-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, DvLC1PnXf3vzQQBnKjTNQt2sxyeLyCeQpbOoe9R2plIoG0IP3I2qj/vwkGv8q62X FdBVJjqYovG2mZbyXFtbXw== 0000893220-02-000993.txt : 20020813 0000893220-02-000993.hdr.sgml : 20020813 20020813141034 ACCESSION NUMBER: 0000893220-02-000993 CONFORMED SUBMISSION TYPE: 10-Q PUBLIC DOCUMENT COUNT: 4 CONFORMED PERIOD OF REPORT: 20020630 FILED AS OF DATE: 20020813 FILER: COMPANY DATA: COMPANY CONFORMED NAME: ADVANTA CORP CENTRAL INDEX KEY: 0000096638 STANDARD INDUSTRIAL CLASSIFICATION: PERSONAL CREDIT INSTITUTIONS [6141] IRS NUMBER: 231462070 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-Q SEC ACT: 1934 Act SEC FILE NUMBER: 000-14120 FILM NUMBER: 02729073 BUSINESS ADDRESS: STREET 1: P.O. BOX 844 STREET 2: WELSH & MCKEAN ROADS CITY: SPRING HOUSE STATE: PA ZIP: 19477 BUSINESS PHONE: 2154445051 MAIL ADDRESS: STREET 1: C/O WELSH & MCKEAN ROADS STREET 2: P.O. BOX 844 CITY: SPRING HOUSE STATE: PA ZIP: 19477-0844 FORMER COMPANY: FORMER CONFORMED NAME: TEACHERS SERVICE ORGANIZATION INC DATE OF NAME CHANGE: 19850812 FORMER COMPANY: FORMER CONFORMED NAME: TSO FINANCIAL CORP DATE OF NAME CHANGE: 19880306 10-Q 1 w63010e10vq.txt FORM 10-Q FOR THE QUARTER ENDED JUNE 30, 2002 Form 10-Q SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 |X| Quarterly report pursuant to section 13 or 15(d) of the Securities Exchange Act of 1934 for the quarterly period ended June 30, 2002 or |_| Transition report pursuant to section 13 or 15(d) of the Securities Exchange Act of 1934 for the transition period from ______ to _______ Commission File Number 0-14120 Advanta Corp. (Exact name of registrant as specified in its charter) Delaware 23-1462070 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.) Welsh and McKean Roads, P.O. Box 844, Spring House, PA 19477 (Address of Principal Executive Offices) (Zip Code) (215) 657-4000 (Registrant's telephone number, including area code) Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes |X| No |_| Applicable only to issuers involved in bankruptcy proceedings during the preceding five years: Indicate by check mark whether the registrant has filed all documents and reports required to be filed by Sections 12, 13 or 15(d) of the Securities Exchange Act of 1934 subsequent to the distribution of securities under a plan confirmed by a court. Yes |_| No |_| Applicable only to corporate issuers: Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date. Class A Outstanding at August 5, 2002 Common Stock, $.01 par value 10,041,017 shares Class B Outstanding at August 5, 2002 Common Stock, $.01 par value 18,449,568 shares 1 TABLE OF CONTENTS
PAGE PART I - FINANCIAL INFORMATION Item 1. Financial Statements Consolidated Balance Sheets (Unaudited) 3 Consolidated Income Statements (Unaudited) 4 Consolidated Statements of Changes in Stockholders' Equity (Unaudited) 5-6 Consolidated Statements of Cash Flows (Unaudited) 7 Notes to Consolidated Financial Statements (Unaudited) 8 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 22 Item 3. Quantitative and Qualitative Disclosures About Market Risk 38 PART II - OTHER INFORMATION Item 1. Legal Proceedings 39 Item 4. Submission of Matters to a Vote of Security Holders 41 Item 6. Exhibits and Reports on Form 8-K 42
2 ITEM 1. FINANCIAL STATEMENTS ADVANTA CORP. AND SUBSIDIARIES CONSOLIDATED BALANCE SHEETS (UNAUDITED)
(IN THOUSANDS, EXCEPT SHARE DATA) JUNE 30, DECEMBER 31, 2002 2001 ----------- ----------- ASSETS Cash $ 10,750 $ 20,952 Federal funds sold 221,695 229,889 Restricted interest-bearing deposits 79,126 113,956 Investments available for sale 203,430 246,679 Receivables, net: Held for sale 218,603 202,612 Other 229,880 220,795 ----------- ----------- Total receivables, net 448,483 423,407 Retained interests in securitizations 88,658 88,658 Amounts due from securitizations 82,013 80,325 Premises and equipment, net 25,222 25,722 Other assets 258,262 264,689 Net assets of discontinued operations 147,184 142,403 ----------- ----------- TOTAL ASSETS $ 1,564,823 $ 1,636,680 ----------- ----------- LIABILITIES Deposits: Noninterest-bearing $ 5,367 $ 6,500 Interest-bearing 609,016 630,415 ----------- ----------- Total deposits 614,383 636,915 Debt 301,386 323,582 Other borrowings 0 32,317 Other liabilities 186,254 177,567 ----------- ----------- TOTAL LIABILITIES 1,102,023 1,170,381 ----------- ----------- 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 2002 and 2001 1,010 1,010 Class A voting common stock, $.01 par value: authorized - 200,000,000 shares; issued - 10,041,017 shares in 2002 and 2001 100 100 Class B non-voting common stock, $.01 par value: authorized - 200,000,000 shares; issued - 20,249,454 shares in 2002 and 17,939,639 shares in 2001 203 179 Additional paid-in capital 242,934 223,362 Deferred compensation (17,623) (64) Unearned ESOP shares (11,053) (11,295) Accumulated other comprehensive income 555 1,259 Retained earnings 178,051 179,370 Less: Treasury stock at cost, 1,728,253 Class B common shares in 2002 and 1,348,079 Class B common shares in 2001 (31,377) (27,622) ----------- ----------- TOTAL STOCKHOLDERS' EQUITY 362,800 366,299 ----------- ----------- TOTAL LIABILITIES AND STOCKHOLDERS' EQUITY $ 1,564,823 $ 1,636,680 ----------- -----------
See Notes to Consolidated Financial Statements 3 ADVANTA CORP. AND SUBSIDIARIES CONSOLIDATED INCOME STATEMENTS (UNAUDITED)
(IN THOUSANDS, EXCEPT PER SHARE DATA) THREE MONTHS ENDED SIX MONTHS ENDED JUNE 30, JUNE 30, -------------------- ---------------------- 2002 2001 2002 2001 -------- -------- --------- --------- Interest income: Receivables $ 21,007 $ 19,259 $ 41,483 $ 37,762 Investments 2,576 13,577 5,846 29,078 Other interest income 2,652 2,577 5,312 4,764 -------- -------- --------- --------- Total interest income 26,235 35,413 52,641 71,604 Interest expense: Deposits 6,023 14,935 12,288 27,593 Debt 6,346 11,184 13,132 21,967 Other borrowings 0 0 59 835 -------- -------- --------- --------- Total interest expense 12,369 26,119 25,479 50,395 -------- -------- --------- --------- Net interest income 13,866 9,294 27,162 21,209 Provision for credit losses 11,341 8,384 22,041 16,324 -------- -------- --------- --------- NET INTEREST INCOME AFTER PROVISION FOR CREDIT LOSSES 2,525 910 5,121 4,885 NONINTEREST REVENUES: Securitization income 30,023 24,349 59,670 45,610 Interchange income 22,737 20,586 42,930 38,208 Servicing revenues 8,143 6,909 16,085 13,561 Other revenues, net 262 (8,591) (2,053) (26,314) -------- -------- --------- --------- TOTAL NONINTEREST REVENUES 61,165 43,253 116,632 71,065 -------- -------- --------- --------- EXPENSES: Operating expenses 49,887 44,116 98,845 87,169 Minority interest in income of consolidated subsidiary 2,220 2,220 4,440 4,440 Unusual charges 0 1,000 0 41,750 -------- -------- --------- --------- TOTAL EXPENSES 52,107 47,336 103,285 133,359 -------- -------- --------- --------- Income (loss) before income taxes 11,583 (3,173) 18,468 (57,409) Income tax expense (benefit) 4,459 0 7,110 (16,880) -------- -------- --------- --------- INCOME (LOSS) FROM CONTINUING OPERATIONS 7,124 (3,173) 11,358 (40,529) 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 (8,610) (4,000) (8,610) 12,361 -------- -------- --------- --------- NET INCOME (LOSS) $ (1,486) $ (7,173) $ 2,748 $ (36,606) -------- -------- --------- --------- Basic income (loss) from continuing operations per common share Class A $ 0.27 $ (0.13) $ 0.41 $ (1.61) Class B 0.29 (0.12) 0.46 (1.58) Combined 0.28 (0.12) 0.44 (1.59) Diluted income (loss) from continuing operations per common share Class A $ 0.26 $ (0.13) $ 0.40 $ (1.61) Class B 0.27 (0.12) 0.44 (1.58) Combined 0.27 (0.12) 0.42 (1.59) Basic net income (loss) per common share Class A $ (0.07) $ (0.29) $ 0.07 $ (1.46) Class B (0.05) (0.27) 0.12 (1.43) Combined (0.06) (0.28) 0.10 (1.44) Diluted net income (loss) per common share Class A $ (0.06) $ (0.29) $ 0.08 $ (1.46) Class B (0.05) (0.27) 0.11 (1.43) Combined (0.06) (0.28) 0.10 (1.44) Basic weighted average common shares outstanding Class A 9,144 9,098 9,138 9,082 Class B 16,176 16,744 16,239 16,473 Combined 25,320 25,842 25,377 25,555 Diluted weighted average common shares outstanding Class A 9,150 9,098 9,144 9,082 Class B 17,640 16,744 17,312 16,473 Combined 26,790 25,842 26,456 25,555
See Notes to Consolidated Financial Statements 4 ADVANTA CORP. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY (UNAUDITED) ($ IN THOUSANDS)
CLASS A CLASS A CLASS B ADDITIONAL COMPREHENSIVE PREFERRED COMMON COMMON PAID-IN INCOME (LOSS) STOCK STOCK STOCK CAPITAL ------ ---- ---- -------- BALANCE AT DECEMBER 31, 2000 $1,010 $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 DECEMBER 31, 2001 $1,010 $100 $179 $223,362 ------ ---- ---- -------- Net income (loss) $2,748 Other comprehensive income (loss): Change in unrealized appreciation (depreciation) of investments, net of tax benefit (expense) of $379 (704) ------- Comprehensive income (loss) $2,044 ====== Preferred and common cash dividends declared Exercise of stock options 1 350 Stock option exchange program stock distribution Issuance of restricted stock 24 19,342 Amortization of deferred compensation Retirement of restricted stock (1) (105) Stock buyback ESOP shares committed to be released (15) ------ ---- ---- -------- BALANCE AT JUNE 30, 2002 $1,010 $100 $203 $242,934 ------ ---- ---- --------
