10-K 1 d281892d10k.htm FORM 10-K Form 10-K
Table of Contents

 

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

WASHINGTON, D.C. 20549

 

 

FORM 10-K

 

 

(Mark One)

ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the Fiscal Year Ended December 31, 2016

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 814-00188

 

 

MEDALLION FINANCIAL CORP.

(Exact name of registrant as specified in its charter)

 

 

 

DELAWARE   04-3291176

(State of

Incorporation)

 

(IRS Employer

Identification No.)

437 MADISON AVENUE, 38th Floor, NEW YORK, NEW YORK 10022

(Address of principal executive offices) (Zip Code)

(212) 328-2100

(Registrant’s telephone number, including area code)

Securities registered pursuant to Section 12(b) of the Act: None

Securities registered pursuant to Section 12(g) of the Act

Common Stock, par value $0.01 per share

(Title of class)

 

 

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. YES  ☐    NO  ☒

Indicated by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act: YES  ☐    NO  ☒

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  ☒    NO  ☐

Indicate by check mark whether the Registrant has submitted electronically and posted on its corporate web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or such shorter period that the Registrant was required to submit and post such files). YES  ☐    NO  ☐

Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein and will not be contained, to the best of the registrant’s knowledge, in definitive proxy or information statements incorporated by reference in Part III of this Form 10-K or any amendment to this Form 10-K  ☐

Indicate by check mark whether the Registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of “large accelerated filer,” “accelerated filer,” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (check one):

 

Large Accelerated Filer  ☐   Accelerated Filer  ☒    Non Accelerated Filer  ☐   Smaller Reporting Company  ☐

Indicate by check mark whether the Registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act) YES  ☐    NO  ☒

The aggregate market value of the voting common equity held by non-affiliates of the registrant, computed by reference to the last reported price at which the stock was sold on June 30, 2016 was $154,371,047.

The number of outstanding shares of registrant’s Common Stock, par value $0.01, as of March 10, 2017 was 24,127,785.

 

 

 


Table of Contents

DOCUMENTS INCORPORATED BY REFERENCE

Portions of the registrant’s Definitive Proxy Statement for its 2017 Annual Meeting of Shareholders, which Definitive Proxy Statement will be filed with the Securities and Exchange Commission not later than 120 days after the registrant’s fiscal year-end of December 31, 2016, are incorporated by reference into Part III of this form 10-K

MEDALLION FINANCIAL CORP.

2016 FORM 10-K ANNUAL REPORT

TABLE OF CONTENTS

 

PART I

     3  

ITEM 1. OUR BUSINESS

     3  

ITEM 1A. RISK FACTORS

     19  

ITEM 1B. UNRESOLVED STAFF COMMENTS

     32  

ITEM 2. PROPERTIES

     32  

ITEM 3. LEGAL PROCEEDINGS

     32  

ITEM 4. MINE SAFETY DISCLOSURES

     32  

PART II

     32  

ITEM  5. MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES

     32  

ITEM 6. SELECTED FINANCIAL DATA

     36  

ITEM  7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

     38  

ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

     58  

ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

     59  

ITEM  9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE

     59  

ITEM 9A. CONTROLS AND PROCEDURES

     59  

ITEM 9B. OTHER INFORMATION

     62  

PART III

     62  

ITEM 10. DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE

     62  

ITEM 11. EXECUTIVE COMPENSATION

     62  

ITEM  12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS

     62  

ITEM  13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE

     62  

ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES

     62  

PART IV

     62  

ITEM 15. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES

     62  

SIGNATURES

     68  

CERTIFICATIONS

  

The following discussion should be read in conjunction with our financial statements and the notes to those statements and other financial information appearing elsewhere in this report.

This report contains forward-looking statements relating to future events and future performance applicable to us within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934, including, without limitation, statements regarding our expectations, beliefs, intentions, or future strategies that are signified by the words expects, anticipates, intends, believes, or similar language. Actual results could differ materially from those anticipated in such forward-looking statements. All forward-looking statements included in this document are based on information available to us on the date hereof, and we assume no obligation to update any forward-looking statements. We caution investors that our business and financial performance are subject to substantial risks and uncertainties.

 

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PART I

 

ITEM 1. OUR BUSINESS

We, Medallion Financial Corp. or the Company, are a specialty finance company that has a leading position in originating, acquiring, and servicing loans that finance taxicab medallions and various types of commercial businesses. A wholly-owned portfolio company of ours, Medallion Bank, also originates consumer loans for the purchase of recreational vehicles, boats, motorcycles, trailers, and to finance small scale home improvements. Our core philosophy has been “In niches there are riches.” We try to identify markets that are profitable and where we can become an industry leader. Our investment objectives are to provide high level of distributable income, consistent with the preservation of capital, as well as long-term growth of net asset value and our stock price. These investment objectives may be changed without shareholder approval. We also provide other debt, mezzanine, and equity investment capital to companies in a variety of industries, consistent with our investment objectives. For additional information about our business and operations, see “Management’s Discussion and Analysis of Financial Condition and Results of Operations.”

Since 1996, the year in which we became a public company, we have increased our taxicab medallion loan portfolio at a compound annual growth rate of 3%, and our commercial loan portfolio at a compound annual growth rate of 4% (7% and 4% on a managed basis when combined with Medallion Bank). Since Medallion Bank acquired a consumer loan portfolio and began originating consumer loans in 2004, it has increased its consumer loan portfolio at a compound annual growth rate of 18%. In January 2017, the Company announced its plans to transform our overall strategy. We are transitioning away from medallion lending and placing our strategic focus on our growing consumer finance portfolio. Total assets under our management and the management of our unconsolidated wholly-owned subsidiaries, which includes our managed net investment portfolio, as well as assets serviced for third party investors, were $1,632,000,000 as of December 31, 2016 and $1,655,000,000 as of December 31, 2015, and have grown at a compound annual growth rate of 11% from $215,000,000 at the end of 1996. Since our initial public offering in 1996, we have paid/declared distributions in excess of $263,060,000 or $14.66 per share.

We conduct our business through various wholly-owned investment company subsidiaries including:

 

    Medallion Funding LLC, or Medallion Funding, a Small Business Investment Company, or SBIC, our primary taxicab medallion lending company;

 

    Medallion Capital, Inc., or Medallion Capital, an SBIC and a regulated investment company, or RIC, which conducts a mezzanine financing business; and

 

    Freshstart Venture Capital Corp., or Freshstart, an SBIC and a RIC, which originates and services taxicab medallion and commercial loans.

We formed a wholly-owned portfolio company, Medallion Servicing Corporation, or MSC, to provide loan services to Medallion Bank, also a portfolio company wholly-owned by us. We have assigned all of our loan servicing rights for Medallion Bank, which consists of servicing taxi medallion and commercial loans originated by Medallion Bank, to MSC, which bills and collects the related service fee income from Medallion Bank, and is allocated and charged by us for MSC’s share of these servicing costs.

In addition, we conduct business through a wholly-owned portfolio company, Medallion Bank, a bank regulated by the FDIC and the Utah Department of Financial Institutions which originates taxicab medallion, commercial, and consumer loans, raises deposits, and conducts other banking activities. Medallion Bank generally provides us with our lowest cost of funds which it raises through bank certificates of deposit issued to its customers. To take advantage of this low cost of funds, we refer a portion of our taxicab medallion and commercial loans to Medallion Bank, which then originates these loans, which are then serviced by MSC. However, the FDIC restricts the amount of taxicab medallion loans that Medallion Bank may finance to three times Tier 1 capital, or $469,383,000 as of December 31, 2016. MSC earns referral and servicing fees for these activities. As a non-investment company, Medallion Bank is not consolidated with the Company, which is an investment company under the Investment Company Act of 1940, or the 1940 Act.

Our diversified investments in other controlled subsidiaries are comprised of Medallion Fine Art, Inc., Medallion Motorsports, LLC, and LAX Group, LLC. In addition, we made both marketable and nonmarketable equity investments.

We are a closed-end, non-diversified management investment company, organized as a Delaware corporation, under the 1940 Act. We have elected to be treated as a business development company, or BDC, under the 1940 Act. During our tax year ended December 31, 2016, we did not qualify as a RIC under Subchapter M of the Internal Revenue Code of 1986, as amended, or the Code, and therefore we became subject to taxation as a corporation under Subchapter C of the Code. We had in previous years qualified and elected to be treated for federal income tax purposes as a RIC. As a RIC, we generally did not have to pay corporate-level federal income taxes on any net ordinary income or capital gains that we distributed to our shareholders as dividends, if we met certain source-of-income and asset diversification requirements. Medallion Bank is not a RIC and must pay corporate-level US federal and state income taxes. See Note 5 for more information.

 

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We are managed by our executive officers under the supervision of our Board of Directors. As a result, we do not pay investment advisory fees, but instead we incur the operating costs associated with employing investment and portfolio management professionals. Alvin Murstein, our chairman and chief executive officer, has over 60 years of experience in the ownership, management, and financing of taxicab medallions and other commercial businesses. Andrew M. Murstein, our president, has over 25 years of experience and is the third generation in his family to participate in the business.

Below is our organizational structure reflecting our consolidated and unconsolidated subsidiaries.

 

LOGO

 

(1) An SBIC and a RIC which originates and services taxicab medallion and commercial loans.
(2) An SBIC which is our primary taxicab medallion lending company.
(3) An SBIC and a RIC which conducts a mezzanine financing business.
(4) Formed for the purpose of holding and managing equity investments in a racing team.
(5) Formed for the purpose of owning medallion loans originated by Medallion Funding.
(6) Formed for purpose of owning and leasing repossessed Chicago taxicab medallions.
(7) Formed for the purpose of issuing unsecured preferred securities to investors.
(8) A Utah industrial bank regulated by the FDIC and the Utah Department of Financial Institutions which originates taxicab medallion, commercial, and consumer loans, raises deposits, and conducts other banking activities.
(9) Formed for the purpose of conducting loan servicing activities.
(10) Formed for the purpose of holding an equity investment in a professional lacrosse team.
(11) Formed for the purpose of holding and managing a hotel investment and such investment was sold in March 2015.
(12) Formed for the purpose of engaging in art dealing.
(13) Formed for the purpose of engaging in general consulting services.
(14) Formed for the purpose of holding an equity investment in a racing team.

Our Market

We provide loans to individuals and small to mid-size businesses, both directly through our investment company subsidiaries and also through Medallion Bank, in three primary markets:

 

    loans that finance taxicab medallions;

 

    loans that finance commercial businesses; and

 

    loans that finance consumer purchases of recreational vehicles, boats, motorcycles, and trailers, and to finance small scale home improvements.

 

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The following chart shows the components of our $1,517,592,000 managed net investment portfolio as of December 31, 2016.

 

(Dollars in thousands)

  On-Balance Sheet      Off-Balance Sheet (1)      Total Managed Investments  

Medallion loans

  $ 266,816      $ 261,827      $ 528,643  

Commercial loans

    83,634        2,567        86,201  

Consumer loans

    —          700,685        700,685  

Investments in Medallion Bank and other controlled subsidiaries

    293,360        (136,626      156,734  

Investment securities

    —          36,861        36,861  

Equity investments

    8,468        —          8,468  
 

 

 

    

 

 

    

 

 

 

Net investment portfolio

  $ 652,278      $ 865,314      $ 1,517,592  
 

 

 

    

 

 

    

 

 

 

 

(1) Off-balance sheet investments are those owned by our wholly-owned unconsolidated portfolio companies, primarily Medallion Bank.

Medallion Loans

Taxi medallion loans of $266,816,000 comprised 41% of our $652,278,000 net investment portfolio as of December 31, 2016, compared to $308,408,000 or 51% of our $606,959,000 net investment portfolio as of December 31, 2015. Managed taxi medallion loans of $528,643,000 comprised 35% of our $1,517,592,000 managed net investment portfolio as of December 31, 2016, compared to $640,904,000 or 43% of our $1,501,555,000 managed net investment portfolio as of December 31, 2015. Including loans to unaffiliated investors, the total amount of medallion loans under our management was $553,439,000 as of December 31, 2016, compared to $667,863,000 as of December 31, 2015. Since 1979, we and Medallion Bank have originated, on a combined basis, approximately $3,581,000,000 in medallion loans in New York City, Chicago, Boston, Newark, Cambridge, and other cities within the United States. In addition, our management has a long history of owning, managing, and financing taxicab fleets, taxicab medallions, and corporate car services, dating back to 1956.

Medallion loans collateralized by New York City taxicab medallions and related assets comprised 69% of the value of the medallion loan portfolio as of December 31, 2016 and 2015, and were 76% and 74% on a managed basis. Based on taxi medallion values published by the New York City Taxi and Limousine Commission, or TLC, we estimate that the total value of all of New York City taxicab medallions and related assets such as the vehicle, taximeter, and roof lights exceeded $7.6 billion as of December 31, 2016. We estimate that the total value of all taxicab medallions and related assets in our major US markets exceeded $8.8 billion as of December 31, 2016.

While medallion loans do become delinquent or in default, all of our medallion loans are secured by the medallion and enhanced with personal guarantees of the shareholders and owners. When a borrower defaults on a loan, we have the ability to restructure the underlying loan or repossess the medallion collateralizing that loan and sell it in the market or through a foreclosure auction and pursue the personal guarantees. Given the current market conditions we have taken significant unrealized losses against non-performing loans to mitigate potential future losses.

The following table displays information on managed medallion loans outstanding (other than those managed for third party investors) in each of our major markets at December 31, 2016. For a presentation of only the consolidated on-balance sheet medallion loans, see the Consolidated Summary Schedule of Investments in the consolidated financial statements on page F-37.

 

(Dollars in thousands)

   # of Loans      % of Medallion
Loan Portfolio (1)
    Average
Interest Rate (2)
    Principal
Balance
 

Managed medallion loans

            

New York

     743           76     3.64   $ 448,035  

Chicago

     219           13       4.33       78,773  

Newark

     140           5       5.23       29,953  

Boston

     68           5       4.51       28,061  

Cambridge

        15        1       4.48       4,458  

Other

        27        —         7.51       2,205  
     

 

 

    

 

 

     

 

 

 

Total managed medallion loans

        1,212        100     3.88       591,485  
     

 

 

    

 

 

   

 

 

   

Deferred loan acquisition costs

               410  

Unrealized depreciation on loans

               (63,252
            

 

 

 

Net managed medallion loans

             $ 528,643  
            

 

 

 

 

(1) Based on principal balance outstanding at December 31, 2016.
(2) Based on the contractual rates of the portfolios at December 31, 2016.

 

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The New York City Market. A New York City taxicab medallion is the only permitted license to operate a taxicab and accept street hails in New York City, except as discussed below. As reported by the TLC, individual (owner-driver) medallions sold for approximately $500,000 and corporate medallions sold for approximately $550,000 as of December 31, 2016. Individual medallions are issued to an owner-driver who must drive the taxicab for a minimum number of hours in each calendar year whereas corporate medallions are medallions that can be aggregated by businesses, leased to drivers, and operated for more than one shift. The number of taxicab medallions is limited by law, and as a result of the limited supply of medallions, an active market for medallions has developed. The law limiting the number of medallions also stipulates that the ownership for the 13,630 medallions outstanding as of December 31, 2016 shall remain divided into 5,733 individual medallions and 7,897 fleet or corporate medallions. Corporate medallions are more valuable because they can be aggregated by businesses, leased to drivers, and operated for more than one shift. New York City auctioned 600 additional medallions during 2004, 308 during 2006, 89 during 2008, 200 in 2013, and 206 in 2014. The medallions auctioned in 2006 were restricted to hybrid fuel vehicles and wheelchair accessible vehicles. In addition, New York City auctioned an additional 63 medallions for wheelchair accessible vehicles in 2007. There was a 25% fare increase which took effect in May 2004 and a 17% fare increase that took effect in September 2012. The New York State legislature enacted a law on December 21, 2011 which was amended on February 17, 2012 to permit cars for hire to pick up street hails in the boroughs outside Manhattan. Pursuant to the law, the TLC began issuing Street Hail Livery licenses in June 2013.

A prospective medallion owner must qualify under the medallion ownership standards set and enforced by the TLC. These standards prohibit individuals with criminal records from owning medallions, require that the funds used to purchase medallions be derived from legitimate sources, and mandate that taxicab vehicles and meters meet TLC specifications. In addition, before the TLC will approve a medallion transfer, the TLC requires a letter from the seller’s insurer stating that there are no outstanding claims for personal injuries in excess of insurance coverage. After the transfer is approved, the owner’s taxicab is subject to quarterly TLC inspections.

Most New York City medallion transfers are handled through approximately 24 medallion brokers licensed by the TLC. In addition to brokering medallions, these brokers also arrange for TLC documentation insurance, vehicles, meters, and financing. We have excellent relations with many of the most active brokers, and regularly receive referrals from them. Brokers generated 26% of the loans originated during 2016, and 24% for 2015. However, we receive most of our referrals from a small number of brokers.

The Chicago Market. We estimate that Chicago medallions sold for approximately $60,000 as of December 31, 2016. Pursuant to a municipal ordinance, the number of outstanding medallions is capped at 6,995 as of December 31, 2016. We estimate that the total value of all Chicago medallions and related assets is over $489,650,000 as of December 31, 2016.

The Boston Market. We estimate that Boston medallions sold for approximately $300,000 as of December 31, 2016. The number of Boston medallions is capped at 1,825 as of December 31, 2016. We estimate that the total value of all Boston medallions and related assets is over $569,984,000 as of December 31, 2016.

The Newark Market. We estimate that Newark medallions sold for approximately $200,000 as of December 31, 2016. The number of Newark medallions has been limited to 600 since 1950 by local law. We estimate that the total value of all Newark medallions and related assets is over $123,600,000 as of December 31, 2016.

The Cambridge Market. We estimate that Cambridge medallions sold for approximately $165,000 as of December 31, 2016. The number of Cambridge medallions is 257 as of December 31, 2016. We estimate that the total value of all Cambridge medallions and related assets is over $45,154,000 as of December 31, 2016.

Commercial Loans

Commercial loans finance either the purchase of the equipment and related assets necessary to open a new business or the purchase or improvement of an existing business. From the inception of the commercial loan business in 1987 through December 31, 2016, we and Medallion Bank have originated more than $930,335,000 of commercial loans. Commercial loans of $83,634,000 comprised 13% of our $652,278,000 net investment portfolio as of December 31, 2016, compared to $81,895,000 or 14% of our $606,959,000 net investment portfolio as of December 31, 2015. Managed commercial loans of $86,200,000 comprised 6% of our $1,517,592,000 net investment portfolio as of December 31, 2016, compared to $125,882,000 or 8% of our $1,501,555,000 managed net investment portfolio as of December 31, 2015. We have worked to increase our commercial loan activity in recent years, primarily because of the attractive higher yielding, floating rate nature of most of this business. The outstanding balances of managed commercial loans have grown at a compound annual rate of 4% since 1996. The increase since 1996 has been primarily driven by internal growth through the origination of additional commercial loans. We focus our marketing efforts on the manufacturing,

 

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professional, scientific, and technical services and other services. The majority of our commercial borrowers are located in the New York metropolitan area and the Midwest. We plan to continue expanding our commercial loan activities by developing a more diverse borrower base, a wider geographic area of coverage, and by expanding targeted industries.

Commercial loans are generally secured by equipment, accounts receivable, real estate, or other assets, and have interest rates averaging 901 basis points over the prevailing prime rate at year end, up from 668 basis points over prime at the end of 2015. As with medallion loans, the vast majority of the principals of borrowers personally guarantee commercial loans. The aggregate realized loss of principal on managed commercial loans has averaged 2.0% per annum for the last five years.

The following table displays information on managed commercial loans outstanding (other than those managed for third party investors) in each of our major markets at December 31, 2016. For a presentation of only the consolidated on-balance sheet commercial loans, see the Consolidated Summary Schedule of Investments in the consolidated financial statements on F-30.

 

(Dollars in thousands)

   # of Loans      % of
Commercial
Loan Portfolio (1)
    Average
Interest Rate (2)
    Principal
Balance
 

Managed commercial loans

         

Secured mezzanine

     37        87     13.47   $ 76,470  

Other secured commercial

     38        13       7.97       11,224  
  

 

 

    

 

 

     

 

 

 

Total managed commercial loans

     75        100     12.76       87,694  
  

 

 

    

 

 

   

 

 

   

Deferred loan acquisition income

            (112

Unrealized depreciation on loans

            (1,381
         

 

 

 

Net managed commercial loans

          $ 86,201  
         

 

 

 

 

(1) Based on principal balance outstanding at December 31, 2016.
(2) Based on the contractual rates of the portfolios at December 31, 2016.

Secured Mezzanine Loans. Through our subsidiary Medallion Capital, we originate both senior and subordinated loans nationwide to businesses in a variety of industries, including manufacturing and various service providers, more than 61% of which are located in the Midwest and Northeast regions, with the rest scattered across the country. These mezzanine loans are primarily secured by a second position on all assets of the businesses and generally range in amount from $1,000,000 to $5,600,000, and represent approximately 87% of our managed commercial loan portfolio as of December 31, 2016, and were 53% as of December 31, 2015. Frequently, we also receive warrants to purchase an equity interest in the borrowers of secured mezzanine loans.

Other Secured Commercial Loans. We originate other commercial loans to a variety of businesses nationwide, including retail trade and various service providers. These commercial loans are generally secured by all of the assets of the businesses and are generally personally guaranteed by the principals. Frequently, we receive assignments of lease from our borrowers. The loans generally range in size from under $100,000 to approximately $3,200,000. These loans represented approximately 13% of the managed commercial loan portfolio as of December 31, 2016 and 2015. Historically, most of the portfolio has consisted of fixed-rate loans.

Consumer Loans. Consumer loans are originated by Medallion Bank, a wholly-owned, unconsolidated portfolio company. Consumer loans of $700,685,000 comprised 46% of our $1,517,592,000 managed net investment portfolio as of December 31, 2016, compared to $619,887,000 or 41% of our $1,501,555,000 managed net investment portfolio as of December 31, 2015, and represent our largest lending segment. The loans are collateralized by recreational vehicles, boats, motorcycles, trailers, and home improvements, located in all 50 states. The portfolio is serviced by a large third party servicer. We believe that Medallion Bank’s consumer loan portfolio is of acceptable credit quality given the high interest rates earned on the loans, which compensate for the higher degree of credit risk in the portfolio.

Other. As a business development company, we also provide debt, mezzanine, and equity investment capital to companies in a variety of industries. These investments may be venture capital style investments which may not be fully collateralized. This is a small, but growing portion of our business.

 

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Our Strategy

Our core philosophy has been “In niches there are riches.” We try to identify markets that are profitable and where we can be an industry leader. Key elements of our strategy include:

Capitalize on our relationships with brokers and dealers. We are committed to establishing, building, and maintaining our relationships with our brokers and dealers. Our marketing efforts are focused on building relationships with dealers in the consumer market and brokers in the medallion market. We believe that our relationships with dealers and brokers provide us with, in addition to potential investment opportunities, other significant benefits, including an additional layer of due diligence and additional monitoring capabilities. We have assembled a management team that has developed an extensive network of dealer and broker relationships in our target markets over the last 50 years. We believe that our management team’s relationships with these dealers and brokers have and will continue to provide us with significant investment opportunities. In 2016, 100% of our consumer loans were generated by brokers and dealers, and there were few originations in the medallion or commercial lending space.

Employ disciplined underwriting policies and maintain rigorous portfolio monitoring. We have an extensive investment underwriting and monitoring process. We conduct a thorough analysis of each potential investment and its prospects, competitive position, financial performance, and industry dynamics. We stress the importance of credit and risk analysis in our underwriting process. We believe that our continued adherence to this disciplined process will permit us to continue to generate a stable, diversified and increasing revenue stream of current income from our debt investments to enable us to make distributions to our shareholders.

