.42%) 77,228 86,109 30 month senior notes, fixed (6.16%-11.47%) 15,334 14,684 48 month senior notes, fixed (7.00%-11.51%) 9,670 8,384 60 month senior notes, fixed (6.53%-11.56%) 36,258 34,849 Value notes, fixed 0 3,271 Medium-term notes, fixed (6.92%-6.98%) 199 313,100 Medium-term notes, floating 0 30,500 Medium-term bank notes, fixed 0 3,404 Other senior notes, fixed (3.92%-11.33%) 18,453 48,197 ---------------------------------------------------------------------------------- Total senior debt 323,001 754,470 Subordinated notes, fixed (9.08%-9.54%) 581 714 ---------------------------------------------------------------------------------- Total debt $323,582 $755,184 ==================================================================================
We priced our floating rate medium-term notes based on a spread over LIBOR. At December 31, 2000, the rates on these notes varied from 7.19% to 7.30%; however, we used derivative financial instruments to effectively convert certain fixed rate medium-term notes to a LIBOR-based variable rate. See Note 25. We used part of the proceeds from the Mortgage Transaction in the first quarter of 2001 to pay off substantially all of our outstanding medium-term notes and to reduce our outstanding senior notes in 2001. 59 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) The annual contractual maturities of debt at December 31, 2001 for the years ending December 31 are as follows: $251.2 million in 2002; $42.0 million in 2003; $14.5 million in 2004; $10.8 million in 2005; and $5.1 million in 2006. The average interest cost of our debt was 9.47% during 2001, 8.17% during 2000 and 6.53% during 1999. NOTE 10. OTHER BORROWINGS The composition of other borrowings was as follows:
DECEMBER 31, ------------------------------------------------------------------------------- 2001 2000 ------------------------------------------------------------------------------- Securities sold under repurchase agreements $32,317 $ 0 Other borrowings 0 4,289 ------------------------------------------------------------------------------- Total $32,317 $4,289 ===============================================================================
At December 31, 2001 we had a $280.3 million committed commercial paper conduit facility. We pay a facility fee on the unused portion of the commitment at an annual rate of 15 basis points. This facility provides for off-balance sheet funding. At December 31, 2001, there were $120 million of business credit card receivables securitized through this facility. The commitment can be withdrawn under certain conditions, including a failure to make payments under the terms of the agreement and the failure to maintain a three-month average excess spread percentage on the securitized receivables at a level greater than 0%. Excess spread represents income-related cash flows on securitized receivables (finance charges, interchange and fees) net of note holders' interest, servicing fees, and credit losses. The agreement also requires the servicer of the receivables, Advanta Bank Corp., to be well-capitalized. Upon the expiration of this facility in June 2002, management expects to obtain the appropriate level of replacement funding under similar terms and conditions. At December 31, 2000, we had $130.3 million of business credit card receivables securitized through this facility. The following table displays information related to selected types of short-term borrowings:
2001 2000 1999 ----------------------------------------------------------------------------------------------- AMOUNT RATE AMOUNT RATE AMOUNT RATE ----------------------------------------------------------------------------------------------- At year end: Securities sold under repurchase agreements $ 32,317 2.09% $ 0 0% $104,191 5.78% FHLB advances 0 0 0 0 220,000 5.53 =============================================================================================== Average for the year: Securities sold under repurchase agreements $ 16,705 5.74% $ 36,960 6.14% $ 24,647 5.39% Term fed funds, fed funds purchased and FHLB advances 0 0 62,435 6.14 11,432 5.57 ----------------------------------------------------------------------------------------------- Total $ 16,705 5.74% $ 99,395 6.14% $ 36,079 5.43% =============================================================================================== Maximum month-end balance: Securities sold under repurchase agreements $148,545 $149,628 $104,191 Term fed funds, fed funds purchased and FHLB advances 0 210,000 220,000 ===============================================================================================
The weighted average interest rates were calculated by dividing the interest expense for the period by the average amount of short-term borrowings outstanding during the period, calculated as an average of daily amounts. 60 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) NOTE 11. COMMITMENTS AND CONTINGENCIES On January 22, 1999, Fleet and certain of its affiliates filed a lawsuit against Advanta Corp. and certain of its subsidiaries in Delaware Chancery Court. Fleet's allegations, which we deny, center around Fleet's assertions that we failed to complete certain post-closing adjustments to the value of the assets and liabilities we contributed to Fleet Credit Card LLC in connection with the transfer of our consumer credit card business in 1998 (the "Consumer Credit Card Transaction"). Fleet seeks damages of approximately $141 million. We filed an answer to the complaint denying the material allegations of the complaint, but acknowledging that we contributed $1.8 million in excess liabilities in the post-closing adjustment process, after taking into account the liabilities we have already assumed. We also filed a countercomplaint against Fleet for approximately $101 million in damages we believe have been caused by certain actions of Fleet following the closing of the Consumer Credit Card Transaction. In October 2001, the court issued a ruling on summary judgment in favor of Fleet on certain legal issues and positions advocated by Fleet and against others that Fleet advocated. As a result, for purposes of trial only, the parties stipulated to a number of issues relating to the court's orders including certain amounts that would be owed by each party to the other, while preserving their rights to appeal. Many issues remained to be determined at trial, including the financial impact of all issues in dispute. The trial took place in November and December 2001. The court ordered a post-trial briefing schedule, which has the parties submitting briefs through March 2002, with oral argument scheduled for April 2002. As a result of related litigation with Fleet, $70.1 million of our reserves in connection with this litigation were funded in an escrow account in February 2001. Taking into account amounts that Fleet owes to us and the amount escrowed, including interest, we have funded our estimated maximum net exposure to Fleet in the litigation. Management expects that the ultimate resolution of this litigation will not have a material adverse effect on our financial position or future operating results given the amount escrowed, our reserves and amounts that Fleet owes us. On December 5, 2000, a former executive of Advanta obtained a jury verdict against Advanta in the amount of $3.9 million in the United States District Court for the Eastern District of Pennsylvania, in connection with various claims against Advanta related to the executive's termination of employment. In September 2001, the District Court Judge issued orders denying both parties' post-trial motions. A judgment in the amount of approximately $6 million, which includes the $3.9 million described above, was entered against Advanta. In September 2001, Advanta filed an appeal to the United States Court of Appeals for the Third Circuit. Advanta has posted a supersedeas bond in the amount of $8 million and has filed its principal brief in the Court of Appeals. The plaintiff filed a cross-appeal from the order adverse to him. Advanta is vigorously pursuing its appeal. The District Court Judge has not yet ruled on the executive's petition for attorney's fees and costs in the amount of approximately $1.2 million, which Advanta has contested. Management expects that the ultimate resolution of this litigation will not have a material adverse effect on our financial position or future operating results. On December 21, 2000, Banc One Financial Services, Inc. and Bank One, N.A (together "Banc One") filed a complaint in the United States District Court for the Northern District of Illinois, Eastern Division, that alleges, among other things, that Advanta breached two mortgage loan servicing agreements by wrongfully withholding as termination fees an amount in excess of $23 million, from amounts that we had collected under the loan servicing agreements. An answer to Banc One's second amended complaint was filed in July 2001 denying liability, raising affirmative defenses and asserting a counterclaim. Various motions were filed, including Advanta's motion for partial summary judgment under one of the two loan servicing agreements, Banc One's motion for summary judgment on liability under both loan servicing agreements, and Banc One's motions to strike Advanta's counterclaim and ninth affirmative defense (both alleging breach of the implied covenant of good faith and fair dealing). In January 2002, the court entered an opinion and order on the pending motions, which granted in part and denied in part both parties' motions for summary judgment. The court treated Banc One's motions to strike as motions for summary judgment, and although not entirely clear on this point, apparently granted them in part and denied them in part. Banc One's motions to strike were denied as moot. The court's ruling is essentially an interlocutory ruling in favor of Advanta under one of 61 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) the two agreements and in favor of Banc One under the other of the two agreements. Advanta's counterclaim survives in part. The court's order does not constitute a final judgment and no assessment of damages either on Advanta's counterclaim or Banc One's claim has occurred. Further proceedings in the trial court on the matter of damages on both the surviving portion of Advanta's counterclaim and Banc One's surviving claim are to ensue. The amount of damages which Banc One might ultimately be entitled to recover from Advanta remains undetermined and dependent upon a number of factors, including the resolution of various legal issues which remain to be resolved and the amount of any damages Advanta might be entitled to recover against Banc One, which likewise remains undetermined. Management expects that the ultimate resolution of this litigation will not have a material adverse effect on our financial position or future operating results. On July 26, 2001, Chase Manhattan Mortgage Corporation ("Chase") filed a complaint against Advanta and certain of its subsidiaries in the United States District Court for the District of Delaware alleging, among other things, that Advanta breached its contract with Chase in connection with the Mortgage Transaction. Chase claims that Advanta misled Chase concerning the value of certain of the assets sold to Chase. In September 2001, Advanta filed an answer to the complaint in which Advanta denied all of the substantive allegations of the complaint and asserted a counterclaim against Chase for breach of contract relating to funds owed by Chase to Advanta in connection with the transaction. The matter is in discovery and trial is scheduled for April 2003. We believe that the lawsuit is without merit and will vigorously defend Advanta. We do not expect this lawsuit to have any impact on our continuing business and, based on the complete lack of merit, we do not anticipate that the lawsuit will have a material adverse impact to Advanta or the named subsidiaries. In addition to the cases described above, Advanta Corp. and its subsidiaries are involved in class action lawsuits, other litigation, claims and legal proceedings arising in the ordinary course of business or discontinued operations, including litigation arising from our operation of the mortgage business prior to the Mortgage Transaction in the first quarter of 2001. Management believes that the aggregate liabilities, if any, resulting from all litigation, claims and other legal proceedings will not have a material adverse effect on the consolidated financial position or results of our operations based on the level of litigation reserves we have established and our expectations regarding the ultimate resolutions of these actions. However, due to the inherent uncertainty in litigation and since the ultimate resolutions of our litigation, claims and other legal proceedings are influenced by factors outside of our control, it is reasonably possible that our estimated liability under these proceedings may change or that actual results will differ from our estimates. We lease office space in several states under leases accounted for as operating leases. Total rent expense related to continuing operations was $5.2 million in 2001, $5.6 million in 2000 and $5.3 million in 1999. The future minimum lease payments of non-cancelable operating leases related to continuing operations are as follows: Year Ended December 31, 2002 $5,119 2003 4,483 2004 3,778 2005 2,970 2006 462 Thereafter 197
In the normal course of business, we make commitments to extend credit to our business credit card customers. See Note 4 for further discussion. NOTE 12. MANDATORILY REDEEMABLE PREFERRED SECURITIES In December 1996, a newly formed statutory business trust established and wholly-owned by Advanta Corp., issued $100 million of capital securities, representing preferred beneficial interests in the assets of the trust. We used the proceeds from the sale for general corporate purposes. The assets of the trust consist of $100 62 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) million of 8.99% junior subordinated debentures issued by Advanta Corp. due December 17, 2026. The capital securities will be subject to mandatory redemption under certain circumstances. These circumstances include the optional prepayment by Advanta Corp. of the junior subordinated debentures at any time on or after December 17, 2006 at an amount per capital security equal to 104.495% of the principal amount plus accrued and unpaid distributions. This amount declines ratably on each December 17 thereafter to 100% on December 17, 2016. Our obligations, in the aggregate, provide a full and unconditional guarantee of payments of distributions and other amounts due on the capital securities. Dividends on the capital securities are cumulative, payable semi-annually in arrears at an annual rate of 8.99%, and are deferrable at our option for up to ten consecutive semi-annual periods. We cannot pay dividends on our preferred or common stocks during deferments. Dividends on the capital securities have been classified as minority interest in income of consolidated subsidiary in the consolidated income statements. The trust has no operations or assets separate from its investment in the junior subordinated debentures. Separate financial statements of the trust are not presented because management has determined that they would not be meaningful to investors. NOTE 13. CAPITAL STOCK Class A Preferred Stock is entitled to 1/2 vote per share and a non-cumulative dividend of $140 per share per year, which must be paid prior to any dividend on the common stock. The redemption price of the Class A Preferred Stock is equivalent to its par value. On September 15, 1999, all of the 1.4 million outstanding depositary shares, each representing one one-hundredth interest in a share of Stock Appreciation Income Linked Securities, mandatorily converted into 1.4 million shares of Class B Common Stock. The Stock Appreciation Income Linked Securities constituted a series of our Class B Preferred Stock, designated as 6 3/4% Convertible Class B Preferred Stock, Series 1995. In 2000, we retired 405,000 shares of Class A Treasury stock and 445,600 shares of Class B Treasury stock. In 2001, the Board of Directors authorized the purchase of up to 1.5 million shares of Advanta Corp. common stock or the equivalent dollar amount of our capital securities or some combination thereof. As of December 31, 2001, we have repurchased 693,300 shares of our Class B Common Stock. Cash dividends per share of common stock declared during the years ended December 31, 2001, 2000 and 1999 were $0.252 for Class A Common Stock and $0.302 for Class B Common Stock. NOTE 14. BENEFIT PLANS We have adopted a stock-based incentive plan designed to provide incentives to participating employees to remain in our employ and devote themselves to Advanta's success. Our incentive plan authorizes an aggregate of 20.0 million shares of Advanta Corp. Class B Common Stock for the grant of options, awards of shares of stock or awards of stock appreciation rights to employees and directors. Shares available for future grant were 11.9 million at December 31, 2001 and 11.6 million at December 31, 2000. RESTRICTED STOCK AWARDS Under our management incentive programs, eligible employees were given the opportunity to elect to take portions of their anticipated or target bonus payments for future years in the form of restricted shares of Advanta Corp. Common Stock (with each program covering three performance years). To the extent that these elections were made, or were required by the terms of the programs for executive officers, restricted shares were issued to employees. The number of shares granted to employees is determined by dividing the amount of future target bonus payments that the employee had elected to receive in stock by the market price as determined under the incentive program. The restricted shares are subject to forfeiture prior to vesting should the employee terminate employment with us. Restricted shares vest 10 years from the date of grant. Vesting was and may continue to be accelerated annually with respect to the shares granted under the program 63 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) covering the particular performance year, based on the extent to which the employee and Advanta met or meet their respective performance goals for that performance year. When newly eligible employees elect to participate in this program, the number of shares issued to them with respect to their target bonus payments for the relevant performance years is determined based on the average market price of the stock for the 90 days prior to the first day of the month in which they are eligible to join the program. Compensation expense on restricted shares is recognized over the vesting period of the shares. Compensation expense recognized in connection with restricted shares was $3.3 million in 2001, $5.3 million in 2000 and $3.8 million in 1999. Due to the restructuring of the company in the first quarter of 2001, we implemented a program whereby certain restricted stock was exchanged for cash and stock options in a tender offer. The cash and stock options are subject to the same performance conditions and vesting requirements as the tendered restricted stock. The stock options expire two years after the vesting date. There were 117 thousand shares of restricted stock tendered with a weighted average price at date of issuance of $21.11, and 232 thousand options were issued in connection with the tender offer with an exercise price of $10.63. Noncash charges associated with the tender offer and related issuance of stock options were $1.4 million and were included in unusual charges in the consolidated income statements. The following table summarizes restricted shares outstanding and shares issued. Substantially all restricted shares outstanding and issued during the three years ended December 31, 2001 were Class B Common Stock.