See Notes to Consolidated Financial Statements 5 ($ IN THOUSANDS)
DEFERRED ACCUMULATED COMPENSATION OTHER TOTAL & UNEARNED COMPREHENSIVE RETAINED TREASURY STOCKHOLDERS' ESOP SHARES INCOME (LOSS) EARNINGS STOCK EQUITY -------- ------- -------- -------- -------- BALANCE AT DECEMBER 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 DECEMBER 31, 2001 $(11,359) $ 1,259 $179,370 $(27,622) $366,299 -------- ------- -------- -------- -------- Net income (loss) 2,748 2,748 Other comprehensive income (loss): Change in unrealized appreciation (depreciation) of investments, net of tax benefit (expense) of $379 (704) (704) Comprehensive income (loss) Preferred and common cash dividends declared (4,067) (4,067) Exercise of stock options 351 Stock option exchange program stock distribution 542 542 Issuance of restricted stock (19,366) 0 Amortization of deferred compensation 1,807 1,807 Retirement of restricted stock (106) Stock buyback (4,297) (4,297) ESOP shares committed to be released 242 227 -------- ------- -------- -------- -------- BALANCE AT JUNE 30, 2002 $(28,676) $ 555 $178,051 $(31,377) $362,800 -------- ------- -------- -------- --------
See Notes to Consolidated Financial Statements 6 ADVANTA CORP. AND SUBSIDIARIES CONSOLIDATED STATEMENTS OF CASH FLOWS (UNAUDITED)
SIX MONTHS ENDED ($ IN THOUSANDS) JUNE 30, ------------------------ 2002 2001 --------- ----------- OPERATING ACTIVITIES - CONTINUING OPERATIONS Net income (loss) $ 2,748 $ (36,606) Adjustments to reconcile net income (loss) to net cash provided by (used in) operating activities: Loss from discontinued operations, net of tax 0 8,438 (Gain) loss, net, on discontinuance of mortgage and leasing businesses, net of tax 8,610 (12,361) Investment securities losses 2,093 14,316 Loss on sale of deposits 0 2,835 Depreciation 4,684 5,198 Provision for credit losses 22,041 16,324 Change in deferred origination costs, net of deferred fees (1,435) (4,950) Change in receivables held for sale (130,991) (197,033) Proceeds from sale of receivables held for sale 115,000 197,549 Change in amounts due from securitizations, other assets and other liabilities 16,263 (4,344) Change in retained interests in securitizations 0 (15,750) --------- ----------- Net cash provided by (used in) operating activities 39,013 (26,384) --------- ----------- INVESTING ACTIVITIES - CONTINUING OPERATIONS Change in federal funds sold and restricted interest- bearing deposits 43,024 (443,290) Purchase of investments available for sale (191,490) (1,001,643) Proceeds from sales of investments available for sale 162,337 844,566 Proceeds from maturing investments available for sale 69,226 749,182 Change in receivables not held for sale (29,691) (35,579) Purchases of premises and equipment, net (4,184) (3,843) --------- ----------- Net cash provided by investing activities 49,222 109,393 --------- ----------- FINANCING ACTIVITIES - CONTINUING OPERATIONS Change in demand and savings deposits (3,434) (11,311) Proceeds from issuance of time deposits 153,936 376,747 Payments for maturing time deposits (178,723) (676,153) Payment for sale of deposits and related accrued interest 0 (392,511) Proceeds from issuance of debt 55,955 116,259 Payments on redemption of debt (88,010) (470,109) Change in other borrowings (32,317) (4,289) Proceeds from exercise of stock options 351 2,432 Stock buyback (4,297) 0 Cash dividends paid (4,067) (3,882) --------- ----------- Net cash used in financing activities (100,606) (1,062,817) --------- ----------- DISCONTINUED OPERATIONS Proceeds from the exit of our mortgage business 0 1,093,975 Other cash provided by (used in) operating activities 2,169 (91,734) --------- ----------- Net cash provided by operating activities of discontinued operations 2,169 1,002,241 --------- ----------- Net increase (decrease) in cash (10,202) 22,433 Cash at beginning of period 20,952 1,716 --------- ----------- Cash at end of period $ 10,750 $ 24,149 --------- -----------
See Notes to Consolidated Financial Statements 7 ADVANTA CORP. AND SUBSIDIARIES NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (IN THOUSANDS EXCEPT PER SHARE DATA, UNLESS OTHERWISE NOTED) JUNE 30, 2002 (UNAUDITED) In these notes to consolidated financial statements, "we", "us", and "our" refer to Advanta Corp. and its subsidiaries, unless the context otherwise requires. NOTE 1) BASIS OF PRESENTATION Advanta Corp. (collectively with its subsidiaries, "Advanta") has prepared the consolidated financial statements included herein pursuant to the rules and regulations of the Securities and Exchange Commission. We have condensed or omitted certain information and footnote disclosures normally included in consolidated financial statements prepared in accordance with accounting principles generally accepted in the United States pursuant to such rules and regulations. In the opinion of management, the statements include all adjustments (which include normal recurring adjustments) required for a fair statement of financial position, results of operations and cash flows for the interim periods presented. These financial statements should be read in conjunction with the financial statements and notes thereto included in our latest annual report on Form 10-K. The results of operations for the interim periods are not necessarily indicative of the results for the full year. The preparation of financial statements in accordance with generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the financial statements and the reported amounts of revenues and expenses during the reporting periods. Estimates are used when accounting for securitization income, retained interests in securitizations, the allowance for credit losses, the fair value of venture capital investments, litigation, income taxes and discontinued operations, among others. Actual results could differ from those estimates. Certain prior period balances have been reclassified to conform to the current period presentation. NOTE 2) RESTRICTED INTEREST-BEARING DEPOSITS AND INVESTMENTS AVAILABLE FOR SALE Restricted interest-bearing deposits include amounts held in escrow in connection with our litigation with Fleet Financial Group ("Fleet") of $72.8 million at June 30, 2002 and $72.0 million at December 31, 2001. Restricted interest-bearing deposits also include amounts held in escrow in connection with other litigation-related contingencies of $3.1 million at June 30, 2002 and $36.1 million at December 31, 2001. 8 Investments available for sale consisted of the following:
JUNE 30, 2002 DECEMBER 31, 2001 --------------------------- --------------------------- AMORTIZED MARKET AMORTIZED MARKET COST VALUE COST VALUE --------- -------- --------- -------- U.S. Treasury & other U.S. Government securities $ 27,909 $ 28,144 $ 85,064 $ 86,202 State and municipal securities 3,032 3,132 3,889 4,005 Collateralized mortgage obligations 12,041 12,392 20,909 21,318 Mortgage-backed securities 6,772 6,940 9,961 10,235 Equity securities(1) 21,556 21,556 26,621 26,621 Other 131,266 131,266 98,299 98,298 -------- -------- -------- -------- Total investments available for sale $202,576 $203,430 $244,743 $246,679 ======== ======== ======== ========
(1) Includes venture capital investments of $17.1 million at June 30, 2002 and $18.6 million at December 31, 2001. The amount shown as amortized cost represents fair value for these investments. NOTE 3) RECEIVABLES Receivables on the balance sheet, including those held for sale, consisted of the following:
JUNE 30, DECEMBER 31, 2002 2001 ----------- ----------- Business credit card receivables $ 443,377 $ 416,265 Other receivables 27,753 28,189 ----------- ----------- Gross receivables 471,130 444,454 ----------- ----------- Add: Deferred origination costs, net of deferred fees 22,359 20,924 Less: Allowance for credit losses Business credit cards (43,777) (41,169) Other receivables (1,229) (802) ----------- ----------- Total allowance (45,006) (41,971) ----------- ----------- Receivables, net $ 448,483 $ 423,407 =========== ===========
Gross managed receivables (owned receivables and securitized receivables) and managed credit quality data were as follows:
JUNE 30, DECEMBER 31, 2002 2001 ----------- ----------- Owned business credit card receivables $ 443,377 $ 416,265 Owned other receivables 27,753 28,189 Securitized business credit card receivables 1,744,669 1,626,709 ----------- ----------- Total managed receivables 2,215,799 2,071,163 ----------- ----------- Nonperforming assets - managed 105,088 81,666 Receivables 90 days or more delinquent - managed 74,203 67,465 Receivables 30 days or more delinquent - managed 145,711 137,517 Net charge-offs year-to-date - managed 95,769 143,593
9 NOTE 4) ALLOWANCE FOR CREDIT LOSSES The following table presents activity in the allowance for credit losses for the periods presented:
SIX MONTHS ENDED JUNE 30, ---------------------------- 2002 2001 -------- -------- Beginning balance $ 41,971 $ 33,367 Provision for credit losses 22,041 16,324 Gross charge-offs (21,201) (14,374) Recoveries 2,195 2,251 -------- -------- Net charge-offs (19,006) (12,123) -------- -------- Ending balance $ 45,006 $ 37,568 ======== ========
NOTE 5) SECURITIZATION ACTIVITIES The following represents business credit card securitization data for the three and six months ended June 30, 2002 and 2001, 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.