Leverage the skills of our experienced management team. Our management team is led by our Chief Executive Officer, Mr. Alvin Murstein, and our President, Mr. Andrew M. Murstein. Alvin Murstein has over 60 years of experience in the ownership, management, and financing of taxicab medallions and other commercial businesses, and Andrew M. Murstein is the third generation in his family to participate in the business and has over 25 years of experience in the ownership, management, and financing of taxicab medallions and other commercial businesses. The other members of our management team have broad investment backgrounds, with prior experience at specialty finance companies, middle market commercial banks, and other financial services companies. We believe that the experience and contacts of our management team will continue to allow us to effectively implement the key aspects of our business strategy.

Perform Strategic Acquisitions. In addition to increasing market share in existing lending markets and identifying new niches, we seek to acquire medallion financing businesses and related portfolios and specialty finance companies that make secured loans to small businesses which have experienced historically low loan losses similar to our own. Since our initial public offering in May 1996, eight specialty finance companies, five loan portfolios, and three taxicab rooftop advertising companies have been acquired.

Investment Activity

The following table sets forth the components of investment activity in the managed investment portfolio for the years indicated.

 

     Year ended December 31,  

(Dollars in thousands)

   2016      2015      2014  

Net investments at beginning of year

   $ 1,501,555      $ 1,310,685      $ 1,144,596  

Investments originated (1)

     738,238        492,127        469,816  

Repayments of investments (1)

     (752,582      (288,783      (288,649

Net realized losses on investments

     (34,888      (3,902      (12,290

Net increase in unrealized appreciation (depreciation) (2)

     79,650        3,286        8,661  

Transfers to other assets/liabilities, net

     (10,941      (8,553      (8,413

Amortization of origination costs

     (3,440      (3,305      (3,036
  

 

 

    

 

 

    

 

 

 

Net increase in investments

     16,037        190,870        166,089  
  

 

 

    

 

 

    

 

 

 

Net investments at end of year

   $ 1,517,592      $ 1,501,555      $ 1,310,685  
  

 

 

    

 

 

    

 

 

 

 

(1) Includes refinancings.
(2) Excludes net unrealized appreciation (depreciation) of ($28,372), ($10,839), and ($1,759) for the years ended December 31, 2016, 2015, and 2014 related to investments other than securities and other assets.

Investment Characteristics

Medallion Loans. Our medallion loan portfolio consists of mostly fixed-rate loans, collateralized by first security interests in taxicab medallions and related assets (vehicles, meters, and the like). We estimate that the weighted average loan-to-value ratio of all

 

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of the medallion loans was 129% as of December 31, 2016, compared to 76% as of December 31, 2015, reflecting the very conservative values we have placed on all medallion loans, including the vast majority which are performing as agreed. These ratios also do not factor in the managed unrealized depreciation on these loans of $63,252,000 and $9,574,000 as of December 31, 2016 and 2015. In addition, we have recourse against a vast majority of the owners of the taxicab medallions and related assets through personal guarantees.

Medallion loans generally require equal monthly payments covering accrued interest and amortization of principal over a five to twenty-five year schedule, subject to a balloon payment of all outstanding principal at maturity. Historically, we have originated loans with one-to-five year maturities where interest rates are adjusted and a new maturity period set. In most cases, borrowers may prepay medallion loans upon payment of a fee of approximately 1% to 2%.

Historically, we generally retain the medallion loans we originate; however, from time to time, we participate or sell shares of some loans or portfolios to interested third party financial institutions. In these cases, we retain the borrower relationships and service the sold loans.

Mezzanine and Commercial Loans. We have typically originated mezzanine and commercial loans in principal amounts generally ranging from under $100,000 to $5,600,000, and occasionally, have originated loans in excess of that amount. These loans are generally retained and typically have maturities ranging from three to ten years and require monthly payments ranging from full amortization over the loan term to fully deferred interest and principal at maturity, with multiple payment options in between. Substantially all loans may be prepaid, and in the first five years, a fee will be owed to us. The term of, and interest rate charged on, certain of our outstanding loans are subject to the regulations of the Small Business Administration, or the SBA. Under SBA regulations, the maximum rate of interest permitted on loans originated by us is 19%, however, terms and interest rates are subject to market competition for all loans. Unlike medallion loans, for which competition precludes us from charging the maximum rate of interest permitted under SBA regulations, we are able to charge the maximum rate on certain commercial loans.

Consumer Loans. Consumer loans generally require equal monthly payments covering accrued interest and amortization of principal over a negotiated term, generally around ten years. Interest rates offered are fixed. Borrowers may prepay consumer loans without any prepayment penalty. In general, Medallion Bank has established relationships with dealers and contractors in the industry, who are the sources for most of the customers of Medallion Bank.

Marketing, Origination, and Loan Approval Process

We employ 32 loan originators to originate medallion, commercial, and consumer loans. Each loan application is individually reviewed through analysis of a number of factors, including loan-to-value ratios, a review of the borrower’s credit history, public records, personal interviews, trade references, personal inspection of the premises, and approval from the TLC, SBA, or other regulatory body, if applicable. Each medallion and commercial loan applicant is required to provide personal or corporate tax returns, premises leases, and/or property deeds. Senior management establishes loan origination criteria. Loans that conform to such criteria may be processed by a loan officer with the proper credit authority, and non-conforming loans must be approved by the chief executive officer and/or the chief credit officer. Both medallion and commercial loans are sourced from brokers with extensive networks of applicants, and commercial loans are also referred by contacts with banks, attorneys, and accounting firms. Consumer loans are primarily sourced through relationships which have been established with recreational vehicle and boat dealers, and home improvement contractors throughout our market area.

Sources of Funds

We have historically funded our lending operations primarily through credit facilities with bank syndicates and, to a lesser degree, through equity or debt offerings or private placements, and fixed-rate, senior secured notes and long-term subordinated debentures issued to or guaranteed by the SBA. Since the inception of Medallion Bank, substantially all of Medallion Bank’s funding has been provided by FDIC insured brokered certificates of deposit. The determination of funding sources is established by our management, based upon an analysis of the respective financial and other costs and burdens associated with funding sources. Our funding strategy and interest rate risk management strategy is to have the proper structuring of debt to minimize both rate and maturity risk, while maximizing returns with the lowest cost of funding over an intermediate period of time.

 

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The table below summarizes our sources of available funds and amounts outstanding under credit facilities and their respective end of period weighted average interest rates at December 31, 2016. See Note 4 to the consolidated financial statements for additional information about each credit facility.

 

Consolidated sources of funds (Dollars in thousands)

   Total  

Cash and cash equivalents (1)

   $ 20,962  

Bank loans

     94,219  

Average interest rate

     3.22

Maturity

     10/16-12/20  

Preferred securities

     33,000  

Average interest rate

     3.07

Maturity

     9/37  

Unsecured notes

     33,625  

Average interest rate

     9.00

Maturity

     4/21  

DZ loan

     106,244  

Average interest rate

     2.36

Maturity

     6/17  

SBA debentures

     87,485  

Amounts available (2)

     5,500  

Amounts outstanding

     81,985  

Average interest rate

     3.63

Maturity (3)

     3/19-3/27  
  

 

 

 

Total debt outstanding

   $ 349,073  
  

 

 

 

Medallion Bank

  

Cash and cash equivalents

   $ 30,881  

Deposits and other borrowings

     908,442  

Average interest rate

     1.22

Maturity

     1/17-12/21  
  

 

 

 

Total cash and cash equivalents, including Medallion Bank

   $ 51,843  
  

 

 

 

Total debt outstanding, including Medallion Bank

   $ 1,257,515  
  

 

 

 

 

(1) $7,840 is pledged to a lender of an affiliate.
(2) $2,000 of this requires a $1,000 capital contribution from the Company.
(3) In connection with the Freshstart loan described in Note 19, the $33,485 of principal was restructured into a new note and matures in tranches from February 2018 to February 2020.

We fund our fixed-rate loans with variable-rate credit lines and bank debt, and with fixed-rate SBA debentures and other borrowings. The mismatch between maturities and interest-rate sensitivities of these balance sheet items results in interest rate risk. We seek to manage our exposure to increases in market rates of interest to an acceptable level by:

 

    Originating adjustable rate loans;

 

    Incurring fixed-rate debt; and

 

    Purchasing interest rate caps to hedge a portion of variable-rate debt against increases in interest rates.

Nevertheless, we accept varying degrees of interest rate risk depending on market conditions. For additional discussion of our funding sources and asset liability management strategy, see Asset/Liability Management on page 52.

Competition

Banks, credit unions, and finance companies, some of which are SBICs, compete with us in originating medallion, commercial, and consumer loans. In addition, finance subsidiaries of equipment manufacturers also compete with us in originating commercial loans. Many of these competitors have greater resources than we do and certain competitors are subject to less restrictive regulations than us. As a result, we cannot assure you that we will be able to identify and complete the financing transactions that will permit us to compete successfully.

 

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Employees

As of December 31, 2016 we employed 131 persons, including 64 at our Medallion Bank subsidiary. We believe that relations with all of our employees are good.

MATERIAL US FEDERAL INCOME TAX CONSIDERATIONS

Taxation as a Corporation

For our tax year ended December 31, 2016, we did not qualify for RIC status and as a result our status changed from a RIC subject to Subchapter M of the Code to a corporation subject to taxation under Subchapter C of the Code. As a result of such change, for the taxable period ended December 31, 2016, we will be taxed as a corporation and must pay corporate-level federal and state income taxes on our taxable income. Through December 31, 2015, we qualified and elected to be treated as a RIC under Subchapter M of the Code. As a result of our status as a RIC in prior years, we generally were not subject to federal income tax on the portion of our taxable income and capital gains we distributed to our shareholders, but we were also not permitted to carry forward net operating losses from year to year. Because we are taxed as a corporation under Subchapter C of the Code for the tax year ended December 31, 2016, we are able to carry forward any net operating losses historically incurred to succeeding years, which we would not be permitted to do if we were subject to taxation as a RIC under Subchapter M of the Code. However, because we did not qualify for RIC status for the tax year ended December 31, 2016, distributions will generally be taxable to our shareholders to the extent of our current and accumulated earnings and profits for US federal tax purposes. Distributions in excess of our current and accumulated earnings and profits would be treated first as a return of capital to the extent of a shareholder’s tax basis, and any remaining distributions would be treated as a capital gain. Subject to certain limitations under the Code, corporate distributees would be eligible for the dividends received deduction. Qualification as a RIC is made on an annual basis and, although we and some of our subsidiaries have qualified in the past, we cannot assure you that we will qualify for such treatment in the future.

Taxation as a RIC

If we satisfy the requirements to be treated as a RIC in a future taxable year, the following discussion is a general summary of the material US federal income tax considerations that would be applicable to us and to an investment in shares of our common stock in such tax year. This summary does not purport to be a complete description of the income tax considerations applicable to such an investment in a year in which we satisfy the requirements to be treated as a RIC. For example, we have not described tax consequences that we assume to be generally known by investors or certain considerations that may be relevant to certain types of holders subject to special treatment under US federal income tax laws, including shareholders subject to the alternative minimum tax, tax-exempt organizations, insurance companies, dealers in securities, pension plans and trusts, and financial institutions. This summary assumes that investors will hold our common stock in such a taxable year as capital assets (within the meaning of the Code). The discussion is based upon the Code, Treasury regulations, and administrative and judicial interpretations, each as of the date of this annual report and all of which are subject to change, possibly retroactively, which could affect the continuing validity of this discussion. We have not sought and will not seek any ruling from the Internal Revenue Service, or the IRS, regarding an investment in our common stock for a year in which we satisfy the requirements to be treated as a RIC. This summary does not discuss any aspects of the Medicare Contribution tax, US estate or gift tax, or foreign, state, or local tax. It does not discuss the special treatment under US federal income tax laws that could result if we invested in tax-exempt securities or certain other investment assets.

As used herein, a “US person” is a person that is for US federal income tax purposes:

 

    a citizen or individual resident of the United States;

 

    a corporation, or other entity treated as a corporation for US federal income tax purposes, created or organized in or under the laws of the US or any state thereof or the District of Columbia; or

 

    a trust or an estate, the income of which is subject to US federal income taxation regardless of its source.

A “US shareholder” is a beneficial owner of shares of our common stock that is a US person.

A “non-US shareholder” is a beneficial owner of shares of our common stock that is not a US shareholder and is not a partnership for US federal income tax purposes.

If a partnership (including an entity treated as a partnership for US federal income tax purposes) holds shares of our common stock, the tax treatment of a partner in the partnership will generally depend upon the status of the partner and the activities of the partnership. A prospective shareholder that is a partner of a partnership holding shares of our common stock should consult its tax advisors with respect to the purchase, ownership, and disposition of shares of our common stock.

 

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Tax matters are very complicated and the tax consequences to an investor of an investment in our shares will depend on the facts of his, her, or its particular situation. We encourage investors to consult their own tax advisors regarding the specific consequences of such an investment, including tax reporting requirements, the applicability of federal, state, local, and foreign tax laws, eligibility for the benefits of any applicable tax treaty and the effect of any possible changes in the tax laws.

In the event we meet the requirements to be treated as a RIC in a taxable year, in such tax year we generally would not have to pay corporate-level US federal income taxes on any ordinary income or capital gains that we distribute to our shareholders as dividends for such taxable year. To qualify as a RIC in a taxable year, we must, among other things, meet certain source-of-income and asset diversification requirements (as described below). In addition, to obtain RIC tax treatment in a taxable year we would be required to distribute to our shareholders, for each such taxable year, at least 90% of our “investment company taxable income,” which is generally our ordinary income plus the excess of realized net short-term capital gains over realized net long-term capital losses. We refer to this distribution requirement as the Annual Distribution Requirement.

If we, in a taxable year:

 

    qualify as a RIC; and

 

    satisfy the Annual Distribution Requirement;

then we would not be subject to US federal income tax for such tax year on the portion of our investment company taxable income and net capital gain (i.e., net long-term capital gains in excess of net short-term capital losses) we distribute to shareholders. We will be subject to US federal income tax at the regular corporate rates in such tax year on any income or capital gain not distributed (or deemed distributed) to our shareholders.

As a RIC we would be subject to a 4% nondeductible US federal excise tax on certain undistributed income of RICs unless we distribute in a timely manner an amount at least equal to the sum of (1) 98% of our ordinary income for each calendar year, (2) 98.2% of our capital gain net income for the one-year period ending October 31 in that calendar year, and (3) any income realized, but not distributed, in preceding years. We refer to this distribution requirement as the Excise Tax Avoidance Requirement.

In order to qualify as a RIC for US federal income tax purposes in a tax year, we must, among other things:

 

    qualify to be treated as a business development company under the 1940 Act at all times during each such taxable year;

 

    derive in each such taxable year at least 90% of our gross income from dividends, interest, payments with respect to certain securities loans, gains from the sale of stock or other securities, or foreign currencies, or other income derived with respect to our business of investing in such stock or securities or currencies, and net income derived from interests in “qualified publicly traded partnerships” (i.e., partnerships that are traded on an established securities market or tradable on a secondary market, other than partnerships that derive 90% of their income from interest, dividends, capital gains, and other traditionally permitted mutual fund income described in this paragraph) or the 90% Income Test; and

 

    diversify our holdings so that at the end of each quarter of each such taxable year:

 

    at least 50% of the value of our assets consists of cash, cash equivalents, US Government securities, securities of other RICs, and other securities if such other securities of any one issuer do not represent more than 5% of the value of our assets or more than 10% of the outstanding voting securities of the issuer; and

 

    no more than 25% of the value of our assets is invested in the securities, other than US Government securities or securities of other RICs, of one issuer or of two or more issuers that are controlled, as determined under applicable tax rules, by us and that are engaged in the same or similar or related trades or businesses or in the securities of one or more qualified publicly traded partnerships. We refer to these two requirements as the Diversification Tests.

In such taxable year in which we meet the RIC qualification requirements, we may be required to recognize taxable income in circumstances in which we do not receive cash. For example, if we hold debt obligations that are treated under applicable tax rules as having original issue discount (such as debt instruments with payment-in-kind interest or, in certain cases, increasing interest rates or issued with warrants), we must include in income in such taxable year a portion of the original issue discount that accrues over the life of the obligation, regardless of whether cash representing such income is received by us in the same taxable year. Because any original issue discount accrued will be included in our investment company taxable income for the year of accrual, we may be required to make a distribution to our shareholders in such taxable year in which we are treated as a RIC in order to satisfy the Annual Distribution Requirement, even though we would not have received any corresponding cash amount.

In the taxable years we met the requirements to be treated as a RIC, we were authorized to borrow funds and to sell assets in order to satisfy distribution requirements. However, under the 1940 Act, we were not permitted to make distributions to our shareholders while our debt obligations and other senior securities were outstanding unless certain “asset coverage” tests were met. See “Regulation—Senior Securities.” In any tax year that we qualify as a RIC, our ability to dispose of assets to meet the distribution

 

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requirements in such year may be limited by (1) the illiquid nature of our portfolio and/or (2) other requirements relating to our status as a RIC, including the Diversification Tests. If we were to dispose of assets in order to meet the Annual Distribution Requirement or the Excise Tax Avoidance Requirement in such tax year, we may have to make such dispositions at times that, from an investment standpoint, are not advantageous.

The remainder of this discussion in this subsection would apply in any taxable year in which we have met the requirements to be treated as a RIC and have satisfied the Annual Distribution Requirement.

GOVERNMENT REGULATION

Regulation by the SEC and under the 1940 Act

We are a closed-end, management investment company that has elected to be treated as a business development company (BDC) under the 1940 Act. We conduct our business through various wholly-owned investment company subsidiaries including Medallion Funding LLC, a closed end investment company, Medallion Capital, Inc., a BDC, and Freshstart Venture Capital Corp., a BDC. Pursuant to various exemptive orders, we operate and are regulated as a single BDC. The 1940 Act contains prohibitions and restrictions relating to transactions between BDCs and their affiliates (including any investment advisers or sub-advisers), principal underwriters and affiliates of those affiliates or underwriters, and requires that a majority of the directors be persons other than “interested persons,” as that term is defined in the 1940 Act. In addition, the 1940 Act provides that we may not change the nature of our business so as to cease to be, or to withdraw our election as, a BDC unless approved by a majority of our outstanding voting securities voting as a class.

We may invest up to 100% of our assets in securities acquired directly from issuers in privately negotiated transactions. With respect to such securities, we may, for the purpose of public resale, be deemed an “underwriter” as that term is defined in the Securities Act of 1933. Similarly, in connection with an acquisition, we may acquire rights to require the issuers of acquired securities or their affiliates to repurchase them under certain circumstances. We also do not intend to acquire securities issued by any investment company that exceed the limits imposed by the 1940 Act. Under these limits, we generally cannot acquire more than 3% of the voting stock of any registered investment company, invest more than 5% of the value of our total assets in the securities of one investment company or invest more than 10% of the value of our total assets in the securities of more than one investment company. Certain of these limits are not applicable to our investments in our wholly-owned SBIC subsidiaries. With regard to that portion of our portfolio invested in securities issued by investment companies, it should be noted that such investments might subject our stockholders to additional expenses. None of our policies are fundamental, and each may be changed without stockholder approval.

Qualifying Assets

Under the 1940 Act, a BDC may not acquire any asset other than assets of the type listed in Section 55(a) of the 1940 Act, which are referred to as qualifying assets, unless, at the time the acquisition is made, qualifying assets represent at least 70% of the company’s total assets. The principal categories of qualifying assets relevant to our business are the following:

 

  (1) Securities purchased in transactions not involving any public offering from the issuer of such securities, which issuer (subject to certain limited exceptions) is an eligible portfolio company, or from any person who is, or has been during the preceding 13 months, an affiliated person of an eligible portfolio company, or from any other person, subject to such rules as may be prescribed by the SEC. An eligible portfolio company is generally defined in the 1940 Act as any issuer which:

 

  (a) is organized under the laws of, and has its principal place of business in, any state in the US;

 

  (b) is not an investment company (other than a small business investment company wholly owned by the BDC) or a company that would be an investment company but for certain exclusions under the 1940 Act; and

 

  (c) satisfies any of the following:

 

    does not have any class of securities listed on a national securities exchange, or has a class of securities listed on a national securities exchange, but has an aggregate market value of outstanding voting and non-voting common equity of less than $250 million;

 

    is controlled by a BDC or a group of companies including a BDC, and the BDC in fact exercises a controlling influence on the management or policies of such eligible portfolio company and, as a result of such control, has an affiliated person who is a director of the eligible portfolio company; or

 

    is a small and solvent company having total assets of not more than $4 million and capital and surplus of not less than $2 million.

 

  (2) Securities of any eligible portfolio company which we control.

 

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  (3) Securities purchased in transactions not involving any public offering from a US issuer that is not an investment company or from an affiliated person of the issuer, or in transactions incident thereto, if the issuer is in bankruptcy and subject to reorganization or if the issuer, immediately prior to the purchase of its securities was unable to meet its obligations as they came due without material assistance other than conventional lending or financing arrangements.

 

  (4) Securities of an eligible portfolio company purchased from any person in a private transaction if there is no ready market for such securities and we already own at least 60% of the outstanding equity of the eligible portfolio company.

 

  (5) Securities received in exchange for or distributed on or with respect to securities described in (1) through (4) above, or pursuant to the exercise of warrants or rights relating to such securities.

 

  (6) Cash, cash equivalents, US Government securities or high-quality debt securities maturing in one year or less from the time of investment.

 

  (7) Subject to certain conditions, securities issued by a company that met the definition of eligible portfolio company at the time of our initial investment but subsequently does not meet the definition because the company no longer meets the definition set forth above.

Managerial Assistance to Portfolio Companies

In addition, a BDC must have been organized and have its principal place of business in the US and must be operated for the purpose of making investments in the types of securities described in (1), (2), or (3) above. However, in order to count portfolio securities as qualifying assets for the purpose of the 70% test, the BDC must either control the issuer of the securities or must offer to make available to the issuer of the securities (other than small and solvent companies described above) significant managerial assistance; except that, where the BDC purchases such securities in conjunction with one or more other persons acting together, one of the other persons in the group may make available such managerial assistance. Making available managerial assistance means, among other things, any arrangement whereby the BDC, through its directors, officers, or employees, offers to provide, and, if accepted, does so provide, significant guidance and counsel concerning the management, operations, or business objectives and policies of a portfolio company.

Temporary Investments

Pending investment in other types of “qualifying assets,” as described above, our investments may consist of cash equivalents, US government securities, or high-quality debt securities maturing in one year or less from the time of investment, which we refer to, collectively, as temporary investments, so that 70% of our assets are qualifying assets. Typically, we will invest in US Treasury bills or in repurchase agreements, provided that such agreements are fully collateralized by cash or securities issued by the US government or its agencies. A repurchase agreement involves the purchase by an investor, such as us, of a specified security and the simultaneous agreement by the seller to repurchase it at an agreed-upon future date and at a price which is greater than the purchase price by an amount that reflects an agreed-upon interest rate. There is no percentage restriction on the proportion of our assets that may be invested in such repurchase agreements.

Senior Securities

We are permitted, under specified conditions, to issue multiple classes of indebtedness and one class of stock senior to our common stock if our asset coverage, as defined in the 1940 Act, is at least equal to 200% immediately after each such issuance. In addition, while any senior securities remain outstanding, we must make provisions to prohibit any distribution to our shareholders or the repurchase of such securities or shares unless we meet the applicable asset coverage ratios at the time of the distribution or repurchase. We may also borrow amounts up to 5% of the value of our total assets for temporary purposes without regard to full asset coverage requirements. In addition to the 1940 Act, we are subject to two exemptive orders which govern how we calculate our senior securities and under which we have agreed that we will meet the applicable asset coverage ratios both individually and on a consolidated basis. For a discussion of the risks associated with leverage, see “Risk Factors—Risks Relating to Our Business and Structure—Regulations governing our operation as a BDC will affect our ability to, and the way in which we raise additional capital.”