2001 2000 1999 (SHARES IN THOUSANDS) ---------------------------- ---------------------------- ---------------------------- WEIGHTED AVERAGE WEIGHTED AVERAGE WEIGHTED AVERAGE NUMBER OF PRICE AT DATE OF NUMBER OF PRICE AT DATE OF NUMBER OF PRICE AT DATE OF SHARES ISSUANCE SHARES ISSUANCE SHARES ISSUANCE ----------------------------------------------------------------------------------------------------------------- Restricted shares outstanding at December 31 187 $9 984 $17 1,750 $15 Restricted shares issued in the year ended December 31 82 $9 201 $13 1,002 $11 =================================================================================================================
STOCK OPTIONS Stock option transactions for the years ended December 31 were as follows:
2001 2000 1999 (SHARES IN THOUSANDS) ---------------------------- ---------------------------- ---------------------------- NUMBER OF WEIGHTED AVERAGE NUMBER OF WEIGHTED AVERAGE NUMBER OF WEIGHTED AVERAGE OPTIONS EXERCISE PRICE OPTIONS EXERCISE PRICE OPTIONS EXERCISE PRICE ----------------------------------------------------------------------------------------------------------------- Outstanding at beginning of year 3,049 $13 2,728 $15 2,988 $22 Granted 1,770 11 1,128 9 1,358 10 Exercised (424) 8 (20) 8 (8) 2 Terminated (1,498) 16 (787) 14 (1,610) 23 ----------------------------------------------------------------------------------------------------------------- Outstanding at end of year 2,897 $11 3,049 $13 2,728 $15 ----------------------------------------------------------------------------------------------------------------- Options exercisable at year-end 787 1,156 722 ----------------------------------------------------------------------------------------------------------------- Weighted average fair value of options granted during the year $ 4.93 $ 3.77 $ 4.23 =================================================================================================================
64 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) The following table summarizes information about stock options outstanding at December 31, 2001.
OPTIONS OUTSTANDING OPTIONS EXERCISABLE ------------------------------------------------- ------------------------------ (SHARES IN THOUSANDS) NUMBER WEIGHTED AVERAGE NUMBER RANGE OF OUTSTANDING REMAINING WEIGHTED AVERAGE EXERCISABLE WEIGHTED AVERAGE EXERCISE PRICES AT 12/31/01 CONTRACTUAL LIFE EXERCISE PRICE AT 12/31/01 EXERCISE PRICE ---------------------------------------------------------------------------------------------------- $ 1.00 to $ 5.00 261 8.8 years $ 5 128 $ 5 $ 5.01 to $10.00 1,003 7.0 8 202 8 $10.01 to $15.00 1,335 7.8 13 185 13 $15.01 to $20.00 149 6.4 19 123 19 $20.01 to $40.00 149 4.4 23 149 23 ---------------------------------------------------------------------------------------------------- Total 2,897 7.4 $11 787 $13 ====================================================================================================
Options generally vest over a four-year period and expire 10 years after the date of grant. Substantially all options outstanding and issued during the three years ended December 31, 2001 were options to purchase Class B Common Stock. In 2001, we accelerated vesting of 32% of outstanding options that were not vested at the date of the closing of the Mortgage Transaction. This acceleration resulted in a noncash charge of $1.3 million that was included in unusual charges in the consolidated income statements. We also extended the exercise period for options held by employees in the discontinued businesses for an additional six months following the date of the Mortgage Transaction, February 28, 2001. This extension resulted in a noncash charge of $650 thousand that was included in the loss on discontinuance of mortgage and leasing businesses in the consolidated income statements. Due to the restructuring of the company in the first quarter of 2001, we implemented a program whereby certain out-of-the-money options were exchanged for shares of stock. There were 510 thousand options terminated in connection with this program with a weighted average exercise price of $19.42. Noncash charges associated with the issuance of the stock were $2.2 million and were included in unusual charges in the consolidated income statements. Shares granted in exchange for options were immediately vested but their distribution is deferred. Participants will receive distributions of 25% of their shares on the first, second, third and fourth anniversary of the program or they may elect to defer distributions of any installment of shares until the second through tenth anniversary of the program. If a participant terminates employment with Advanta, any unpaid installments will be distributed on the tenth anniversary of the program. 65 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) We account for our stock option plans following Accounting Principles Board Opinion No. 25, under which no compensation expense has been recognized. Had compensation cost for these plans been determined consistent with SFAS 123, our net income (loss) and net income (loss) per common share would have changed to the following pro forma amounts:
2001 2000 1999 --------------------------------------------------------------------------------------------- Net income (loss) As reported $(70,533) $(156,684) $49,818 Pro forma (74,868) (163,228) 41,891 --------------------------------------------------------------------------------------------- Basic net income (loss) per common share As reported Class A $ (2.79) $ (6.28) $ 1.95 Class B (2.73) (6.21) 2.02 Combined (2.75) (6.24) 1.99 Pro forma Class A $ (2.96) $ (6.54) $ 1.62 Class B (2.90) (6.47) 1.68 Combined (2.92) (6.50) 1.66 --------------------------------------------------------------------------------------------- Diluted net income (loss) per common share As reported Class A $ (2.79) $ (6.23) $ 1.94 Class B (2.73) (6.16) 2.00 Combined (2.75) (6.19) 1.98 Pro forma Class A $ (2.96) $ (6.49) $ 1.61 Class B (2.90) (6.42) 1.67 Combined (2.92) (6.44) 1.65 =============================================================================================
The fair value of each option grant is estimated on the date of grant using the Black-Scholes option-pricing model with the following weighted-average assumptions for the years ended December 31:
2001 2000 1999 -------------------- Dividend yield 3% 4% 3% Expected life (in years) 7 7 7 Expected volatility 56% 50% 49% Risk-free interest rate 4.6% 5.9% 5.4%
STOCK APPRECIATION RIGHTS AND PHANTOM STOCK In connection with reviewing our compensation plans after the Mortgage Transaction and restructuring of corporate functions, we implemented a program whereby all outstanding stock appreciation rights and shares of phantom stock were terminated in exchange for cash to be paid through a deferred compensation arrangement. We recorded charges of $2.9 million associated with this exchange as unusual charges in the consolidated income statements. Participants will receive distributions of 25% of their cash on the first, second, third and fourth anniversary of the program or they may elect to defer payment of any installment of cash until the second through tenth anniversary of the program. If a participant terminates employment with Advanta, any unpaid installments will be distributed on the tenth anniversary of the program. In 2000 and 1999, we issued stock appreciation rights to certain directors in exchange for or in lieu of stock options. In 2001, all outstanding stock appreciation rights were terminated in exchange for cash to be 66 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) paid through a deferred compensation arrangement as discussed above. The following table summarized stock appreciation rights outstanding at December 31, 2000:
(RIGHTS IN THOUSANDS) RIGHTS OUTSTANDING STRIKE PRICE AT 12/31/00 ----------------------------------- $ 4.75 1 $ 8.50 100 $10.75 27 $12.33 163 $14.50 100 $19.00 - $22.13 234 ----------------------------------- Total 625 ===================================
Compensation expense (benefit) related to stock appreciation rights was ($512) thousand in 2000 and $502 thousand in 1999. There was no compensation expense (benefit) related to stock appreciation rights in 2001 prior to the exchange. In 1999, 27,413 shares of phantom stock were granted at a price of $10.625 to an officer in lieu of restricted shares. There were no shares of phantom stock granted in 2001 or 2000. In 2001, all outstanding shares of phantom stock were terminated in exchange for cash to be paid through a deferred compensation arrangement as discussed above. There were 78,045 shares of phantom stock outstanding as of December 31, 2000. There was no compensation expense (benefit) related to the appreciation (depreciation) on shares of phantom stock in 2001 prior to the exchange. Compensation expense (benefit) related to the appreciation (depreciation) on shares of phantom stock was ($268) thousand in 2000 and $246 thousand in 1999. EMPLOYEE STOCK PURCHASE PLAN We have an Employee Stock Purchase Plan, which allows employees and directors to purchase Advanta Corp. Class B Common Stock at a 15% discount from the market price without paying brokerage fees. We report this 15% discount as compensation expense and incurred expense of $83 thousand in 2001, $163 thousand in 2000 and $162 thousand in 1999. All shares of Advanta Corp. Class B Common Stock purchased by the plan in the three years ended December 31, 2001 were purchased on the open market. EMPLOYEE SAVINGS PLAN We have an Employee Savings Plan, which is a defined contribution plan that provides employees with tax-deferred savings and investment opportunities, including the ability to invest in Advanta Corp. Class B Common Stock. The plan provides for discretionary employer contributions equal to a portion of the first 5% of an employee's compensation contributed to the plan. For the three years ended December 31, 2001, 2000 and 1999, our contributions equaled 100% of the first 5% of participating employees' compensation contributed to the plan. The compensation expense for this plan totaled $1.3 million in 2001, $3.1 million in 2000 and $2.7 million in 1999. All shares of Advanta Corp. Class B Common Stock purchased by the plan in the three years ended December 31, 2001 were purchased on the open market. EMPLOYEE STOCK OWNERSHIP PLAN On September 10, 1998, our Board of Directors authorized the formation of an Employee Stock Ownership Plan (the "ESOP"), covering all of our employees who have reached age 21 with one year of service. During 1998, the ESOP borrowed approximately $12.6 million from Advanta Corp. and used the proceeds to purchase approximately 1,000,000 shares of Class A Common Stock. The ESOP loan is repayable with an interest rate of 8% over 30 years. We make annual contributions to the ESOP equal to the ESOP's debt service less dividends received on ESOP shares. As the ESOP loan is repaid, shares are allocated to active 67 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) employees, based on the proportion of debt service paid in the year. We account for the ESOP in accordance with AICPA Statement of Position 93-6, "Employer's Accounting for Employee Stock Ownership Plans." Accordingly, unallocated shares are reported as unearned ESOP shares in the balance sheet. As shares of common stock acquired by the ESOP are committed to be released to each employee, we report compensation expense equal to the current market price of the shares, and the shares become outstanding for earnings per share computations. Dividends on allocated ESOP shares are recorded as a reduction of retained earnings; dividends on unallocated ESOP shares are used to fund debt service of the ESOP. ESOP compensation expense was $431 thousand for the year ended December 31, 2001, $455 thousand for the year ended December 31, 2000 and $535 thousand for the year ended December 31, 1999. At December 31, 2001, there were 896,317 unearned and unallocated ESOP shares with a fair value of $8.9 million. At December 31, 2000, there were 931,945 unearned and unallocated ESOP shares with a fair value of $8.2 million. DEFERRED CASH COMPENSATION PLAN We offer an elective, nonqualified deferred compensation plan to eligible executives and non-employee directors, which allows them to defer a portion of their cash compensation on a pretax basis. The plan contains provisions related to minimum contribution levels and deferral periods with respect to any individual's participation. The plan participant makes irrevocable elections at the date of deferral as to deferral period and date of distribution. Distribution from the plan may be either at retirement or at an earlier date, and can be either in a lump sum or in installment payments. Interest is credited to the participant's account at the rate of 125% of the 10-year rolling average interest rate on 10-Year U.S. Treasury Notes. To assist in funding the deferred compensation liability, we have invested in life insurance contracts. Compensation expense related to this deferred cash compensation plan was $342 thousand in the year ended December 31, 2001, $447 thousand in the year ended December 31, 2000 and $563 thousand in the year ended December 31, 1999. NOTE 15. 