THREE MONTHS ENDED SIX MONTHS ENDED ------------------------------- -------------------------------- JUNE 30, JUNE 30, JUNE 30, JUNE 30, 2002 2001 2002 2001 ---------- ---------- ---------- ---------- Average securitized receivables $1,638,410 $1,476,660 $1,627,096 $1,399,267 Securitization income 30,023 24,349 59,670 45,610 Interchange income 17,215 15,740 32,870 28,864 Servicing revenues 8,143 6,909 16,085 13,561 Proceeds from new securitizations 110,000 97,549 115,000 197,549 Proceeds from collections reinvested in revolving-period securitizations 915,671 805,607 1,819,439 1,523,245 Cash flows received on retained interests 48,611 39,582 100,005 78,332 KEY ASSUMPTIONS: Discount rate 9.0% - 15.0% 12.0% - 15.0% 9.0% - 15.0% 12.0% - 15.0% Monthly payment rate 18.2% - 21.0% 17.9% - 21.0% 18.2% - 21.0% 10.8% - 21.0% Loss rate 9.6% - 12.8% 7.8% - 9.5% 9.6% - 12.8% 7.8% - 9.5% Finance charge yield, net of interest paid to note holders 14.9% - 15.9% 12.1% - 13.2% 14.9% - 15.9% 10.8% - 13.2%
There were no purchases of delinquent accounts during the three or six months ended June 30, 2002 or 2001. 10 The following assumptions were used in measuring the fair value of retained interests in business credit card securitizations at June 30, 2002 and December 31, 2001. The assumptions listed represent weighted averages of assumptions used for each securitization.
JUNE 30, DECEMBER 31, 2002 2001 Discount rate 9.0% - 14.3% 12.0% - 15.0% Monthly payment rate 18.2% - 21.0% 18.2% - 21.0% Loss rate 9.6% - 11.5% 10.4% - 12.4% Finance charge yield, net of interest paid to note holders 14.9% 15.8%
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. 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 June 30, 2002. Fair value at June 30, 2002 $ 88,658 Effect on fair value of the following hypothetical changes in key assumptions: Discount rate increased by 2% $ (905) Discount rate increased by 4% (1,800) Monthly payment rate at 110% of base assumption (1,016) Monthly payment rate at 125% of base assumption (2,897) Loss rate at 110% of base assumption (4,615) Loss rate at 125% of base assumption (11,537) Finance charge yield, net of interest paid to note holders, decreased by 1% (4,832) Finance charge yield, net of interest paid to note holders, decreased by 2% (9,664)
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 value the retained interests at each reporting date. 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. 11 NOTE 6) SELECTED BALANCE SHEET INFORMATION
JUNE 30, DECEMBER 31, OTHER ASSETS 2002 2001 Current and deferred income taxes, net $ 94,893 $ 94,922 Amounts due from transfer of consumer credit card business 70,545 70,545 Cash surrender value of insurance contracts 23,370 26,065 Investment in Fleet Credit Card LLC 20,000 20,000 Other 49,454 53,157 -------- -------- Total other assets $258,262 $264,689 ======== ========
JUNE 30, DECEMBER 31, OTHER LIABILITIES 2002 2001 Accounts payable and accrued expenses $ 49,460 $ 43,554 Accrued interest payable 12,877 9,095 Business credit card rewards 12,653 10,389 Other 111,264 114,529 -------- -------- Total other liabilities $186,254 $177,567 ======== ========
NOTE 7) CAPITAL STOCK In 2001, the Board of Directors of Advanta Corp. 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. In August 2002, the Board of Directors authorized the purchase of up to an additional 1.5 million shares of Advanta Corp. common stock, bringing the total authorization to up to 3.0 million shares. During the year ended December 31, 2001, we repurchased 693,300 shares of our Class B Common Stock. In the six months ended June 30, 2002 we repurchased 386,900 shares of our Class B Common Stock. Our management incentive programs give eligible employees 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. Class B Common Stock. In the six months ended June 30, 2002, 2.4 million restricted shares were issued in connection with the current program covering the performance years 2002-2005. Cash dividends per share of common stock declared during the three months ended June 30, 2002 and 2001 were $0.063 for Class A Common Stock and $0.076 for Class B Common Stock. Cash dividends per share of common stock declared during the six months ended June 30, 2002 and 2001 were $0.126 for Class A Common Stock and $0.151 for Class B Common Stock. 12 NOTE 8) SEGMENT INFORMATION
ADVANTA BUSINESS VENTURE CARDS CAPITAL OTHER (1) TOTAL THREE MONTHS ENDED JUNE 30, 2002 Interest income $ 23,358 $ 0 $ 2,877 $ 26,235 Interest expense 8,775 181 3,413 12,369 Noninterest revenues (losses), net 61,087 (31) 109 61,165 Pretax income (loss) from continuing operations 14,562 (779) (2,200) 11,583 Average managed receivables 2,110,420 0 28,483 2,138,903 Total assets 625,633 18,129 921,061 1,564,823 ---------- -------- ----------- ----------- THREE MONTHS ENDED JUNE 30, 2001 Interest income $ 21,690 $ 2 $ 13,721 $ 35,413 Interest expense 7,998 421 17,700 26,119 Noninterest revenues (losses), net 51,021 (5,607) (2,161) 43,253 Unusual charges 0 0 1,000 1,000 Pretax income (loss) from continuing operations 14,243 (6,551) (10,865) (3,173) Average managed receivables 1,848,424 0 28,184 1,876,608 Total assets 545,015 30,447 1,196,864 1,772,326 ---------- -------- ----------- ----------- SIX MONTHS ENDED JUNE 30, 2002 Interest income $ 46,136 $ 2 $ 6,503 $ 52,641 Interest expense 17,546 386 7,547 25,479 Noninterest revenues (losses), net 119,226 (2,610) 16 116,632 Pretax income (loss) from continuing operations 28,306 (4,214) (5,624) 18,468 Average managed receivables 2,062,030 0 28,338 2,090,368 ---------- -------- ----------- ----------- SIX MONTHS ENDED JUNE 30, 2001 Interest income $ 42,370 $ 33 $ 29,201 $ 71,604 Interest expense 15,218 839 34,338 50,395 Noninterest revenues (losses), net 96,010 (16,962) (7,983) 71,065 Unusual charges 0 0 41,750 41,750 Pretax income (loss) from continuing operations 27,691 (19,266) (65,834) (57,409) Average managed receivables 1,770,385 0 28,364 1,798,749 ---------- -------- ----------- -----------
(1) Other includes insurance operations and assets, investment and other activities not attributable to reportable segments. Total assets in the "Other" segment include net assets of discontinued operations. 13 NOTE 9) 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. Costs associated with this restructuring activity and other employee costs are included in unusual charges in the consolidated income statements. Accruals related to these costs are included in other liabilities in the consolidated balance sheets. The details of these costs are as follows:
CHARGED DEC. 31, CHARGED JUNE 30, ACCRUED IN TO ACCRUAL 2001 TO ACCRUAL 2002 2001 IN 2001 ACCRUAL BALANCE IN 2002 ACCRUAL BALANCE Employee costs $27,296 $24,768 $2,528 $1,954 $574 Expenses associated with exited businesses/products 11,895 11,266 629 335 294 Asset impairments 2,559 2,559 0 0 0 ------- ------- ------ ------ ---- Total $41,750 $38,593 $3,157 $2,289 $868 ======= ======= ====== ====== ====
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 severance amounts were payable over a 12-month period following the employee's termination date. These payments will be completed in the third quarter of 2002. 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 were 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 14 in the three months ended September 30, 2001, as actual noncash charges associated with the tender offer were more than estimated. 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 the third quarter of 2002. In 1998, in connection with the transfer of our consumer credit card business to Fleet Credit Card LLC (the "Consumer Credit Card Transaction"), 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 Consumer Credit Card Transaction, and (b) associated with the business and products no longer being offered or not directly associated with our mortgage, business credit card and leasing units. As of December 31, 2000, the remaining accrual related to charges associated with these organizational changes was $13.0 million. This accrual related to 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. 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. NOTE 10) 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"). Loss from discontinued operations, net of tax, for the period from January 1, 2001 through February 28, 2001, the effective date of the Mortgage Transaction, was $8.4 million. 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. 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. We are continuing to service the existing leasing portfolio rather than sell the business or the portfolio. 15 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. Estimates are used in the accounting for discontinued operations, including estimates of the future costs of mortgage business-related litigation and estimates of operating results through the remaining term of the leasing portfolio. 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. The following tables summarize the components of the gain (loss) on discontinuance of our mortgage and leasing businesses for the three and six months ended June 30, 2002 and 2001:
THREE MONTHS ENDED ------------------ JUNE 30, 2002 JUNE 30, 2001 ------------- ------------- ADVANTA LEASING ADVANTA LEASING ADVANTA MORTGAGE SERVICES ADVANTA MORTGAGE SERVICES ---------------- --------------- ---------------- --------------- Pretax gain (loss) on discontinuance of mortgage and leasing businesses $(25,300) $11,300 $(2,000) $(2,000) Income tax (expense) benefit 9,740 (4,350) 0 0 -------- ------- ------- ------- Gain (loss) on discontinuance of mortgage and leasing businesses, net of tax $(15,560) $ 6,950 $(2,000) $(2,000) ======== ======= ======= =======
SIX MONTHS ENDED ---------------- JUNE 30, 2002 JUNE 30, 2001 ------------- ------------- ADVANTA LEASING ADVANTA LEASING ADVANTA MORTGAGE SERVICES ADVANTA MORTGAGE SERVICES ---------------- --------------- ---------------- --------------- Pretax gain (loss) on discontinuance of mortgage and leasing businesses $(25,300) $11,300 $25,753 $(6,000) Income tax (expense) benefit 9,740 (4,350) (8,637) 1,245 -------- ------- ------- ------- Gain (loss) on discontinuance of mortgage and leasing businesses, net of tax $(15,560) $ 6,950 $17,116 $(4,755) ======== ======= ======= =======