Regulation by the SBA

Medallion Funding, Medallion Capital, and Freshstart are each licensed by the SBA to operate as SBICs, under the Small Business Investment Act of 1958, as amended, or the SBIA. The SBIA authorizes the organization of SBICs as vehicles for providing equity capital, long term financing, and management assistance to small business concerns. Under the regulations promulgated by the SBA a “small business concern” is defined as a business that is independently owned and operated, which does not dominate its field of operation, and which (i) has a tangible net worth, together with any affiliates, of $19.5 million or less and average annual net income after US federal income taxes for the preceding two fiscal years of $6.5 million or less (average annual net income is

 

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computed without the benefit of any carryover loss), or (ii) satisfies alternative criteria under the Federal government’s North American Classification System, or the NAICS, that assigns codes to the industry in which a small business is engaged and provides a small business size standard based either on the number of persons employed by the business or its gross revenues. In addition, at the end of each fiscal year, at least 25% of the total amount of loans made (after April 25, 1994) must be made in “smaller businesses” that have a net worth of $6.0 million or less, and average net income after federal income taxes for the preceding two years of $2.0 million or less. A business that meets the NAICS size standards also qualifies as a “smaller business” for purposes of meeting SBA’s size standard regulations.

Investments by SBICs must be in active, primarily domestic businesses. SBIC regulations preclude investment in the following types of businesses: (1) financial companies whose principal business activity is as a relender or reinvestor (that is, directly or indirectly, providing funds to others, purchasing debt obligations, factoring, or long term leasing of equipment with no provision for maintenance or repair); (2) many kinds of real estate projects; (3) single purpose projects that are not continuing businesses; (4) companies located outside the U. S. intending to use the proceeds of the investment outside of the U.S. or companies that are located in the U.S. that have more than 50% of their employees located outside of the U.S.; (5) businesses that are passive and do not carry on an active trade or business; (6) businesses that use 50% or more of the funds to buy goods or services from an associated supplier; and (7) certain “sin businesses” such as gambling and the like. Nonetheless, the regulations provide an exception to (1) above for an SBIC that provides Venture Capital Financing investments (represented by common or preferred stock, a limited partnership interest or a similar partnership interest) to a Disadvantaged Business that is a relender or reinvestor), so long as, without SBA prior approval, total outstanding financings do not exceed the SBICs regulatory capital at the end of its fiscal year.

Under current SBA regulations, the maximum rate of interest that Medallion Funding, Medallion Capital and Freshstart may charge may not exceed the higher of (i) 19% or (ii) the sum of (a) the higher of (i) that company’s weighted average cost of qualified borrowings, as determined under SBA regulations, or (ii) the current SBA debenture rate, plus (b) 11%, rounded to the next lower eighth of one percent. As of December 31, 2016, the maximum rate of interest permitted on loans originated by Medallion Funding, Medallion Capital, and Freshstart was 19%. As of December 31, 2016, our outstanding medallion loans had a weighted average rate of interest 4.01% and our outstanding commercial loans had a weighted average rate of interest of 13.05%. Current SBA regulations also require that each loan originated by an SBIC has a term between one and 20 years.

In addition, SBICs are subject to periodic examination by the SBA, for which the SBA charges examination fees. SBICs are required to maintain certain minimum levels of capital and must maintain certain records and make them available for SBA examination. SBICs also are required to prepare valuations of their portfolio investments in accordance with prescribed valuation guidelines, to maintain certain minimum levels of capital, to file annual reports containing financial, management and other information and to file notices of certain material changes in their ownership and operations.

SBICs are precluded from making investments in a small business if it would give rise to a conflict of interest. Generally, a conflict of interest may arise if an associate of the SBIC has or makes an investment in the small business the SBIC is financing or serves as one of its officers or would otherwise benefit from the financing. A conflict of interest would also occur if an SBIC were to lend money to any of its officers, directors, and employees, or invest in any affiliates thereof. Joint investing with an associate (such as another fund controlled by affiliates of the General Partner) may be made on identical terms or on terms that are fair to the SBIC. The SBA also prohibits, without prior SBA approval, a “change of control” or transfers which would result in any person (or group of persons acting in concert) owning 10% or more of any class of capital stock of an SBIC. A “change of control” is any event which would result in the transfer of the power, direct or indirect, to direct the management and policies of an SBIC, whether through ownership, contractual arrangements, or otherwise.

Under SBA regulations, without prior SBA approval, loans by licensees with outstanding SBA leverage to any single small business concern may not exceed 30% of an SBIC’s regulatory capital, as defined in the SBIA.

SBICs must invest idle funds that are not being used to make loans in investments permitted under SBA regulations. These permitted investments include direct obligations of, or obligations guaranteed as to principal and interest by, the government of the US with a term of 15 months or less and deposits maturing in one year or less issued by an institution insured by the FDIC. These permitted investments must be maintained in (i) direct obligations of, or obligations guaranteed as to principal and interest by, the US, which mature within 15 months from the date of the investment; (ii) repurchase agreements with federally insured institutions with a maturity of seven days or less if the securities underlying the repurchase agreements are direct obligations of, or obligations guaranteed as to principal and interest by the US, and such securities must be maintained in a custodial account in a federally insured institution; (iii) mutual funds, securities, or other instruments that exclusively consist of, or represent pooled assets of, investments described in (i) or (ii) above; (iv) certificates of deposit with a maturity of one year or less, issued by a federally insured institution; (v) a deposit account in a federally insured institution, subject to withdrawal restriction of one year or less; (vi) a checking account in a federally insured institution; or (vii) a reasonable petty cash fund.

 

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SBICs may purchase voting securities of small business concerns in accordance with SBA regulations. Although prior regulations prohibited an SBIC from controlling a small business concern except in limited circumstances, regulations adopted by the SBA on October 22, 2002 (pursuant to Public Law 106-554) allow an SBIC to exercise control over a small business for a period of seven years from the date on which the SBIC initially acquires its control position. This control period may be extended for an additional period of time with the SBA’s prior written approval.

If an SBIC defaults in its payment obligations to SBA under its outstanding debentures, fails to comply with any terms of its securities, or violates any law or regulation applicable to it, the SBA has the right to accelerate the maturity of all amounts due under its debentures. Additionally, the SBA can bring suit for the appointment of a receiver for the SBIC and for its liquidation in the event a default on payment of a SBIC’s debentures or for serious regulatory violations.

Regulation of Medallion Bank as an Industrial Bank

In May 2002, we formed Medallion Bank, which received approval from the FDIC for federal deposit insurance in October 2003. Medallion Bank, a Utah-chartered industrial bank, is a depository institution subject to regulatory oversight and examination for safety and soundness by both the FDIC and the Utah Department of Financial Institutions. Numerous other federal and state laws and regulations govern almost all aspects of Medallion Bank’s operations and, to some degree, our operations and those of our non-bank subsidiaries as institution-affiliated parties. Under its banking charter, Medallion Bank is empowered to make consumer and commercial loans, and may accept all FDIC-insured deposits other than demand deposits (checking accounts). Medallion Bank provides stable and low-cost bank deposit funding for our key lending business activities conducted through Medallion Bank.

In addition, the FDIC has regulatory authority to prohibit Medallion Bank from engaging in any unsafe or unsound practice in conducting its business.

Medallion Bank is subject to risk-based and leverage capital standards issued by the federal banking regulators. These standards are designed to make regulatory capital requirements more sensitive to differences in risk profiles among banking organizations, to account for off-balance sheet exposure, to minimize disincentives for holding liquid assets, and to achieve greater consistency in evaluating the capital adequacy of major banks throughout the world. Under the risk-based capital standards, assets and off-balance sheet items are assigned to broad risk categories, each with designated weights, and the resulting capital ratios represent capital as a percentage of total risk-weighted assets and off-balance sheet items.

In July 2013, the Federal Reserve, the FDIC, and the Office of the Comptroller of the Currency adopted the U.S. Basel III capital rules, which implement many aspects of the Basel Committee on Banking Supervision’s Basel III capital framework and are aimed at increasing both the quantity and quality of regulatory capital. The requirements in the U.S. Basel III capital rules began to phase in on January 1, 2015, for many covered banking organizations, including Medallion Bank. Most requirements in the U.S. Basel III capital rules will be fully phased in by January 1, 2019. Because Medallion Bank was already subject to a capital maintenance agreement with the FDIC that required it to hold capital in excess of the then applicable capital requirements, we do not believe that the U.S. Basel III capital rules will have a material impact on Medallion Bank’s business.

Under the U.S. Basel III capital rules, Medallion Bank is subject to the following minimum capital ratios:

 

    a new Common Equity Tier 1 risk-based capital ratio of 4.5%;

 

    a Tier 1 risk-based capital ratio of 6%;

 

    a Total risk-based capital ratio of 8%; and

 

    a Tier 1 leverage ratio of 4%.

In addition, Medallion Bank is subject to a Common Equity Tier 1 capital conservation buffer on top of the minimum risk-based capital ratios. The implementation of the capital conservation buffer began on January 1, 2016 at the 0.625% level and will increase by 0.625% each subsequent January 1 until January 1, 2019. Including the buffer, by January 1, 2019, Medallion Bank will be required to maintain the following minimum capital ratios: a Common Equity Tier 1 risk-based capital ratio of greater than 7.0%, a Tier 1 risk-based capital ratio of greater than 8.5% and a total risk-based capital ratio of greater than 10.5%. The new and highest form of capital, Common Equity Tier 1 capital, consists solely of common stock (plus related surplus), retained earnings, accumulated other comprehensive income, and limited amounts of qualifying minority interests that are in the form of common stock.

The U.S. Basel III capital rules retain or modify certain deductions from and adjustments to regulatory capital and also provide for new ones. In addition, the U.S. Basel III capital rules provide for limited recognition in Common Equity Tier 1 capital, and deduction from Common Equity Tier 1 capital above certain thresholds, of three categories of assets: (i) deferred tax assets arising from temporary differences that cannot be realized through net operating loss carrybacks (net of related valuation allowances and of deferred tax liabilities), (ii) mortgage servicing assets (net of associated deferred tax liabilities) and (iii) investments in more than 10% of the issued and outstanding common stock of unconsolidated financial institutions (net of associated deferred tax liabilities).

 

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For purposes of calculating the denominator of the three risk-based capital ratios, the assets of covered banking organizations are given risk weights that, under the U.S. Basel III capital rules, range from 0% to 1,250%, depending on the nature of the asset. Direct obligations of the U.S. Treasury or obligations unconditionally guaranteed by the U.S. government have a 0% risk weight, while general obligation claims on states or other political subdivisions of the United States are assigned a 20% risk weight, except for municipal or state revenue bonds, which have a 50% risk weight. Most first-lien residential mortgage exposures that are prudently underwritten and performing according to their original terms carry a 50% risk weight, with a 100% risk weight for other residential mortgage exposures. In addition, certain off-balance sheet items are assigned credit conversion factors to convert them to asset equivalent amounts to which an appropriate risk weight is applied. For example, the unused portion of unconditionally cancellable commitments is assigned a 0% conversion factor, while self-liquidating, transaction-related contingent items with an original maturity of one year or less and the amount of a commitment with an initial maturity of one year or less that is not unconditionally cancellable by the covered banking organization are converted at 20%. Transaction-related contingencies such as bid bonds and standby letters of credit backing nonfinancial obligations, as well as the amount of a commitment with an original maturity of more than one year that is not unconditionally cancellable, have a 50% conversion factor. General guarantees and standby letters of credit backing financial obligations are given a 100% conversion factor.

In addition, pursuant to provisions of the FDIC Improvement Act of 1991, or FDICIA, and related regulations with respect to prompt corrective action, FDIC-insured institutions such as Medallion Bank may only accept brokered deposits without FDIC permission if they meet specified capital standards, and are subject to restrictions with respect to the interest they may pay on deposits unless they are well capitalized. The U.S. Basel III capital rules revised the capital threshold to be well capitalized. Effective January 1, 2015, in order to qualify as well capitalized, an insured depository institution must maintain a Common Equity Tier 1 risk-based capital ratio of at least 6.5%, a Tier 1 risk-based capital ratio of at least 8.0%, a total risk-based capital ratio of at least 10.0%, and a Tier 1 leverage ratio of at least 5.0%, and the bank must not be under any order or directive from the appropriate regulatory agency to meet and maintain a specific capital level.

Pursuant to a capital maintenance agreement with the FDIC, we and Medallion Bank have agreed that the capital levels of Medallion Bank will at all times meet or exceed the levels required for Medallion Bank to be considered well-capitalized under the FDIC rules and regulations, that Medallion Bank’s Tier 1 capital to total assets leverage ratio will be maintained at not less than 15%, and that Medallion Bank will maintain an adequate allowance for loan and lease losses.

Medallion Bank is also subject to certain federal laws that restrict and control its ability to extend credit and provide or receive services between affiliates. Sections 23A and 23B of the Federal Reserve Act and Regulation W promulgated thereunder limit the transfer of funds by a depository institution to certain of its affiliates, including us, in the form of loans, extensions of credit, investments, or purchases of assets. Sections 23A and 23B and Regulation W also require generally that the depository institution’s transactions with its affiliates be on terms no less favorable to Medallion Bank than comparable transactions with unrelated third parties.

The USA Patriot Act and the International Money Laundering Abatement and Anti-Terrorist Financing Act of 2001, or the Patriot Act, was enacted on October 26, 2001, and is intended to detect and prosecute terrorism and international money laundering. The Patriot Act establishes new standards for verifying customer identification incidental to the opening of new accounts. Medallion Bank has undertaken appropriate measures to comply with the Patriot Act and associated regulations. Other provisions of the Patriot Act provide for special information sharing procedures governing communications with the government and other financial institutions with respect to suspected terrorists and money laundering activity, and enhancements to suspicious activity reporting, including electronic filing of suspicious activity reports over a secure filing network. The compliance programs required by the Patriot Act are intended to supplement pre-existing compliance requirements that apply to financial institutions under the Bank Secrecy Act and the Office of Foreign Assets Control, or OFAC, regulations to which Medallion Bank is also subject. The Bank Secrecy Act requires all financial institutions, including banks, to, among other things, establish a risk-based system of internal controls reasonably designed to prevent money laundering and the financing of terrorism. The Bank Secrecy Act includes a variety of record-keeping and reporting requirements (such as cash and suspicious activity reporting), as well as due diligence/know-your-customer documentation requirements. Medallion Bank has in place policies, procedures and internal controls in order to comply with Bank Secrecy Act and OFAC laws and regulations. Bank regulators routinely examine institutions for compliance with these obligations and are required to consider compliance in connection with the regulatory review of applications.

Federal and state banking agencies require Medallion Bank to prepare annual reports on financial condition and to conduct an annual audit of financial affairs in compliance with minimum standards and procedures. Medallion Bank must undergo regular on-site examinations by the appropriate banking agency, which will examine for adherence to a range of legal and regulatory compliance responsibilities. A bank regulator conducting an examination has complete access to the books and records of the examined institution. The results of the examination are confidential. The cost of examinations may be assessed against the examined institution as the agency deems necessary or appropriate.

 

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Other

Because Medallion Bank is an “insured depository institution” within the meaning of the Federal Deposit Insurance Act and the Change in Bank Control Act and we are a “financial institution holding company” within the meaning of the Utah Financial Institutions Act, federal and Utah law and regulations prohibit any person or company from acquiring control of us and, indirectly, Medallion Bank, without, in most cases, prior written approval of the FDIC or the Commissioner of Utah Department of Financial Institutions, as applicable. Under the Change in Bank Control Act, control is conclusively presumed if, among other things, a person or company acquires 25% or more of any class of our voting stock. A rebuttable presumption of control arises if a person or company acquires 10% or more of any class of voting stock and is subject to a number of specified “control factors” as set forth in the applicable regulations. Under the Utah Financial Institutions Act, control is defined as the power to vote 20% or more of any class of our voting securities by an individual or to vote more than 10% of any class of our voting securities by a person other than an individual. Investors are responsible for ensuring that they do not, directly or indirectly, acquire shares of our common stock in excess of the amount which can be acquired without regulatory approval. Although Medallion Bank is an “insured depository institution” within the meaning of the Federal Deposit Insurance Act and the Change in Bank Control Act, your investment in Medallion Financial Corp. is not insured or guaranteed by the FDIC, or any other agency, and is subject to loss.

We may also be prohibited under the 1940 Act from knowingly participating in certain transactions with our affiliates without the prior approval of our Board of Directors who are not interested persons and, in some cases, prior approval by the SEC.

We are periodically examined by the SEC for compliance with the 1940 Act. We are examined by the SBA annually for compliance with applicable SBA regulations. We are also periodically examined by the FDIC and the Utah Department of Financial Institutions. Medallion Bank is examined annually by the FDIC and the Utah Department of Financial Institutions.

We are required to provide and maintain a bond issued by a reputable fidelity insurance company to protect us against larceny and embezzlement. Furthermore, as a BDC, we are prohibited from protecting any director or officer against any liability to us or our shareholders arising from willful misfeasance, bad faith, gross negligence, or reckless disregard of the duties involved in the conduct of such person’s office.

We have adopted and implemented written policies and procedures reasonably designed to prevent violation of the federal securities laws, and intend to review these policies and procedures annually for their adequacy and the effectiveness of their implementation. We have designated a chief compliance officer to be responsible for administering our policies and procedures.

In addition to the regulations detailed above, our operations are subject to supervision and regulation by other federal, state, and local laws and regulations. Additionally, our operations may be subject to various laws and judicial and administrative decisions. This oversight may serve to:

 

    regulate credit granting activities, including establishing licensing requirements, if any, in various jurisdictions;

 

    establish maximum interest rates, finance charges and other charges;

 

    require disclosures to customers;

 

    govern secured transactions;

 

    set collection, foreclosure, repossession and claims handling procedures and other trade practices;

 

    prohibit discrimination in the extension of credit and administration of loans; and

 

    regulate the use and reporting of information related to a borrower’s credit experience and other data collection.

Changes to laws of states in which we do business could affect the operating environment in substantial and unpredictable ways. We cannot accurately predict whether such changes will occur or, if they occur, the ultimate effect they would have upon our financial condition or results of operations.

Compliance with the Sarbanes-Oxley Act of 2002 and NASDAQ Corporate Governance Regulations

The Sarbanes-Oxley Act of 2002, or the Sarbanes-Oxley Act, imposes a wide variety of regulatory requirements on publicly-held companies and their insiders. Many of these requirements affect us. The Sarbanes-Oxley Act has required us to review our policies and procedures to determine whether we comply with the Sarbanes-Oxley Act and the regulations promulgated thereunder. We will continue to monitor our compliance with all future regulations that are adopted under the Sarbanes-Oxley Act and will take actions necessary to ensure that we are in compliance therewith.

 

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In addition, NASDAQ has adopted corporate governance listing standards. We believe we are in compliance with such corporate governance listing standards. We will continue to monitor our compliance with all future listing standards and will take actions necessary to ensure that we are in compliance therewith.

AVAILABLE INFORMATION

Our corporate website is located at www.medallion.com. We make copies of our Annual Reports on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K, and any amendment to those reports filed with or furnished to the SEC available to investors on or through our website free of charge as soon as reasonably practicable after we electronically file them with or furnish them to the SEC. Our SEC filings can be found in the For Investors section of our website, the address of which is http://www.medallion.com/investors.html. Our Code of Ethical Conduct and Insider Trading Policy can be located in the Corporate Governance section of our website at http://www.medallion.com/investors_corporate_governance.html. These documents, as well as our SEC filings are available in print to any stockholder who requests a copy from our Secretary.

 

ITEM 1A. RISK FACTORS

Risks Relating to Our Business and Structure

Changes in the taxicab and for-hire vehicle industries have resulted in increased competition and have had a material adverse effect on our business, financial condition, and operations.

There have been recent changes in the taxicab and for-hire vehicle industries that have resulted in increased competition in all of our taxi medallion markets. Ridesharing applications, or ridesharing apps, utilized by for-hire vehicles were introduced in New York City in 2011 and continue to expand domestically and globally. Many of these for-hire vehicle operators operate outside of the regulatory regime with which we and our borrowers operate, which poses an increased risk of competition because such operators are able to pass the cost savings of not having to comply with certain regulations to its passengers. According to the TLC, between January 2016 and January 2017 approximately 17,100 new for-hire vehicle licenses were issued, increasing the total number of for-hire vehicles to approximately 89,100 as of January 31, 2017, a 24% increase from January 2016.

In addition, the New York State legislature enacted a law on December 21, 2011, which was amended on February 17, 2012, to permit cars for-hire to pickup street hails in boroughs outside of Manhattan. Pursuant to this law the TLC has issued approximately 8,300 Street Hail Livery licenses since June 2013, of which approximately 5,000 are active.

TLC annualized data through December 2016 has shown a 9.3% reduction in total New York City taxicab fares, compared to the same period in 2015, and a 10.7% reduction in the total number of New York City taxicab trips. Such reductions in fare totals and taxicab trips are likely the result of a combination of ridesharing apps, Street Hail Livery licenses, and other forms of public transportation.

As of December 31, 2016, 18.8% of our managed medallion loan portfolio and 24.4% of our on-balance sheet loan portfolios were 90 days or more past due, compared to 4.1% and 3% at December 31, 2015. As discussed in further detail below, there have also been recent decreases in the values of our medallion loan collateral and our Chicago medallions purchased out of foreclosure. Increased competition from ridesharing apps and Street Hail Livery licenses has reduced our market share, the overall market for taxicab services, the supply of taxicab drivers, income from operating medallions, and the value of taxicab medallions. If these trends continue and intensify, there would be a further material increase to our loan to value ratios, loan delinquencies, and loan defaults resulting in a material adverse effect on our business, financial condition, and results of operations.

Decreases in the value of our medallion loan collateral and our Chicago medallions purchased out of foreclosure have had a material adverse effect on our business.

A significant portion of our loan revenue is derived from loans collateralized by New York City taxicab medallions. According to TLC data, over the past 20 years New York City taxicab medallions had appreciated in value from under $200,000 to $1,320,000 for corporate medallions and $1,050,000 for individual medallions in 2014. Over approximately the last two years, however, taxicab medallions have declined in value. Since the September 30, 2014 peak valuation, the value of New York City taxicab medallions decreased by approximately 52% for individual medallions and 58% for corporate medallions. As reported by the TLC, individual (owner-driver) medallions sold for approximately $500,000 and corporate medallions sold for approximately $550,000 as of December 31, 2016.

 

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We own 159 Chicago taxicab medallions that were purchased out of foreclosure in 2003. Additionally, a portion of our loan revenue is derived from loans collateralized by Chicago taxicab medallions. The Chicago medallions had appreciated in value from $50,000 in 2003 to approximately $370,000 in 2013. Since that time, however, there has been a decline in the value of Chicago taxicab medallions to approximately $60,000 at the end of 2016.

Decreases in the value of our medallion loan collateral has resulted in an increase in the loan-to-value ratios of our medallion loans. We estimate that the weighted average loan-to-value ratio of our managed medallion loans was approximately 129% as of December 31, 2016 and 76% as of December 31, 2015. If taxicab medallion values continue to decline, there would be an increase in medallion loan delinquencies, foreclosures and borrower bankruptcies. Our ability to recover on defaulted medallion loans by foreclosing on and selling the medallion collateral would be diminished, which would result in material losses on defaulted medallion loans which would have a material adverse effect on our business. A substantial decrease in the value of our Chicago medallions purchased out of foreclosure would adversely affect our ability to dispose of such medallions at times when it may be advantageous for us to do so. If we are required to liquidate all or a portion of our medallions quickly, we would realize less than the value at which we had previously recorded such medallions.