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 Advanta National Bank maintain certain capital ratios in excess of the minimum regulatory standards. The agreements also required us to change our charge-off policy for delinquent mortgages to 180 days and to modify our accounting processes and estimate of our allowance for credit losses and valuation of residual assets. In July 2000, we announced that Advanta National Bank signed a second agreement with the Office of the Comptroller of the Currency (the "OCC") 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 amount of $201 million. The agreement further required that Advanta National Bank's allowance for credit losses be increased by $22 million. The agreement contained provisions regarding the use of similar discount rate and credit loss assumptions for the calculation of the carrying value of the residual assets in 68 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) future periods. These valuation adjustments and provisions for credit losses are included in the results of Advanta Mortgage in discontinued operations. See Note 2 for discussion of discontinued operations. In 2001, in connection with the Mortgage Transaction, Advanta National Bank sought approval of the OCC for a return of capital to Advanta Corp, in the amount of $261 million. On February 28, 2001, the OCC approved the amount requested and, at the same time, Advanta National Bank entered into an agreement with the OCC regarding restrictions on new business activities and product lines at Advanta National Bank after the Mortgage Transaction and the resolution of outstanding Advanta National Bank liabilities. The February 2001 agreement also reduces the existing capital requirements for Advanta National Bank and provides for prior OCC approval of any future dividends. Advanta Bank Corp. is unaffected by the agreement with the OCC. Management believes that Advanta Bank Corp. and Advanta National Bank were each in compliance with their respective regulatory agreements at December 31, 2001. NOTE 16. CAPITAL RATIOS Advanta Bank Corp. and Advanta National Bank are wholly owned subsidiaries of Advanta Corp. Advanta Bank Corp. and Advanta National Bank are subject to various regulatory capital requirements administered by the federal banking agencies. Failure to meet minimum capital requirements can initiate certain mandatory -- and possibly additional discretionary -- actions by regulators that, if undertaken, could have a direct material effect on the institutions' and our financial statements. Under capital adequacy guidelines and the regulatory framework for prompt corrective action, the institutions must meet specific capital guidelines that involve quantitative measures of their assets, liabilities, and certain off-balance sheet items as calculated under regulatory accounting practices. The institutions' capital amounts and classification are also subject to qualitative judgments by the regulators about components, risk weightings and other factors. Quantitative measures established by regulation to ensure capital adequacy require the institutions to maintain minimum amounts and ratios (set forth in the table below) of total and Tier I capital (as defined in the regulations) to risk-weighted assets (as defined), and of Tier I capital (as defined) to average assets (as defined). As set forth in the table below, as of December 31, 2001 and 2000, Advanta Bank Corp. and Advanta National Bank 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 our agreement with the OCC, even though we have achieved the higher imposed capital ratios required by the agreement. Our regulatory agreement with the OCC announced in June 2000 required that Advanta National Bank 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. On February 28, 2001, Advanta National Bank entered into an agreement with the OCC after the Mortgage Transaction that superceded the capital ratio requirements of the June 2000 agreement and lowered the capital requirements for Advanta National Bank to 12.7% for Tier 1 and Total capital to risk-weighted assets, and to 5% for Tier 1 capital to adjusted total assets as defined in the agreement. In the fourth quarter of 2001, the bank regulatory agencies issued an interagency policy statement that revised the regulatory capital treatment of recourse, direct credit substitutes, and residual interests in asset securitizations. This rule supercedes the former low-level recourse rules and requires that banks hold one dollar in total risk-based capital against every dollar of residual interest, with some exceptions. It further requires that credit enhancing interest-only strips in excess of 25% of Tier 1 capital be deducted from Tier 1 capital for purposes of calculating bank capital ratios. This rule has an effective date of January 1, 2002. Early adoption was permitted for transactions entered into prior to the effective date that result in a reduced capital requirement. Banks can delay until December 31, 2002, the application of the final rule to transactions entered into prior to January 1, 2002 that result in increased capital requirements. Advanta Bank Corp. elected to adopt the rule effective December 31, 2001 and it resulted in a reduced risk-based capital requirement. We do 69 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) not anticipate the adoption of this rule will have an effect on the capital requirements of Advanta National Bank.
TO BE WELL- CAPITALIZED UNDER PROMPT FOR CAPITAL CORRECTIVE ACTUAL ADEQUACY PURPOSES ACTION PROVISIONS ------------------------------------------------------------------------------------------------------------ AMOUNT RATIO AMOUNT RATIO AMOUNT RATIO ------------------------------------------------------------------------------------------------------------ PERCENTAGE PERCENTAGE IS IS GREATER GREATER THAN OR THAN OR EQUAL TO EQUAL TO AS OF DECEMBER 31, 2001 Total Capital (to Risk Weighted Assets) Advanta Bank Corp. $160,520 18.80% $ 92,870 8.0% $105,420 10.0% Advanta National Bank 50,593 23.34 17,341 8.0 21,676 10.0 Tier I Capital (to Risk Weighted Assets) Advanta Bank Corp. $145,633 17.06% $ 59,233 4.0% $ 73,132 6.0% Advanta National Bank 49,791 22.97 8,670 4.0 13,006 6.0 Tier I Capital (to Average Assets) Advanta Bank Corp. $145,633 15.07% $ 38,655 4.0% $ 48,319 5.0% Advanta National Bank 49,791 15.31 13,007 4.0 16,258 5.0 AS OF DECEMBER 31, 2000 Total Capital (to Risk Weighted Assets) Advanta Bank Corp. $216,237 14.60% $138,232 8.0% $161,854 10.0% Advanta National Bank 315,482 15.08 204,482 8.0 235,782 10.0 Tier I Capital (to Risk Weighted Assets) Advanta Bank Corp. $194,411 13.13% $ 81,819 4.0% $107,149 6.0% Advanta National Bank 296,947 14.19 131,947 4.0 165,147 6.0 Tier I Capital (to Average Assets) Advanta Bank Corp. $194,411 21.08% $ 36,894 4.0% $ 46,117 5.0% Advanta National Bank 296,947 20.52 57,878 4.0 72,347 5.0
NOTE 17. DIVIDEND AND LOAN RESTRICTIONS In the normal course of business, Advanta Corp. and its subsidiaries enter into agreements, or are subject to regulatory requirements, that result in dividend and loan restrictions. FDIC-insured banks are subject to certain provisions of the Federal Reserve Act which impose various legal limitations on the extent to which banks may finance or otherwise supply funds to certain of their affiliates. In particular, Advanta Bank Corp. and Advanta National Bank are subject to certain restrictions on any extensions of credit to, or other covered transactions, such as certain purchases of assets, with Advanta Corp. or its affiliates. Advanta Bank Corp. and Advanta National Bank are prevented by these restrictions from lending to Advanta Corp. and its affiliates unless these extensions of credit are secured by U.S. Government obligations or other specified collateral. Further, secured extensions of credit are limited in amount: (a) as to Advanta Corp. or any affiliate, to 10 percent of each bank's capital and surplus, and (b) as to Advanta Corp. and all affiliates in the aggregate, to 20 percent of each bank's capital and surplus. Under grandfathering provisions of the Competitive Equality Banking Act of 1987, we are not required to register as a bank holding company under the Bank Holding Company Act of 1956, as amended, so long as Advanta Corp. and Advanta National Bank continue to comply with certain restrictions on their activities. These restrictions include limiting the scope of Advanta National Bank's activities to those in which it was engaged prior to March 5, 1987. Since Advanta National Bank was not making commercial loans at that time, it must continue to refrain from making commercial loans -- which would include any loans to Advanta Corp. or any of its subsidiaries -- in order for Advanta Corp. to maintain its grandfathered exemption under the 70 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) Bank Holding Company Act. We have no present plans to register as a bank holding company under the Bank Holding Company Act. Our regulatory agreements with the OCC and the FDIC prohibit the payment of cash dividends by Advanta National Bank or Advanta Bank Corp. without prior regulatory approval. In connection with the Mortgage Transaction in the first quarter of 2001, we sought and received regulatory approval for a return of capital of $261 million from Advanta National Bank. Advanta National Bank paid no dividends to Advanta Corp. during 2001, 2000 or 1999. In 2001, Advanta Bank Corp. transferred certain assets as a dividend to Advanta Corp. The fair value of the assets at time of the dividend was $91.4 million. There were no dividends from Advanta Bank Corp. to Advanta Corp. during 2000 and 1999. Our insurance subsidiaries are also subject to certain capital and dividend rules and regulations as prescribed by state jurisdictions in which they are authorized to operate. At December 31, 2001, the insurance subsidiaries were in compliance with these rules and regulations. For the year ended December 31, 2001, Advanta Corp. received a return of capital from insurance subsidiaries of $57.5 million. Insurance subsidiaries paid dividends to Advanta Corp. of $6.1 million in 2001. Insurance subsidiaries paid dividends to Advanta Corp. of $1.2 million in 1999. There were no dividends paid to Advanta Corp. by insurance subsidiaries in 2000. Total stockholders' equity of our banking and insurance affiliates was $220 million at December 31, 2001 and $572 million at December 31, 2000. Of our total equity in these affiliates, $218 million was restricted at December 31, 2001 and $566 million was restricted at December 31, 2000. At January 1, 2002, $2.2 million of stockholders' equity of our insurance affiliates was available for payment of cash dividends in 2002 under applicable regulatory guidelines without prior regulatory approval. In addition to dividend restrictions at banking subsidiaries, certain non-bank subsidiaries are subject to minimum equity requirements as part of securitization or other agreements. The total minimum equity requirement of non-bank subsidiaries was $20 million at December 31, 2001. At December 31, 2001, the non-bank subsidiaries were in compliance with these minimum equity requirements. NOTE 18. SEGMENT INFORMATION Our reportable segments as of January 1, 2001 were Advanta Business Cards and our venture capital segment. During the first quarter of 2001, we made changes to the methods used to allocate centrally incurred interest and operating expenses to the reportable segments. These changes were made to better reflect the results of the continuing businesses due to the discontinuance of the mortgage and leasing segments and the restructuring of our corporate functions in the first quarter of 2001. Prior period segment results have been restated to reflect the current allocation methods. Advanta Business Cards offers business credit cards to small businesses using targeted direct mail, the Internet and telemarketing solicitation of potential cardholders. This product provides approved customers with access, through merchants, banks, checks and ATMs, to an instant unsecured revolving business credit line. Advanta Business Cards generates interest and other income through finance charges assessed on outstanding balances, interchange income, and cash advance and other credit card fees. Our venture capital segment makes venture capital investments through our affiliates. Our investment objective is to earn attractive returns by building the long-term values of the businesses in which we invest. Our investment affiliates combine transaction expertise, management skills and a broad contact base with strong industry-specific knowledge. We actively monitor the performance of our venture capital investments and employees and officers of our investment affiliates participate on the boards of directors of some investees. 71 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED)
ADVANTA BUSINESS VENTURE CARDS CAPITAL OTHER(1) TOTAL --------------------------------------------------------------------------------------------------------- YEAR ENDED DECEMBER 31, 2001 Interest income $ 76,841 $ 37 $ 40,973 $ 117,851 Interest expense 33,504 1,545 47,421 82,470 Noninterest revenues (losses), net 225,364 (28,852) (7,552) 188,960 Unusual charges(2) 0 0 41,750 41,750 Pretax income (loss) from continuing operations 63,515 (33,158) (72,808) (42,451) Average managed receivables 1,872,314 0 28,271 1,900,585 Total assets 619,062 20,929 996,689 1,636,680 Capital expenditures 2,924 0 5,691 8,615 Depreciation 2,227 10 7,191 9,428 --------------------------------------------------------------------------------------------------------- YEAR ENDED DECEMBER 31, 2000 Interest income $ 78,424 $ 60 $ 57,616 $ 136,100 Interest expense 31,385 1,541 53,582 86,508 Noninterest revenues (losses), net 155,500 7,847 (6,266) 157,081 Pretax income (loss) from continuing operations 45,325 3,382 (37,515) 11,192 Average managed receivables 1,372,717 0 23,067 1,395,784 Total assets 462,317 45,677 2,335,478 2,843,472 Capital expenditures 3,949 23 9,522 13,494 Depreciation 1,385 17 10,069 11,471 --------------------------------------------------------------------------------------------------------- YEAR ENDED DECEMBER 31, 1999 Interest income $ 35,613 $ 173 $ 68,798 $ 104,584 Interest expense 12,428 1,350 67,022 80,800 Noninterest revenues (losses), net 84,252 29,505 (8,387) 105,370 Unusual charges(3) 0 0 16,713 16,713 Pretax income (loss) from continuing operations 11,997 26,329 (52,777) (14,451) Average managed receivables 892,862 0 17,450 910,312 Total assets 352,028 34,945 3,151,587 3,538,560 Capital expenditures 1,000 9 4,559 5,568 Depreciation 923 35 6,836 7,794 =========================================================================================================
(1) Other includes insurance operations and assets, investment and other activities not attributable to reportable segments. It also includes net assets of discontinued operations, and corporate overhead previously allocated to the mortgage and leasing business units while they were operating segments. Corporate overhead allocations were removed from the results of the discontinued segments as a result of the restatement for discontinued operations. Total assets in the "Other" segment include net assets of discontinued operations. (2) Unusual charges in 2001 represent severance, outplacement and other compensation costs associated with restructuring our corporate functions commensurate with the ongoing businesses as well as expenses associated with exited businesses and asset impairments. (3) Unusual charges in 1999 represent charges associated with cost reduction initiatives in the first quarter and additional costs associated with products exited in the first quarter of 1998. 72 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) NOTE 19. SELECTED INCOME STATEMENT INFORMATION
OTHER REVENUES YEAR ENDED DECEMBER 31, -------------------------------------------------------------------------------------------- 2001 2000 1999 -------------------------------------------------------------------------------------------- Investment securities gains (losses), net(1) $(26,227) $ 5,473 $30,132 Business credit card rewards (8,979) (3,162) (834) Loss on sale of deposits (2,835) 0 0 Insurance revenues, net and other(2) 3,581 4,995 7,279 -------------------------------------------------------------------------------------------- Total other revenues, net $(34,460) $ 7,306 $36,577 ============================================================================================
(1) Investment securities gains (losses), net include changes in the fair value and realized gains and losses on venture capital investments. (2) Insurance revenues, net and other for the year ended December 31, 2001 includes operating results of insurance operations, the impact of the termination of our strategic alliance with Progressive Casualty Insurance Company to direct market auto insurance and $10 million of charges related to the write-off of insurance-related deferred acquisition costs that were unrealizable subsequent to the termination of the auto insurance strategic alliance.