The proceeds from the Mortgage Transaction exceeded $1 billion, subject to closing adjustments, resulting in an estimated pretax gain in the year ended December 31, 2001 of $20.8 million after transaction expenses, severance expenses and other costs. The gain does not reflect any impact from the post-closing adjustment process. See Note 12 to the consolidated financial statements for a discussion of litigation related to the Mortgage Transaction. The pretax gain of $20.8 million in the year ended December 31, 2001 included a $2.0 million increase in our estimate of transaction expenses in the three months ended June 30, 2001, and a $5.0 million increase in the estimated future costs of mortgage business-related litigation in the three months ended September 30, 2001. In the three months ended June 30, 2002, we increased our estimate of other costs related to the exit of our mortgage business by $25.3 million, comprised of $7.5 million for a litigation settlement in July 2002 related to a mortgage loan servicing agreement termination fee collected in December 2000, and $17.8 million primarily related to an increase in our estimated future costs of mortgage business-related contingent liabilities. 16 The $17.8 million relates primarily to an increase in our estimated future costs of mortgage business-related contingent liabilities in connection with (a) contingent liabilities and litigation costs arising from the operation of the mortgage business prior to the Mortgage Transaction that were not assumed by the buyer, and (b) costs related to Advanta's litigation with Chase Manhattan Mortgage Corporation in connection with the Mortgage Transaction. The change in estimate reflects the legal and consulting fees and other costs that we expect to incur based on current levels of contingent liabilities and expense rates, and considers the status of the discovery process associated with the Mortgage Transaction litigation. 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. In the year ended December 31, 2001, we recorded an additional $45.0 million pretax loss due to a change in estimate of those operating results based on credit loss experience in 2001. As of June 30, 2001, we had revised our estimate of the loss by $6.0 million. A principal factor contributing to the increased credit losses was that one of our former leasing vendors had filed for bankruptcy protection and this vendor's financial problems were impacting its ability to service the leased equipment in a segment of our leasing portfolio. In the three months ended June 30, 2002, we recorded an $11.3 million pretax gain on leasing discontinuance representing a revision in the estimated operating results of the leasing segment over the remaining life of the lease portfolio due primarily to favorable credit performance. The leasing portfolio performed favorably as compared to the expectations and assumptions established in 2001. This improvement was the result of successfully obtaining a replacement vendor to service leased equipment for the former leasing vendor that had filed for bankruptcy protection, as described above, and operational improvements in the leasing collections area. Per share data was as follows:
THREE MONTHS ENDED JUNE 30, SIX MONTHS ENDED JUNE 30, ------------------------------------------- ------------------------------------------- ADVANTA MORTGAGE ADVANTA LEASING ADVANTA MORTGAGE ADVANTA LEASING SERVICES SERVICES ---------------- --------------- ---------------- ---------------- 2002 2001 2002 2001 2002 2001 2002 2001 ---- ---- ---- ---- ---- ---- ---- ---- Basic loss from discontinued operations per common share Class A $ 0.00 $ 0.00 $ 0.00 $ 0.00 $ 0.00 $(0.33) $ 0.00 $ 0.00 Class B 0.00 0.00 0.00 0.00 0.00 (0.33) 0.00 0.00 Combined 0.00 0.00 0.00 0.00 0.00 (0.33) 0.00 0.00 Diluted loss from discontinued operations per common share Class A $ 0.00 $ 0.00 $ 0.00 $ 0.00 $ 0.00 $(0.33) $ 0.00 $ 0.00 Class B 0.00 0.00 0.00 0.00 0.00 (0.33) 0.00 0.00 Combined 0.00 0.00 0.00 0.00 0.00 (0.33) 0.00 0.00 Basic gain (loss), net, on discontinuance of mortgage and leasing businesses, net of tax, per common share Class A $(0.61) $(0.08) $ 0.27 $(0.08) $(0.61) $ 0.67 $ 0.27 $(0.19) Class B (0.61) (0.08) 0.27 (0.08) (0.61) 0.67 0.27 (0.19) Combined (0.61) (0.08) 0.27 (0.08) (0.61) 0.67 0.27 (0.19) Diluted gain (loss), net, on discontinuance of mortgage and leasing businesses, net of tax, per common share Class A $(0.58) $(0.08) $ 0.26 $(0.08) $(0.59) $ 0.67 $ 0.26 $(0.19) Class B (0.58) (0.08) 0.26 (0.08) (0.59) 0.67 0.26 (0.19) Combined (0.58) (0.08) 0.26 (0.08) (0.59) 0.67 0.26 (0.19)
17 The components of net assets of discontinued operations were as follows:
JUNE 30, DECEMBER 31, 2002 2001 Loans and leases, net $ 41,877 $ 52,739 Other assets 114,180 100,061 Liabilities (8,873) (10,397) --------- --------- Net assets of discontinued operations $ 147,184 $ 142,403 ========= =========
As discussed above, we are continuing to service the existing lease portfolio. At June 30, 2002, there were $249 million of securitized leases outstanding, and we had retained interests in leasing securitizations of $66 million. At December 31, 2001, there were $365 million of securitized leases outstanding, and we had retained interests in leasing securitizations of $44 million. The retained interests in leasing securitizations are included in net assets of discontinued operations in the consolidated balance sheets. At June 30, 2002, 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 5.0% to 5.4% and a weighted average life of 1.0 year. 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. 18 NOTE 11) EARNINGS (LOSS) PER SHARE The following table presents the calculation of basic earnings (loss) per common share and diluted earnings (loss) per common share.
THREE MONTHS ENDED SIX MONTHS ENDED JUNE 30, JUNE 30, ----------------------- ----------------------- 2002 2001 2002 2001 -------- -------- -------- -------- Income (loss) from continuing operations $ 7,124 $ (3,173) $ 11,358 $(40,529) Less: Preferred A dividends 0 0 (141) (141) Income (loss) from continuing operations available to common shareholders 7,124 (3,173) 11,217 (40,670) 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 (8,610) (4,000) (8,610) 12,361 -------- -------- -------- -------- Net income (loss) available to common shareholders (1,486) (7,173) 2,607 (36,747) Less: Class A dividends declared (576) (574) (1,150) (1,146) Less: Class B dividends declared (1,295) (1,302) (2,775) (2,595) -------- -------- -------- -------- Undistributed net income (loss) $ (3,357) $ (9,049) $ (1,318) $(40,488) Basic income (loss) from continuing operations per common share Class A $ 0.27 $ (0.13) $ 0.41 $ (1.61) Class B 0.29 (0.12) 0.46 (1.58) Combined(1) 0.28 (0.12) 0.44 (1.59) Diluted income (loss) from continuing operations per common share Class A $ 0.26 $ (0.13) $ 0.40 $ (1.61) Class B 0.27 (0.12) 0.44 (1.58) Combined(1) 0.27 (0.12) 0.42 (1.59) Basic net income (loss) per common share Class A $ (0.07) $ (0.29) $ 0.07 $ (1.46) Class B (0.05) (0.27) 0.12 (1.43) Combined(1) (0.06) (0.28) 0.10 (1.44) Diluted net income (loss) per common share Class A $ (0.06) $ (0.29) $ 0.08 $ (1.46) Class B (0.05) (0.27) 0.11 (1.43) Combined(1) (0.06) (0.28) 0.10 (1.44) Basic weighted average common shares outstanding Class A 9,144 9,098 9,138 9,082 Class B 16,176 16,744 16,239 16,473 Combined 25,320 25,842 25,377 25,555 Options Class B 828 0 588 0 Restricted shares Class A 6 0 6 0 Restricted shares Class B 636 0 485 0 Diluted weighted average common shares outstanding Class A 9,150 9,098 9,144 9,082 Class B 17,640 16,744 17,312 16,473 Combined 26,790 25,842 26,456 25,555 Antidilutive shares Options Class B 1,133 2,663 1,360 2,755 Restricted shares Class A 5 24 6 36 Restricted shares Class B 1,708 513 1,843 712
(1) Combined represents a weighted average of Class A and Class B earnings (loss) per common share. 19 NOTE 12) 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 Consumer Credit Card Transaction in 1998. 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. Post-trial briefing is complete and on April 10, 2002, the Court heard oral argument. 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. Our litigation reserves are included in other liabilities on the consolidated balance sheets. 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. The plaintiff filed a cross-appeal from the order adverse to him. On July 8, 2002, the Court of Appeals issued a Judgment and Opinion affirming in part and reversing in part the District Court judgment. The Court of Appeals affirmed the judgment on liability but determined that the jury award of damages was excessive. The Court of Appeals reduced the jury verdict by $1.1 million and also ordered the District Court to recalculate liquidated damages based on the reduced award. Other operating expenses in the three months ended June 30, 2002 include a $1.1 million decrease in litigation reserves resulting from this reduced jury verdict. On July 22, 2002, Advanta filed a motion for rehearing and/or rehearing en banc asserting that a new trial was required to remedy the error found by the Court of Appeals. The motion was denied by Order dated August 8, 2002, and Advanta is now considering further appellate review. 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. 20 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 alleged, 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. While the motions were pending, the parties pursued settlement discussions, and on July 29, 2002, a settlement was reached. In connection with this settlement, Advanta recorded a $7.5 million pretax charge, representing the amount of the settlement in excess of our reserve. This charge was classified in loss from discontinuance of the mortgage business in the three months ended June 30, 2002. 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 not anticipated before September 2003. We believe that the lawsuit is without merit and will vigorously defend Advanta in this litigation. 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 on 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. 21 ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS In this Form 10-Q, "Advanta", "we", "us", and "our" refer to Advanta Corp. and its subsidiaries, unless the context otherwise requires. OVERVIEW 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 three months ended June 30, 2002, we reported net income from continuing operations of $7.1 million or $0.27 per combined diluted common share, compared to net loss from continuing operations of $3.2 million or $0.12 per combined diluted common share for the same period of 2001. For the six months ended June 30, 2002, we reported net income from continuing operations of $11.4 million or $0.42 per combined diluted common share, compared to net loss from continuing operations of $40.5 million or $1.59 per combined diluted common share for the six months ended June 30, 2001. The net loss from continuing operations for the six months ended June 30, 2001 included pretax unusual charges of $41.8 million, representing costs associated with the restructure of our corporate functions to a size commensurate with our ongoing businesses and certain other unusual charges related to employee costs. Net income (loss) from continuing operations included the following business segment results ($ in thousands):
THREE MONTHS ENDED SIX MONTHS ENDED JUNE 30, JUNE 30, ----------------------- ----------------------- 2002 2001 2002 2001 -------- -------- -------- -------- ADVANTA BUSINESS CARDS Pretax income $ 14,562 $ 14,243 $ 28,306 $ 27,691 Income tax (expense) (5,606) (5,483) (10,898) (10,660) -------- -------- -------- -------- Net income $ 8,956 $ 8,760 $ 17,408 $ 17,031 -------- -------- -------- -------- VENTURE CAPITAL Pretax loss $ (779) $ (6,551) $ (4,214) $(19,266) Income tax benefit 300 2,522 1,623 7,417 -------- -------- -------- -------- Net loss $ (479) $ (4,029) $ (2,591) $(11,849) -------- -------- -------- --------