We borrow money, which magnifies the potential for gain or loss on amounts invested, and may increase the risk of investing in us.

Borrowings, also known as leverage, magnify the potential for gain or loss on amounts invested, and therefore increase the risk associated with investing in us. We borrow from and issue senior debt securities to banks and other lenders, and through long-term subordinated SBA debentures. These creditors have fixed dollar claims on our assets that are superior to the claims of our shareholders. If the value of our assets increases, then leveraging would cause the net asset value to increase more sharply than it would have had we not leveraged. Conversely, if the value of our assets decreases, leveraging would cause net asset value to decline more sharply than it otherwise would have had we not leveraged. Similarly, any increase in our income in excess of interest payable on the borrowed funds would cause our net income to increase more than it would without the leverage, while any decrease in our income would cause net income to decline more sharply than it would have had we not borrowed. Such a decline could reduce the amount available for distribution payments.

As of December 31, 2016, we had $349,073,000 of outstanding indebtedness, which had a weighted average borrowing cost of 3.60% at December 31, 2016, and our wholly-owned unconsolidated portfolio companies, primarily Medallion Bank, had $908,442,000 of outstanding indebtedness at a weighted average borrowing cost of 1.22%.

Most of our borrowing relationships have maturity dates during 2017. We have been in active and ongoing discussions with each of these lenders and have extended each of the facilities as they matured except as set forth in the following risk factor. Certain lenders have worked with us to extend and change the terms of the borrowing agreements. See note 4 for a discussion of the current and new lending arrangements to date.

Failure to obtain an extension of our existing credit facilities or failure to obtain additional revolving credit facilities could have a material adverse effect on our results of operations and financial position.

We utilize secured revolving credit facilities and other facilities to fund our investments. We cannot guarantee that our credit facilities will continue to be available beyond their current maturity dates on reasonable terms or at all or that we will be able to otherwise obtain funds by selling assets or raising equity to make required payments on maturing indebtedness. Our revolving credit facilities have converted to term loans. Obtaining additional revolving credit facilities or other alternative sources of financing may be difficult and we cannot guarantee that we will be able to do so on terms favorable to us or at all. The availability of revolving credit facilities depends, in part, on factors outside of our control, including regulatory capital treatment for unfunded bank lines of credit, the financial strength and strategic objectives of the banks that participate in our credit facilities and the availability of bank liquidity in general. If the credit facilities are not renewed or extended by our lenders by their maturity dates, we will not be able to make further borrowings under the facilities after they mature and the outstanding principal balances under such facilities will be due and payable at maturity. If we are unable to refinance our indebtedness at maturity or meet our payment obligations, our financial condition would be adversely affected and our lenders may foreclose on the property securing such indebtedness. If we are unable to extend or replace these facilities or arrange new credit facilities or other types of interim financing, we may need to curtail or suspend loan origination and funding activities which could have a material adverse effect on our results of operations and financial position.

We and our subsidiaries obtain financing under lending facilities extended by various banks and other financial institutions, some of which are secured by loans, taxi medallions and other assets. Where these facilities are extended to our subsidiaries, we and others of our subsidiaries may guarantee the obligations of the relevant borrower. Five of our smallest subsidiaries are borrowers under promissory notes extended to them by a bank that total $8.8 million that came due on October 17, 2016. These loans are secured by Chicago taxi medallions owned by our subsidiaries. These notes are guaranteed by Medallion Funding, not by Medallion Financial

 

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Corp. These subsidiaries have not repaid the amounts due under the notes and the bank has filed a suit seeking payment of these amounts. This failure to pay would constitute an event of default under certain loan agreements which we or our subsidiaries are borrowers, but the lenders under those agreements have waived the default. If judgment is entered against us in the suit brought by the bank or entered and not satisfied within specified periods of time, these outcomes may constitute an additional event of default under these other agreements. If waivers are required and not granted for this additional event of default, it would lead to events of default under other of our financing arrangements.

We are subject to certain financial covenants and other restrictions under our loan and credit arrangements, which could affect our ability to finance future operations or capital needs or to engage in other business activities.

Our loan and credit agreements contain financial covenants and other restrictions relating to borrowing base eligibility, tangible net worth, net income, leverage ratios, shareholders’ equity, and collateral values. Our ability to meet these financial covenants and restrictions could be affected by events beyond our control, such as a substantial decline in collateral values or a rise in borrower delinquencies. A breach of these covenants could result in an event of default under the applicable debt instrument. Such a default, if not cured or waived, may allow the creditors to accelerate the related debt and may result in the acceleration of any other debt that is subject to an applicable cross-acceleration or cross-default provision. Certain other events can constitute an event of default. Furthermore, if we were unable to repay the amounts due and payable under our credit facilities, those lenders could proceed against the collateral granted to them to secure that indebtedness. In the event our lenders or holders of the related notes accelerate the repayment of our borrowings, we and our subsidiaries may not have sufficient assets to repay that indebtedness. Based on the foregoing factors, the operating and financial restrictions and covenants in our current credit agreements and any future financing agreements could adversely affect our ability to finance future operations or capital needs or to engage in other business activities.

Consumer lending by Medallion Bank carries a higher risk of loss and could be adversely affected by an economic downturn.

By its nature, lending to consumers carries with it a higher risk of loss than commercial lending. Although the net interest margins should be higher to compensate Medallion Bank for this increased risk, an economic downturn could result in higher loss rates and lower returns than expected, and could affect the profitability of Medallion Bank’s consumer loan portfolio.

We are dependent upon our key investment personnel for our future success.

We depend on the diligence, skill, and network of business contacts of the investment professionals we employ for sourcing, evaluating, negotiating, structuring, and monitoring our investments. Our future success will also depend, to a significant extent, on the continued service and coordination of our senior management team, particularly, Alvin Murstein, our Chairman and Chief Executive Officer, Andrew M. Murstein, our President, and Larry D. Hall, our Chief Financial Officer. The departure of Messrs. Murstein or Hall, or any member of our senior management team, could have a material adverse effect on our ability to achieve our investment objective.

Changes in taxicab industry regulations that result in the issuance of additional medallions or increases in the expenses involved in operating a medallion would lead to a decrease in the value of our medallion loan collateral and our Chicago medallions purchased out of foreclosure.

Every city in which we originate medallion loans, and most other major cities in the United States, limits the supply of taxicab medallions. This regulation results in supply restrictions that support the value of medallions. Actions that loosen these restrictions and result in the issuance of additional medallions into a market could decrease the value of medallions in that market. If this were to occur, the value of the collateral securing our then outstanding medallion loans in that market would be adversely affected. We are unable to forecast with any degree of certainty whether any other potential increases in the supply of medallions will occur.

In New York City, Chicago, Boston, and other markets where we originate medallion loans, taxicab fares are generally set by government agencies. Expenses associated with operating taxicabs are largely unregulated. As a result, the ability of taxicab operators to recoup increases in expenses is limited in the short term. Escalating expenses, such as rising gas prices and an increase in interest rates, can render taxicab operations less profitable, could cause borrowers to default on loans from us and would adversely affect the value of our collateral.

We operate in a highly regulated environment, and if we are found to be in violation of any of the federal, state, or local laws or regulations applicable to us, our business could suffer.

The 1940 Act imposes numerous constraints on the operations of BDC’s. For example, BDC’s are required to invest at least 70% of their total assets in qualifying assets, primarily securities of “eligible portfolio companies” (as defined under the 1940 Act),

 

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cash, cash equivalents, US government securities, and other high quality debt investments that mature in one year or less. Our regulatory requirements may hinder our ability to take advantage of attractive investment opportunities and, as a result, achieve our investment objective. In addition, we rely upon several exemptive orders from the SEC permitting us to consolidate our financial reporting and operate our business as presently conducted. Our failure to satisfy the conditions set forth in those exemptive orders could result in our inability to rely upon such orders or to cause the SEC to revoke the orders which could result in material changes in our financial reporting or the way in which we conduct our business. Furthermore, any failure to comply with the requirements imposed on BDC’s by the 1940 Act could have material adverse consequences to us or our investors, including possible enforcement action by the SEC. If we do not remain a BDC, we might be regulated as a closed-end investment company under the 1940 Act, which would further significantly decrease our operating flexibility.

The Dodd-Frank Wall Street Reform and Consumer Protection Act, or the Dodd-Frank Act, was enacted in 2010. The Dodd-Frank Act significantly changed federal financial services regulation and affects, among other things, the lending, deposit, investment, trading, and operating activities of financial institutions and their holding companies. In addition to the statutory requirements under the Dodd-Frank Act, the legislation also delegated authority to US banking, securities and derivatives regulators to impose additional restrictions through required rulemaking. The Dodd-Frank Act requires a company that owns an industrial bank to serve as a “source of strength” to the institution. We believe that we have historically served, and will serve in the future, as a source of strength to our industrial bank subsidiary, Medallion Bank. We do not believe that the codification of this requirement under the Dodd-Frank Act materially impacts our obligations. A company that owns an industrial bank is also subject to the Dodd-Frank Act “Volcker Rule.” We do not believe that the “Volcker Rule” materially impacts our operations as presently conducted.

Other changes in the laws or regulations applicable to us more generally, may negatively impact the profitability of our business activities, require us to change certain of our business practices, materially affect our business model, limit the activities in which we may engage, affect retention of key personnel, require us to raise additional regulatory capital, increase the amount of liquid assets that we hold, otherwise affect our funding profile or expose us to additional costs (including increased compliance costs). Any such changes may also require us to invest significant management attention and resources to make any necessary changes and may adversely affect our ability to conduct our business as previously conducted or our results of operations or financial condition.

We are also subject to a wide range of federal, state, and local laws and regulations, such as local licensing requirements, and retail financing, debt collection, consumer protection, environmental, health and safety, creditor, wage-hour, anti-discrimination, whistleblower and other employment practices laws and regulations and we expect these costs to increase going forward. The violation of these or future requirements or laws and regulations could result in administrative, civil, or criminal sanctions against us, which may include fines, a cease and desist order against the subject operations or even revocation or suspension of our license to operate the subject business. As a result, we have incurred and will continue to incur capital and operating expenditures and other costs to comply with these requirements and laws and regulations.

Changes in laws, regulations, or policies may adversely affect our business.

The post-financial crisis era has been marked by an increase in regulation, regulatory intensity, and enforcement. We are unable to predict all of the ways in which this change in the regulatory environment could impact our business models or objectives. The laws and regulations governing our lending, servicing, and debt collection activities or the regulatory or enforcement environment at the federal level or in any of the states in which we operate may change at any time which may have an adverse effect on our business.

We expect, however, to see an increase over time in regulatory scrutiny and enforcement in the area of consumer financial products regulation, as a result of the establishment of the Consumer Financial Protection Bureau, or the CFPB, by the Dodd-Frank Act. The CFPB is responsible for interpreting and enforcing a broad range of consumer protection laws that govern the provision of deposit accounts and the making of loans, including the regulation of mortgage lending and servicing and automobile finance. While Medallion Bank’s size currently falls below the threshold that would give the CFPB direct authority over it, Medallion Bank’s existing bank supervisors may pursue similar policies and make similar information requests to those of the CFPB with respect to consumer financial products and other matters within the scope of the CFPB’s authority. We believe that the CFPB’s regulatory reforms, together with other provisions of the Dodd-Frank Act, and increased regulatory supervision, may increase our cost of doing business, impose new restrictions on the way in which we conduct our business, or add significant operational constraints that might impair our profitability.

We are unable to predict how these or any other future legislative proposals or programs will be administered or implemented or in what form, or whether any additional or similar changes to statutes or regulations, including the interpretation or implementation thereof, will occur in the future. Any such action could affect us in substantial and unpredictable ways and could have an adverse effect on our results of operations and financial condition.

 

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Our inability to remain in compliance with regulatory requirements in a particular jurisdiction could have a material adverse effect on our operations in that market and on our reputation generally. No assurance can be given that applicable laws or regulations will not be amended or construed differently or that new laws and regulations will not be adopted, either of which could materially adversely affect our business, financial condition, or results of operations.

Federal and state law may discourage certain acquisitions of our common stock which could have a material adverse effect on our shareholders.

Because Medallion Bank is an “insured depository institution” within the meaning of the Federal Deposit Insurance Act and the Change in Bank Control Act and we are a “financial institution holding company” within the meaning of the Utah Financial Institutions Act, federal and Utah law and regulations prohibit any person or company from acquiring control of us and, indirectly Medallion Bank, without, in most cases, prior written approval of the FDIC or the Commissioner of the Utah Department of Financial Institutions, as applicable. Under the Change in Bank Control Act, control is conclusively presumed if, among other things, a person or company acquires 25% or more of any class of our voting stock. A rebuttable presumption of control arises if a person or company acquires 10% or more of any class of voting stock and is subject to a number of specified “control factors” as set forth in the applicable regulations. Under the Utah Financial Institutions Act, control is defined as the power to vote 20% or more of any class of our voting securities by an individual or to vote more than 10% of any class of our voting securities by a person other than an individual. Investors are responsible for ensuring that they do not, directly or indirectly, acquire shares of our common stock in excess of the amount which can be acquired without regulatory approval. These provisions could delay or prevent a third party from acquiring us, despite the possible benefit to our shareholders, or otherwise adversely affect the market price of our common stock. Although Medallion Bank is an “insured depository institution” within the meaning of the Federal Deposit Insurance Act and the Change in Bank Control Act, your investment in Medallion Financial Corp. is not insured or guaranteed by the FDIC, or any other agency, and is subject to loss.

Regulations governing our operation as a BDC may affect our ability to, and the way in which, we raise additional capital.

Our business may periodically require capital. We may acquire additional capital from the following sources:

Senior Securities and Other Indebtedness. We may issue debt securities or preferred stock, and/or borrow money from banks or other financial institutions, which we refer to collectively as senior securities, up to the maximum amount permitted by the 1940 Act. If we issue senior securities, including debt or preferred stock, we will be exposed to additional risks, including the following:

 

    Under the provisions of the 1940 Act, we are permitted, as a BDC, to issue senior securities only in amounts such that our asset coverage, as defined in the 1940 Act, equals at least 200% after each issuance of senior securities. If the value of our assets declines, we may be unable to satisfy this test. If that happens, we may be restricted from issuing additional debt, may be limited in making distributions on our stock, and may be required to sell a portion of our investments and, depending on the nature of our leverage, to repay a portion of our debt at a time when such sales and/or repayments may be disadvantageous. In addition to the 1940 Act, we are subject to two exemptive orders which govern how we calculate our senior securities and under which we have agreed that we will meet the applicable asset coverage ratios both individually and on a consolidated basis. As of December 31, 2016, our asset coverage was approximately 276%, calculated on a consolidated basis, and 261% calculated on an unconsolidated basis.

 

    Any amounts that we use to service our debt or make payments on preferred stock will not be available for distributions to our common shareholders.

 

    It is likely that any senior securities or other indebtedness we issue will be governed by an indenture or other instrument containing covenants restricting our operating flexibility. Additionally, some of these securities or other indebtedness may be rated by rating agencies, and in obtaining a rating for such securities and other indebtedness, we may be required to abide by operating and investment guidelines that further restrict operating and financial flexibility.

 

    We and, indirectly, our shareholders will bear the cost of issuing and servicing such securities and other indebtedness.

 

    Preferred stock or any convertible or exchangeable securities that we issue in the future may have rights, preferences, and privileges more favorable than those of our common stock, including separate voting rights, and could delay or prevent a transaction or a change in control to the detriment of the holders of our common stock.

Additional Common Stock. We are not generally able to issue and sell our common stock at a price below net asset value (less any distributing commission or discount) per share. We may, however, sell our common stock, warrants, options, or rights to acquire our common stock, at a price below the current net asset value of the common stock if our Board of Directors determines that such sale is in our best interests and that of our shareholders, and our shareholders approve such sale. In any such case, the price at which our securities are to be issued and sold may not be less than a price which, in the determination of our Board of Directors, closely

 

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approximates the market value of such securities (less any distributing commission or discount). We may also make rights offerings to our shareholders at prices per share less than the net asset value per share, subject to applicable requirements of the 1940 Act. If we raise additional funds by issuing more common stock or senior securities convertible into, or exchangeable for, our common stock, the percentage ownership of our shareholders at that time would decrease and they may experience dilution. Moreover, we can offer no assurance that we will be able to issue and sell additional equity securities in the future, on favorable terms or at all.

Since our investments in assets that are not “qualifying assets” exceeded 30% of our total assets as of December 31, 2016, we are precluded from making any follow-on investments in Medallion Bank and our City of Chicago taxicab medallions purchased out of foreclosure, and could be precluded from investing in what we believe are attractive investments, which could have a material adverse effect on our business.

As a business development company, we are not permitted to acquire any assets other than “qualifying assets” unless, at the time of such acquisition, at least 70% of our total assets are qualifying assets. Our investment in Medallion Bank and City of Chicago taxicab medallions purchased out of foreclosure, which are carried in investments other than securities on the consolidated balance sheet, are non-qualifying assets. As of December 31, 2016, the percentage of our total assets that were invested in non-qualifying assets were up to 52.1% on an unconsolidated basis and up to 43.0% on a consolidated basis. We did not satisfy the requirement that no more than 30% of our total assets be comprised of non-qualifying assets, and are currently not permitted to acquire any non-qualifying assets. We are therefore unable to make any investments in non-qualifying assets, including follow-on investments in Medallion Bank and our City of Chicago taxicab medallions purchased out of foreclosure. As a result of such failure, we could also be precluded from investing in what we believe are attractive investments or could be required to dispose of non-qualifying assets at times or on terms that may be disadvantageous to us. We would also not be able to support Medallion Bank’s capital requirements, if any, and Medallion Bank may also not be able to grow as quickly because we are precluded from providing additional funding to Medallion Bank. Any of the foregoing consequences could have a material adverse effect on us. If we purchase a non-qualifying asset after failing to satisfy the requirement that no more than 30% of our total assets be comprised of non-qualifying assets, then we would be deemed to be in violation of the 1940 Act and the violation could also result in an event of default on our debt obligations.

We are exploring measures to return the amount of qualifying assets to at least 70% of our total assets. However, we cannot guarantee that we will be able to do so. At the end of each fiscal quarter, we may take proactive steps to prospectively preserve investment flexibility in the next quarter which is assessed against our total assets at our most recent quarter end. We can accomplish this in many ways including purchasing US Treasury bills or other investment-grade debt securities, and closing out our position on a net cash basis subsequent to quarter end. However, if such proactive measures are ineffective or our primary investments are deemed not to be qualifying assets, or if the fair value of our non-qualifying assets increases or is determined to be higher than previously determined, or if the fair value of our qualifying assets decreases or is determined to be lower than previously determined, we could continue to fail to satisfy the requirement that no more than 30% of our total assets be comprised of non-qualifying assets.

Change in the Company’s Tax Classification.

RIC qualification rules require that at the end of each quarter of our taxable year, (i) at least 50% of the market value of our assets must be represented by cash, securities of other RICs, US government securities, and other securities, with such other securities limited, in respect of any one issuer, to an amount not greater than 5% of our assets and not greater than 10% of the outstanding voting securities of such issuer and (ii) not more than 25% of the value of our assets may be invested in the securities (other than US government securities or securities of other RICs) of any one issuer, any two or more issuers of which 20% or more of the voting stock is held by us and that are determined to be engaged in the same or similar trades or businesses or related trades or businesses or in the securities of one or more qualified publicly traded partnerships. We monitor our compliance with these asset tests and any other investment concentrations in conjunction with the diversification tests. As of December 31, 2016, our largest investment subject to this test was our investment in Medallion Bank, representing 51.1% of our RIC assets, and no other investments were more than 5% of our RIC assets. As a result of our failure of the 25% asset diversification test, we are not eligible to file our tax returns as a RIC for 2016.

Because we do not meet the qualifications for RIC tax treatment for the tax year ended December 31, 2016, and now we are subject to corporate income tax, the resulting corporate taxes could substantially reduce our net assets, the amount of income available for distribution and the amount of our distributions. Qualification as a RIC is made on an annual basis and, although we and some of our subsidiaries have qualified in the past, we cannot assure you that we will qualify for such treatment in the future.

If we do not qualify as a RIC for more than two consecutive years, and then seek to requalify and elect RIC status, we would be required to recognize gain to the extent of any unrealized appreciation on our assets unless we make a special election to pay corporate-level tax on any such unrealized appreciation recognized during the succeeding 10-year period.

 

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To obtain and maintain RIC tax treatment under the Code in any future taxable year, we must meet the following annual distribution, income source, and asset diversification requirements.

 

    The annual distribution requirement for a RIC will be satisfied if we distribute to our shareholders on an annual basis at least 90% of our net ordinary income and realized net short-term capital gains in excess of realized net long-term capital losses, if any, and at least 90% of our net tax-exempt income. Because we use debt financing, we are subject to certain asset coverage ratio requirements under the 1940 Act and financial covenants under loan and credit agreements that could, under certain circumstances, restrict us from making distributions necessary to satisfy the distribution requirement. If we are unable to obtain cash from other sources, we could fail to qualify for RIC tax treatment and thus become subject to corporate-level income tax.

 

    The income source requirement will be satisfied if we obtain at least 90% of our income for each year from dividends, interest, gains from the sale of stock or securities, or similar sources.

 

    The asset diversification requirement will be satisfied if we meet certain asset diversification requirements at the end of each quarter of our taxable year. Failure to meet those requirements may result in our having to dispose of certain investments quickly in order to prevent the loss of RIC status. Because most of our investments will be in private companies, and therefore will be relatively illiquid, any such dispositions could be made at disadvantageous prices and could result in substantial losses.

If we meet the requirements to be treated as a RIC in a future tax year, for US federal income tax purposes, we would have to include in taxable income certain amounts that we would not have yet received in cash, such as original issue discount, which may arise if we received warrants in connection with the origination of a loan or possibly in other circumstances, or contractual payment-in-kind interest, which represents contractual interest added to the loan balance and due at the end of the loan term. Such original issue discount or increases in loan balances as a result of payment-in-kind interest will be included in income before we receive any corresponding cash payments. We also may be required to include in income certain other amounts that we will not receive in cash.

Since, in certain cases, we may recognize income before or without receiving cash representing such income, we may have difficulty meeting the annual distribution requirement necessary to achieve and maintain RIC tax treatment under the Code. Accordingly, we may have to sell some of our investments at times and/or at prices we would not consider advantageous, raise additional debt or equity capital, or reduce new investment originations for this purpose. If we are not able to obtain cash from other sources, we may fail to qualify for RIC tax treatment and thus become subject to corporate-level income tax.

As Medallion Bank grows, a greater portion of our business will be subject to corporate-level tax.

Medallion Bank must pay corporate-level US federal and state income taxes. As Medallion Bank grows its business, more of its income will be taxed, which will reduce the amount of cash available for distribution to us and, in turn, to our shareholders.

Our SBIC subsidiaries may be unable to meet the investment company requirements, which could result in the imposition of an entity-level tax.