OPERATING EXPENSES YEAR ENDED DECEMBER 31, --------------------------------------------------------------------------------------------- 2001 2000 1999 --------------------------------------------------------------------------------------------- Salaries and employee benefits $ 59,823 $ 42,499 $35,300 Amortization of business credit card deferred origination costs, net 39,118 23,961 5,863 External processing 17,272 13,236 8,507 Professional/consulting fees 15,320 18,451 12,159 Marketing 10,574 11,492 2,397 Equipment 8,768 8,101 4,717 Occupancy 5,941 5,852 6,710 Credit 5,419 4,772 3,926 Insurance 4,607 4,628 2,622 Postage 3,304 2,947 1,846 Fraud loss 2,568 1,965 833 Telephone 2,404 1,811 1,322 Other 5,068 10,577 9,304 --------------------------------------------------------------------------------------------- Total operating expenses $180,186 $150,292 $95,506 =============================================================================================
NOTE 20. INCOME TAXES Income tax (benefit) was as follows:
YEAR ENDED DECEMBER 31, ------------------------------------------------------------------------------------------ 2001 2000 1999 ------------------------------------------------------------------------------------------ Income tax expense (benefit) attributable to: Continuing operations $(11,995) $ 0 $(55,785) Discontinued operations (3,812) 0 5,513 Loss on discontinuance of mortgage and leasing businesses 7,392 0 0 ------------------------------------------------------------------------------------------ Total income tax (benefit) $ (8,415) $ 0 $(50,272) ==========================================================================================
73 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) Income tax (benefit) on income from continuing operations consisted of the following components:
YEAR ENDED DECEMBER 31, --------------------------------------------------------------------------------------------- 2001 2000 1999 --------------------------------------------------------------------------------------------- Current: Federal $ 0 $ 6,636 $ 15,500 State 300 4,753 (4,083) --------------------------------------------------------------------------------------------- Total current 300 11,389 11,417 --------------------------------------------------------------------------------------------- Deferred: Federal (12,923) (6,994) (69,509) State 628 (4,395) 2,307 --------------------------------------------------------------------------------------------- Total deferred (12,295) (11,389) (67,202) --------------------------------------------------------------------------------------------- Total income tax (benefit) $(11,995) $ 0 $(55,785) =============================================================================================
The reconciliation of the statutory federal income tax to income tax (benefit) on income from continuing operations is as follows:
YEAR ENDED DECEMBER 31, --------------------------------------------------------------------------------------------- 2001 2000 1999 --------------------------------------------------------------------------------------------- Statutory federal income tax $(14,858) $ 3,917 $ (5,058) State income taxes, net of federal income tax benefit 604 232 (1,090) Nondeductible expenses 1,112 152 152 Insurance program income 499 242 98 Compensation limitation 350 140 175 Net operating losses 0 (4,755) (49,973) Other 298 72 (89) --------------------------------------------------------------------------------------------- Income tax (benefit) $(11,995) $ 0 $(55,785) =============================================================================================
Deferred taxes are provided to reflect the estimated future tax effects of the differences between the financial statement and tax bases of assets and liabilities and enacted tax laws. The net deferred tax asset is comprised of the following:
DECEMBER 31, ---------------------------------------------------------------------------------- 2001 2000 ---------------------------------------------------------------------------------- Deferred tax liabilities $(72,902) $(95,677) Deferred tax assets 180,240 194,300 ---------------------------------------------------------------------------------- Net deferred tax asset $107,338 $ 98,623 ==================================================================================
74 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) A summary of deferred tax assets and liabilities follows:
DECEMBER 31, ------------------------------------------------------------------------------------ 2001 2000 ------------------------------------------------------------------------------------ Deferred origination fees and costs $ (4,009) $ (4,331) Allowance for credit losses 16,940 21,280 Net operating loss carryforwards 231,967 142,248 Securitization income (23,482) 50,368 Deferred compensation 9,259 7,863 Noncash unusual charges 5,068 6,835 Other 20,489 12,268 Valuation allowance (148,894) (137,908) ------------------------------------------------------------------------------------ Net deferred tax asset $ 107,338 $ 98,623 ====================================================================================
As a result of unusual charges, valuation adjustments on venture capital investments and the loss on the discontinuance of the leasing business in 2001, we reported a pretax loss for the year ended December 31, 2001. A valuation allowance has been provided against a portion of 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 the year ended December 31, 2000, we also reported a pretax loss and a valuation allowance was provided against the resulting deferred tax asset, resulting in a 0% effective tax rate. In establishing the valuation allowance, management considered (1) estimates 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. This analysis is inherently subjective, as it requires estimates that are susceptible to significant revision as more information becomes available. In 1999, in connection with the filing of the 1998 tax returns, additional book/tax differences related to the disposition of our consumer credit card business in 1998 were quantified. These book/tax differences, when combined with certain less significant recurring differences, resulted in net operating loss carryforwards of approximately $521 million at December 31, 1999. This amount is net of $96 million carried back to prior years, and includes $500 million that pertains to losses incurred on the consumer credit card portfolio after the date of the disposition of our consumer credit card business. A deferred tax asset of $50 million, net of valuation allowance, resulting from the net operating loss carryforwards was recorded as an income tax benefit in the fourth quarter of 1999. At December 31, 2001, remaining net operating loss carryforwards were $662 million, of which $407 million expire in 2018, $29 million expire in 2019, $15 million expire in 2020 and $211 million expire in 2021. We utilized net operating loss carryforwards of $85 million in 2000. Additionally in 2000, $29 million was carried back to prior years. The net deferred tax asset is presented net with current income taxes receivable (payable) for financial reporting purposes, and is included in other assets. NOTE 21. UNUSUAL CHARGES Subsequent to the Mortgage Transaction and discontinuance of our leasing business in the first quarter of 2001, we implemented a plan to restructure our corporate functions to a size commensurate with our ongoing businesses and incurred certain other unusual charges related to employee costs. Also, in 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 restructuring activities and other employee costs are included in unusual charges in the consolidated income statements. 75 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) Accruals related to these costs are included in other liabilities in the consolidated balance sheets. The details of these costs are as follows:
CHARGED TO 12/31/99 CHARGED TO 12/31/00 CHARGED TO 12/31/01 ACCRUED ACCRUAL ACCRUAL ACCRUAL ACCRUAL ACCRUED ACCRUAL ACCRUAL IN 1999 IN 1999 BALANCE IN 2000 BALANCE IN 2001 IN 2001 BALANCE -------------------------------------------------------------------------------------------------------------------------- Employee costs $ 3,350 $ 2,528 $ 822 $ 822 $ 0 $27,296 $24,768 $2,528 Expenses associated with exited businesses/products 13,363 7,481 20,648 7,601 13,047 11,895 24,313 629 Asset impairments 0 0 0 0 0 2,559 2,559 0 -------------------------------------------------------------------------------------------------------------------------- Total $16,713 $10,009 $21,470 $8,423 $13,047 $41,750 $51,640 $3,157 ==========================================================================================================================
EMPLOYEE COSTS In the first quarter of 2001, we recorded a $4.1 million charge for severance and outplacement costs associated with the restructuring of corporate functions. There were 69 employees severed who were entitled to benefits. These employees worked in corporate support functions including accounting and finance, human resources, information technology, legal and facilities management. Employees were notified in March 2001, and we expect to pay severance amounts over a 12-month period. Additionally, during 2001, we incurred $23.2 million of other employee costs. This amount includes approximately $10 million attributable to bonuses to certain key employees in recognition of their efforts on behalf of Advanta in the strategic alternatives process. It also includes approximately $4.5 million of bonuses in recognition of the restructuring of the company and other significant transitional efforts. These bonuses will be paid over a 12-month period. In the second quarter of 2001, we recorded a $1.0 million increase in employee costs related to a revision in estimate associated with these bonuses. In 2001, we accelerated vesting of 32% of outstanding options that were not vested at the date of the closing of the Mortgage Transaction. This acceleration resulted in a noncash charge of $1.3 million. In connection with reviewing our compensation plans after the Mortgage Transaction and restructuring of corporate functions, we implemented a program whereby all outstanding stock appreciation rights and shares of phantom stock were terminated in exchange for cash to be paid through a deferred compensation arrangement. We recorded charges of $2.9 million associated with this exchange. The charge reflects a $0.7 million reduction recorded in the three months ended September 30, 2001, as actual cash settlement costs were less than estimated. Due to the restructuring of the company, we implemented programs whereby certain out-of-the-money options were exchanged for shares of stock, and whereby certain shares of restricted stock were exchanged for cash and stock options in a tender offer, subject to certain performance conditions and vesting requirements. Noncash charges associated with the issuance of the stock, stock options and the tender offer totaled $3.6 million. This charge reflects a $1.4 million increase recorded in the three months ended September 30, 2001, as actual noncash charges associated with the tender offer were more than estimated. In the first quarter of 1999, in connection with cost reduction initiatives and the consolidation of support functions, we recorded a $3.3 million charge for costs associated with staff reductions. These expenses included severance and outplacement costs. 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 employee costs was paid in the three months ended March 31, 2000. EXPENSES ASSOCIATED WITH EXITED BUSINESSES/PRODUCTS In the first quarter of 2001, we recorded charges of $2.2 million related to other products exited for which no future revenues or benefits would be received. In the third quarter of 2001, we were able to settle some of these commitments for less than originally estimated, and reduced the charge by $0.7 million. We expect to pay the remaining costs, which include lease and other commitments, in 2002. 76 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) 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 completed payment of the remaining professional fees during the first quarter of 2001. In 1998, in connection with the transfer of our consumer credit card business to Fleet Credit Card LLC, we made major organizational changes to reduce corporate expenses incurred in the past: (a) to support the business contributed to Fleet Credit Card LLC in the transfer of our consumer credit card business, 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. As of December 31, 1998, the remaining accrual related to expenses associated with exited businesses/products was $14.8 million. We had contractual commitments to certain customers, and non-related financial institutions that were providing benefits to those customers, under a product that was no longer offered and for which no future revenues or benefits would be received. In 1998, we recorded a charge of $22.8 million associated with these commitments, and an $8.3 million charge associated with the write-off of assets associated with this program that became unrealizable when the product was exited. In 1999, an additional charge of $10.0 million was recorded based on a change in the estimate of total expected costs for the contractual commitments related to the exited product. Updated information regarding future benefits to be provided in connection with these contractual commitments indicated a higher level of benefits than originally estimated. A third party assumed the liabilities associated with these commitments in the first quarter of 2001, and we recorded an additional charge relating to the settlement of these commitments of $10.3 million. ASSET IMPAIRMENTS In connection with our plan to restructure our corporate functions to a size commensurate with our ongoing businesses during the first quarter of 2001, we identified certain assets that would no longer be used, and the carrying costs of these assets were written off resulting in a charge of $2.6 million. We estimated the realizable value of these assets to be zero due to the nature of the assets, which include leasehold improvements and capitalized software. 77 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) NOTE 22. CALCULATION OF EARNINGS PER SHARE The following table shows the calculation of basic earnings per common share and diluted earnings per common share for the years ended December 31:
2001 2000 1999 --------------------------------------------------------------------------------------------- Income (loss) from continuing operations $(30,456) $ 11,192 $41,334 Less: Preferred A dividends (141) (141) (141) Less: Preferred B dividends(2) 0 0 (2,661) --------------------------------------------------------------------------------------------- Income (loss) from continuing operations available to common shareholders (30,597) 11,051 38,532 Income (loss) from discontinued operations, net of tax (8,438) (163,578) 8,484 Loss, net, on discontinuance of mortgage and leasing businesses, net of tax (31,639) (4,298) 0 --------------------------------------------------------------------------------------------- Net income (loss) available to common shareholders (70,674) (156,825) 47,016 Less: Class A dividends declared (2,294) (2,236) (2,471) Less: Class B dividends declared (5,224) (5,118) (4,896) --------------------------------------------------------------------------------------------- Undistributed net income (loss) $(78,192) $(164,179) $39,649 --------------------------------------------------------------------------------------------- Basic income (loss) from continuing operations per common share Class A $ (1.23) $ 0.39 $ 1.59 Class B (1.17) 0.47 1.66 Combined(1) (1.19) 0.44 1.63 Diluted income (loss) from continuing operations per common share Class A $ (1.23) $ 0.39 $ 1.58 Class B (1.17) 0.46 1.65 Combined(1) (1.19) 0.44 1.62 Basic net income (loss) per common share Class A $ (2.79) $ (6.28) $ 1.95 Class B (2.73) (6.21) 2.02 Combined(1) (2.75) (6.24) 1.99 Diluted net income (loss) per common share Class A $ (2.79) $ (6.23) $ 1.94 Class B (2.73) (6.16) 2.00 Combined(1) (2.75) (6.19) 1.98 --------------------------------------------------------------------------------------------- Basic shares Class A 9,101 9,110 9,057 Class B 16,581 16,033 14,515 Combined 25,682 25,143 23,572 Options A 0 0 1 Options B 0 95 107 Restricted shares Class A 0 39 20 Restricted shares Class B 0 74 58 Diluted shares Class A 9,101 9,149 9,078 Class B 16,581 16,202 14,680 Combined 25,682 25,351 23,758 Antidilutive shares Preferred Class B(2) 0 0 14 Options Class B 2,629 2,097 1,550 Restricted shares Class A 25 46 47 Restricted shares Class B 516 1,059 1,222 =============================================================================================