In the three months ended June 30, 2002, we recorded an after-tax loss on the discontinuance of our mortgage and leasing businesses of $8.6 million, or $0.32 per combined diluted common share. In the six months ended June 30, 2001, we recorded an after-tax gain on the discontinuance of our mortgage and leasing businesses of $12.4 million, or $0.48 per combined diluted common share. Loss from discontinued operations, net of tax, was $8.4 million, or $0.33 per combined diluted share, for the period from January 1, 2001 through February 28, 2001, the effective date of the Mortgage Transaction. 22 This report contains forward-looking statements that are subject to certain risks and uncertainties that could cause actual results to differ materially from those projected. These forward-looking statements can be identified by the use of forward-looking phrases such as "will likely result," "may," "are expected to," "is anticipated," "estimate," "projected," "intends to" or other similar words or phrases. The most significant among these risks and uncertainties are: (1) our managed net interest margin; (2) competitive pressures; (3) political, social and/or general economic conditions that affect the level of new account acquisitions, customer spending, delinquencies and charge-offs; (4) factors affecting fluctuations in the number of accounts or loan balances; (5) interest rate fluctuations; (6) the level of expenses; (7) the timing of the securitizations of our receivables; (8) factors affecting the value of investments that we hold; (9) the effects of government regulation, including restrictions and limitations imposed by banking laws, regulators, examinations, audits, and agreements between our bank subsidiaries and their regulators; (10) relationships with customers, significant vendors and business partners; (11) the amount and cost of financing available to us; (12) the ratings on our debt and the debt of our subsidiaries; (13) revisions to estimates associated with the discontinued operations of our mortgage and leasing businesses; and (14) the impact of litigation. Additional risks that may affect our future performance are set forth elsewhere in this Quarterly Report on Form 10-Q, in our Annual Report on Form 10-K for the year ended December 31, 2001 and in our other filings with the Securities and Exchange Commission. 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 $1.9 billion at June 30, 2001 to $2.0 billion at December 31, 2001 and to $2.2 billion at June 30, 2002. Advanta Business Cards originated 62,258 new accounts in the three months ended June 30, 2002, compared to 66,546 new accounts for the same period of 2001. Originations for the six months ended June 30, 2002 were 104,549 new accounts, compared to 135,317 new accounts for the same period of 2001. The level of originations in the three and six months ended June 30, 2002 reflects our strategic initiative to attract and retain more higher credit quality customers and the competitive market environment. 23 Pretax income for Advanta Business Cards was $14.6 million for the three months ended June 30, 2002 as compared to $14.2 million for the same period of 2001. Pretax income for the six months ended June 30, 2002 was $28.3 million as compared to $27.7 million for the same period of 2001. The components of pretax income for Advanta Business Cards for the three and six months ended June 30, 2002 and 2001 were as follows ($ in thousands):
THREE MONTHS ENDED SIX MONTHS ENDED JUNE 30, JUNE 30, ----------------------- ------------------------ 2002 2001 2002 2001 -------- -------- --------- -------- Net interest income on owned receivables $ 14,583 $ 13,692 $ 28,590 $ 27,152 Noninterest revenues 61,087 51,021 119,226 96,010 Provision for credit losses (11,100) (8,184) (21,600) (16,124) Operating expenses (50,008) (42,286) (97,910) (79,347) -------- -------- --------- -------- Pretax income $ 14,562 $ 14,243 $ 28,306 $ 27,691 -------- -------- --------- --------
The increase in noninterest revenues in both periods is due primarily to growth in managed receivables and increased interchange income. The increase in the provision for credit losses in both periods reflects an increase in average owned business credit cards, the seasoning of the business credit card portfolio and the prevailing economic environment. The increase in operating expenses in both periods resulted from growth in managed receivables and additional investments in initiatives to strengthen our position as a leading issuer of business credit cards to the small business market. The following table provides selected information on a managed portfolio basis.
JUNE 30, MANAGED PORTFOLIO DATA ($ IN THOUSANDS) 2002 2001 ---------- ---------- Average managed business credit card receivables: Three months ended June 30 $2,110,420 $1,848,424 Six months ended June 30 2,062,030 1,770,385 Ending managed business credit card receivables 2,188,046 1,899,304 Ending number of accounts - managed 710,071 658,668 As a percentage of average managed receivables: Net interest margin Three months ended June 30 15.6% 14.3% Six months ended June 30 16.2 14.1 Fee revenues Three months ended June 30 5.9% 5.8% Six months ended June 30 5.6 5.5 Net charge-offs Three months ended June 30 9.0% 7.4% Six months ended June 30 9.3 7.0 Risk-adjusted revenues (1) Three months ended June 30 12.5% 12.7% Six months ended June 30 12.5 12.6 Total receivables 90 days or more delinquent at June 30 3.4% 2.8% Total receivables 30 days or more delinquent at June 30 6.6% 5.8%
(1) Risk-adjusted revenues represent net interest margin and fee revenues, less net charge-offs. 24 SECURITIZATION INCOME Advanta Business Cards recognized securitization income of $30.0 million for the three months ended June 30, 2002 and $59.7 million for the six months ended June 30, 2002. This compares to $24.3 million of securitization income recognized for the three months ended June 30, 2001 and $45.6 million of securitization income recognized for the six months ended June 30, 2001. Advanta Business Cards sells interests in receivables through securitizations. Advanta Business Cards also sells receivables to existing securitization trusts on a continuous basis to replenish the investors' interest in trust receivables that have been repaid by the cardholders. The increases in securitization income in the three and six months ended June 30, 2002 as compared to the same periods of 2001, were due to increased volume of securitized receivables and a decrease in the securitized cost of funds, partially offset by increased credit losses on securitized receivables. INTERCHANGE INCOME Business credit card interchange income on managed business credit card receivables was $22.7 million for the three months ended June 30, 2002 and $42.9 million for the six months ended June 30, 2002. This compares to business credit card interchange income on managed business credit card receivables of $20.6 for the three months ended June 30, 2001 and $38.2 million for the six months ended June 30, 2001. The increase in interchange income 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 2.1% for the three months ended June 30, 2002, compared to 2.2% for the same period of 2001. The average interchange rate was 2.1% for the six months ended June 30, 2002 and 2001. SERVICING REVENUES Advanta Business Cards recognized servicing revenue of $8.1 million for the three months ended June 30, 2002 and $16.1 million for the six months ended June 30, 2002. This compares to servicing revenue of $6.9 million for the three months ended June 30, 2001 and $13.6 million for the six months ended June 30, 2001. The increase in servicing revenue was due to increased volume of securitized receivables. VENTURE CAPITAL Our venture capital segment makes venture capital investments through certain of our affiliates. The investment objective is to earn attractive returns by building the long-term values of the businesses in which we invest. The estimated fair value of our venture capital investments was $17.1 million at June 30, 2002 and $18.6 million at December 31, 2001. 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 fair value 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. Pretax loss for the venture capital segment was $0.8 million for the three months ended June 30, 2002, representing primarily operating expenses of the unit. Pretax loss for the venture capital segment was $6.6 million for the three months ended June 30, 2001, and included $5.6 million of decreases in valuations of venture capital investments. For the six months ended June 30, 2002, pretax loss for the venture capital segment was $4.2 million as compared to pretax loss of $19.3 million for the same period of 2001. The 25 pretax loss for the six months ended June 30, 2002 included $2.6 million of decreases in valuations of venture capital investments recorded in the first quarter of 2002. The pretax loss for the six months ended June 30, 2001 included $17.0 million of decreases in valuations and losses on venture capital investments. INTEREST INCOME AND EXPENSE Interest income decreased by $9.2 million for the three months ended June 30, 2002 as compared to the same period of 2001. Interest income decreased by $19.0 million for the six months ended June 30, 2002 as compared to the same period of 2001. The decrease in interest income for the three and six months ended June 30, 2002 was due primarily to a decrease in investments. Excess liquid assets resulting from the Mortgage Transaction in 2001 were held in short-term, high quality investments until they could be deployed. Also contributing to the decreased interest income in both periods was a decrease in the average yield earned on our investment portfolio and receivables as a result of the prevailing interest rate environment. In the three and six months ended June 30, 2002, we began to see a shift in business credit card revenue components represented by a decrease in interest income on business credit card receivables offset by an increase in other revenues, principally driven by higher interchange revenues due to higher merchandise volume. In 2002, our marketing campaigns have offered a broader array of competitively-priced products geared specifically toward attracting more higher credit quality customers. We believe that the changes in revenue components are consistent with the shift in the business credit card portfolio towards higher credit quality customers and anticipate that this trend towards fee income will continue in future periods. During the three months ended June 30, 2002, interest expense decreased by $13.8 million as compared to the same period of 2001. Interest expense decreased by $24.9 million during the six months ended June 30, 2002 as compared to the same period of 2001. The decrease in interest expense for the three and six months ended June 30, 2002 was due to a reduction in outstanding deposits and debt and a decrease in our cost of funds. Our cost of funds decreased to 5.29% for the three months ended June 30, 2002 from 7.41% during the same period of 2001, and decreased to 5.57% for the six months ended June 30, 2002 from 7.33% for the same period of 2001. The decrease in our cost of funds is primarily a result of the prevailing interest rate environment. The following table provides an analysis of interest income and expense data, average balance sheet data, net interest spread and net interest margin for both continuing and discontinued operations. The net interest spread represents the difference between the yield on interest-earning assets and the average rate paid on interest-bearing liabilities. The net interest margin represents the difference between the yield on interest-earning assets and the average rate paid to fund interest-earning assets. Interest income includes late fees on business credit card receivables. Average receivables include deferred origination costs, net of deferred fees. 26 INTEREST RATE ANALYSIS ($ IN THOUSANDS)
THREE MONTHS ENDED JUNE 30, ----------------------------------------------------------------------------------- 2002 2001 -------------------------------------- ------------------------------------ AVERAGE AVERAGE AVERAGE AVERAGE BALANCE(1) INTEREST RATE BALANCE(1) INTEREST RATE --------- -------- ------- ----------- -------- ------- ON-BALANCE SHEET Receivables: Business credit cards(2) $ 472,010 $ 20,706 17.60% $ 371,764 $ 18,841 20.33% Other receivables 28,483 288 4.06 28,184 348 4.95 ---------- -------- ---------- -------- Total owned receivables 500,493 20,994 16.82 399,948 19,189 19.24 Investments(3) 491,060 2,573 2.10 1,156,111 13,340 4.58 Retained interests in securitizations 88,403 2,652 12.00 85,889 2,577 12.00 Interest-earning assets of discontinued operations 49,991 1,074 8.59 95,565 2,917 12.21 ---------- -------- ---------- -------- Total interest-earning assets $1,129,947 $ 27,293 9.69% $1,737,513 $ 38,023 8.74% ---------- -------- ---------- -------- Interest-bearing liabilities(4) $ 938,406 $ 12,385 5.29% $1,503,172 $ 27,759 7.41% Net interest spread 4.40% 1.33% Net interest margin 5.29% 2.37% OFF-BALANCE SHEET Average securitized business credit cards $1,638,410 $1,476,660 INCLUDING SECURITIZED BUSINESS CREDIT CARD ASSETS: Interest-earning assets(5) $2,768,357 $104,619 15.16% $3,214,173 $109,041 13.61% Interest-bearing liabilities $2,576,816 $ 21,761 3.39% $2,979,832 $ 46,194 6.22% Net interest spread 11.77% 7.39% Net interest margin 12.01% 7.84%