Some of our subsidiaries are subject to the SBIA. Our SBIC subsidiaries that are RICs may be prohibited by the SBIA from making the distributions necessary to qualify as a RIC. The SBA has agreed that our SBIC subsidiaries can make these distributions provided we reinvest the distributions in our SBIC subsidiaries as undistributed net realized earnings. We cannot assure you that this will continue to be the SBA’s policy or that our subsidiaries will have adequate capital to make the required adjustments. If our subsidiaries are unable to obtain a waiver, compliance with the SBA regulations may result in loss of RIC status and a consequent imposition of an entity-level tax at the subsidiary level. In the event we are granted a waiver, we will be required to reinvest the distribution into the SBIC as capital. This may result in us recognizing taxable income without receiving a corresponding amount of cash to pay the distribution. Any failure to pay the distribution could cause a loss of RIC status and the imposition of entity level tax.

Our SBIC subsidiaries are licensed by the SBA, and are therefore subject to SBA regulations.

Our SBIC subsidiaries are licensed to operate as SBICs and are regulated by the SBA. The SBA also places certain limitations on the financing terms of investments by SBICs in portfolio companies and prohibits SBICs from providing funds for certain purposes or to businesses in a few prohibited industries. Compliance with SBA requirements may cause the SBIC subsidiaries to forego attractive investment opportunities that are not permitted under SBA regulations.

Further, SBA regulations require that a licensed SBIC be periodically examined and audited by the SBA to determine its compliance with the relevant SBA regulations. The SBA prohibits, without prior SBA approval, a “change of control” of an SBIC or transfers that would result in any person (or a group of persons acting in concert) owning 10% or more of a class of capital stock of an

 

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SBIC. If the SBIC subsidiaries fail to comply with applicable SBIC regulations, the SBA could, depending on the severity of the violation, limit or prohibit their use of debentures, declare outstanding debentures immediately due and payable, and/or limit them from making new investments. In addition, the SBA could revoke or suspend an SBIC license or bring a suit for the appointment of a receiver for the SBIC and for its liquidation for willful or repeated violation of, or willful or repeated failure to observe, any provision of the SBIA or any rule or regulation promulgated thereunder. Such actions by the SBA would, in turn, negatively affect us.

We may materially change our corporate structure and the nature of our business.

We are very much affected by the legal, regulatory, tax and accounting regimes under which we operate. We periodically evaluate whether those regimes and our existing corporate structure are the optimum means for the operation and capitalization of our business. As a result of these evaluations, we may decide to proceed with structural and organizational changes (certain of which may require the approval of our shareholders), which could result in material dispositions of various assets, changes in our corporate form, withdrawal of our election to be regulated as a BDC, our conversion from an investment company to an operating company or other fundamental changes. If we were no longer an investment company, our accounting practices, among others would change and lead to the consolidation of certain majority owned companies for financial reporting purposes that we do not currently consolidate as an investment company. Additionally, if we were no longer an investment company, our shareholders would not benefit from the investor protections provided by the 1940 Act. We may incur certain costs in completing these evaluations and may receive no benefit from these expenditures, particularly if we do not proceed with any changes. No decisions have been made with respect to any such changes and there is no timetable for making any decisions, including any decision not to proceed with any such changes.

We operate in a highly competitive market for investment opportunities.

We compete for investments with other business development companies and other investment funds as well as traditional financial services companies such as commercial banks and credit unions. Many of our competitors are substantially larger and have considerably greater financial, technical, and marketing resources than we do. For example, some competitors may have a lower cost of funds and access to funding sources that are not available to us. In addition, some of our competitors may have higher risk tolerances or different risk assessments. These characteristics could allow our competitors to consider a wider variety of investments, establish more relationships, and offer better pricing and more flexible structuring than us. We may be unwilling to match our competitors’ pricing, terms, and structure of certain loans and investments opportunities due to potential risks, which may result in us earning less income than our competitors. If we are forced to match our competitors’ pricing, terms, and structure, we may not be able to achieve acceptable returns on our investments or may bear substantial risk of capital loss. Furthermore, many of our competitors are not subject to the regulatory restrictions that the 1940 Act imposes on us as a BDC.

We cannot assure you that the competitive pressures we face will not have a material adverse effect on our business, financial condition, and results of operations. Also, as a result of this competition, we may not be able to take advantage of attractive investment opportunities from time to time.

Changes in interest rates may affect our cost of capital and net investment income.

Because we borrow to fund our investments, a portion of our income is dependent upon the difference between the interest rate at which we borrow funds and the interest rate at which we invest these funds. A portion of our investments, such as taxi medallion loans, will have fixed interest rates, while a portion of our borrowings will likely have floating interest rates. As a result, a significant change in market interest rates could have a material adverse effect on our net investment income. In periods of rising interest rates, our cost of funds could increase, which would reduce our net investment income. We may hedge against interest rate fluctuations by using standard hedging instruments, subject to applicable legal requirements. These activities may limit our ability to participate in the benefits of lower interest rates with respect to the hedged portfolio. Adverse developments resulting from changes in interest rates or hedging transactions could have a material adverse effect on our business, financial condition, and results of operations. Also, we will have to rely on our counterparties to perform their obligations under such hedges.

A decrease in prevailing interest rates may lead to more loan prepayments, which could adversely affect our business.

Our borrowers generally have the right to prepay their loans upon payment of a fee ranging from 1% to 2% for standard commodity loans, and for higher amounts, as negotiated, for larger more custom loan arrangements. A borrower is likely to exercise prepayment rights at a time when the interest rate payable on the borrower’s loan is high relative to prevailing interest rates. In a lower interest rate environment, we will have difficulty re-lending prepaid funds at comparable rates, which may reduce the net interest income that we receive. When this occurs, we will generally reinvest these proceeds in temporary investments, pending their future investment in new portfolio companies. These temporary investments will typically have substantially lower yields than the debt being prepaid, and we could experience significant delays in reinvesting these amounts. Any future investment in a new portfolio company may also be at lower yields than the debt that was repaid. As a result, our results of operations could be materially adversely affected if

 

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a substantial number of our portfolio companies elect to prepay amounts owed to us and we are not able to reinvest the proceeds for comparable yields in a timely fashion. Additionally, prepayments could negatively impact our return on equity, which could result in a decline in the market price of our common stock.

An increase in prevailing interest rates could adversely affect our business.

The majority of our loan portfolio is comprised of fixed-rate loans. An abrupt increase in market rates of interest may have an adverse impact on our earnings until we are able to originate new loans at higher prevailing interest rates.

We depend on cash flow from our subsidiaries to make distribution payments to our shareholders.

We are primarily a holding company, and we derive most of our operating income and cash flow from our subsidiaries. As a result, we rely heavily upon distributions from our subsidiaries to generate the funds necessary to make distribution payments to our shareholders. Funds are provided to us by our subsidiaries through dividends and payments on intercompany indebtedness, but we cannot assure you that our subsidiaries will be in a position to continue to make these dividend or debt payments. The Utah Department of Financial Institutions and FDIC have the authority to prohibit or to limit the payment of dividends by Medallion Bank. In addition, as a condition to receipt of FDIC insurance, Medallion Bank entered into a capital maintenance agreement with the FDIC requiring it to maintain a 15% leverage ratio (Tier 1 capital to average assets). As of December 31, 2016 Medallion Bank’s leverage ratio was 14.5% and Medallion Bank may be restricted from declaring and paying dividends as a result of the leverage ratio being below 15%.

Medallion Bank’s use of brokered deposit sources for its deposit-gathering activities may not be available when needed.

Medallion Bank relies on the established brokered deposit market to originate deposits to fund its operations. Medallion Bank’s brokered deposits consist of deposits raised through the brokered deposit market rather than through retail branches. While Medallion Bank has developed contractual relationships with a diversified group of investment brokers, and the brokered deposit market is well developed and utilized by many banking institutions, conditions could change that might affect the availability of deposits. If the capital levels at Medallion Bank fall below the “well-capitalized” level as defined by the FDIC or the capital level currently required by the FDIC pursuant to its capital maintenance agreement, or if Medallion Bank experiences a period of sustained operating losses, the cost of attracting deposits from the brokered deposit market could increase significantly, and the ability of Medallion Bank to raise deposits from this source could be impaired. Brokered deposits may also not be as stable as other types of deposits. Medallion Bank’s ability to manage its growth to stay within the “well-capitalized” level, and the capital level currently required by the FDIC pursuant to its capital maintenance agreement, which is also considerably higher than the level required to be classified as “well-capitalized”, is critical to Medallion Bank’s retaining open access to this funding source.

Our investment portfolio is, and will continue to be, recorded at fair value as determined in good faith by our Board of Directors and, as a result, there is, and will continue to be, uncertainty as to the value of our portfolio investments which could adversely affect our net asset value.

Under the 1940 Act, we are required to carry our portfolio investments at market value or, if there is no readily available market value, at fair value as determined by our Board of Directors. Unlike other lending institutions, we are not permitted to establish reserves for loan losses. Instead, we are required by the 1940 Act to specifically value each individual investment and record an unrealized gain or loss for any asset we believe has increased or decreased in value. Typically, there is not a public market for most of the investments in which we have invested and will generally continue to invest. As a result, our Board of Directors values our investments on a quarterly basis based on a determination of their fair value made in good faith and in accordance with the written guidelines approved by our Board of Directors. Our Board of Directors regularly review the appropriateness and accuracy of the method used in valuing our investments, and makes any necessary adjustments. The types of factors that may be considered in determining the fair value pricing of our investments include the nature and realizable value of any collateral, the portfolio company’s earnings and its ability to make payments on its indebtedness, the markets in which the portfolio company does business, market conditions for loans (e.g., values used by other lenders and any active bid/ask market), comparison to publicly traded companies, discounted cash flow, comparable sales and valuations of companies similar to the portfolio company, regulatory factors that may limit the value of the portfolio company, and other relevant factors. Because such valuations, and particularly valuations of private securities and private companies, are inherently uncertain, the valuations may fluctuate over short periods of time and may be based on estimates. As a result, our determinations of fair value may differ materially from the values that would have been used if a ready market for these investments existed, and may cause our net asset value on a given date to materially understate or overstate the value that we may ultimately realize upon the sale or disposition of one or more of our investments. Investors purchasing our securities in connection with an offering based on an overstated net asset value would pay a higher price than the value of our investments might warrant, and investors purchasing our securities in connection with an offering based on an understated net asset value would pay a lower price than the value of our investments might warrant. Our net asset value could be adversely affected if our determinations

 

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regarding the fair value of our investments were materially higher than the values that we ultimately realize upon the disposal of such securities. Considering these factors, we have determined that the fair value of our portfolio is above its cost basis. As of December 31, 2016, our net unrealized appreciation on investments was $126,783,000 or 24% of our investment portfolio, and the appreciation on our investments other than securities and other assets was $584,000 or 6% of our investments other than securities and other assets.

Uncertainty relating to the reporting of collateral values for our loans may adversely affect the value of our portfolio.

Medallion loans are primarily collateral-based lending, whereby the collateral value exceeds the amount of the loan, providing sufficient excess collateral to protect us against losses. Collateral values for medallion loans reflect recent sales prices and are typically obtained from the regulatory agency in a particular local market. We rely on the integrity of the collateral value benchmarks obtained by the applicable regulatory agencies and other third parties. If these benchmarks are artificially influenced by market participants we could suffer losses. We have experienced a significant downward movement in medallion collateral values which may continue, and has caused a negative impact on our valuation analysis and could result in a significantly lower fair market value measurement of our portfolio.

We require an objective benchmark in determining the fair value of our portfolio. If the benchmarks that we currently use are deemed to be unreliable, we will need to use other intrinsic factors in determining the collateral values for our loans.

The lack of liquidity in our investments may adversely affect our business.

We generally make investments in private companies. Substantially all of these securities are subject to legal and other restrictions on resale or are otherwise less liquid than publicly traded securities. The illiquidity of our investments may make it difficult for us to sell such investments if the need arises. In addition, if we are required to liquidate all or a portion of our portfolio quickly, we may realize significantly less than the value at which we had previously recorded our investments. We may also face other restrictions on our ability to liquidate an investment in a portfolio company to the extent that we have material non-public information regarding such portfolio company.

In addition, the illiquidity of our loan portfolio and investments may adversely affect our ability to dispose of loans at times when it may be advantageous for us to liquidate such portfolio or investments. In addition, if we were required to liquidate some or all of the investments in the portfolio, the proceeds of such liquidation may be significantly less than the current value of such investments. Because we borrow money to make loans and investments, our net operating income is dependent upon the difference between the rate at which we borrow funds and the rate at which we invest these funds. As a result, there can be no assurance that a significant change in market interest rates will not have a material adverse effect on our interest income. In periods of sharply rising interest rates, our cost of funds would increase, which would reduce our net operating income before net realized and unrealized gains. We use a combination of long-term and short-term borrowings and equity capital to finance our investing activities. Our long-term fixed-rate investments are financed primarily with short-term floating-rate debt, and to a lesser extent by term fixed-rate debt. We may use interest rate risk management techniques in an effort to limit our exposure to interest rate fluctuations. Such techniques may include various interest rate hedging activities to the extent permitted by the 1940 Act. We have analyzed the potential impact of changes in interest rates on net interest income. Assuming that the balance sheet were to remain constant and no actions were taken to alter the existing interest rate sensitivity, and including the impact on Medallion Bank, a hypothetical immediate 1% increase in interest rates would result in an increase to the line item “net increase in net assets resulting from operations” as of December 31, 2016 by approximately $1,100,000 on an annualized basis, compared to a positive impact of $692,000 at December 31, 2015, and the impact of such an immediate increase of 1% over a one year period would have been approximately ($792,000) at December 31, 2016, compared to ($1,855,000) at December 31, 2015. Although management believes that this measure is indicative of our sensitivity to interest rate changes, it does not adjust for potential changes in credit quality, size, and composition of the assets on the balance sheet, and other business developments that could affect net increase in net assets resulting from operations in a particular quarter or for the year taken as a whole. Accordingly, no assurances can be given that actual results would not differ materially from the potential outcome simulated by these estimates.

We may experience fluctuations in our quarterly results.

We could experience fluctuations in our quarterly operating results due to a number of factors, including our ability to make investments in companies that meet our investment criteria, the interest rate payable on the debt securities we acquire, the level of our expenses, variations in and the timing of the recognition of realized and unrealized gains or losses, the degree to which we encounter competition in our markets, and general economic conditions. As a result of these factors, results for any period should not be relied upon as being indicative of performance in future periods.

 

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Security breaches and other disruptions could compromise our information and expose us to liability, which would cause our business and reputation to suffer.

In the ordinary course of our business, we collect and store sensitive data, including our proprietary business information and that of our customers and personally identifiable information of our customers and employees, in our data centers, and on our networks. The secure processing, maintenance, and transmission of this information is critical to our operations. Despite our security measures, our information technology and infrastructure may be vulnerable to attacks by hackers or breached due to employee error, malfeasance or other disruptions. Any such breach could compromise our networks and the information stored there could be accessed, publicly disclosed, lost or stolen. Any such access, disclosure or other loss of information could result in legal claims or proceedings, liability under laws that protect the privacy of personal information and regulatory penalties, disrupt our operations and damage our reputation, which could adversely affect our business.

We experienced a period of capital markets disruption and severe recession beginning in 2008, and the impact of resulting changes on the financial markets may not be fully known for some time.

In response to the 2008 global financial crisis, the US, the Federal Reserve, other governments, and certain foreign central banks took steps to support financial markets, including by keeping interest rates at historically low levels. More recently, the Federal Reserve has reduced its market support activities. Further reduction or withdrawal of this support, failure of efforts in response to the crisis, or investor perception that such efforts are not succeeding could negatively affect financial markets generally as well as the value and liquidity of certain securities. There have been continuing periods of volatility and there can be no assurance that adverse market conditions will not repeat themselves or worsen in the future. A prolonged period of market volatility or illiquidity could have an adverse effect on our business, financial condition, and results of operations. Unfavorable economic conditions also could increase our funding costs, limit our access to the capital markets or result in a decision by lenders not to extend credit to us. Equity capital may be difficult to raise because, subject to some limited exceptions, we generally are not able to issue and sell our common stock at a price below net asset value per share. In addition, the debt capital that will be available, if at all, may be at a higher cost and on less favorable terms and conditions.

Terrorist attacks, other acts of violence or war, and natural disasters may affect any market for our securities, impact the businesses in which we invest, and harm our operations and profitability.

Terrorist attacks and natural disasters may harm our results of operations and your investment. We cannot assure you that there will not be further terrorist attacks against the US or US businesses or major natural disasters hitting the United States. Such attacks or natural disasters in the US or elsewhere may impact the businesses in which we directly or indirectly invest by undermining economic conditions in the United States. In addition, a substantial portion of our business is focused in the New York City metropolitan area, which suffered a terrorist attack in 2001. Another terrorist attack in New York City or elsewhere could severely impact our results of operations. Losses resulting from terrorist attacks are generally uninsurable.

Our financial condition and results of operations will depend on our ability to manage growth effectively.

Our ability to achieve our investment objective will depend on our ability to grow, which will depend, in turn, on our management team’s ability to identify, evaluate, and monitor, and our ability to finance and invest in, companies that meet our investment criteria.

Accomplishing this result on a cost-effective basis will be largely a function of our management team’s handling of the investment process, its ability to provide competent, attentive, and efficient services, and our access to financing on acceptable terms. In addition to monitoring the performance of our existing investments, members of our management team and our investment professionals may also be called upon to provide managerial assistance to our portfolio companies. These demands on their time may distract them or slow the rate of investment. In order to grow, we will need to hire, train, supervise, and manage new employees. However, we cannot assure you that any such employees will contribute to the success of our business. Any failure to manage our future growth effectively could have a material adverse effect on our business, financial condition, and results of operations.

Our ability to enter into transactions with our affiliates is restricted.

The 1940 Act restricts our ability to knowingly participate in certain transactions with our affiliates. These restrictions limit our ability to buy or sell any security from or to our affiliates, or engage in “joint” transactions with our affiliates, which could include investments in the same portfolio company (whether at the same or different times). With respect to controlling or certain closely affiliated persons, we will generally be prohibited from engaging in such transactions absent the prior approval of the SEC. With respect to other affiliated persons, we may engage in such transactions only with the prior approval of our independent directors.

The SBA restricts the ability of SBICs to lend money to any of their officers, directors, and employees, or invest in any affiliates thereof.

 

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Medallion Bank is subject to certain federal laws that restrict and control its ability to engage in transactions with its affiliates. Sections 23A and 23B of the Federal Reserve Act and applicable regulations restrict the transfer of funds by Medallion Bank to certain of its affiliates, including us, in the form of loans, extensions of credit, investments, or purchases of assets and restrict its ability to provide services to, or receive services from, its affiliates. Sections 23A and 23B also require generally that Medallion Bank’s transactions with its affiliates be on terms no less favorable to Medallion Bank than comparable transactions with unrelated third parties.

Our Board of Directors may change our operating policies and strategies without prior notice or shareholder approval, the effects of which may be adverse.

Our Board of Directors has the authority to modify or waive our current operating policies and strategies without prior notice and without shareholder approval. We cannot predict the effect any changes to our current operating policies and strategies would have on our business, operating results, and value of our stock. However, the effects might be adverse, which could negatively impact our ability to pay you distributions and cause you to lose all or part of your investment.

Risks Relating to Our Investments

Lending to small businesses involves a high degree of risk and is highly speculative.

Lending to small businesses involves a high degree of business and financial risk, which can result in substantial losses and should be considered speculative. Our borrower base consists primarily of small business owners that may have limited resources and that are generally unable to obtain financing from traditional sources. There is generally no publicly available information about these small business owners, and we must rely on the diligence of our employees and agents to obtain information in connection with our credit decisions. In addition, these small businesses often do not have audited financial statements. Some smaller businesses have narrower product lines and market shares than their competition. Therefore, they may be more vulnerable to customer preferences, market conditions, or economic downturns, which may adversely affect the return on, or the recovery of, our investment in these businesses.

Our portfolio is and may continue to be concentrated in a limited number of portfolio companies, and industries and sectors, which will subject us to a risk of significant loss if any of these companies defaults on its obligations to us or by a downturn in the particular industry or sector.

Our portfolio is and may continue to be concentrated in a limited number of portfolio companies, and industries and sectors. In addition, taxicab companies that constitute separate issuers may have related management or guarantors and constitute larger business relationships to us. As of December 31, 2016, investments in New York City taxi medallion loans represented approximately 76% of our managed taxi medallion loans, which in turn represented 35% of our managed net investment portfolio. We do not have fixed guidelines for diversification, and while we are not targeting any specific industries, our investments are, and could continue to be, concentrated in relatively few industries. As a result, the aggregate returns we realize may be adversely affected if a small number of investments perform poorly or if we need to write down the value of any one investment. If our larger borrowers were to significantly reduce their relationships with us and seek financing elsewhere, the size of our loan portfolio and operating results could decrease. In addition, larger business relationships may also impede our ability to immediately foreclose on a particular defaulted portfolio company as we may not want to impair an overall business relationship with either the portfolio company management or any related funding source. Additionally, a downturn in any particular industry or sector in which we are invested could also negatively impact the aggregate returns we realize.

If we are unable to continue to diversify geographically, our business may be adversely affected if the New York City taxicab industry experiences a sustained economic downturn.

A significant portion of our loan revenue is derived from medallion loans collateralized by New York City taxicab medallions. An economic downturn in the New York City taxicab industry could lead to an increase in defaults on our medallion loans. We cannot assure you that we will be able to sufficiently diversify our operations geographically.

An economic downturn could result in certain of our commercial and consumer loan customers experiencing declines in business activities and/or personal resources, which could lead to difficulties in their servicing of their loans with us, and increasing the level of delinquencies, defaults, and loan losses in our commercial and consumer loan portfolios.

 

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Laws and regulations implemented in response to climate change could result in increased operating costs for our portfolio companies.

Congress and other governmental authorities have either considered or implemented various laws and regulations in response to climate change and the reduction of greenhouse gases. Existing environmental regulations could be revised or reinterpreted, new laws and regulations could be adopted, and future changes in environmental laws and regulations could occur, which could impose additional costs on the operation of our portfolio companies. For example, regulations to cut gasoline use and control greenhouse gas emissions from new cars could adversely affect our medallion portfolio companies. Our portfolio companies may have to make significant capital and other expenditures to comply with these laws and regulations. Changes in, or new, environmental restrictions may force our portfolio companies to incur significant expenses or expenses that may exceed their estimates. There can be no assurance that such companies would be able to recover all or any increased environmental costs from their customers or that their business, financial condition or results of operations would not be materially and adversely affected by such expenditures or any changes in environmental laws and regulations, in which case the value of these companies could be adversely affected.

Our portfolio companies may incur debt that ranks equally with, or senior to, our investments in such companies.

We invest in our portfolio companies primarily through senior secured loans, junior secured loans, and subordinated debt issued by small- to mid-sized companies. Our portfolio companies may have, or may be permitted to incur, other debt that ranks equally with, or senior to, the debt in which we invest. By their terms, such debt instruments may entitle the holders to receive payment of interest or principal on or before the dates on which we are entitled to receive payments with respect to the debt instruments in which we invest. Also, in the event of insolvency, liquidation, dissolution, reorganization, or bankruptcy of a portfolio company, holders of debt instruments ranking senior to our investment in that portfolio company would typically be entitled to receive payment in full before we receive any distribution. After repaying such senior creditors, such portfolio company may not have any remaining assets to use for repaying its obligation to us. In the case of debt ranking equally with debt instruments in which we invest, we would have to share on an equal basis any distributions with other creditors holding such debt in the event of an insolvency, liquidation, dissolution, reorganization, or bankruptcy of the relevant portfolio company.