(1) Combined represents a weighted average of Class A and Class B earnings per common 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. 78 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) NOTE 23. PARENT COMPANY FINANCIAL STATEMENTS ADVANTA CORP. (PARENT COMPANY ONLY) CONDENSED BALANCE SHEETS
DECEMBER 31, ------------------------------------------------------------------------------------ 2001 2000 ------------------------------------------------------------------------------------ ASSETS Cash $ 80,160 $ 135,374 Commercial paper equivalent (1) 0 24,629 Investments 80,042 19,491 Investments in and advances to bank and insurance subsidiaries 239,440 584,901 Investments in and advances to other subsidiaries 353,460 425,030 Premises and equipment 1,153 11,963 Other assets 135,708 129,457 ------------------------------------------------------------------------------------ Total assets $889,963 $1,330,845 ------------------------------------------------------------------------------------ LIABILITIES Other borrowings $ 32,317 $ 0 Accrued expenses and other liabilities 64,673 35,070 Debt 426,674 854,873 ------------------------------------------------------------------------------------ Total liabilities 523,664 889,943 ------------------------------------------------------------------------------------ STOCKHOLDERS' EQUITY Preferred stock 1,010 1,010 Common stock 279 276 Other stockholders' equity 365,010 439,616 ------------------------------------------------------------------------------------ Total stockholders' equity 366,299 440,902 ------------------------------------------------------------------------------------ Total liabilities and stockholders' equity $889,963 $1,330,845 ====================================================================================
(1) Commercial paper equivalent refers to unsecured loans made to Advanta National Bank and Advanta Bank Corp. for terms less than 35 days in maturity which are not automatically renewable, consistent with commercial paper issuance. The parent company guarantees certain lease agreements of its subsidiaries. At December 31, 2001, there were $4.4 million of lease obligations guaranteed by the parent. 79 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) ADVANTA CORP. (PARENT COMPANY ONLY) CONDENSED STATEMENTS OF OPERATIONS
YEAR ENDED DECEMBER 31, --------------------------------------------------------------------------------------------- 2001 2000 1999 --------------------------------------------------------------------------------------------- INCOME: Dividends from bank and insurance subsidiaries(1) $ 97,534 $ 0 $ 1,215 Dividends from other subsidiaries 278 278 1,010 Interest 22,470 40,481 44,369 Other, net 22,476 37,912 52,510 --------------------------------------------------------------------------------------------- Total income 142,758 78,671 99,104 --------------------------------------------------------------------------------------------- EXPENSES: General and administrative 64,676 73,099 45,638 Interest 54,810 69,482 67,102 Unusual charges 30,142 0 4,561 --------------------------------------------------------------------------------------------- Total expenses 149,628 142,581 117,301 --------------------------------------------------------------------------------------------- Loss from continuing operations before income taxes and equity in undistributed net profit (loss) of subsidiaries (6,870) (63,910) (18,197) Income tax (benefit) (15,017) (30,317) (22,327) --------------------------------------------------------------------------------------------- Income (loss) from continuing operations before equity in undistributed net profit (loss) of subsidiaries 8,147 (33,593) 4,130 Loss on discontinuance of mortgage business, net of tax (5,962) 0 0 --------------------------------------------------------------------------------------------- Income (loss) before equity in undistributed net profit (loss) of subsidiaries 2,185 (33,593) 4,130 Equity in undistributed net profit (loss) of subsidiaries (72,718) (123,091) 45,688 --------------------------------------------------------------------------------------------- NET INCOME (LOSS) $(70,533) $(156,684) $ 49,818 =============================================================================================
(1) Dividends from bank and insurance subsidiaries in the year ended December 31, 2001 include a noncash dividend from Advanta Bank Corp. of $91.4 million. The Parent Company Only Statements of Changes in Stockholders' Equity are the same as the Consolidated Statements of Changes in Stockholder's Equity. 80 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) ADVANTA CORP. (PARENT COMPANY ONLY) CONDENSED STATEMENTS OF CASH FLOWS
YEAR ENDED DECEMBER 31, --------------------------------------------------------------------------------------------- 2001 2000 1999 --------------------------------------------------------------------------------------------- OPERATING ACTIVITIES Net income (loss) $ (70,533) $(156,684) $ 49,818 Adjustments to reconcile net income (loss) to net cash used in operating activities: Equity in net loss (profit) of subsidiaries (25,094) 122,813 (47,913) Dividends received from subsidiaries 6,378 278 2,225 Depreciation 2,241 2,523 2,066 Change in other assets, interest-bearing deposits, accrued expenses and other liabilities 970 (39,225) (32,696) --------------------------------------------------------------------------------------------- Net cash used in operating activities (86,038) (70,295) (26,500) --------------------------------------------------------------------------------------------- INVESTING ACTIVITIES Net change in premises and equipment 6,010 (6,941) (2,199) Net change in commercial paper equivalents 24,629 350,371 65,900 Investments in subsidiaries (3,991) (119,226) (23,540) Return of investment from subsidiaries 267,648 22,453 39,731 Purchase of investments available for sale (744,610) (156,661) (851,132) Proceeds from sales of investments available for sale 262,301 72 2,702 Proceeds from maturing investments available for sale 503,369 152,482 850,000 --------------------------------------------------------------------------------------------- Net cash provided by investing activities 315,356 242,550 81,462 --------------------------------------------------------------------------------------------- FINANCING ACTIVITIES Proceeds from issuance of debt 182,973 256,091 123,529 Payments on redemption of debt (611,172) (285,472) (365,177) (Increase) decrease in affiliate borrowings 123,034 (4,452) 187,806 Increase in other borrowings 32,317 0 0 Issuance of stock 3,480 155 20 Stock buyback (7,505) 0 (3,955) Cash dividends paid (7,659) (7,495) (10,169) --------------------------------------------------------------------------------------------- Net cash used in financing activities (284,532) (41,173) (67,946) --------------------------------------------------------------------------------------------- Net increase (decrease) in cash (55,214) 131,082 (12,984) Cash at beginning of period 135,374 4,292 17,276 --------------------------------------------------------------------------------------------- Cash at end of period $ 80,160 $ 135,374 $ 4,292 =============================================================================================
In 2001, noncash transactions of the Parent Company included noncash dividends of $91.4 million from subsidiaries, noncash investment in subsidiaries of $22.3 million, noncash return of investments from subsidiaries of $50.9 million and noncash affiliate borrowings of $69.1 million. There were no significant noncash transactions of the Parent Company in 2000. In 1999, noncash transactions of the Parent Company included a $4.5 million assumption of liabilities of subsidiaries and a $43.3 million return of investment by subsidiaries through forgiveness of advances. 81 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) NOTE 24. FAIR VALUE OF FINANCIAL INSTRUMENTS The estimated fair values of our financial instruments are as follows at December 31:
2001 2000 ----------------------------------------------------------------------------------------------- CARRYING FAIR CARRYING FAIR AMOUNT VALUE AMOUNT VALUE ----------------------------------------------------------------------------------------------- Financial assets: Cash $ 20,952 $ 20,952 $ 1,716 $ 1,716 Federal funds sold 229,889 229,889 107,584 107,584 Restricted interest-bearing deposits 113,956 113,956 16,398 16,398 Investments available for sale 246,679 246,679 758,792 758,792 Receivables, net 423,407 451,966 340,291 366,595 Retained interests in securitizations 88,658 88,658 72,908 72,908 Amounts due from securitizations 80,325 80,325 61,610 61,610 Financial liabilities: Demand and savings deposits $ 10,010 $ 10,010 $ 68,568 $ 68,568 Time deposits 626,905 633,506 1,278,408 1,288,742 Debt 323,582 332,522 755,184 752,112 Other borrowings 32,317 32,317 4,289 4,289 Off-balance sheet financial instruments: Interest rate swaps $ 0 $ 0 $ 0 $ 379 Commitments to extend credit 0 0 0 0 -----------------------------------------------------------------------------------------------
The fair value of a financial instrument is the current amount that would be exchanged between willing parties, other than in a forced liquidation. Fair value is best determined based upon quoted market prices. However, in many instances, there are no quoted market prices for our various financial instruments. In cases where quoted market prices are not available, fair values are based on estimates using present value or other valuation techniques. Those techniques are significantly affected by the assumptions used, including the discount rate and estimates of future cash flows. Accordingly, the fair value estimates may not be realized in an immediate settlement of the instrument. Statement of Financial Accounting Standards No. 107, "Disclosures about Fair Value of Financial Instruments," excludes certain financial instruments and all nonfinancial instruments from its disclosure requirements. We used the following methods and assumptions in estimating fair value disclosures for financial instruments: CASH, FEDERAL FUNDS SOLD AND RESTRICTED INTEREST-BEARING DEPOSITS For these short-term instruments, the carrying amount is a reasonable estimate of the fair value. INVESTMENTS AVAILABLE FOR SALE Investments available for sale are carried at fair value. The fair values of investments available for sale are based on quoted market prices, dealer quotes or estimates using quoted market prices for similar securities. For investments that are not publicly traded, management has made estimates of fair value that consider several factors including the investees' financial results, conditions and prospects, and the values of comparable public companies. 82 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) RECEIVABLES, NET The fair values of receivables are estimated using a discounted cash flow analysis that incorporates estimates of the excess of the weighted average finance charge and fee yield over the aggregate cost of funds, servicing costs and an estimate of future credit losses over the life of the receivables. RETAINED INTERESTS IN SECURITIZATIONS Retained interests in securitizations are carried at fair value. The fair values of retained interests in securitizations are estimated based on discounted cash flow analyses as described in Note 1. See Note 6 for the assumptions used in the estimation of fair values of the retained interests in securitizations. AMOUNTS DUE FROM SECURITIZATIONS The carrying amount is a reasonable estimate of the fair value of amounts due from securitizations based on the short-term nature of the assets. DEMAND AND SAVINGS DEPOSITS The fair value of demand deposits, savings accounts, and money market deposits is the amount payable on demand at the reporting date. This fair value does not include any benefit that may result from the low cost of funding provided by these deposits compared to the cost of borrowing funds in the market. TIME DEPOSITS The fair value of fixed-maturity certificates of deposit is estimated using discounted cash flow analyses based on the rates currently offered for deposits of similar remaining maturities. DEBT The fair value of our long-term borrowings is estimated using discounted cash flow analyses based on our current incremental borrowing rates for similar types of borrowing arrangements. OTHER BORROWINGS The carrying amounts of borrowings under repurchase agreements and other short-term borrowings maturing within ninety days approximate their fair values. The other borrowings are all at variable interest rates and therefore the carrying value approximates a reasonable estimate of the fair value. INTEREST RATE SWAPS The fair value of interest rate swaps 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. There were no interest rate swaps outstanding related to continuing operations at December 31, 2001. COMMITMENTS TO EXTEND CREDIT There is no market value associated with our unused commitments to extend credit to our business credit card customers, since any fees charged are consistent with the fees charged by other companies at the reporting date to enter into similar agreements. Unused commitments to extend credit were $4.6 billion at December 31, 2001 and $4.2 billion at December 31, 2000. 83 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS -- (CONTINUED) NOTE 25. DERIVATIVE FINANCIAL INSTRUMENTS We have used interest rate swaps to manage the impact of fluctuating interest rates on our cost of funds. Interest rate swap agreements generally involve the exchange of fixed and floating rate interest payments without the exchange of the underlying notional amount on which the interest payments are calculated. During 2001, 2000 and 1999, we used interest rate swaps to effectively convert fixed rate medium-term notes to a LIBOR-based variable rate. There were no interest rate swaps outstanding related to continuing operations at December 31, 2001 because of the substantial reduction in outstanding medium-term notes during the year. The notional amount of interest rate swaps outstanding related to continuing operations was $194.5 million at December 31, 2000, and the estimated fair value was $379 thousand. See Note 2 for a discussion of derivatives used in discontinued operations. 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 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. Our credit exposure is represented by swaps with a positive fair value without giving consideration to the value of any collateral exchanged. The following table summarizes by notional amounts our interest rate swap activity in continuing operations for the periods presented:
TOTAL ----------------------------------------------------------------------- Balance at 12/31/98 $ 575,500 Additions 200,000 Maturities (141,000) Terminations (15,000) ----------------------------------------------------------------------- Balance at 12/31/99 $ 619,500 Maturities (425,000) ----------------------------------------------------------------------- Balance at 12/31/00 $ 194,500 Maturities (102,000) Terminations (92,500) ----------------------------------------------------------------------- Balance at 12/31/01 $ 0 =======================================================================
There were no net gains (losses) from hedge ineffectiveness or from excluding a portion of a derivative instrument's gain or loss from the assessment of hedge effectiveness included in other income for the year ended December 31, 2001. There was also no gain or loss recognized in earnings as a result of a hedged firm commitment no longer qualifying as a fair value hedge. 84 REPORT OF INDEPENDENT PUBLIC ACCOUNTANTS To the Stockholders of Advanta Corp.: We have audited the accompanying consolidated balance sheets of Advanta Corp. (a Delaware corporation) and subsidiaries as of December 31, 2001 and 2000, and the related consolidated statements of income, stockholders' equity and cash flows for each of the three years in the period ended December 31, 2001. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with auditing standards generally accepted in the United States. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of Advanta Corp. and subsidiaries as of December 31, 2001 and 2000, and the results of their operations and their cash flows for each of the three years in the period ended December 31, 2001, in conformity with accounting principles generally accepted in the United States. /s/ ARTHUR ANDERSEN LLP Philadelphia, PA March 15, 2002 REPORT OF MANAGEMENT ON RESPONSIBILITY FOR FINANCIAL REPORTING To the Stockholders of Advanta Corp.: The management of Advanta Corp. and its subsidiaries ("Advanta") is responsible for the preparation, content, integrity and objectivity of the consolidated financial statements. These consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States and as such must, by necessity, include amounts based upon estimates and judgments made by management. The other financial information was also prepared by management and is consistent with the financial statements. Management is also responsible for establishing and maintaining an effective internal control structure over financial reporting. These systems and controls are designed to provide reasonable, but not absolute, assurance that assets are safeguarded, that transactions are properly recorded and executed in accordance with management's authorization and that financial statements are reliable. Advanta's control structure includes: (l) organizational and budgetary arrangements which provide reasonable assurance that errors or irregularities would be detected promptly; (2) careful selection of personnel and communications programs aimed at assuring that policies and standards are understood by employees; (3) continuing management review and evaluation of systems and controls; and (4) a program of independent internal audit and risk management reviews to ensure compliance. The consolidated financial statements have been audited by Arthur Andersen LLP, independent public accountants. Their audits were conducted in accordance with auditing standards generally accepted in the United States and considered Advanta's system of internal controls to the extent they deemed necessary to determine the nature, timing and extent of their audit tests. Their report is printed herewith. /s/ DENNIS ALTER /s/ PHILIP M. BROWNE /s/ DAVID B. WEINSTOCK ----------------------------- ----------------------------- ----------------------------- Chairman of the Board and Senior Vice President and Vice President and Chief Executive Officer Chief Financial Officer Chief Accounting Officer