27 INTEREST RATE ANALYSIS ($ IN THOUSANDS)
SIX MONTHS ENDED JUNE 30, ----------------------------------------------------------------------------------- 2002 2001 -------------------------------------- ------------------------------------ AVERAGE AVERAGE AVERAGE AVERAGE BALANCE(1) INTEREST RATE BALANCE(1) INTEREST RATE --------- -------- ------- ----------- -------- ------- ON-BALANCE SHEET Receivables: Business credit cards(2) $ 434,934 $ 40,825 18.93% $ 371,118 $ 37,027 20.12% Other receivables 28,338 624 4.44 28,364 558 3.97 ---------- -------- ---------- -------- Total owned receivables 463,272 41,449 18.04 399,482 37,585 18.97 Investments(3) 529,644 5,867 2.22 1,137,745 29,058 5.10 Retained interests in securitizations 88,525 5,312 12.00 79,398 4,764 12.00 Interest-earning assets of discontinued operations 52,251 2,233 8.55 339,011 25,720 15.20 ---------- -------- ---------- -------- Total interest-earning assets $1,133,692 $ 54,861 9.74% $1,955,636 $ 97,127 9.96% Interest-bearing liabilities(4) $ 944,704 $ 26,101 5.57% $1,794,907 $ 65,279 7.33% Net interest spread 4.17% 2.63% Net interest margin 5.12% 3.28% OFF-BALANCE SHEET Average securitized business credit cards $1,627,096 $1,399,267 INCLUDING SECURITIZED BUSINESS CREDIT CARD ASSETS: Interest-earning assets(5) $2,760,788 $211,830 15.47% $3,354,903 $232,714 13.99% Interest-bearing liabilities $2,571,800 $ 44,536 3.49% $3,194,174 $103,599 6.54% Net interest spread 11.98% 7.45% Net interest margin 12.22% 7.76%
(1) Includes assets held and available for sale and non-accrual receivables. (2) Interest income includes late fees for on-balance sheet business credit card receivables of $1.6 million for the three months ended June 30, 2002 and $1.7 million for the three months ended June 30, 2001. Interest income includes late fees for on-balance sheet business credit card receivables of $4.4 million for the six months ended June 30, 2002 and $3.8 million for the six months ended June 30, 2001. (3) Interest and average rate for tax-free securities are computed on a tax equivalent basis using a statutory rate of 35%. (4) Includes funding of assets for both continuing and discontinued operations. (5) Interest income on managed (owned and securitized) business credit card receivables includes late fees of $7.5 million for the three months ended June 30, 2002 and $8.7 million for the three months ended June 30, 2001. Interest income on managed business credit card receivables includes late fees of $17.2 million for the six months ended June 30, 2002 and $17.6 million for the six months ended June 30, 2001. 28 PROVISION AND ALLOWANCE FOR CREDIT LOSSES The provision for credit losses of $11.3 million for the three months ended June 30, 2002 increased by $2.9 million as compared to the provision for credit losses of $8.4 million for the same period of 2001. The provision for credit losses of $22.0 million for the six months ended June 30, 2002 increased by $5.7 million as compared to the provision for credit losses of $16.3 million for the same period of 2001. These increases reflect an increase in average owned business credit card receivables during those periods, the seasoning of the business credit card portfolio and the prevailing economic environment. Charge-off rates and average owned credit card receivables for those periods were as follows ($ in thousands):
THREE MONTHS ENDED SIX MONTHS ENDED JUNE 30, JUNE 30, ---------------------- ------------------------ 2002 2001 2002 2001 -------- -------- -------- ---------- Net charge-offs as a % of owned business credit card receivables 8.2% 6.7% 8.7% 6.5% Average owned business credit card receivables $472,010 $371,764 $434,935 $ 371,118 -------- -------- -------- ----------
The allowance for credit losses on business credit card receivables was $43.8 million at June 30, 2002, or 9.9% of owned receivables, which was consistent with the allowance of $41.2 million, or 9.9% of owned receivables at December 31, 2001. The charge-off rate on owned business credit card receivables for the three months ended June 30, 2002 was 8.2%, an improvement as compared to the charge-off rate in the three months ended March 31, 2002 of 9.4%, and consistent with the charge-off rate in the three months ended December 31, 2001 of 8.2%. Business credit card receivables 30 days or more delinquent represented 6.5% of the owned business credit card portfolio at June 30, 2002, as compared to 7.1% at March 31, 2002 and 6.7% at December 31, 2002. The improvement in 30 day delinquency and charge-off rates in the three months ended June 30, 2002 as compared to the three months ended March 31, 2002 primarily reflects enhancements in the collections area of operations and the current composition of the portfolio. In June 2000, we ceased origination of business credit card accounts with credit scores of less than 661. We estimate that charge-offs for accounts with credit scores at origination of less than 661 reached their peak in the first quarter of 2001, based on the average age of that segment of the portfolio. Although charge-off levels are not always predictable since they are impacted by the economic environment and other factors, we anticipate improvements in charge-off rates for business credit card receivables through the remainder of 2002, based on the current composition of the portfolio. In July 2002, the bank regulatory agencies issued draft guidance on account management and loss allowance for credit card lending. It describes the agencies' expectations for prudent risk management practices for credit card activities, particularly with regard to credit line management, over-limit accounts, and workouts. The draft guidance also addresses income recognition and loss allowance practices for credit card lending. The agencies intend to issue this interagency guidance on August 16, 2002. We anticipate that the implementation of this guidance will not have a material effect on our financial position or results of operations. 29 The following table provides a summary of allowance for credit losses, nonperforming assets, delinquencies and charge-offs as of and for the year-to-date periods indicated ($ in thousands). Consolidated data includes business credit cards and other receivables.
JUNE 30, DECEMBER 31, JUNE 30, CREDIT QUALITY 2002 2001 2001 CONSOLIDATED - MANAGED Nonperforming assets $ 105,088 $ 81,666 $ 63,009 Receivables 90 days or more delinquent 74,203 67,465 53,078 Receivables 30 days or more delinquent 145,711 137,517 110,867 As a percentage of gross receivables: Nonperforming assets 4.7% 3.9% 3.3% Receivables 90 days or more delinquent 3.4 3.3 2.8 Receivables 30 days or more delinquent 6.6 6.6 5.8 Net charge-offs: Amount $ 95,769 $ 143,593 $ 61,852 As a percentage of average gross receivables (annualized) 9.2% 7.6% 6.9% CONSOLIDATED - OWNED Allowance for credit losses $ 45,006 $ 41,971 $ 37,568 Nonperforming assets 21,775 20,052 12,669 Receivables 90 days or more delinquent 15,367 14,474 10,850 Receivables 30 days or more delinquent 30,211 29,520 22,482 As a percentage of gross receivables: Allowance for credit losses 9.6% 9.4% 9.8% Nonperforming assets 4.6 4.5 3.3 Receivables 90 days or more delinquent 3.3 3.3 2.8 Receivables 30 days or more delinquent 6.4 6.6 5.9 Net charge-offs: Amount $ 19,006 $ 27,372 $ 12,123 As a percentage of average gross receivables (annualized) 8.2% 6.7% 6.1% BUSINESS CREDIT CARDS - MANAGED Nonperforming assets $ 104,424 $ 81,083 $ 62,606 Receivables 90 days or more delinquent 73,539 66,882 52,675 Receivables 30 days or more delinquent 144,239 136,037 109,877 As a percentage of gross receivables: Nonperforming assets 4.8% 4.0% 3.3% Receivables 90 days or more delinquent 3.4 3.3 2.8 Receivables 30 days or more delinquent 6.6 6.7 5.8 Net charge-offs: Amount $ 95,755 $ 143,590 $ 61,852 As a percentage of average gross receivables (annualized) 9.3% 7.7% 7.0% BUSINESS CREDIT CARDS - OWNED Allowance for credit losses $ 43,777 $ 41,169 $ 37,166 Nonperforming assets 21,111 19,469 12,266 Receivables 90 days or more delinquent 14,703 13,891 10,447 Receivables 30 days or more delinquent 28,739 28,040 21,492 As a percentage of gross receivables: Allowance for credit losses 9.9% 9.9% 10.5% Nonperforming assets 4.8 4.7 3.5 Receivables 90 days or more delinquent 3.3 3.3 3.0 Receivables 30 days or more delinquent 6.5 6.7 6.1 Net charge-offs: Amount $ 18,993 $ 27,369 $ 12,123 As a percentage of average gross receivables (annualized) 8.7% 7.2% 6.5%
30 OTHER REVENUES
($ in thousands) THREE MONTHS ENDED SIX MONTHS ENDED JUNE 30, JUNE 30, --------------------- ---------------------- 2002 2001 2002 2001 ------- ------- ------- -------- Investment securities gains (losses), net $ 534 $(6,119) $(2,093) $(14,316) Business credit card rewards (3,023) (2,365) (5,027) (3,908) Cash advance fees 883 580 1,691 797 Loss on sale of deposits 0 (2,835) 0 (2,835) Insurance revenues (losses), net, and other 1,868 2,148 3,376 (6,052) ------- ------- ------- -------- Total other revenues, net $ 262 $(8,591) $(2,053) $(26,314) ======= ======= ======= ========
Investment securities gains (losses), net, include changes in the fair value and realized gains (losses) on venture capital investments. Investment securities gains for the three months ended June 30, 2002 include $0.5 million of realized gains on other investments. Investment securities gains (losses) for the six months ended June 30, 2002 also include $2.6 million of decreases in valuations of venture capital investments. Investment securities losses for the three months ended June 30, 2001 include $5.6 million of decreases in valuations of venture capital investments and $0.5 million of realized losses on other investments. Investment securities losses for the six months ended June 30, 2001 also include a $4.9 million loss on the sale of a venture capital investment, $6.5 million of decreases in valuations of venture capital investments, and $3.2 million of realized gains on other 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. Increases in business credit card rewards in the three and six months ended June 30, 2002 were due to the increase in average managed business credit card accounts in the rewards programs and the corresponding purchase activity in those accounts, partially offset by a reduction in the estimated cost of future reward redemptions recorded in the three months ended March 31, 2002. Cash advance fees have increased for the three and six months ended June 30, 2002 as compared to the same periods of 2001, due primarily to growth in managed business credit card receivables. 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 six months ended June 30, 2001 includes operating results of insurance operations, the impact of the termination of the strategic alliance with Progressive Casualty Insurance Company and $10 million of charges related to the write-off of insurance-related deferred acquisition costs that were unrealizable subsequent to the termination of the auto insurance strategic alliance. 31 OPERATING EXPENSES
($ in thousands) THREE MONTHS ENDED SIX MONTHS ENDED JUNE 30, JUNE 30, -------------------- -------------------- 2002 2001 2002 2001 ------- ------- ------- ------- Salaries and employee benefits $16,533 $14,882 $33,664 $29,877 Amortization of business credit card deferred origination costs, net 12,410 9,315 24,432 17,109 External processing 4,134 4,391 8,359 8,254 Marketing 3,653 2,150 5,564 6,974 Professional/consulting fees 3,412 3,158 7,247 6,222 Equipment 2,466 2,064 5,067 4,090 Occupancy 1,687 1,676 3,298 2,728 Credit 1,622 1,184 3,295 2,342 Telephone 1,111 494 1,738 1,027 Insurance 297 1,382 1,114 2,798 Other 2,562 3,420 5,067 5,748 ------- ------- ------- ------- Total operating expenses $49,887 $44,116 $98,845 $87,169 ======= ======= ======= =======