A third party finance company sold various participations in asset based loans to Medallion Business Credit and Medallion Bank. In April 2013, the aggregate balance of the participations was approximately $13.8 million, $12.9 million of which were held by Medallion Bank. That amount was divided between seven separate borrowers operating in a variety of industries. In April 2013, the third party finance company became the subject of an involuntary bankruptcy petition filed by its bank lenders. Among other things, the bank lenders alleged that the third party finance company fraudulently misrepresented its borrowing availability under its credit facility with the bank lenders and are seeking the third party finance company’s liquidation. In May 2013, the bankruptcy court presiding over the third party finance company’s case entered an order converting the involuntary Chapter 7 case to a Chapter 11 case. On May 31, 2013, we commenced an adverse proceeding against the third party finance company and the bank lenders seeking declaratory judgment that our loan participations are true participations and not subject to the bankruptcy estate or to the bank lender’s security interest in the third party finance company’s assets. The third party finance company and bank lenders are contesting our position. In April 2014, we received a decision from the court granting summary judgment in our favor with respect to the issue of whether our loan participations are true participations. In March 2015, we and Medallion Bank received a decision from the court finding that the bank lenders generally held a first lien on our and Medallion Bank’s loan participations subject to, among other things, defenses still pending prosecution by the parties and adjudication by the court. We and Medallion Bank are appealing the decision. The remaining issues are still being litigated. Although we believe the claims raised by the third party finance company and the senior lenders are without merit and will vigorously defend against them, we cannot at this time predict the outcome of this litigation or determine our potential exposure. If we are incorrect in our assessments our results of operations could be materially adversely affected. At December 31, 2016, five of the seven secured borrowers had refinanced their loans in full with third parties, and the related proceeds are held in escrow pending resolution of the bankruptcy proceedings. In September 2015, one loan was sold at a discount to a third party, and the related proceeds are held in escrow pending resolution of the bankruptcy proceedings. One loan was charged off in September 2014. See page 42 for additional information regarding this matter.

There may be circumstances where our debt investments could be subordinated to claims of other creditors or we could be subject to lender liability claims.

Even though we may have structured most of our investments as senior loans, if one of our portfolio companies were to go bankrupt, depending on the facts and circumstances, including the extent to which we actually provided managerial assistance to that portfolio company, a bankruptcy court might recharacterize our debt investment and subordinate all or a portion of our claim to that of other creditors. We may also be subject to lender liability claims for actions taken by us with respect to a borrower’s business or instances where we exercise control over the borrower. It is possible that we could become subject to a lender’s liability claim, including as a result of actions taken in rendering significant managerial assistance.

 

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We may not control many of our portfolio companies.

We may not control many of our portfolio companies, even though we may have board representation or board observation rights, and our debt agreements may contain certain restrictive covenants. As a result, we are subject to the risk that a portfolio company in which we invest may make business decisions with which we disagree, and the management of such company may take risks or otherwise act in ways that do not serve our interests as debt investors.

We may not realize gains from our equity investments.

Certain investments that we have made in the past and may make in the future include warrants or other equity securities. In addition, we may from time to time make non-control, equity co-investments in companies in conjunction with private equity sponsors. Our goal is ultimately to realize gains upon our disposition of such equity interests. However, the equity interests we receive may not appreciate in value and, in fact, may decline in value. Accordingly, we may not be able to realize gains from our equity interests, and any gains that we do realize on the disposition of any equity interests may not be sufficient to offset any other losses we experience. We also may be unable to realize any value if a portfolio company does not have a liquidity event, such as a sale of the business, recapitalization, or public offering, which would allow us to sell the underlying equity interests.

 

ITEM 1B. UNRESOLVED STAFF COMMENTS

None.

 

ITEM 2. PROPERTIES

We lease approximately 19,000 square feet of office space in New York City for our corporate headquarters under a lease expiring in April 2027, and lease a facility in Long Island City, New York, of approximately 6,000 square feet for certain corporate back-office operations. We also lease office space for loan origination offices and subsidiary operations in Boston, MA, Chicago, IL, and Minneapolis, MN. Medallion Bank leases space in Salt Lake City, UT, and Seattle, WA. We do not own any real property, other than foreclosed properties obtained as a result of lending relationships. We believe that our leased properties, taken as a whole, are in good operating condition and are suitable for our current business operations.

 

ITEM 3. LEGAL PROCEEDINGS

We and our subsidiaries are currently involved in various legal proceedings incident to the ordinary course of our business, including collection matters with respect to certain loans. We intend to vigorously defend any outstanding claims and pursue our legal rights. In the opinion of our management and based upon the advice of legal counsel, other than as set forth in the following paragraph there is no proceeding pending, or to the knowledge of management threatened, which in the event of an adverse decision could result in a material adverse effect on our results of operations or financial condition.

We and our subsidiaries obtain financing under lending facilities extended by various banks and other financial institutions, some of which are secured by loans, taxi medallions and other assets. Where these facilities are extended to our subsidiaries, we and others of our subsidiaries may guarantee the obligations of the relevant borrower. Five of our smallest subsidiaries are borrowers under promissory notes extended to them by a bank that total $8.8 million that came due on October 17, 2016. These loans are secured by Chicago taxi medallions owned by our subsidiaries. These notes are guaranteed by Medallion Funding, not by Medallion Financial Corp. These subsidiaries have not repaid the amounts due under the notes and the bank has filed a suit seeking payment of these amounts. This failure to pay would constitute an event of default under certain loan agreements which we or our subsidiaries are borrowers, but the lenders under those agreements have waived the default. If judgment is entered against us in the suit brought by the bank or entered and not satisfied within specified periods of time, these outcomes may constitute an additional event of default under these other agreements. If waivers are required and not granted for this additional event of default, it would lead to events of default under other of our financing arrangements.

 

ITEM 4. MINE SAFETY DISCLOSURES

Not applicable.

PART II

ITEM 5. MARKET FOR REGISTRANT’S COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND ISSUER PURCHASES OF EQUITY SECURITIES

STOCK PERFORMANCE GRAPH

The following graph commences as of December 31, 2011 and compares the Company’s Common Stock with the cumulative total return for the NASDAQ Composite Index and the Russell 2000 Index. Furthermore, the following graph assumes the investment of $100 on December 31, 2011 in each of the Company’s Common Stock, the stocks comprising the NASDAQ Composite Index and the Russell 2000 Index and assumes dividends are reinvested.

 

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Cumulative Total Return

Based on Initial Investment of $100 on December 31, 2011

with dividends reinvested

 

LOGO

Our common stock is quoted on NASDAQ under the symbol “MFIN.” Our common stock commenced trading on May 23, 1996. As of March 10, 2017, there were approximately 334 holders of record of our common stock.

On March 10, 2017, the last reported sale price of our common stock was $2.03 per share. Since our initial public offering, our common stock has traded at a premium to net asset value per share more frequently than at a discount to net asset value per share, but there can be no assurance that our stock will trade at a premium in the future.

The following table sets forth, for the periods indicated, the range of high and low closing prices for our common stock on the Nasdaq Global Select Market.

 

2016    DISTRIBUTIONS
DECLARED
     HIGH      LOW  

Fourth Quarter

   $ 0.00      $ 4.59      $ 2.95  

Third Quarter

     0.05        8.12        3.95  

Second Quarter

     0.05        9.42        7.00  

First Quarter

     0.25        9.90        6.11  
  

 

 

    

 

 

    

 

 

 

2015

        

Fourth Quarter

   $ 0.25      $ 8.76      $ 6.36  

Third Quarter

     0.25        9.23        6.17  

Second Quarter

     0.25        11.01        8.35  

First Quarter

     0.25        10.80        9.06  

Information about our equity compensation plans is incorporated by reference in all information under the caption “Equity Compensation Plan Information” included in our definitive Proxy Statement for the Annual Meeting of Stockholders to be held on June 23, 2017.

We are subject to federal and applicable state corporate income taxes on our taxable ordinary income and capital gains beginning with our tax year ended December 31, 2016, and are not subject to the annual distribution requirements under Subchapter M of the Code. Thus, there can be no assurance that we will pay any cash distributions as we may retain our earnings in certain circumstances to facilitate the growth of our business, to finance our investments, to provide liquidity or for other corporate purposes.

 

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We have adopted a dividend reinvestment plan pursuant to which shareholders may elect to have distributions reinvested in additional shares of common stock. When we declare a distribution, all participants will have credited to their plan accounts the number of full and fractional shares (computed to three decimal places) that could be obtained with the cash, net of any applicable withholding taxes that would have been paid to them if they were not participants. The number of full and fractional shares is computed at the weighted average price of all shares of common stock purchased for plan participants within the 30 days after the distribution is declared plus brokerage commissions. The automatic reinvestment of distributions will not release plan participants of any income tax that may be payable on the distribution. Shareholders may terminate their participation in the dividend reinvestment plan by providing written notice to the Plan Agent at least 10 days before any given distribution payment date. Upon termination, we will issue to a shareholder both a certificate for the number of full shares of common stock owned and a check for any fractional shares, valued at the then current market price, less any applicable brokerage commissions and any other costs of sale. There are no additional fees or expenses for participation in the dividend reinvestment plan. Shareholders may obtain additional information about the dividend reinvestment plan by contacting the American Stock Transfer & Trust Company, LLC at 6201 15th Avenue, Brooklyn, NY, 11219.

 

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ISSUER PURCHASES OF EQUITY SECURITIES (1)

 

Period

   Total Number of
Shares Purchased
     Average Price
Paid per Share
     Total Number of
Shares Purchased
as Part of Publicly
Announced Plans  or
Programs
     Maximum Number of
Shares (or Approximate
Dollar Value) that May Yet
Be Purchased Under the
Plans or Programs
 

November 5 through December 31, 2003

     10,816      $ 9.20        10,816      $ 9,900,492  

January 1 through December 31, 2004

     952,517        9.00        952,517        11,329,294  

January 1 through December 31, 2005

     389,900        9.26        389,900        7,720,523  

January 1 through December 31, 2006

     —          —          —          7,720,523  

January 1 through December 31, 2007

     33,200        9.84        33,200        7,393,708  

January 1 through December 31, 2008

     7,691        9.66        7,691        7,319,397  

January 1 through December 31, 2009

     —          —          —          7,319,397  

January 1 through December 31, 2010

     177,844        6.82        177,844        6,106,354  

January 1 through December 31, 2011

     8,647        9.06        8,647        6,028,027  

January 1 through December 31, 2012

     —          —          —          6,028,027  

January 1 through December 31, 2013

     —          —          —          6,028,027  

January 1 through December 31, 2014

     576,143        10.21        576,143        14,120,043  

January 1 through December 31, 2015

     413,193        7.77        413,193        24,398,115  

January 1 through December 31, 2016

     361,174        4.22        361,174        22,874,509  
  

 

 

    

 

 

    

 

 

    

Total

     2,931,125        8.39        2,931,125     
  

 

 

    

 

 

    

 

 

    

 

(1) We publicly announced our Stock Repurchase Program in a press release dated November 5, 2003, after the Board of Directors approved the repurchase of up to $10,000,000 of our outstanding common stock, which was increased by an additional $10,000,000 authorization on November 3, 2004, which was further increased to a total of $20,000,000 in July 2014, and which was further increased to a total of $26,000,000 in July 2015. The stock repurchase program expires 180 days after the commencement of the purchases. If we have not repurchased the common stock remaining in the repurchase authorization by the end of such period, we are permitted to extend the stock repurchase program for additional 180-day periods until we have repurchased the total amount authorized. In October 2016, we extended the terms of the Stock Repurchase Program. Purchases were to commence no earlier than November 2016 and conclude 180 days after the commencement of the purchases.

 

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ITEM 6. SELECTED FINANCIAL DATA

Summary Consolidated Financial Data

You should read the consolidated financial information below with the Consolidated Financial Statements and Notes thereto for the years ended December 31, 2016, 2015, 2014, 2013, and 2012.

 

     Year ended December 31,  

(Dollars in thousands, except per share data)

   2016     2015     2014     2013      2012  

Statement of operations

           

Investment income

   $ 25,088     $ 42,653     $ 41,068     $ 34,929      $ 32,344  

Interest expense

     12,638       9,422       8,543       8,361        10,858  
  

 

 

   

 

 

   

 

 

   

 

 

    

 

 

 

Net interest income

     12,450       33,231       32,525       26,568        21,486  

Noninterest income

     408       319       509       1,282        1,135  

Operating expenses

     22,786       16,724       17,889       15,661        13,856  
  

 

 

   

 

 

   

 

 

   

 

 

    

 

 

 

Net investment income (loss) before income taxes

     (9,928     16,826       15,145       12,189        8,765  

Income tax benefit

     10,047       —       —       —        —  
  

 

 

   

 

 

   

 

 

   

 

 

    

 

 

 

Net investment income after income taxes

     119       16,826       15,145       12,189        8,765  

Net realized gains (losses) on investments

     457       7,636       (5,607     692        (6,731

Net change in unrealized appreciation on Medallion Bank and other controlled subsidiaries (1)

     130,121       16,830       15,643       5,060        7,896  

Net change in unrealized appreciation (depreciation) on investments (1)

     (22,863     (2,295     6,412       1,020        5,077  

Net change in unrealized appreciation on investments other than securities

     (28,372     (9,621     (2,901     6,815        9,510  

Income tax provision

     (55,947     —       —       —        —  
  

 

 

   

 

 

   

 

 

   

 

 

    

 

 

 

Net increase in net assets resulting from operations

   $ 23,515     $ 29,376     $ 28,692     $ 25,776      $ 24,517  
  

 

 

   

 

 

   

 

 

   

 

 

    

 

 

 

Per share data

           

Net investment income (loss)

   $ (0.41   $ 0.69     $ 0.60     $ 0.55      $ 0.43  

Income tax provision

     (1.90 )     —       —       —        —  

Net realized gains (losses) on investments

     0.02       0.31       (0.22     0.03        (0.33

Net change in unrealized appreciation on investments (1)

     3.26       0.20       0.76       0.58        1.11  
  

 

 

   

 

 

   

 

 

   

 

 

    

 

 

 

Net increase in net assets resulting from operations

   $ 0.97     $ 1.20     $ 1.14     $ 1.16      $ 1.21  
  

 

 

   

 

 

   

 

 

   

 

 

    

 

 

 

Distributions declared per share

   $ 0.35     $ 1.00     $ 0.96     $ 0.90      $ 0.85  
  

 

 

   

 

 

   

 

 

   

 

 

    

 

 

 

Weighted average common shares outstanding

           

Basic

     24,123,888       24,315,427       24,850,496       21,850,415        19,912,883  

Diluted

     24,173,020       24,391,959       25,073,323       22,225,783        20,180,694  
  

 

 

   

 

 

   

 

 

   

 

 

    

 

 

 

Balance sheet data

           

Net investments

   $ 652,278     $ 606,959     $ 527,601     $ 473,157      $ 455,010  

Total assets

     689,377       689,050       632,287       595,053        543,465  

Total funds borrowed

     349,073       404,540       348,795       314,958        322,770  

Total liabilities

     403,281       410,962       357,617       321,558        327,147  

Total shareholders’ equity

     286,096       278,088       274,670       273,495        216,318  
  

 

 

   

 

 

   

 

 

   

 

 

    

 

 

 

Managed balance sheet data (2)

           

Net investments

   $ 1,517,592     $ 1,501,555     $ 1,310,685     $ 1,144,596      $ 1,048,635  

Total assets

     1,605,435       1,631,118       1,469,751       1,305,809        1,174,124  

Total funds borrowed

     1,257,515       1,313,436       1,156,735       997,295        924,921  

Total liabilities

     1,319,340       1,353,030       1,195,081       1,032,314        957,806  

 

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     Year ended December 31,  
             2016                     2015                     2014                     2013                     2012          

Selected financial ratios and other data

          

Return on average assets (ROA) (3)

          

Net investment income after taxes

     0.02     2.59     2.51     2.19     1.68

Net increase in net assets resulting from operations

     3.48       4.53       4.75       4.64       4.69  

Return on average equity (ROE) (4)

          

Net investment income after taxes

     0.04       6.08       5.48       5.40       4.44  

Net increase in net assets resulting from operations

     8.49       10.61       10.39       11.42       12.41  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Weighted average yield

     4.17     7.74     8.25     7.60     7.37

Weighted average cost of funds

     2.10       1.71       1.71       1.82       2.48  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Net interest margin (5)

     2.07       6.03       6.54       5.78       4.89  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Noninterest income ratio (6)

     0.07       0.06       0.10       0.28       0.26  

Total expense ratio (7)

     13.50       4.75       5.31       5.23       5.63  

Operating expense ratio (8)

     3.78       3.04       3.60       3.41       3.16  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

As a percentage of net investment portfolio

          

Medallion loans

     41     51     59     63     65

Commercial loans

     13       14       14       13       12  

Investment in Medallion Bank and other controlled subsidiaries

     45       26       26       23       22  

Equity investments

     1       1       1       1       1  

Investment securities

     —       8       —       —       —  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Investments to assets (9)

     95     88     83     80     84

Equity to assets (10)

     42       40       43       46       40  

Debt to equity (11)

     122       145       127       115       149  

 

(1) Unrealized appreciation (depreciation) on investments represents the increase (decrease) for the year in the fair value of our investments, including the results of operations for Medallion Bank and other controlled subsidiaries, where applicable.
(2) Includes the balances of wholly-owned, unconsolidated portfolio companies, primarily Medallion Bank.
(3) ROA represents the net investment income after taxes or net increase in net assets resulting from operations, divided by average total assets, and includes the goodwill impairment of $5,099 in 2016. Excluding impairment writeoff, the ratio was 0.77%.
(4) ROE represents the net investment income after taxes or net increase in net assets resulting from operations, divided by average shareholders’ equity, and includes the goodwill impairment of $5,099 in 2016. Excluding impairment writeoff, the ratio was 1.88%.
(5) Net interest margin represents net interest income for the year divided by average interest earning assets, and included interest recoveries and bonuses of $0 in 2016, $817 in 2015, $4,160 in 2014, $2,326 in 2013, and $444 in 2012, and also included dividends from Medallion Bank and other controlled subsidiaries of $3,000 in 2016, $18,889 in 2015, $15,000 in 2014, $12,000 in 2013, and $10,500 in 2012. On a managed basis, combined with Medallion Bank, the net interest margin was 6.77%, 6.98%, 7.09%, 6.66%, and 6.31% for 2016, 2015, 2014, 2013, and 2012.
(6) Noninterest income ratio represents noninterest income divided by average interest earning assets.
(7) Total expense ratio represents total expenses (interest expense, operating expenses, and income taxes) divided by average interest earning assets, and includes the goodwill impairment of $5,099 in 2016. Excluding impairment writeoff, the ratio was 12.65%.
(8) Operating expense ratio represents operating expenses divided by average interest earning assets, and includes the goodwill impairment of $5,099 in 2016. Excluding impairment writeoff, the ratio was 2.94%.
(9) Represents net investments divided by total assets as of December 31.
(10) Represents total shareholders’ equity divided by total assets as of December 31.
(11) Represents total funds borrowed divided by total shareholders’ equity as of December 31.

 

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ITEM 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The information contained in this section should be read in conjunction with the Consolidated Financial Statements and Notes thereto for the years ended December 31, 2016, 2015, and 2014. In addition, this section contains forward-looking statements. These forward-looking statements are subject to the inherent uncertainties in predicting future results and conditions. Certain factors that could cause actual results and conditions to differ materially from those projected in these forward-looking statements are described in the Risk Factors section on page 19. Additionally, more information about our business activities can be found in “Business”.

CRITICAL ACCOUNTING POLICIES

The SEC has issued cautionary advice regarding disclosure about critical accounting policies. The SEC defines critical accounting policies as those that are both most important to the portrayal of a company’s financial condition and results, and that require management’s most difficult, subjective, or complex judgments, often as a result of the need to make estimates about matters that are inherently uncertain and may change materially in subsequent periods. The preparation of our consolidated financial statements requires estimates and assumptions that affect amounts reported and disclosed in the financial statements and related notes. Significant estimates made by us include valuation of loans, equity investments, and investments in subsidiaries, evaluation of the recoverability of accounts receivable and income tax assets, and the assessment of litigation and other contingencies. The matters that give rise to such provisions are inherently uncertain and may require complex and subjective judgments. Although we believe that estimates and assumptions used in determining the recorded amounts of net assets and liabilities at December 31, 2016 are reasonable, actual results could differ materially from the estimated amounts recorded in our financial statements.

GENERAL

We are a specialty finance company that has a leading position in originating, acquiring, and servicing loans that finance taxicab medallions and various types of commercial businesses. A wholly-owned portfolio company of ours, Medallion Bank, also originates consumer loans for the purchase of recreational vehicles, boats, motorcycles, and trailers, and to finance small-scale home improvements. Since 1996, the year in which we became a public company, we have increased our taxicab medallion loan portfolio at a compound annual growth rate of 3%, and our commercial loan portfolio at a compound annual growth rate of 4% (7% and 4% on a managed basis when combined with Medallion Bank). Since Medallion Bank acquired a consumer loan portfolio and began originating consumer loans in 2004, it has increased its consumer loan portfolio at a compound annual growth rate of 18%. In January 2017, the Company announced its plans to transform our overall strategy. We are transitioning away from medallion lending and placing our strategic focus on our growing consumer finance portfolio. Total assets under our management and the management of our unconsolidated wholly-owned subsidiaries, which includes our managed net investment portfolio, as well as assets serviced for third party investors, were $1,632,000,000 as of December 31, 2016 and $1,655,000,000 as of December 31, 2015, and have grown at a compound annual growth rate of 11% from $215,000,000 at the end of 1996.

Our loan-related earnings depend primarily on our level of net interest income. Net interest income is the difference between the total yield on our loan portfolio and the average cost of borrowed funds. We fund our operations through a wide variety of interest-bearing sources, such as revolving bank facilities, bank certificates of deposit issued to customers, debentures issued to and guaranteed by the SBA, and bank term debt. Net interest income fluctuates with changes in the yield on our loan portfolio and changes in the cost of borrowed funds, as well as changes in the amount of interest-bearing assets and interest-bearing liabilities held by us. Net interest income is also affected by economic, regulatory, and competitive factors that influence interest rates, loan demand, and the availability of funding to finance our lending activities. We, like other financial institutions, are subject to interest rate risk to the degree that our interest-earning assets reprice on a different basis than our interest-bearing liabilities.

We also provide debt, mezzanine, and equity investment capital to companies in a variety of industries, consistent with our investment objectives. These investments may be venture capital style investments which may not be fully collateralized. Medallion Capital’s investments are typically in the form of secured debt instruments with fixed interest rates accompanied by an equity stake or warrants to purchase an equity interest for a nominal exercise price (such warrants are included in equity investments on the consolidated balance sheets). Interest income is earned on the debt instruments.

We are a closed-end, non-diversified management investment company, organized as a Delaware corporation, under the 1940 Act. We have elected to be treated as a business development company, or BDC, under the 1940 Act. During our tax year ended December 31, 2016, we did not qualify as a RIC under Subchapter M of the Internal Revenue Code of 1986, as amended, or the Code, and therefore we became subject to taxation as a corporation under Subchapter C of the Code. We had in previous years qualified and elected to be treated for federal income tax purposes as a RIC. As a RIC, we generally did not have to pay corporate-level federal income taxes on any net ordinary income or capital gains that we distributed to our shareholders as dividends, if we met certain source-of-income and asset diversification requirements. Medallion Bank is not a RIC and must pay corporate-level US federal and state income taxes. See Note 5 for more information.

 

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Our wholly-owned portfolio company, Medallion Bank, is a bank regulated by the FDIC and the Utah Department of Financial Institutions which originates taxicab medallion, commercial, and consumer loans, raises deposits, and conducts other banking activities. Medallion Bank generally provides us with our lowest cost of funds which it raises through bank certificates of deposit issued to its customers. To take advantage of this low cost of funds, we refer a portion of our taxicab medallion and commercial loans to Medallion Bank, which then originates these loans. However, the FDIC restricts the amount of taxicab medallion loans that Medallion Bank may finance to three times Tier 1 capital, or $469,383,000 as of December 31, 2016. We earn referral fees for these activities. All of these servicing activities have been assigned to MSC. As a non-investment company, Medallion Bank is not consolidated with the Company.