85 SUPPLEMENTAL SCHEDULES (UNAUDITED) QUARTERLY DATA
(IN THOUSANDS, EXCEPT PER SHARE AMOUNTS) 2001 ----------------------------------------------------------------------------------------------------- DECEMBER 31, SEPTEMBER 30, JUNE 30, MARCH 31, ----------------------------------------------------------------------------------------------------- Interest income $24,623 $ 26,388 $32,836 $ 34,004 Interest expense 15,156 16,919 26,119 24,276 ----------------------------------------------------------------------------------------------------- Net interest income 9,467 9,469 6,717 9,728 Provision for credit losses 10,124 9,528 8,384 7,940 ----------------------------------------------------------------------------------------------------- Net interest after provision for credit losses (657) (59) (1,667) 1,788 ----------------------------------------------------------------------------------------------------- Noninterest revenues 63,840 49,291 45,830 29,999 Operating expenses 48,275 44,742 44,116 43,053 Minority interest in income of consolidated subsidiary 2,220 2,220 2,220 2,220 Unusual charges 0 0 1,000 40,750 ----------------------------------------------------------------------------------------------------- Total expenses 50,495 46,962 47,336 86,023 ----------------------------------------------------------------------------------------------------- Income (loss) before income taxes 12,688 2,270 (3,173) (54,236) Income (loss) from continuing operations 7,803 2,270 (3,173) (37,356) Loss from discontinued operations, net of tax 0 0 0 (8,438) Gain (loss), net, on discontinuance of mortgage and leasing businesses, net of tax 0 (44,000) (4,000) 16,361 ----------------------------------------------------------------------------------------------------- Net income (loss) $ 7,803 $(41,730) $(7,173) $(29,433) ----------------------------------------------------------------------------------------------------- Basic income (loss) from continuing operations per common share Class A $ 0.29 $ 0.08 $ (0.13) $ (1.49) Class B 0.31 0.09 (0.12) (1.48) Combined(1) 0.30 0.09 (0.12) (1.48) ----------------------------------------------------------------------------------------------------- Diluted income (loss) from continuing operations per common share Class A $ 0.29 $ 0.08 $ (0.13) $ (1.49) Class B 0.31 0.09 (0.12) (1.48) Combined(1) 0.30 0.09 (0.12) (1.48) ----------------------------------------------------------------------------------------------------- Basic net income (loss) per common share Class A $ 0.29 $ (1.62) $ (0.29) $ (1.18) Class B 0.31 (1.60) (0.27) (1.16) Combined(1) 0.30 (1.61) (0.28) (1.17) ----------------------------------------------------------------------------------------------------- Diluted net income (loss) per common share Class A $ 0.29 $ (1.60) $ (0.29) $ (1.18) Class B 0.31 (1.59) (0.27) (1.16) Combined(1) 0.30 (1.59) (0.28) (1.17) ----------------------------------------------------------------------------------------------------- Basic weighted average common shares outstanding Class A 9,125 9,116 9,098 9,103 Class B 16,552 16,820 16,744 16,200 Combined(1) 25,677 25,936 25,842 25,303 ----------------------------------------------------------------------------------------------------- Diluted weighted average common shares outstanding Class A 9,128 9,120 9,098 9,103 Class B 16,716 17,121 16,744 16,200 Combined(1) 25,844 26,241 25,842 25,303 -----------------------------------------------------------------------------------------------------
(1) Combined represents a weighted average of Class A and Class B (see Note 1 to the consolidated financial statements). 86 SUPPLEMENTAL SCHEDULES (UNAUDITED) -- CONTINUED QUARTERLY DATA -- CONTINUED (In thousands, except per share amounts)
2000 ---------------------------------------------------------------------------------------------------- DECEMBER 31, SEPTEMBER 30, JUNE 30, MARCH 31, ---------------------------------------------------------------------------------------------------- Interest income $ 32,187 $39,449 $ 34,081 $30,383 Interest expense 20,313 24,457 21,559 20,179 ---------------------------------------------------------------------------------------------------- Net interest income 11,874 14,992 12,522 10,204 Provision for credit losses 6,833 16,806 5,050 7,620 ---------------------------------------------------------------------------------------------------- Net interest after provision for credit losses 5,041 (1,814) 7,472 2,584 ---------------------------------------------------------------------------------------------------- Noninterest revenues 36,116 39,216 40,588 41,161 Operating expenses 51,473 34,493 31,401 32,925 Minority interest in income of consolidated subsidiary 2,220 2,220 2,220 2,220 ---------------------------------------------------------------------------------------------------- Total expenses 53,693 36,713 33,621 35,145 ---------------------------------------------------------------------------------------------------- Income (loss) before income taxes (12,536) 689 14,439 8,600 Income (loss) from continuing operations (12,536) 689 17,749 5,290 Income (loss) from discontinued operations, net of tax 20,032 15,055 (210,444) 11,779 Loss on discontinuance of leasing business, net of tax (4,298) 0 0 0 ---------------------------------------------------------------------------------------------------- Net income (loss) $ 3,198 $15,744 $(192,695) $17,069 ---------------------------------------------------------------------------------------------------- Basic income (loss) from continuing operations per common share Class A $ (0.51) $ 0.02 $ 0.69 $ 0.19 Class B (0.49) 0.03 0.71 0.22 Combined(1) (0.50) 0.03 0.70 0.21 ---------------------------------------------------------------------------------------------------- Diluted income (loss) from continuing operations per common share Class A $ (0.51) $ 0.02 $ 0.69 $ 0.19 Class B (0.49) 0.03 0.70 0.21 Combined(1) (0.50) 0.03 0.70 0.20 ---------------------------------------------------------------------------------------------------- Basic net income (loss) per common share Class A $ 0.12 $ 0.61 $ (7.65) $ 0.67 Class B 0.13 0.63 (7.63) 0.69 Combined(1) 0.13 0.62 (7.64) 0.68 ---------------------------------------------------------------------------------------------------- Diluted net income (loss) per common share Class A $ 0.12 $ 0.61 $ (7.60) $ 0.65 Class B 0.13 0.63 (7.58) 0.67 Combined(1) 0.13 0.62 (7.59) 0.67 ---------------------------------------------------------------------------------------------------- Basic weighted average common shares outstanding Class A 9,143 9,109 9,097 9,088 Class B 16,150 16,150 16,135 15,697 Combined(1) 25,293 25,259 25,232 24,785 ---------------------------------------------------------------------------------------------------- Diluted weighted average common shares outstanding Class A 9,143 9,158 9,151 9,143 Class B 16,150 16,168 16,253 16,241 Combined(1) 25,293 25,326 25,404 25,384 ----------------------------------------------------------------------------------------------------
(1) Combined represents a weighted average of Class A and Class B (see Note 1 to the consolidated financial statements). 87 SUPPLEMENTAL SCHEDULES (UNAUDITED) -- CONTINUED ALLOCATION OF ALLOWANCE FOR CREDIT LOSSES
($ IN THOUSANDS) DECEMBER 31, --------------------------------------------------------------------------------------------------------------------------- 2001 2000 1999 1998 1997 ------------- ------------- ------------- ------------- ------------------- AMOUNT % AMOUNT % AMOUNT % AMOUNT % AMOUNT % --------------------------------------------------------------------------------------------------------------------------- Business credit cards $41,169 98% $33,165 99% $14,663 99% $ 6,916 65% $ 6,899 5% Consumer credit cards 0 0 0 0 0 0 0 0 118,420 92 Other receivables 802 2 202 1 202 1 3,734 35 3,734 3 --------------------------------------------------------------------------------------------------------------------------- Total $41,971 100% $33,367 100% $14,865 100% $10,650 100% $129,053 100% ===========================================================================================================================
COMPOSITION OF GROSS RECEIVABLES
($ IN THOUSANDS) DECEMBER 31, ---------------------------------------------------------------------------------------------------------------------------- 2001 2000 1999 1998 1997 -------------- -------------- -------------- -------------- --------------------- AMOUNT % AMOUNT % AMOUNT % AMOUNT % AMOUNT % ---------------------------------------------------------------------------------------------------------------------------- Business credit cards $416,265 94% $335,087 93% $275,095 90% $150,022 89% $ 140,399 5% Consumer credit cards 0 0 0 0 0 0 0 0 2,579,890 94 Other receivables 28,189 6 24,203 7 30,302 10 17,862 11 40,978 1 ---------------------------------------------------------------------------------------------------------------------------- Total $444,454 100% $359,290 100% $305,397 100% $167,884 100% $2,761,267 100% ============================================================================================================================
YIELD AND MATURITY OF INVESTMENTS AT DECEMBER 31, 2001
($ IN THOUSANDS) MATURING ------------------------------------------------------------------------------------------------------------------------------ AFTER ONE BUT AFTER FIVE BUT WITHIN ONE YEAR WITHIN FIVE YEARS WITHIN TEN YEARS AFTER TEN YEARS ----------------------- ----------------------- ----------------------- ----------------------- MARKET VALUE YIELD(3) MARKET VALUE YIELD(3) MARKET VALUE YIELD(3) MARKET VALUE YIELD(3) ------------------------------------------------------------------------------------------------------------------------------ U.S. Treasury and other U.S. Government securities $34,227 4.09% $19,829 5.87% $32,146 6.19% $ 0 0.00% State and municipal securities(1) 116 3.31 677 3.91 2,335 5.82 877 5.37 Other(2) 0 0.00 0 0.00 5,527 6.19 26,026 6.33 ------------------------------------------------------------------------------------------------------------------------------ Total investments available for sale $34,343 4.09% $20,506 5.81% $40,008 6.17% $26,903 6.30% ==============================================================================================================================
(1) Yield computed on a taxable equivalent basis using a statutory rate of 35%. (2) Equity investments and other securities without a stated maturity are excluded from this table. (3) Yields are computed by dividing interest by the amortized cost of the respective investment securities. 88 SUPPLEMENTAL SCHEDULES (UNAUDITED) -- CONTINUED MATURITY OF TIME DEPOSITS OF $100,000 OR MORE
DECEMBER 31, ($ IN THOUSANDS) 2001 -------------------------------------------------------------------------- Maturity: 3 months or less $ 71,368 Over 3 months through 6 months 37,725 Over 6 months through 12 months 56,238 Over 12 months 145,686 -------------------------------------------------------------------------- Total $311,017 ==========================================================================
COMMON STOCK PRICE RANGES AND DIVIDENDS Advanta's common stock is traded on the National Market tier of The Nasdaq Stock Market under the symbols ADVNA (Class A voting common stock) and ADVNB (Class B non-voting common stock). Following are the high, low and closing sale prices and cash dividends declared for the last two years as they apply to each class of stock:
CASH DIVIDENDS QUARTER ENDED: HIGH LOW CLOSE DECLARED ------------------------------------------------------------------------------------------------ Class A: ------------------------------------------------------------------------------------------------ March 31, 2000 $21.88 $16.88 $20.31 $0.063 June 30, 2000 21.00 10.88 12.19 0.063 September 30, 2000 13.56 10.69 11.25 0.063 December 31, 2000 11.88 5.75 8.81 0.063 March 31, 2001 $16.00 $ 8.75 $15.81 $0.063 June 30, 2001 16.00 12.86 16.00 0.063 September 30, 2001 19.10 8.00 9.40 0.063 December 31, 2001 11.72 8.00 9.94 0.063 ------------------------------------------------------------------------------------------------ Class B: ------------------------------------------------------------------------------------------------ March 31, 2000 $15.50 $11.50 $14.48 $0.076 June 30, 2000 15.13 7.75 8.50 0.076 September 30, 2000 10.19 7.50 8.14 0.076 December 31, 2000 8.38 4.13 7.19 0.076 March 31, 2001 $14.00 $ 7.16 $13.69 $0.076 June 30, 2001 14.00 11.90 13.97 0.076 September 30, 2001 17.10 8.10 8.95 0.076 December 31, 2001 10.79 6.85 9.10 0.076 ================================================================================================
At December 31, 2001, Advanta had approximately 262 holders of record of Class A stock and 677 holders of record of Class B stock. 89 ITEM 9. CHANGES AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE None. ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT The text of the Proxy Statement under the captions "Election of Directors" and "Section 16(a) Beneficial Ownership Reporting Compliance" are hereby incorporated by reference, as is the text in Part I of this Report under the caption, "Executive Officers of the Registrant." ITEM 11. EXECUTIVE COMPENSATION The text of the Proxy Statement under the captions "Executive Compensation," "Report on Executive Compensation" and "Election of Directors -- Committees, Meetings and Compensation of the Board of Directors, -- Compensation Committee Interlocks and Insider Participation and -- Other Matters" are hereby incorporated herein by reference. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT. The text of the Proxy Statement under the captions "Security Ownership of Certain Beneficial Owners" and "Security Ownership of Management" are hereby incorporated herein by reference. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS The text of the Proxy Statement under the captions "Election of Directors -- Compensation Committee Interlocks and Insider Participation and -- Other Matters" are hereby incorporated herein by reference. ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K The following Financial Statements, Schedules, and Other Information of the Registrant and its subsidiaries are included in this Form 10-K: (a)(1) Financial Statements. 1. Consolidated Balance Sheets at December 31, 2001 and 2000. 2. Consolidated Income Statements for each of the three years in the period ended December 31, 2001. 3. Consolidated Statements of Changes in Stockholders' Equity for each of the three years in the period ended December 31, 2001. 4. Consolidated Statements of Cash Flows for each of the three years in the period ended December 31, 2001. 5. Notes to Consolidated Financial Statements. (a)(2) Schedules. Other statements and schedules are not being presented either because they are not required or the information required by such statements and schedules is presented elsewhere in the financial statements. (a)(3) Exhibits 2-a Purchase and Sale Agreement, dated January 8, 2001, by and between Advanta Corp. and Chase Manhattan Mortgage Corporation (incorporated by reference to Annex I to the Registrant's Definitive Proxy Statement filed January 25, 2001). 2-b Mortgage Loan Purchase and Sale Agreement, dated February 23, 2001, by and among Advanta Corp., Chase Manhattan Mortgage Corporation, and Chase Manhattan Bank USA, National Association (incorporated by reference to Exhibit 2.2 to the Registrant's Current Report on Form 8-K filed March 14, 2000).