Salaries and employee benefits, equipment, credit and telephone expense have increased for the three and six months ended June 30, 2002 as compared to the same periods of 2001. These increases are due primarily to growth in managed business credit card receivables. The growth in receivables did not result in a similar increase in external processing expense for the three months ended June 30, 2002 due to a reduction in the contracted rate for these services that occurred during the first quarter of 2002. Salaries and employee benefits in the three and six months ended June 30, 2002 also reflect additional investments in initiatives to strengthen our position as a leading issuer of business credit cards to the small business market. We expect our total operating expenses to continue to increase in 2002 as we continue to make these types of additional investments. These include initiatives to provide additional value to our existing customers, customer retention activities, development of additional products and services, development of affinity cards and partnership relationships, and enhancement of internet capabilities for servicing our customers. The increase in amortization of business credit card deferred origination costs, net, in the three and six months ended June 30, 2002 as compared to the same periods of 2001, and the increase in marketing expense in the three months ended June 30, 2002 as compared to the same period of 2001, are attributable to our strategic initiative to attract and retain more higher credit quality customers and the competitive market environment for credit card issuers. The decrease in marketing expense in the six months ended June 30, 2002 as compared to 2001 reflects our decreased origination activities in our retail note program as a result of our high liquidity position subsequent to the Mortgage Transaction in 2001. The decrease in insurance expense in the three and six months ended June 30, 2002 as compared to 2001 is primarily a result of a decrease in FDIC insurance costs on deposit liabilities. Our FDIC insurance costs decreased due to the significant reduction in our outstanding deposits at Advanta National Bank subsequent to the Mortgage Transaction, and due to a decrease in the insurance assessment rate at Advanta Bank Corp. In addition, insurance expense in the three months ended June 30, 2002 includes a $0.4 million reduction of our estimated liability related to worker's compensation insurance. Other operating expenses in the three months ended June 30, 2002 include a $1.1 million decrease in litigation reserves resulting from a reduction of damages in a 32 jury verdict. See further discussion in Note 12 to the consolidated financial statements. 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 12 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 are included in other liabilities on the consolidated balance sheets. UNUSUAL CHARGES Subsequent to the exit of our mortgage business 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. 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 expected and realized lower personnel expenses in the support functions in the 12 months following the charges, and expected 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 severance amounts were payable over a 12-month period following the employee's termination date. These payments will be completed in the third quarter of 2002. 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 were 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% 33 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. 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 the third quarter of 2002. 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, 2000, the remaining accrual related to charges associated with these organizational changes was $13.0 million. This accrual related to 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. 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. DISCONTINUED OPERATIONS 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. Loss from discontinued operations, net of tax, was $8.4 million for the period from January 1, 2001 through February 34 28, 2001, the effective date of the Mortgage Transaction. 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. 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. We are continuing to service the existing leasing portfolio rather than sell the business or the portfolio. In the three months ended June 30, 2002, we recorded an after-tax loss on the discontinuance of our mortgage and leasing businesses of $8.6 million. The components of this loss include a pretax charge of $7.5 million for a litigation settlement in July 2002 related to a mortgage loan servicing agreement termination fee collected in December 2000, a $17.8 million pretax charge primarily related to an increase in our estimated future costs of mortgage business-related contingent liabilities, an $11.3 million pretax gain on leasing discontinuance, and a tax benefit of $5.4 million. The $17.8 million relates primarily to an increase in our estimated future costs of mortgage business-related contingent liabilities in connection with (a) contingent liabilities and litigation costs arising from the operation of the mortgage business prior to the Mortgage Transaction that were not assumed by the buyer, and (b) costs related to Advanta's litigation with Chase Manhattan Mortgage Corporation in connection with the Mortgage Transaction. The change in estimate reflects the legal and consulting fees and other costs that we expect to incur based on current levels of contingent liabilities and expense rates, and considers the status of the discovery process associated with the Mortgage Transaction litigation. The $11.3 million pretax gain on leasing discontinuance represents a revision in the estimated operating results of the leasing segment over the remaining life of the lease portfolio due primarily to favorable credit performance. The leasing portfolio performed favorably as compared to the expectations and assumptions established in 2001. This improvement was the result of successfully obtaining a replacement vendor to service leased equipment for a former leasing vendor that had filed for bankruptcy protection, and operational improvements in the leasing collections area. In the six months ended June 30, 2001, we recorded an after-tax gain on the discontinuance of our mortgage and leasing businesses of $12.4 million. The components of this net gain include a pretax gain on the Mortgage Transaction of $25.8 million, a pretax loss on the discontinuance of our leasing business of $6.0 million, and a tax provision of $7.4 million. The gain on the Mortgage Transaction does not reflect any impact from the post-closing adjustment process. See Note 12 to the consolidated financial statements for a discussion of litigation related to the Mortgage Transaction. Estimates are used in the accounting for discontinued operations, including estimates of the future costs of mortgage business-related litigation and estimates of operating results through the remaining term of the leasing portfolio. 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. 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 We are exposed to equity price risk on the equity securities in our investments available for sale portfolio. A 20% adverse change in equity prices would result in an approximate $4.3 million decrease in the fair value of our equity investments as of June 30, 2002. 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. We estimate that at June 30, 2002, our net interest income over a 12-month period would increase by approximately 18% if interest rates were to rise by 200 basis points, and that our net interest income over a 12-month period would decrease by approximately 5% if interest rates were to fall by 200 basis points. We estimate that at June 30, 2002, our managed net interest income over a 12-month period would decrease by approximately 2% if interest rates were to rise by 200 basis points, and that our managed net interest income over a 12-month period would increase by approximately 10% if interest rates were to fall by 200 basis points. Our business credit card receivables include interest rate floors that cause our managed net interest income to rise in the declining rate scenario. The interest rate floors also cause a decrease in managed net interest income in a rising rate scenario. This is because market interest rates at June 30, 2002 were below certain of the interest rate floors, and a 200 basis point increase in market interest rates would not impact the contractual rate on a portion of the receivables. 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. 36 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 had a high level of liquidity at June 30, 2002. At June 30, 2002, we had $222 million of federal funds sold, $219 million of receivables held for sale, and $158 million of investments, which could be sold to generate additional liquidity. Components of funding were as follows ($ in thousands):
JUNE 30, 2002 DECEMBER 31, 2001 ---------------- ----------------- AMOUNT % AMOUNT % ---------- --- ---------- --- Off-balance sheet business credit card receivables $1,744,669 55% $1,626,709 53% Deposits 614,383 20 636,915 21 Debt and other borrowings 301,386 10 355,899 11 Equity, including capital securities 462,800 15 466,299 15 ---------- --- ---------- --- Total $3,123,238 100% $3,085,822 100% ---------- --- ---------- ---
At June 30, 2002, we had a $280 million committed commercial paper conduit facility secured by business credit card receivables, of which $45 million was unused at June 30, 2002. In June 2002, this facility was renewed through June 2003. In the first quarter of 2001, after consideration of the parent 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. In August 2002, the Board of Directors authorized the purchase of up to an additional 1.5 million shares of Advanta Corp. common stock, bringing the total authorization to up to 3.0 million shares. We intend to make purchases modestly and when we believe it is prudent to do so while we analyze evolving capital requirements. During the year ended December 31, 2001, we repurchased 693,300 shares of our Class B Common Stock. In the six months ended June 30, 2002 we repurchased 386,900 shares of our Class B Common Stock. In 2000, Advanta Bank Corp. entered into agreements with its bank regulatory agencies, primarily relating to the bank's subprime lending operations. These agreements imposed temporary deposit growth limits at Advanta Bank Corp. and required prior regulatory approval of cash dividends. In April 2002, the agreements were removed and, as a result, the restrictions in the agreements on deposit growth and payment of cash dividends are no longer applicable. We believe that the removal of the agreements is the result of our ongoing efforts to enhance Advanta Bank Corp.'s practices, procedures and regulatory relationships. In connection with removing the agreements, Advanta Bank Corp. has reached an understanding with its regulators which provides for the bank to continue its ongoing efforts to enhance processes and practices. The understanding is consistent with the manner in which Advanta Bank Corp. is currently operating its business and includes no restrictions expected to have any impact on our financial results. In 2000, Advanta National Bank also reached agreements with its bank regulatory agency, primarily relating to the bank's subprime lending operations. The agreements established temporary asset growth limits at Advanta National Bank, imposed restrictions on taking brokered deposits and required that Advanta National Bank maintain certain capital ratios in excess of the minimum regulatory standards. In 2001, Advanta National Bank entered into an additional agreement with its regulatory agency 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 37 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 prohibits the payment of dividends by Advanta National Bank without prior regulatory approval. At June 30, 2002, Advanta Bank Corp.'s combined total capital ratio (combined Tier I and Tier II capital to risk-weighted assets) was 22.34%, and Advanta National Bank's combined total capital ratio was 23.36%. At December 31, 2001, Advanta Bank Corp.'s combined total capital ratio (combined Tier I and Tier II capital to risk-weighted assets) was 18.80% and Advanta National Bank's combined total capital ratio was 23.34%. 