Realized gains or losses on investments are recognized when the investments are sold or written off. The realized gains or losses represent the difference between the proceeds received from the disposition of portfolio assets, if any, and the cost of such portfolio assets. In addition, changes in unrealized appreciation or depreciation on investments are recorded and represent the net change in the estimated fair values of the portfolio assets at the end of the period as compared with their estimated fair values at the beginning of the period. Generally, realized gains (losses) on investments and changes in unrealized appreciation (depreciation) on investments are inversely related. When an appreciated asset is sold to realize a gain, a decrease in the previously recorded unrealized appreciation occurs. Conversely, when a loss previously recorded as unrealized depreciation is realized by the sale or other disposition of a depreciated portfolio asset, the reclassification of the loss from unrealized to realized causes a decrease in net unrealized depreciation and an increase in realized loss.

Our investment in Medallion Bank, as a wholly owned portfolio investment, is also subject to quarterly assessments of fair value. We conduct a thorough valuation analysis, and determine whether any factors give rise to a valuation different than recorded book value, including various regulatory restrictions that were established at Medallion Bank’s inception, by the FDIC and State of Utah, and also by additional marketplace restrictions, such as the ability to transfer industrial bank charters. Because of these restrictions and other factors, our Board of Directors had previously determined that Medallion Bank had little value beyond its recorded book value. As a result of this valuation process, we had previously used Medallion Bank’s actual results of operations as the best estimate of changes in fair value, and recorded the results as a component of unrealized appreciation (depreciation) on investments. In the second quarter of 2015, we first became aware of external interest in Medallion Bank and its portfolio assets at values in excess of their book value. Expression of interest in Medallion Bank from both investment bankers and interested parties has continued through 2016. We incorporated these new factors in the Medallion Bank fair value analysis, and the Board of Directors determined that Medallion Bank had a fair value in excess of book value. In addition, in the third quarter of 2016 there was a court ruling involving a marketplace lender that the Company believes heightens the interest of marketplace lenders to acquire or merge with Utah industrial banks. We also engaged a valuation specialist to assist the Board of Directors in its determination of Medallion Bank’s fair value, and this appreciation of $15,500,000 was thereby recorded in 2015, and additional appreciation of $128,918,000 was recorded in 2016 as a component of unrealized appreciation (depreciation) on investments, in addition to Medallion Bank’s actual results of operations.

 

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Trends in Investment Portfolio

Our investment income is driven by the principal amount of and yields on our investment portfolio. To identify trends in the balances and yields, the following table illustrates our investments at fair value, grouped by medallion loans, commercial loans, equity investments, and investment securities, and also presents the portfolio information for Medallion Bank, at the dates indicated.

 

     December 31, 2016     December 31, 2015     December 31, 2014  
     Interest     Investment     Interest     Investment     Interest     Investment  

(Dollars in thousands)

   Rate (1)     Balances     Rate (1)     Balances     Rate (1)     Balances  

Medallion loans

            

New York

     3.67   $ 202,469       3.72   $ 213,356       3.60   $ 213,099  

Chicago

     4.54       38,091       4.87       39,406       4.97       39,280  

Boston

     4.52       25,857       4.63       26,436       4.69       27,277  

Newark

     5.27       23,267       5.26       24,585       5.28       25,043  

Cambridge

     4.47       4,401       4.64       6,607       4.80       6,006  

Other

     7.26       965       7.27       1,043       6.59       814  
    

 

 

     

 

 

     

 

 

 

Total medallion loans

     4.01       295,050       4.09       311,433       4.03       311,519  
  

 

 

     

 

 

     

 

 

   

Deferred loan acquisition costs

       289         413         375  

Unrealized depreciation on loans

       (28,523       (3,438       —    
    

 

 

     

 

 

     

 

 

 

Net medallion loans

     $ 266,816       $ 308,408       $ 311,894  
    

 

 

     

 

 

     

 

 

 

Commercial loans

            

Secured mezzanine

     13.47   $ 76,469       13.59   $ 67,849       12.88   $ 55,059  

Asset based

     —         —         5.82       3,750       5.82       3,633  

Other secured commercial

     9.33       8,657       10.68       12,622       9.91       15,506  
    

 

 

     

 

 

     

 

 

 

Total commercial loans

     13.05       85,126       12.80       84,221       11.91       74,198  
  

 

 

     

 

 

     

 

 

   

Deferred loan acquisition income

       (114       (87       (100

Unrealized depreciation on loans

       (1,378       (2,239       (2,949
    

 

 

     

 

 

     

 

 

 

Net commercial loans

     $ 83,634       $ 81,895       $ 71,149  
    

 

 

     

 

 

     

 

 

 

Investment in Medallion Bank and other controlled subsidiaries

     2.13   $ 140,610       12.74   $ 141,273       11.44   $ 131,150  
  

 

 

     

 

 

       

Unrealized appreciation on subsidiary investments

       152,750         18,640         5,698  
    

 

 

     

 

 

     

 

 

 

Investment in Medallion Bank and other controlled subsidiaries

     $ 293,360       $ 159,913       $ 136,848  
    

 

 

     

 

 

     

 

 

 

Equity investments

     0.00   $ 4,534       0.72   $ 4,277       0.86   $ 6,102  
  

 

 

     

 

 

     

 

 

   

Unrealized appreciation on equities

       3,934         2,582         1,608  
    

 

 

     

 

 

     

 

 

 

Net equity investments

     $ 8,468       $ 6,859       $ 7,710  
    

 

 

     

 

 

     

 

 

 

Investment securities

     —     $ —         0.35   $ 49,902       —     $ —    
  

 

 

     

 

 

     

 

 

   

Unrealized depreciation on investment securities

       —           (18       —    
    

 

 

     

 

 

     

 

 

 

Net investment securities

     $ —         $ 49,884       $ —    
    

 

 

     

 

 

     

 

 

 

Investments at cost (2)

     4.94   $ 525,320       7.06   $ 591,106       6.97   $ 522,969  
  

 

 

     

 

 

     

 

 

   

Deferred loan acquisition costs

       175         326         275  

Unrealized appreciation on controlled subsidiaries, equity investments, and investment securities

       156,684         21,204         7,306  

Unrealized depreciation on loans

       (29,901       (5,677       (2,949
    

 

 

     

 

 

     

 

 

 

Net investments

     $ 652,278       $ 606,959       $ 527,601  
    

 

 

     

 

 

     

 

 

 

Medallion Bank investments

            

Consumer loans

     14.27   $ 708,524       14.06   $ 626,132       14.71   $ 478,027  

Medallion loans

     3.75       296,436       3.84       338,285       3.84       366,397  

Commercial loans

     3.40       2,567       5.23       44,634       4.68       44,499  

Investment securities

     2.27       37,420       2.30       35,713       2.53       27,376  
    

 

 

     

 

 

     

 

 

 

Medallion Bank investments at cost (2)

     10.83       1,044,947       9.97       1,044,764       9.51       916,299  
  

 

 

     

 

 

     

 

 

   

Deferred loan acquisition costs

       12,371         11,400         9,937  

Unrealized depreciation on investment securities

       (797       (501       252  

Premiums paid on purchased securities

       238         311         272  

Unrealized depreciation on loans

       (54,819       (24,081       (17,797
    

 

 

     

 

 

     

 

 

 

Medallion Bank net investments

     $ 1,001,940       $ 1,031,893       $ 908,963  
    

 

 

     

 

 

     

 

 

 

 

(1) Represents the weighted average interest or dividend rate of the respective portfolio as of the date indicated.
(2) The weighted average interest rate for the entire managed loan portfolio (medallion, commercial, and consumer loans) was 9.74%, 9.03%, and 8.46% at December 31, 2016, 2015, and 2014.

 

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PORTFOLIO SUMMARY

Total Portfolio Yield

The weighted average yield (which is calculated by dividing the aggregate yield of each investment in the portfolio by the aggregate portfolio balance and does not include expenses and sales load for any offering) of the total portfolio at December 31, 2016 was 4.97% (6.03% for the loan portfolio), a decrease of 209 basis points from 7.06% at December 31, 2015, which was an increase of 9 basis points from 6.97% at December 31, 2014. The decreased yield in 2016 was primarily attributable to the decreased yield in our investment in Medallion Bank and other controlled subsidiaries. The weighted average yield of the total managed portfolio at December 31, 2016 was 9.50% (9.74% for the loan portfolio), an increase of 97 basis points from 8.53% at December 31, 2015, which was an increase of 26 basis points from 8.27% at December 31, 2014. The increased yield of the total managed portfolio was mainly due to the higher yield of the total managed commercial portfolio, driven by our exit from the asset-based lending business which has a lower average yield in comparison to our mezzanine and other secured commercial loans, and the higher yield of our equity investments.

Medallion Loan Portfolio

Our medallion loans comprised 41% of the net portfolio of $652,278,000 at December 31, 2016, compared to 51% of the net portfolio of $606,959,000 at December 31, 2015, and 59% of $527,601,000 at December 31, 2014. Our managed medallion loans of $528,643,000 comprised 35% of the net managed portfolio of $1,517,592,000 at December 31, 2016, compared to 43% the net managed portfolio of $1,501,555,000 at December 31, 2015, and 52% of $1,310,685,000 at December 31, 2014. The medallion loan portfolio decreased by $41,592,000 or 13% in 2016 (and decreased by $112,261,000 or 18% on a managed basis). The decreases in outstandings were primarily concentrated in the New York market, although all markets declined, and reflected increased realized and unrealized losses and net amortization of loan principal. Total medallion loans serviced for third parties were $24,796,000, $26,959,000, and $27,658,000 at December 31, 2016, 2015, and 2014.

The weighted average yield of the medallion loan portfolio at December 31, 2016 was 4.01%, a decrease of 8 basis points from 4.09% at December 31, 2015, which was an increase of 6 basis points from 4.03% at December 31, 2014. The weighted average yield of the managed medallion loan portfolio at December 31, 2016 was 3.88%, a decrease of 8 basis points from 3.96% at December 31, 2015, which was an increase of 3 basis points from 3.93% at December 31, 2014. The decreases in yield from prior year primarily reflected the repricing of the existing portfolio to current market interest rates. At December 31, 2016, 31% of the medallion loan portfolio represented loans outside New York, compared to 31% and 32% at year-end 2015 and 2014. At December 31, 2016, 24% of the managed medallion loan portfolio represented loans outside New York, compared to 26% at year-end 2015 and 2014.

Commercial Loan Portfolio

Our commercial loans represented 13% of the net investment portfolio as of December 31, 2016, compared to 14% at December 31, 2015 and 2014, and were 6%, 8%, and 9% on a managed basis. Commercial loans increased by $1,739,000 or 2% during 2016 (decreased by $39,682,000 or 32% on a managed basis), primarily reflecting growth in the high-yield mezzanine portfolio, partially offset by a decrease in the other secured commercial loan portfolio and the exit from the asset based lending business. The decrease in the managed portfolio was primarily reflective of the sale of the asset-based portfolio as well as the changes described above. Net commercial loans serviced for third parties were $1,644,000 at December 31, 2016, and serviced by third parties were $3,419,000 and $118,000 at December 31, 2015, and 2014.

The weighted average yield of the commercial loan portfolio at December 31, 2016 was 13.05%, an increase of 25 basis points from 12.80% at December 31, 2015, which was an increase of 89 basis points from 11.91% at December 31, 2014. The weighted average yield of the managed commercial loan portfolio at December 31, 2016 was 12.76%, an increase of 258 basis points from 10.18% at December 31, 2015, which was an increase of 98 basis points from 9.20% at December 31, 2014. The increases primarily reflected the change in portfolio mix and higher yields on the mezzanine portfolio. We continue to originate adjustable-rate and floating-rate loans tied to the prime rate to help mitigate our interest rate risk in a rising interest rate environment. At December 31, 2016, variable-rate loans represented 7% of the commercial portfolio, compared to 9% and 6% at December 31, 2015 and 2014, and were 7%, 38%, and 38% on a managed basis. Although this strategy initially produces a lower yield, we believe that this strategy mitigates interest rate risk by better matching our earning assets to their adjustable-rate funding sources.

 

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Consumer Loan Portfolio

Our managed consumer loans, all of which are held in the portfolio managed by Medallion Bank, represented 46% of the managed net investment portfolio as of December 31, 2016, compared to 41% and 36% at December 31, 2015 and 2014. Medallion Bank originates adjustable rate consumer loans secured by recreational vehicles, boats, motorcycles, trailers, and home improvements located in all 50 states. The portfolio is serviced by a third party subsidiary of a major commercial bank.

The weighted average gross yield of the managed consumer loan portfolio was 14.27% at December 31, 2016, compared to 14.06% and 14.71% at December 31, 2015 and 2014. The increase in 2016 reflected the second quarter sale of loans that was weighted towards lower yielding home improvement loans. Adjustable rate loans represented 12% of the managed consumer portfolio at December 31, 2016, compared to 20% and 37% at December 31, 2015 and 2014, reflecting Medallion Bank no longer offering variable rate recreation loans since January 2014.

Delinquency and Loan Loss Experience

We generally follow a practice of discontinuing the accrual of interest income on our loans that are in arrears as to payments for a period of 90 days or more. We deliver a default notice and begin foreclosure and liquidation proceedings when management determines that pursuit of these remedies is the most appropriate course of action under the circumstances. A loan is considered to be delinquent if the borrower fails to make a payment on time; however, during the course of discussion on delinquent status, we may agree to modify the payment terms of the loan with a borrower that cannot make payments in accordance with the original loan agreement. For loan modifications, the loan will only be returned to accrual status if all past due interest and principal payments are brought fully current. For credit that is collateral based, we evaluate the anticipated net residual value we would receive upon foreclosure of such loans, if necessary. There can be no assurance, however, that the collateral securing these loans will be adequate in the event of foreclosure. For credit that is cash flow-based, we assess our collateral position, and evaluate most of these relationships as ongoing businesses, expecting to locate and install a new operator to run the business and reduce the debt.

For the consumer loan portfolio, the process to repossess the collateral is started at 60 days past due. If the collateral is not located and the account reaches 120 days delinquent, the account is charged off to realized losses. If the collateral is repossessed, a realized loss is recorded to write the collateral down to its net realizable value, and the collateral is sent to auction. When the collateral is sold, the net auction proceeds are applied to the account, and any remaining balance is written off as a realized loss, and any excess proceeds are recorded as a realized gain. Proceeds collected on charged off accounts are recorded as realized gains. All collection, repossession, and recovery efforts are handled on behalf of Medallion Bank by the servicer.

The following table shows the trend in loans 90 days or more past due as of December 31.

 

     2016     2015     2014  

(Dollars in thousands)

   Amount      %(1)     Amount      %(1)     Amount      %(1)  

Medallion loans

   $ 71,976        18.9   $ 11,880        3.0   $ —          0.0
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Commercial loans

               

Secured mezzanine

     1,390        0.4       1,390        0.4       1,391        0.3  

Asset-based

     —          0.0       —          0.0       303        0.1  

Other secured commercial

     734        0.2       945        0.2       —          0.0  
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Total commercial loans

     2,124        0.6       2,335        0.6       1,694        0.4  
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Total loans 90 days or more past due

   $ 74,100        19.5   $ 14,215        3.6   $ 1,694        0.4
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Total Medallion Bank loans

   $ 42,269        4.2   $ 17,154        1.7   $ 3,113        0.4
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

Total managed loans 90 days or more past due

   $ 116,369        8.4   $ 31,369        2.2   $ 4,807        0.4
  

 

 

    

 

 

   

 

 

    

 

 

   

 

 

    

 

 

 

 

(1) Percentages are calculated against the total or managed loan portfolio, as appropriate.

A third party finance company sold various participations in asset based loans to Medallion Business Credit and Medallion Bank. In April 2013, the aggregate balance of the participations was approximately $13.8 million, $12.9 million of which were held by Medallion Bank. That amount was divided between seven separate borrowers operating in a variety of industries. In April 2013, the third party finance company became the subject of an involuntary bankruptcy petition filed by its bank lenders. Among other things, the bank lenders alleged that the third party finance company fraudulently misrepresented its borrowing availability under its credit facility with the bank lenders and are seeking the third party finance company’s liquidation. In May 2013, the bankruptcy court

 

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presiding over the third party finance company’s case entered an order converting the involuntary chapter 7 case to a chapter 11 case. We and Medallion Bank have placed these loans on nonaccrual, and reversed interest income. In addition, we have established valuation allowances against the outstanding balances. On May 31, 2013, we commenced an adverse proceeding against the third party finance company and the bank lenders seeking declaratory judgment that our loan participations are true participations and not subject to the bankruptcy estate or to the bank lender’s security interest in the third party finance company’s assets. The third party finance company and bank lenders are contesting our position. In April 2014, we and Medallion Bank received a decision from the court granting summary judgment in our favor with respect to the issue of whether our loan participations are true participations. In March 2015, we and Medallion Bank received a decision from the court finding that the bank lenders generally held a first lien on our and Medallion Bank’s loan participations subject to, among other things, defenses still pending prosecution by the parties and adjudication by the court. We and Medallion Bank are appealing the decision. The remaining issues are still being litigated. Although we believe the claims raised by the third party finance company and the bank lenders are without merit and will vigorously defend against them, we cannot at this time predict the outcome of this litigation or determine our potential exposure. At December 31, 2016, five of the seven secured borrowers had refinanced their loans in full with third parties, and the related proceeds are held in escrow pending resolution of the bankruptcy proceedings. In September 2015, one loan was sold at a discount to a third party, and the related proceeds are held in escrow pending resolution of the bankruptcy proceedings. One loan was charged off in September 2014. The balances related to the paid off loans have been reclassified to other assets on the consolidated balance sheet. The table below summarizes these receivables and their status with the Company and Medallion Bank.

 

(Dollars in thousands)

   The Company      Medallion Bank      Total  

Loans outstanding

   $ 258      $ 1,953      $ 2,211  

Loans charged off (1)

     (258      (1,953      (2,211

Valuation allowance

     —          —          —    
  

 

 

    

 

 

    

 

 

 

Net loans outstanding

     —          —          —    
  

 

 

    

 

 

    

 

 

 

Other receivables

     590        11,062        11,652  

Valuation allowance

     (236      (4,425      (4,661
  

 

 

    

 

 

    

 

 

 

Net other receivables

     354        6,637        6,991  

Total net outstanding

     354        6,637        6,991  
  

 

 

    

 

 

    

 

 

 

Income foregone in 2016

     —          —          —    

Total income foregone

   $ 74      $ 108      $ 182  
  

 

 

    

 

 

    

 

 

 

 

(1) The income foregone on the charged off loan was $99 for the Company and $213 for Medallion Bank.

The recent increases in medallion delinquencies reflected our borrowers experiencing declining cash flows due to competitive internet ride hailing services and decreases in medallion values putting stress on certain of our borrowers, all of whom we continue to work with. We have vigorously pursued strategies to offset these declines which have included adding personnel to the collection staff, receiving principal reductions as loans renew, and requiring additional collateral so as to offer temporary solutions until cash flows improve. Additionally, we have had some success in assisting delinquent customers in selling their medallions to new owners putting a reasonable amount of cash equity into the sale so as to reduce our exposure on the collateral. This in turn has improved the overall cash flow to debt service ratio. Secured mezzanine delinquencies have not changed in recent periods. Commercial loan delinquencies have declined due to recent collection efforts. Medallion Bank delinquencies increased due to a weaker portfolio performance attributed to the increase in medallion loan delinquencies being managed as described above.

We monitor delinquent loans for possible exposure to loss by analyzing various factors, including the value of the collateral securing the loan and the borrower’s prior payment history. Under the 1940 Act, our loan portfolio must be recorded at fair value or “marked-to-market.” Unlike other lending institutions, we are not permitted to establish reserves for loan losses. Instead, the valuation of our portfolio is adjusted quarterly to reflect our estimate of the current realizable value of our loan portfolio. Since no ready market exists for this portfolio, fair value is subject to the good faith determination of our Board of Directors. Because of the subjectivity of these estimates, there can be no assurance that in the event of a foreclosure or the sale of portfolio loans we would be able to recover the amounts reflected on our balance sheet. For more information, see “Risk Factors—Risks Relating to Our Business and Structure—Our investment portfolio is, and will continue to be, recorded at fair value as determined in good faith by our Board of Directors and, as a result, there is, and will continue to be, uncertainty as to the value of our portfolio investments which could adversely affect our net asset value.”

In determining the value of our portfolio, the Board of Directors may take into consideration various factors such as the financial condition of the borrower and the adequacy of the collateral. For example, in a period of sustained increases in market

 

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interest rates, the Board of Directors could decrease its valuation of the portfolio if the portfolio consists primarily of long-term, fixed-rate loans. Our valuation procedures are designed to generate values that approximate that which would have been established by market forces, and are therefore subject to uncertainties and variations from reported results. Based upon these factors, net unrealized appreciation or depreciation on investments is determined, based on the fluctuations of our estimate of the current realizable value of our portfolio from our cost basis.

The following table sets forth the pretax changes in our unrealized appreciation (depreciation) on investments, for the years ended December 31, 2016, 2015, and 2014.

 

(Dollars in thousands)

   Medallion
Loans
    Commercial
Loans
    Investment
in
Subsidiaries
    Equity
Investments
    Investment
Securities
    Investments
Other Than
Securities
    Total  

Balance December 31, 2013

   $ —       $ (6,992   $ 814     $ 381     $ —       $ 40,404     $ 34,607  

Net change in unrealized

              

Appreciation on investments

     —         —         4,884       195       —         (2,900     2,179  

Depreciation on investments

     —         (1,365     —         358       —         1,141       134  

Reversal of unrealized appreciation (depreciation) related to realized

              

Gains on investments

     —         —         —         —         —         —         —    

Losses on investments

     —         5,408       —         674       —         —         6,082  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Balance December 31, 2014

     —         (2,949     5,698       1,608       —         38,645       43,002  

Net change in unrealized

              

Appreciation on investments

     —         —         18,132       1,141       —         (9,621     9,652  

Depreciation on investments

     (3,568     (176     586       (1,426     (18     (68     (4,670

Reversal of unrealized appreciation (depreciation) related to realized

              

Gains on investments

     —         —         (4,809     (9     —         —         (4,818

Losses on investments

     130       886       —         301         —         1,317  

Other (1)

     —         —         (967     967       —         —         —    
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Balance December 31, 2015

     (3,438     (2,239     18,640       2,582       (18     28,956       44,483  

Net change in unrealized

              

Appreciation on investments

     —         —         133,805       2,979       7       (28,372     108,419  

Depreciation on investments

     (28,028     318       305       —         5       —         (27,400

Reversal of unrealized appreciation (depreciation) related to realized

              

Gains on investments

     —         —         —         (1,627     —         —         (1,627

Losses on investments

     2,943       543       —         —         12       —         3,498  

Other

     —         —         —         —         (6     —         (6
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Balance December 31, 2016

   ($ 28,523   ($ 1,378   $ 152,750     $ 3,934     $ —       $ 584     $ 127,367  
  

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

 

(1) Reclassification of Medallion Motorsports from equity investments to controlled subsidiaries.

 

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The following table presents credit-related information for the investment portfolios as of December 31.