90 2-c Mortgage Loan Purchase and Sale Agreement, dated February 28, 2001, by and among Advanta Corp., Chase Manhattan Mortgage Corporation, and Chase Manhattan Bank USA, National Association (incorporated by reference to Exhibit 2.3 to the Registrant's Current Report on Form 8-K filed March 14, 2000). 3-a Restated Certificate of Incorporation of Registrant (incorporated by reference to Exhibit 4.1 to Pre-Effective Amendment No. 1 to the Registrant's Registration Statement on Form S-3 (File No. 33-53475), filed June 10, 1994), as amended by the Certificate of Designations, Preferences, Rights and Limitations of the Registrant's 6 3/4% Convertible Class B Preferred Stock, Series 1995 (Stock Appreciation Income Linked Securities (SAILS))(incorporated by reference to Exhibit 4.3 to the Registrant's Current Report on Form 8-K dated August 15, 1995), as further amended by the Certificate of Designations, Preferences, Rights and Limitations of the Registrant's Series A Junior Participating Preferred Stock (incorporated by reference to Exhibit 1 to the Registrant's Registration Statement on Form 8-A, dated March 17, 1997). 3-b By-laws of the Registrant, as amended (incorporated by reference to Exhibit 3.1 the Registrant's Current Report on Form 8-K dated March 17, 1997). 3-c Rights Agreement, dated as of March 14, 1997, by and between the Registrant and the Rights Agent, which includes as Exhibit B thereto the Form of Rights Certificate (incorporated by reference to Exhibit 1 to the Registrant's Registration Statement on Form 8-A dated March 17, 1997). 4-a* Trust Indenture dated April 22, 1981 between Registrant and Mellon Bank, N.A., (formerly, CoreStates Bank, N.A.), as Trustee, including Form of Debenture. 4-b Specimen of Class A Common Stock Certificate and specimen of Class B Common Stock Certificate (incorporated by reference to Exhibit 1 of the Registrant's Amendment No. 1 to Form 8 and Exhibit 1 to Registrant's Form 8-A, respectively, both dated April 22, 1992). 4-c Trust Indenture dated as of November 15, 1993 between the Registrant and The Chase Manhattan Bank (National Association), as Trustee (incorporated by reference to Exhibit 4 to the Registrant's Registration Statement on Form S-3 (No. 33-50883), filed November 2, 1993). 4-d Senior Trust Indenture, dated as of October 23, 1995, between the Registrant and Mellon Bank, N.A., as Trustee (incorporated by reference to Exhibit 4.1 to the Registrant's Registration Statement on Form S-3 (File No. 33-62601), filed September 13, 1995). 4-e Indenture dated as of December 17, 1996 between Advanta Corp. and The Chase Manhattan Bank, as trustee relating to the Junior Subordinated Debentures (incorporated by reference to Exhibit 4-g to the Registrant's Annual Report on Form 10-K for the year ended December 31, 1996). 4-f Declaration of Trust dated as of December 5, 1996 of Advanta Capital Trust I (incorporated by reference to Exhibit 4-h to the Registrant's Annual Report on Form 10-K for the year ended December 31, 1996). 4-g Amended and Restated Declaration of Trust dated as of December 17, 1996 for Advanta Capital Trust I (incorporated by reference to Exhibit 4-i to the Registrant's Annual Report on Form 10-K for the year ended December 31, 1996). 4-h Series A Capital Securities Guarantee Agreement dated as of December 17, 1996. (incorporated by reference to Exhibit 4-j to the Registrant's Annual Report on Form 10-K for the year ended December 31, 1996). 10-a Advanta Corp. 2000 Omnibus Stock Incentive Plan (incorporated by reference to 4(f) to Post-Effective Amendment No. 1 to the Registrant's Registration Statement on Form S-8 (File No. 333-04469).+
91 10-b Card Member License Agreement between Colonial National Financial Corp. (now known as Advanta Bank Corp.) and MasterCard International Incorporated dated April 19, 1994 (filed herewith). 10-c VISA U.S.A. Inc. Membership Agreement and Principal Member Addendum executed by Advanta Corp. on February 27, 1997 (filed herewith). 10-d VISA U.S.A. Inc. Membership Agreement executed by Advanta Bank Corp. on March 31, 2000 (filed herewith). 10-e* Application for membership in VISA(R) U.S.A. Inc. and Membership Agreement executed by Colonial National Bank USA on March 25, 1983. 10-f* Application for membership in MasterCard(R) International, Inc. and Card Member License Agreement executed by Colonial National Bank USA on March 25, 1983. 10-g* Indenture of Trust dated May 11, 1984 between Linda Alter, as settlor, and Dennis Alter, as trustee. 10-g(i) Agreement dated October 20, 1992 among Dennis Alter, as Trustee of the trust established by the Indenture of Trust filed as Exhibit 10-g (the "Indenture"), Dennis Alter in his individual capacity, Linda Alter, and Michael Stolper, which Agreement modifies the Indenture (incorporated by reference to Exhibit 10-g(i) to the Registrant's Registration Statement on Form S-3 (File No. 33-58660), filed February 23, 1993). 10-h Advanta Corp. Executive Deferral Plan (incorporated by reference to the Exhibit 10-j to the Registrant's Annual Report on Form 10-K for the year ended December 31, 1995).+ 10-i Advanta Corp. Non-Employee Directors Deferral Plan (incorporated by reference to Exhibit 10-K to the Registrant's Annual Report on Form 10-K for the year ended December 31, 1995).+ 10-j Life Insurance Benefit for Certain Key Executives and Directors (incorporated by reference to Exhibit 10-g to the Registrant's Annual Report on Form 10-K for the year ended December 31, 2000).+ 10-k Amended and Restated Agreement of Limited Partnership of Advanta Partners LP, dated as of October 1, 1996 (incorporated by reference to Exhibit 10-o to the Registrant's Annual Report on Form 10-K for the year ended December 31, 1996). 10-l Agreement of Limited Partnership of Advanta Growth Capital Fund L.P., dated as of July 28, 2000 (incorporated by reference to Exhibit 10-i to the Registrant's Annual Report on Form 10-K for the year ended December 31, 2000). 10-m Agreement dated as of January 15, 1996 between the Registrant and William A. Rosoff (incorporated by reference to Exhibit 10-u to the Registrant's Annual Report on Form 10-K for the year ended December 31, 1995).+ 10-n Agreement dated May 11, 1998 between the Registrant and Philip M. Browne (incorporated by reference to Exhibit 10-r to the Registrant's Annual Report on Form 10-K for the year ended December 31, 1998).+ 10-o Contribution Agreement, dated as of October 28, 1997, by and between Advanta Corp. and Fleet Financial Group (incorporated by reference to Exhibit (c)(2) to the Registrant's Schedule 13E-4, dated January 20, 1998), as amended by the First Amendment to the Contribution Agreement, dated as of February 10, 1998, by and among Advanta Corp., Fleet Financial Group and Fleet Credit Card, LLC (incorporated by reference to Exhibit 2.2 to the Registrant's Current Report on Form 8-K, filed March 6, 1998). 10-p Commercial Lease, dated September 28, 1995, by and between Draper Park North, L.C. and Advanta Financial Corp., as amended January 31, 1996 and May 20, 1996 (incorporated by reference to Exhibit 10-v to the Registrant's Annual Report on Form 10-K for the year ended December 31, 1999).
92 10-q Master Indenture, dated as of August 1, 2000, between Wilmington Trust Company, as Owner Trustee of the Advanta Business Card Master Trust and Bankers Trust Company, as Indenture Trustee (incorporated by reference to Exhibit 4.1 to the Current Report on Form 8-K, filed August 20, 2000 by Advanta Business Receivables Corp.). 10-r Series 2000-B Indenture Supplement, dated August 1, 2000, between Advanta Business Card Master Trust and Bankers Trust Company (incorporated by reference to Exhibit 4.2 to the Current Report on Form 8-K, filed August 20, 2000 by Advanta Business Receivables Corp.). 10-s Transfer and Servicing Agreement, dated as of August 1, 2000, among Advanta Business Receivables Corp., Advanta Bank Corp., as Servicer, and Advanta Business Card Master Trust (incorporated by reference to Exhibit 4.3 to the Current Report on Form 8-K, filed August 20, 2000 by Advanta Business Receivables Corp.). 10-t Series 2000-C Indenture Supplement, dated as of November 1, 2000, between Advanta Business Card Master Trust and Bankers Trust Company, as indenture trustee (incorporated by reference to Exhibit 4.1 to the Current Report on Form 8-K, filed November 21, 2000 by Advanta Business Receivables Corp.). 10-u Service Agreement between First Data Resources Inc. and Advanta Bank Corp., dated as of January 1, 2002 (filed herewith). 12 Computation of Ratio Earnings to Fixed Charges (filed herewith). 21 Subsidiaries of the Registrant (filed herewith). 23 Consent of Independent Public Accountants (filed herewith). 24 Powers of Attorney (included on the signature page hereof). 99 Letter to the Commission pursuant to Temporary Note 3T to Article 3 of Regulation S-X (filed herewith).