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 second quarter of 2002, the bank regulatory agencies issued an interagency advisory that requires accrued interest receivable relating to securitized credit cards to be treated as a subordinated residual interest for regulatory capital calculations no later than December 31, 2002. Advanta Bank Corp. and Advanta National Bank will adopt this guidance effective December 31, 2002. The adoption of this guidance will not impact the regulatory capital requirements of Advanta National Bank. We estimate that the adoption of this interagency guidance, as well as other regulatory guidance, will result in Advanta Bank Corp.'s combined total capital ratio being approximately nine percentage points lower. Based on the estimated impact, we anticipate that Advanta Bank Corp. will remain classified as "well-capitalized" under the regulatory framework for prompt corrective action after adoption. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK The information required by this item is set forth in "Item 2-Management's Discussion and Analysis of Financial Condition and Results of Operations" in this Report on Form 10-Q. See "Asset/Liability Management-Market Risk Sensitivity." 38 PART II - OTHER INFORMATION ITEM 1. LEGAL PROCEEDINGS 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 Consumer Credit Card Transaction in 1998. 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. Post-trial briefing is complete and on April 10, 2002, the Court heard oral argument. 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. The plaintiff filed a cross-appeal from the order adverse to him. On July 8, 2002, the Court of Appeals issued a Judgment and Opinion affirming in part and reversing in part the District Court judgment. The Court of Appeals affirmed the judgment on liability but determined that the jury award of damages was excessive. The Court of Appeals reduced the jury verdict by $1.1 million and also ordered the District Court to recalculate liquidated damages based on the reduced award. On July 22, 2002, Advanta filed a motion for rehearing and/or rehearing en banc asserting that a new trial was required to remedy the error found by the Court of Appeals. The motion was denied by Order dated August 8, 2002, and Advanta is now considering further appellate review. 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. 39 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 alleged, 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. While the motions were pending, the parties pursued settlement discussions, and on July 29, 2002, a settlement was reached. In connection with this settlement, Advanta recorded a $7.5 million pretax charge, representing the amount of the settlement in excess of our reserve. 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 not anticipated before September 2003. We believe that the lawsuit is without merit and will vigorously defend Advanta in this litigation. 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 on Advanta or the named subsidiaries. On November 8, 2001 and January 28, 2002, the accounting firm of 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 alleged 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 Bank"). Grant Thornton was the former auditor for Keystone Bank, which failed. Grant Thornton has been sued by the FDIC as receiver of Keystone Bank and by shareholders and others with purported ownership interests in Keystone Bank, alleging that Grant Thornton rendered an unqualified opinion for Keystone Bank's financial statements, when in fact the financial statements fraudulently overstated the Bank's assets by more than $500 million. In December 2001 and February 2002, AMCUSA filed motions to dismiss the third-party complaints, both of which were granted (on June 13, 2002 and June 26, 2002, respectively). On June 27, 2002, Grant Thornton again asserted a third-party claim for negligent misrepresentation very similar to the one that had just been dismissed, and an additional third-party claim for "contribution-negligence" based on the same supposed provision of inaccurate information regarding loans being serviced for Keystone Bank. On July 11, 2002, AMCUSA again moved to dismiss, and that motion is pending. AMCUSA plans to vigorously defend this litigation, and because AMCUSA believes that the likelihood of a final judgment of liability against AMCUSA is remote, it is not expected that the ultimate resolution of this litigation will have a material adverse effect on Advanta's financial position or future operating results. 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 40 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 (a) Advanta Corp. held its Annual Meeting of Stockholders on June 13, 2002. (b) Not required. (c) The following proposal was submitted to a vote of stockholders. (i) The election of three directors to hold office until the 2005 Annual Meeting of Stockholders.
NOMINEES VOTES FOR VOTES WITHHELD -------- --------- -------------- Max Botel 8,865,235 586,831 James E. Ksansnak 8,865,790 586,276 Ronald Lubner 9,130,315 321,751
41 ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K (a) Exhibits - The following exhibits are being filed with this report on Form 10-Q.
EXHIBIT NUMBER DESCRIPTION OF DOCUMENT ------- ------------------------ 12 Consolidated Computation of Ratio of Earnings to Fixed Charges 99.1 Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 99.2 Certification Pursuant to 18 U.S.C. Section 1350, as Adopted Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
(b) Reports on Form 8-K (b)(1) A Current Report on Form 8-K, dated April 19, 2002, was filed by Advanta announcing the removal of regulatory agreements that Advanta Bank Corp. entered into in 2000. (b)(2) A Current Report on Form 8-K, dated April 23, 2002, was filed by Advanta setting forth the financial highlights of Advanta's results of operations for the three months ended March 31, 2002. (b)(3) A Current Report on Form 8-K, dated June 28, 2002, was filed by Advanta announcing the decision to engage KPMG LLP as its independent public accountants and dismiss Arthur Andersen LLP. (b)(4) A Current Report on Form 8-K, dated June 28, 2002, was filed by Advanta, the Administrator of the Advanta Corp. Employee Savings Plan, announcing the decision to engage KPMG LLP as its independent public accountants and dismiss Arthur Andersen LLP.
42 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. Advanta Corp. (Registrant) August 13, 2002 By /s/Philip M. Browne ------------------------ Senior Vice President and Chief Financial Officer August 13, 2002 By /s/David B. Weinstock ------------------------ Vice President and Chief Accounting Officer 43 EXHIBIT INDEX
MANNER OF EXHIBIT DESCRIPTION FILING - ------- ----------- --------- 12 Consolidated Computation of Ratio of Earnings to Fixed Charges * 99.1 Certification Pursuant to 18 U.S.C. Section 1350, as Adopted * Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002 99.2 Certification Pursuant to 18 U.S.C. Section 1350, as Adopted * Pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
* Filed electronically herewith. 44 EX-12 3 w63010exv12.txt COMPUTATION OF RATIO OF EARNINGS TO FIXED CHARGES EXHIBIT 12 ADVANTA CORP. AND SUBSIDIARIES COMPUTATION OF RATIO OF EARNINGS TO FIXED CHARGES
THREE MONTHS ENDED SIX MONTHS ENDED ($ IN THOUSANDS) JUNE 30, JUNE 30, ----------------------- ----------------------- 2002 2001 2002 2001 ------- -------- ------- -------- Income (loss) from continuing operations $ 7,124 $ (3,173) $11,358 $(40,529) Income tax expense (benefit) 4,459 0 7,110 (16,880) ------- -------- ------- -------- Earnings (loss) before income taxes (A) 11,583 (3,173) 18,468 (57,409) Fixed charges: Interest 12,369 26,119 25,479 50,395 One-third of all rentals 437 484 923 805 Preferred stock dividend of subsidiary trust 2,248 2,248 4,495 4,495 ------- -------- ------- -------- Total fixed charges 15,054 28,851 30,897 55,695 ------- -------- ------- -------- Earnings (loss) before income taxes and fixed charges $26,637 $ 25,678 $49,365 $ (1,714) Ratio of earnings to fixed charges (B) 1.77 x N/M (C) 1.60 x N/M (C)
(A) Earnings (loss) before income taxes in the six months ended June 30, 2001 include $41.8 million of unusual charges. Unusual charges include 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. (B) For purposes of computing these ratios, "earnings" represent income from continuing operations before income taxes plus fixed charges. "Fixed charges" consist of interest expense, one-third (the portion deemed representative of the interest factor) of rental expense on operating leases, and preferred stock dividends of subsidiary trust. (C) The ratio calculated in the three and six months ended June 30, 2001 is less than 1.00 and therefore, not meaningful. In order to achieve a ratio of 1.00, earnings before income taxes and fixed charges would need to increase by $3,173 for the three months ended June 30, 2001 and $57,409 for the six months ended June 30, 2001. 45 EX-99.1 4 w63010exv99w1.txt CERTIFICATION OF CHIEF EXECUTIVE OFFICER EXHIBIT 99.1 CERTIFICATION PURSUANT TO 18 U.S.C. SECTION 1350, AS ADOPTED PURSUANT TO SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002 In connection with the Quarterly Report of Advanta Corp. (the "Company") on Form 10-Q for the period ending June 30, 2002 as filed with the Securities and Exchange Commission on the date hereof (the "Report"), I, Dennis Alter, Chief Executive Officer of the Company, certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that: (1) the Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and (2) the information contained in the Report fairly presents, in all material respects, the financial condition and result of operations of the Company. /s/ Dennis Alter - ---------------- Dennis Alter Chief Executive Officer August 13, 2002 46 EX-99.2 5 w63010exv99w2.txt CERTIFICATION OF CHIEF FINANCIAL OFFICER EXHIBIT 99.2 CERTIFICATION PURSUANT TO 18 U.S.C. SECTION 1350, AS ADOPTED PURSUANT TO SECTION 906 OF THE SARBANES-OXLEY ACT OF 2002 In connection with the Quarterly Report of Advanta Corp. (the "Company") on Form 10-Q for the period ending June 30, 2002 as filed with the Securities and Exchange Commission on the date hereof (the "Report"), I, Philip M. Browne, Chief Financial Officer of the Company, certify, pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002, that: (1) the Report fully complies with the requirements of Section 13(a) or 15(d) of the Securities Exchange Act of 1934; and (2) the information contained in the Report fairly presents, in all material respects, the financial condition and result of operations of the Company. /s/ Philip M. Browne - -------------------- Philip M. Browne Chief Financial Officer August 13, 2002 47 -----END PRIVACY-ENHANCED MESSAGE-----