--------------- * Incorporated by reference to the Exhibit with corresponding number constituting part of the Registrant's Registration Statement on Form S-2 (No. 33-00071), filed on September 4, 1985. + Management contract or compensatory plan or arrangement. (b) Reports on Form 8-K 1. A Report on Form 8-K was filed by the Company on October 24, 2001 announcing results for the third quarter and the addition of two new members to the Company's management team. 2. A Report on Form 8-K was filed by the Company on December 4, 2001, announcing earnings guidance for the fiscal year 2002. 93 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. Advanta Corp. By: /s/ WILLIAM A. ROSOFF ----------------------------------- William A. Rosoff, President and Vice Chairman of the Board Dated: March 15, 2002 KNOW ALL MEN BY THESE PRESENTS, that each of the undersigned does hereby constitute and appoint Dennis Alter, William A. Rosoff, Philip M. Browne, David B. Weinstock and Elizabeth H. Mai, or any of them (with full power to each of them to act alone), his or her true and lawful attorney in-fact and agent, with full power of substitution, for him or her and on his or her behalf to sign, execute and file an Annual Report on Form 10-K under the Securities Exchange Act of 1934, as amended, for the fiscal year ended December 31, 2001 relating to Advanta Corp. and any or all amendments thereto, with all exhibits and any and all documents required to be filed with respect thereto, with the Securities and Exchange Commission or any regulatory authority, granting unto such attorneys-in-fact and agents, and each of them, full power and authority to do and perform each and every act and thing requisite and necessary to be done in and about the premises in order to effectuate the same as fully to all intents and purposes as he or she might or could do if personally present, hereby ratifying and confirming all that such attorneys-in-fact and agents, or any of them, or their substitute or substitutes, may lawfully do or cause to be done. Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed by the following persons on behalf of the Registrant and in the capacities indicated on the 15th day of March, 2002.
NAME TITLE ---- ----- /s/ DENNIS ALTER Chairman of the Board and ------------------------------------------ Chief Executive Officer Dennis Alter /s/ WILLIAM A. ROSOFF President and Vice Chairman ------------------------------------------ of the Board William A. Rosoff /s/ PHILIP M. BROWNE Senior Vice President and ------------------------------------------ Chief Financial Officer Philip M. Browne /s/ DAVID B. WEINSTOCK Vice President and Chief ------------------------------------------ Accounting Officer David B. Weinstock /s/ ARTHUR P. BELLIS Director ------------------------------------------ Arthur P. Bellis /s/ ROBERT S. BLANK Director ------------------------------------------ Robert S. Blank /s/ MAX BOTEL Director ------------------------------------------ Max Botel /s/ DANA BECKER DUNN Director ------------------------------------------ Dana Becker Dunn
94
NAME TITLE ---- ----- /s/ JAMES E. KSANSNAK Director ------------------------------------------ James E. Ksansnak Director ------------------------------------------ Ronald Lubner /s/ OLAF OLAFSSON Director ------------------------------------------ Olaf Olafsson /s/ ROBERT H. ROCK Director ------------------------------------------ Robert H. Rock Director ------------------------------------------ Michael Stolper
95 EXHIBIT INDEX
EXHIBIT NUMBER EXHIBIT AND MANNER OF FILING ------- ---------------------------- (a)(1) Financial Statements. 1. Consolidated Balance Sheets at December 31, 2001 and 2000. 2. Consolidated Income Statements for each of the three years in the period ended December 31, 2001. 3. Consolidated Statements of Changes in Stockholders' Equity for each of the three years in the period ended December 31, 2001. 4. Consolidated Statements of Cash Flows for each of the three years in the period ended December 31, 2001. 5. Notes to Consolidated Financial Statements. (a)(2) Schedules. Other statements and schedules are not being presented either because they are not required or the information required by such statements and schedules is presented elsewhere in the financial statements. (a)(3) Exhibits 2-a Purchase and Sale Agreement, dated January 8, 2001, by and between Advanta Corp. and Chase Manhattan Mortgage Corporation (incorporated by reference to Annex I to the Registrant's Definitive Proxy Statement filed January 25, 2001). 2-b Mortgage Loan Purchase and Sale Agreement, dated February 23, 2001, by and among Advanta Corp., Chase Manhattan Mortgage Corporation, and Chase Manhattan Bank USA, National Association (incorporated by reference to Exhibit 2.2 to the Registrant's Current Report on Form 8-K filed March 14, 2000). 2-c Mortgage Loan Purchase and Sale Agreement, dated February 28, 2001, by and among Advanta Corp., Chase Manhattan Mortgage Corporation, and Chase Manhattan Bank USA, National Association (incorporated by reference to Exhibit 2.3 to the Registrant's Current Report on Form 8-K filed March 14, 2000). 3-a Restated Certificate of Incorporation of Registrant (incorporated by reference to Exhibit 4.1 to Pre-Effective Amendment No. 1 to the Registrant's Registration Statement on Form S-3 (File No. 33-53475), filed June 10, 1994), as amended by the Certificate of Designations, Preferences, Rights and Limitations of the Registrant's 6 3/4% Convertible Class B Preferred Stock, Series 1995 (Stock Appreciation Income Linked Securities (SAILS))(incorporated by reference to Exhibit 4.3 to the Registrant's Current Report on Form 8-K dated August 15, 1995), as further amended by the Certificate of Designations, Preferences, Rights and Limitations of the Registrant's Series A Junior Participating Preferred Stock (incorporated by reference to Exhibit 1 to the Registrant's Registration Statement on Form 8-A, dated March 17, 1997). 3-b By-laws of the Registrant, as amended (incorporated by reference to Exhibit 3.1 the Registrant's Current Report on Form 8-K dated March 17, 1997). 3-c Rights Agreement, dated as of March 14, 1997, by and between the Registrant and the Rights Agent, which includes as Exhibit B thereto the Form of Rights Certificate (incorporated by reference to Exhibit 1 to the Registrant's Registration Statement on Form 8-A dated March 17, 1997). 4-a* Trust Indenture dated April 22, 1981 between Registrant and Mellon Bank, N.A., (formerly, CoreStates Bank, N.A.), as Trustee, including Form of Debenture.
EXHIBIT NUMBER EXHIBIT AND MANNER OF FILING ------- ---------------------------- 4-b Specimen of Class A Common Stock Certificate and specimen of Class B Common Stock Certificate (incorporated by reference to Exhibit 1 of the Registrant's Amendment No. 1 to Form 8 and Exhibit 1 to Registrant's Form 8-A, respectively, both dated April 22, 1992). 4-c Trust Indenture dated as of November 15, 1993 between the Registrant and The Chase Manhattan Bank (National Association), as Trustee (incorporated by reference to Exhibit 4 to the Registrant's Registration Statement on Form S-3 (No. 33-50883), filed November 2, 1993). 4-d Senior Trust Indenture, dated as of October 23, 1995, between the Registrant and Mellon Bank, N.A., as Trustee (incorporated by reference to Exhibit 4.1 to the Registrant's Registration Statement on Form S-3 (File No. 33-62601), filed September 13, 1995). 4-e Indenture dated as of December 17, 1996 between Advanta Corp. and The Chase Manhattan Bank, as trustee relating to the Junior Subordinated Debentures (incorporated by reference to Exhibit 4-g to the Registrant's Annual Report on Form 10-K for the year ended December 31, 1996). 4-f Declaration of Trust dated as of December 5, 1996 of Advanta Capital Trust I (incorporated by reference to Exhibit 4-h to the Registrant's Annual Report on Form 10-K for the year ended December 31, 1996). 4-g Amended and Restated Declaration of Trust dated as of December 17, 1996 for Advanta Capital Trust I (incorporated by reference to Exhibit 4-i to the Registrant's Annual Report on Form 10-K for the year ended December 31, 1996). 4-h Series A Capital Securities Guarantee Agreement dated as of December 17, 1996. (incorporated by reference to Exhibit 4-j to the Registrant's Annual Report on Form 10-K for the year ended December 31, 1996). 10-a Advanta Corp. 2000 Omnibus Stock Incentive Plan (incorporated by reference to 4(f) to Post-Effective Amendment No. 1 to the Registrant's Registration Statement on Form S-8 (File No. 333-04469).+ 10-b Card Member License Agreement between Colonial National Financial Corp. (now known as Advanta Bank Corp.) and MasterCard International Incorporated dated April 19, 1994 (filed herewith). 10-c VISA U.S.A. Inc. Membership Agreement and Principal Member Addendum executed by Advanta Corp. on February 27, 1997 (filed herewith). 10-d VISA U.S.A. Inc. Membership Agreement executed by Advanta Bank Corp. on March 31, 2000 (filed herewith). 10-e* Application for membership in VISA(R) U.S.A. Inc. and Membership Agreement executed by Colonial National Bank USA on March 25, 1983. 10-f* Application for membership in MasterCard(R) International, Inc. and Card Member License Agreement executed by Colonial National Bank USA on March 25, 1983. 10-g* Indenture of Trust dated May 11, 1984 between Linda Alter, as settlor, and Dennis Alter, as trustee. 10-g(i) Agreement dated October 20, 1992 among Dennis Alter, as Trustee of the trust established by the Indenture of Trust filed as Exhibit 10-g (the "Indenture"), Dennis Alter in his individual capacity, Linda Alter, and Michael Stolper, which Agreement modifies the Indenture (incorporated by reference to Exhibit 10-g(i) to the Registrant's Registration Statement on Form S-3 (File No. 33-58660), filed February 23, 1993). 10-h Advanta Corp. Executive Deferral Plan (incorporated by reference to the Exhibit 10-j to the Registrant's Annual Report on Form 10-K for the year ended December 31, 1995).+
EXHIBIT NUMBER EXHIBIT AND MANNER OF FILING ------- ---------------------------- 10-i Advanta Corp. Non-Employee Directors Deferral Plan (incorporated by reference to Exhibit 10-K to the Registrant's Annual Report on Form 10-K for the year ended December 31, 1995).+ 10-j Life Insurance Benefit for Certain Key Executives and Directors (incorporated by reference to Exhibit 10-g to the Registrant's Annual Report on Form 10-K for the year ended December 31, 2000).+ 10-k Amended and Restated Agreement of Limited Partnership of Advanta Partners LP, dated as of October 1, 1996 (incorporated by reference to Exhibit 10-o to the Registrant's Annual Report on Form 10-K for the year ended December 31, 1996). 10-l Agreement of Limited Partnership of Advanta Growth Capital Fund L.P., dated as of July 28, 2000 (incorporated by reference to Exhibit 10-i to the Registrant's Annual Report on Form 10-K for the year ended December 31, 2000). 10-m Agreement dated as of January 15, 1996 between the Registrant and William A. Rosoff (incorporated by reference to Exhibit 10-u to the Registrant's Annual Report on Form 10-K for the year ended December 31, 1995).+ 10-n Agreement dated May 11, 1998 between the Registrant and Philip M. Browne (incorporated by reference to Exhibit 10-r to the Registrant's Annual Report on Form 10-K for the year ended December 31, 1998).+ 10-o Contribution Agreement, dated as of October 28, 1997, by and between Advanta Corp. and Fleet Financial Group (incorporated by reference to Exhibit (c)(2) to the Registrant's Schedule 13E-4, dated January 20, 1998), as amended by the First Amendment to the Contribution Agreement, dated as of February 10, 1998, by and among Advanta Corp., Fleet Financial Group and Fleet Credit Card, LLC (incorporated by reference to Exhibit 2.2 to the Registrant's Current Report on Form 8-K, filed March 6, 1998). 10-p Commercial Lease, dated September 28, 1995, by and between Draper Park North, L.C. and Advanta Financial Corp., as amended January 31, 1996 and May 20, 1996 (incorporated by reference to Exhibit 10-v to the Registrant's Annual Report on Form 10-K for the year ended December 31, 1999). 10-q Master Indenture, dated as of August 1, 2000, between Wilmington Trust Company, as Owner Trustee of the Advanta Business Card Master Trust and Bankers Trust Company, as Indenture Trustee (incorporated by reference to Exhibit 4.1 to the Current Report on Form 8-K, filed August 20, 2000 by Advanta Business Receivables Corp.). 10-r Series 2000-B Indenture Supplement, dated August 1, 2000, between Advanta Business Card Master Trust and Bankers Trust Company (incorporated by reference to Exhibit 4.2 to the Current Report on Form 8-K, filed August 20, 2000 by Advanta Business Receivables Corp.). 10-s Transfer and Servicing Agreement, dated as of August 1, 2000, among Advanta Business Receivables Corp., Advanta Bank Corp., as Servicer, and Advanta Business Card Master Trust (incorporated by reference to Exhibit 4.3 to the Current Report on Form 8-K, filed August 20, 2000 by Advanta Business Receivables Corp.). 10-t Series 2000-C Indenture Supplement, dated as of November 1, 2000, between Advanta Business Card Master Trust and Bankers Trust Company, as indenture trustee (incorporated by reference to Exhibit 4.1 to the Current Report on Form 8-K, filed November 21, 2000 by Advanta Business Receivables Corp.). 10-u Service Agreement between First Data Resources Inc. and Advanta Bank Corp., dated as of January 1, 2002 (filed herewith). 12 Computation of Ratio Earnings to Fixed Charges (filed herewith). 21 Subsidiaries of the Registrant (filed herewith).
EXHIBIT NUMBER EXHIBIT AND MANNER OF FILING ------- ---------------------------- 23 Consent of Independent Public Accountants (filed herewith). 24 Powers of Attorney (included on the signature page hereof). 99 Letter to the Commission pursuant to Temporary Note 3T to Article 3 of Regulation S-X (filed herewith).
--------------- * Incorporated by reference to the Exhibit with corresponding number constituting part of the Registrant's Registration Statement on Form S-2 (No. 33-00071), filed on September 4, 1985. + Management contract or compensatory plan or arrangement.