 

(Dollars in thousands)

   2016     2015     2014  

Total loans

      

Medallion loans

   $ 266,816     $ 308,408     $ 311,894  

Commercial loans

     83,634       81,895       71,149  
  

 

 

   

 

 

   

 

 

 

Total loans

     350,450       390,303       383,043  

Investment in Medallion Bank and other controlled subsidiaries

     293,360       159,913       136,848  

Equity investments (1)

     8,468       6,859       7,710  

Investment securities

     —         49,884       —    
  

 

 

   

 

 

   

 

 

 

Net investments

   $ 652,278     $ 606,959     $ 527,601  
  

 

 

   

 

 

   

 

 

 

Net investments at Medallion Bank and other controlled subsidiaries

   $ 1,001,940     $ 1,031,893     $ 908,963  

Managed net investments

   $ 1,517,592     $ 1,501,555     $ 1,310,685  
  

 

 

   

 

 

   

 

 

 

Unrealized appreciation (depreciation) on investments

      

Medallion loans

   ($ 28,523   ($ 3,438   $ —    

Commercial loans

     (1,378     (2,239     (2,949
  

 

 

   

 

 

   

 

 

 

Total loans

     (29,901     (5,677     (2,949

Investment in Medallion Bank and other controlled subsidiaries

     152,750       18,640       5,698  

Equity investments

     3,934       2,582       1,608  

Investment securities

     —         (18     —    
  

 

 

   

 

 

   

 

 

 

Total unrealized appreciation (depreciation) on investments

   $ 126,783     $ 15,527     $ 4,357  
  

 

 

   

 

 

   

 

 

 

Net unrealized depreciation on investments at Medallion Bank and other controlled subsidiaries

   ($ 55,616   ($ 24,582   ($ 17,545

Managed total unrealized depreciation on investments

   $ 71,167     ($ 9,055   ($ 13,188
  

 

 

   

 

 

   

 

 

 

Unrealized appreciation (depreciation) as a % of balances outstanding (2)

      

Medallion loans

     (9.67 %)      (1.10 %)      —  

Commercial loans

     (1.62     (2.66     (3.97

Total loans

     (7.87     (1.43     (0.76

Investment in Medallion Bank and other controlled subsidiaries

     108.63       13.19       4.34  

Equity investments

     86.77       60.39       26.35  

Investment securities

     —         —         —    

Net investments

     24.13       2.63       0.83  
  

 

 

   

 

 

   

 

 

 

Net investments at Medallion Bank and other controlled subsidiaries

     (5.32 %)      (2.35 %)      (1.91 %) 

Managed net investments

     4.96     (0.60 %)      (1.00 %) 

 

(1) Represents common stock, warrants, preferred stocks, and limited partnership interests held as investments.
(2) Unlike other lending institutions, we are not permitted to establish reserves for loan losses. Instead, the valuation of our portfolio is adjusted quarterly to reflect estimates of the current realizable value of the investment portfolio. These percentages represent the discount or premium that investments are carried on the books at, relative to their par or gross value.

 

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The following table presents the gain/loss experience on the investment portfolio for the years ended December 31, 2016, 2015, and 2014.

 

(Dollars in thousands)

   2016     2015     2014  

Realized gains (losses) on loans and equity investments

      

Medallion loans

   ($ 2,938   ($ 140   $ —    

Commercial loans(1)

     1,284       (946     (4,983
  

 

 

   

 

 

   

 

 

 

Total loans

     (1,654     (1,086     (4,983

Investment in Medallion Bank and other controlled subsidiaries

     214       8,108       —    

Equity investments

     1,884       614       (624

Investment securities

     13       —         —    
  

 

 

   

 

 

   

 

 

 

Total realized gains (losses) on loans and equity investments

   $ 457     $ 7,636     ($ 5,607
  

 

 

   

 

 

   

 

 

 

Net realized losses on investments at

Medallion Bank and other controlled subsidiaries

     (35,341     (10,388     (6,682
  

 

 

   

 

 

   

 

 

 

Total managed realized gains (losses) on loans and equity investments

   ($ 34,884   ($ 2,752   ($ 12,289
  

 

 

   

 

 

   

 

 

 

Realized gains (losses) as a % of average balances outstanding

      

Medallion loans

     (0.97 %)      (0.04 %)      —  

Commercial loans

     1.49       (1.23     (7.30

Total loans

     (0.42     (0.28     (1.33

Investment in Medallion Bank and other controlled subsidiaries

     0.14       6.07       —    

Equity investments

     41.15       10.87       (10.51

Investment securities

     0.01       —         —    

Net investments

     0.08       1.40       (1.11
  

 

 

   

 

 

   

 

 

 

Net investments at Medallion Bank and other controlled subsidiaries

     (3.33 %)      (1.06 %)      (0.77 %) 

Managed net investments

     (2.34 %)      (0.20 %)      (0.98 %) 

 

(1) Includes $2,056 of gain recognized on the sale of the asset based lending portfolio.

The table below summarizes pre-tax components of unrealized and realized gains and losses in the investment portfolio for the years ended December 31, 2016, 2015, and 2014.

 

(Dollars in thousands)

   2016      2015      2014  

Net change in unrealized appreciation (depreciation) on investments

        

Unrealized appreciation

   $ 2,986      $ 288      $ 553  

Unrealized depreciation

     (27,705      (3,822      (1,365

Net unrealized appreciation on investment in Medallion Bank and other controlled subsidiaries

     130,121        21,638        15,643  

Realized gains

     (1,627      (4,818      —    

Realized losses

     3,498        1,317        6,082  

Net unrealized gains (losses) on investments other than securities and other assets

     (28,387      (9,689      (1,759
  

 

 

    

 

 

    

 

 

 

Total

   $ 78,886      $ 4,914      $ 19,154  
  

 

 

    

 

 

    

 

 

 

Net realized gains (losses) on investments

        

Realized gains

   $ —        $ 4,818      $ —    

Realized losses

     (3,486      (1,317      (6,082

Other gains

     4,140        4,261        434  

Direct recoveries (chargeoffs)

     (197      (126      41  

Realized losses on investments other than securities and other assets

     —          —          —    
  

 

 

    

 

 

    

 

 

 

Total

   $ 457      $ 7,636      ($ 5,607
  

 

 

    

 

 

    

 

 

 

 

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Investment in Medallion Bank and Other Controlled Subsidiaries

Investment in Medallion Bank and other controlled subsidiaries were 45%, 26%, and 26% of our total portfolio at December 31, 2016, 2015, and 2014. The portfolio company investments primarily represent the wholly-owned unconsolidated subsidiaries of ours, substantially all of which is represented by our investment in Medallion Bank. In addition, to facilitate maintenance of Medallion Bank’s capital ratio requirement and to provide the necessary capital for continued growth, we periodically make capital contributions to Medallion Bank, including $3,000,000 in 2016 and $8,000,000 in 2015. Separately, Medallion Bank declared dividends to us of $3,000,000 in 2016, $18,000,000 in 2015, and $15,000,000 in 2014. See Note 3 of the consolidated financial statements for additional information about these investments.

Equity Investments

Equity investments were 1% of our total portfolio at December 31, 2016, 2015, and 2014. Equity investments were 1%, less than 1%, and 1% of our total managed portfolio at December 31, 2016, 2015, and 2014. Equity investments are comprised of common stock, warrants, preferred stock, and limited partnership interests.

Investment Securities

Investment securities were 0%, 8%, and 0% of our total portfolio at December 31, 2016, 2015, and 2014. Investment securities were 2%, 6%, and 2% of our total managed portfolio at December 31, 2016, 2015, and 2014. The investment securities are primarily U.S. Treasury bills and adjustable-rate mortgage-backed securities purchased by Medallion Bank to better utilize required cash liquidity.

Trend in Interest Expense

Our interest expense is driven by the interest rates payable on our short-term credit facilities with banks, bank certificates of deposit, fixed-rate, long-term debentures issued to the SBA, and other short-term notes payable. We established a medallion lending relationship with DZ Bank in December 2008 that provided for growth in the portfolio at generally lower rates than under prior facilities. In addition, Medallion Bank began raising brokered bank certificates of deposit during 2004, which were at our lowest borrowing costs. As a result of Medallion Bank raising funds through certificates of deposit as previously noted, we were able to transfer certain of our medallion loans and related assets to Medallion Bank allowing us and our subsidiaries to use cash generated through these transactions to retire debt with higher interest rates. In addition, Medallion Bank is able to bid on these deposits at a wide variety of maturity levels which allows for improved interest rate management strategies.

Our cost of funds is primarily driven by the rates paid on our various debt instruments and their relative mix, and changes in the levels of average borrowings outstanding. See Note 4 to the consolidated financial statements for details on the terms of all outstanding debt. Our debentures issued to the SBA typically have terms of ten years.

 

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We measure our borrowing costs as our aggregate interest expense for all of our interest-bearing liabilities divided by the average amount of such liabilities outstanding during the period. The following table shows the average borrowings and related borrowing costs for the years ended December 31, 2016, 2015, and 2014. Our average balances increased during the year reflecting increased borrowing required to fund operating and investing activities and Medallion Bank’s average balances increased, reflecting the strong growth in the consumer loan portfolio. The increase in borrowing costs reflected the increase of interest rates and changes in our borrowing mix, and Medallion Bank’s lengthening of the maturity profile of its certificates of deposit.

 

(Dollars in thousands)

   Interest
Expense
     Average
Balance
     Average
Borrowing
Costs
 

December 31, 2016

        

DZ loan

   $ 2,670      $ 119,492        2.23

Notes payable to banks

     3,119        105,893        2.95  

SBA debentures

     3,134        79,175        3.96  

Preferred securities

     945        33,000        2.87  

Retail note

     2,501        23,748        10.53  

Margin loans

     269        18,997        1.42  
  

 

 

    

 

 

    

Total

   $ 12,638      $ 380,305        3.32  
  

 

 

    

 

 

    

Medallion Bank borrowings

     11,762        924,235        1.27  
  

 

 

    

 

 

    

Total managed borrowings

   $ 24,400      $ 1,304,540        1.87  
  

 

 

    

 

 

    

December 31, 2015

        

Revolving lines of credit

   $ 2,413      $ 122,482        1.97

Notes payable to banks

     3,247        124,666        2.60  

SBA debentures

     2,776        68,018        4.08  

Preferred securities

     812        33,000        2.46  

Margin loans

     174        13,572        1.28  
  

 

 

    

 

 

    

Total

   $ 9,422      $ 361,738        2.60  
  

 

 

    

 

 

    

Medallion Bank borrowings

     9,205        851,474        1.08  
  

 

 

    

 

 

    

Total managed borrowings

   $ 18,627      $ 1,213,212        1.54  
  

 

 

    

 

 

    

December 31, 2014

        

Revolving lines of credit

   $ 2,459      $ 127,115        1.93

Notes payable to banks

     2,663        97,012        2.75  

SBA debentures

     2,628        59,715        4.40  

Preferred securities

     793        33,000        2.40  
  

 

 

    

 

 

    

Total

   $ 8,543      $ 316,842        2.70  
  

 

 

    

 

 

    

Medallion Bank borrowings

     7,008        755,163        0.93  
  

 

 

    

 

 

    

Total managed borrowings

   $ 15,551      $ 1,072,005        1.45  
  

 

 

    

 

 

    

We will continue to seek SBA funding through Medallion Capital to the extent it offers attractive rates. SBA financing subjects its recipients to limits on the amount of secured bank debt they may incur. We use SBA funding to fund loans that qualify under the SBIA and SBA regulations. We believe that financing operations primarily with short-term floating rate secured bank debt has generally decreased our interest expense, but has also increased our exposure to the risk of increases in market interest rates, which we mitigate with certain interest rate strategies. At December 31, 2016, 2015, and 2014, short-term adjustable rate debt constituted 59%, 75%, and 72% of total debt, and was 16%, 23%, and 22% on a fully managed basis including the borrowings of Medallion Bank.

Factors Affecting Net Assets

Factors that affect our net assets include net realized gain or loss on investments and change in net unrealized appreciation or depreciation on investments. Net realized gain or loss on investments is the difference between the proceeds derived upon sale or foreclosure of a loan or an equity investment and the cost basis of such loan or equity investment. Change in net unrealized appreciation or depreciation on investments is the amount, if any, by which our estimate of the fair value of our investment portfolio is above or below the previously established fair value or the cost basis of the portfolio. Under the 1940 Act, our loan portfolio and other investments must be recorded at fair value.

 

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Unlike certain lending institutions, we are not permitted to establish reserves for loan losses, but adjust quarterly the valuation of the investment portfolio to reflect our estimate of the current value of the total investment portfolio. Since no ready market exists for our investments, fair value is subject to our Board of Directors’ good faith determination. In determining such fair value, our Board of Directors considers factors such as the financial condition of our borrowers and the adequacy of their collateral. Any change in the fair value of portfolio investments or other investments as determined by our Board of Directors is reflected in net unrealized depreciation or appreciation on investments and affects net increase in net assets resulting from operations, but has no impact on net investment income or distributable income.

Our investment in Medallion Bank, as a wholly-owned portfolio investment, is also subject to quarterly assessments of fair value. We conduct a thorough valuation analysis as described previously, and also receive an opinion regarding the valuation from an independent third party to assist the Board of Directors in its determination of the fair value of Medallion Bank on at least an annual basis. Our analysis includes factors such as various regulatory restrictions that were established at Medallion Bank’s inception, by the FDIC and State of Utah, and also by additional regulatory restrictions, such as the prior moratorium imposed by the Dodd-Frank Act on the acquisition of control of an industrial bank by a “commercial firm” (a company whose gross revenues are primarily derived from nonfinancial activities) which expired in July 2013 and the lack of any new charter issuances since the moratorium’s expiration. Because of these restrictions and other factors, our Board of Directors had previously determined that Medallion Bank had little value beyond its recorded book value. As a result of this valuation process, we had previously used Medallion Bank’s actual results of operations as the best estimate of changes in fair value, and recorded the results as a component of unrealized appreciation (depreciation) on investments. In the second quarter of 2015, we first became aware of external interest in Medallion Bank and its portfolio assets at values in excess of their book value. Expression of interest in Medallion Bank from both investment bankers and interested parties has continued through 2016. We incorporated these new factors in the Medallion Bank’s fair value analysis and the Board of Directors determined that Medallion Bank had a fair value in excess of book value. In addition, in the third quarter of 2016 there was a court ruling involving a marketplace lender that the Company believes heightens the interest of marketplace lenders to acquire or merge with Utah industrial banks. We also engaged a valuation specialist to assist the Board of Directors in their determination of Medallion Bank’s fair value, and this appreciation of $15,500,000 was thereby recorded in 2015, and additional appreciation of $128,918,000 was recorded in 2016 as a component of unrealized appreciation (depreciation) on investments, in addition to Medallion Bank’s actual results of operations. See Note 3 for additional information about Medallion Bank.

Consolidated Results of Operations

For the Years Ended December 31, 2016 and 2015

Net increase in net assets resulting from operations was $23,515,000 or $0.97 per diluted common share in 2016, down $5,861,000 or 20% from $29,376,000 or $1.20 per share in 2015, primarily reflecting an initial income tax provision that resulted from our not qualifying to elect RIC status for 2016, lower net interest income, and higher operating expenses, partially offset by higher net realized/unrealized gains and noninterest income. Net investment income after income taxes was $119,000 or $0.00 per share in 2016, down $16,707,000 or 99% from $16,826,000 or $0.69 in 2015.

Investment income was $25,088,000 in 2016, down $17,565,000 or 41% from $42,653,000 a year ago, and included in 2016 and 2015 were $3,000,000 and $18,889,000 in dividends from Medallion Bank and other controlled subsidiaries. Excluding those items, investment income decreased $1,676,000 or 7%, primarily reflecting a $1,317,000 increase in foregone interest income on nonaccrual loans, and a $851,000 reduction in lease revenue from our owned Chicago medallions, in both cases, reflecting the poor performance of a number of our borrowers and lessees as business conditions have worsened. The yield on the investment portfolio was 4.17% in 2016, down 46% from 7.74% in 2015. Excluding the dividends, the 2016 yield was down 6% to 3.67% from 4.31% in 2015, reflecting the above. Average investments outstanding were $602,349,000 in 2016, up 9% from $550,763,000 a year ago, primarily reflecting the appreciation on Medallion Bank, partially offset by increased reserves and paydowns in the medallion portfolio.

Medallion loans were $266,816,000 at year end, down $41,592,000 or 13% from $308,408,000 a year ago, representing 41% of the investment portfolio, compared to 51% a year ago, and were yielding 4.01% compared to 4.09% a year ago. The decrease in outstandings was primarily concentrated in the New York market, although all markets declined, and reflected increased realized and unrealized losses and net amortization of loan principal. The managed medallion portfolio, which includes loans at Medallion Bank and those serviced for third parties, was $553,439,000 at year end, down $114,582,000 or 17% from $667,863,000 a year ago, reflecting the above. The commercial loan portfolio was $83,634,000 at year end, compared to $81,895,000 a year ago, an increase of $1,739,000 or 2%, and represented 13% of the investment portfolio compared to 14% a year ago. The increase primarily reflected growth in the high-yield mezzanine portfolio, partially offset by a decrease in the other secured commercial loan portfolio and the sale of the asset-based portfolio. Commercial loans yielded 13.05% at year end, up 2% from 12.80% a year ago, reflecting the change in portfolio mix and higher yields on the mezzanine portfolio. The net managed commercial loan portfolio, which includes loans at Medallion Bank and those serviced for or by third parties, was $87,844,000 at year end, down $34,619,000 or 28% from $122,463,000

 

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a year ago, primarily reflecting the sale of the asset-based portfolio as well as the changes described above. Approximately $11,652,000 of managed asset-based loans ($6,991,000 after valuation adjustments) has been reclassified to other assets awaiting the outcome of legal proceedings as described further on page 43. Investments in Medallion Bank and other controlled subsidiaries were $293,360,000 at year end, up $133,447,000 or 83% from $159,913,000 a year ago, primarily reflecting the appreciation and our equity in the earnings of Medallion Bank’s other portfolio company investments, capital contributions made, dividends paid, portfolio sales, and the net valuation adjustments, and which represented 45% of the investment portfolio at the end of 2016 and 26% in the prior year, and which yielded 2.13% at year end, compared to 12.74% a year ago, primarily reflecting reduced dividends from Medallion Bank. See Notes 3 and 10 of the consolidated financial statements for additional information about Medallion Bank and the other controlled subsidiaries. Equity investments were $8,468,000 at year end, up $1,609,000 or 23% from $6,859,000 a year ago, primarily reflecting increased net appreciation on investment, and which represented 1% of the investment portfolio at both year ends, and had a dividend yield of 0%, compared to 0.72% a year ago.

Interest expense was $12,638,000 in 2016, up $3,216,000 or 34% from $9,422,000 in 2015. The increase in interest expense was primarily due to increased borrowing costs and higher borrowing levels. The cost of borrowed funds was 3.32% in 2016, compared to 2.60% a year ago, an increase of 28%, reflecting increases of interest rates and changes in our borrowing mix. Average debt outstanding was $380,305,000 in 2016, compared to $361,738,000 a year ago, up 5%, primarily reflecting increased borrowings required to fund operating and investment activity. See page 48 for a table that shows average balances and cost of funds for our funding sources.

Net interest income was $12,450,000 and the net interest margin was 2.07% in 2016, down $20,781,000 or 63% from $33,231,000 a year ago, which represented a net interest margin of 6.03%, all reflecting the items discussed above.

Noninterest income, which is comprised of management fees, prepayment fees, servicing fee income, late charges, and other miscellaneous income was $408,000 in 2016, up $89,000 or 28% from $319,000 a year ago, primarily reflecting higher servicing and other fees generated from the subsidiaries of Medallion Financial Corp.

Operating expenses were $22,786,000 in 2016, up $6,062,000 or 36% from $16,724,000 in 2015, and which included a $5,099,000 goodwill impairment writeoff in 2016. Excluding the goodwill writedown, operating expenses increased 6%. Salaries and benefits expense was $11,770,000 in the year, up $126,000 or 1% from $11,644,000 in 2015, reflecting higher executive bonuses and executive salary expenses in the current year, partially offset by lower salaries related to the exiting of the asset-based lending business in late 2016. Professional fees were $2,347,000 in 2016, up $861,000 or 58% from $1,486,000 a year ago, primarily reflecting higher legal expenses for a variety of corporate and investment-related matters. Occupancy expense was $966,000 in 2016, up $89,000 or 10% from $877,000 in 2015. Other operating expenses of $2,604,000 in 2016 were down $113,000 or 4% from $2,717,000 a year ago, primarily reflecting lower advertising expense.

Total income tax expense was $45,900,000 in 2016 compared to $0 in 2015, and was comprised of three components, a $10,047,000 benefit related net investment loss, and provisions of $384,000 and $55,563,000 related to realized and unrealized gains on investments. These provisions included amounts relevant to prior years’ unrealized gains and losses, and were recorded in 2016 as a result of our failure to qualify for RIC tax treatment. See note 5 for more information.

Net change in unrealized appreciation on investments before taxes was $78,886,000 in 2016, compared to $4,914,000 in 2015, an increase in appreciation of $73,972,000. Net change in unrealized appreciation other than the portion related to Medallion Bank and the other controlled subsidiaries, was depreciation of $51,235,000 in 2016 compared to $11,916,000 in 2015, resulting in increased depreciation of $39,319,000 in 2016. Unrealized appreciation (depreciation) arises when we make valuation adjustments to the investment portfolio. When investments are sold or written off, any resulting realized gain (loss) is grossed up to reflect previously recorded unrealized components. As a result, movement between periods can appear distorted. The 2016 activity resulted from net appreciation on Medallion Bank and other controlled subsidiaries of $130,121,000 and by reversals of unrealized depreciation associated with fully depreciated loans which were charged off of $3,486,000, partially offset by unrealized depreciation on loans of $27,710,000, investments other than securities of $28,372,000, and net unrealized appreciation on investment securities of $1,367,000. The 2015 activity resulted from net appreciation on Medallion Bank and other controlled subsidiaries of $16,830,000 reversals of unrealized depreciation associated with fully depreciated loans which were charged off of $1,015,000, net reversals of unrealized depreciation associated with equity investments which were sold of $292,000 and net unrealized appreciation on other investments of $209,000, partially offset by net depreciation on investments other than securities of $9,621,000, net unrealized depreciation on loans of $3,743,000, net depreciation on other assets of $68,000. The net appreciation on Medallion Bank and other controlled subsidiaries described above is net of the dividends declared by them to us of $3,000,000 in 2016 and $18,889,000 in 2015.

        Our net realized gains on investments before taxes were $457,000 in 2016, compared to gains of $7,636,000 in 2015, a decrease in realized gains of $7,179,000 in 2016. The 2016 activity reflected the reversals described in the unrealized paragraph above, and other net loan chargeoffs of $224,000, partially offset by gains of $2,111,000 from the sale of investment securities and $2,057,000 from the sale of the asset-based lending portfolio. The 2015 activity reflected the reversals described in the unrealized paragraph

 

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above, and reversals of $4,809,000 of unrealized appreciation related to sales of other controlled subsidiaries, $3,296,000 of other gains from the other controlled subsidiaries sales, and other gains on equity investments of $913,000, partially offset by net direct chargeoffs of loans and equity investments of $75,000.

Our net realized/unrealized gains on investments were $23,396,000 in 2016, compared to $12,550,000 in 2015, an increase of $10,846,000 or 86% of net gains in the year, reflecting the above.

For the Years Ended December 31, 2015 and 2014

Net increase in net assets resulting from operations was $29,376,000 or $1.20 per diluted common share in 2015, up $684,000 or 2% from $28,692,000 or $1.14 per share in 2014, primarily reflecting lower operating expenses and higher net interest income, partially offset by lower net realized/unrealized gains and noninterest income. Net investment income after income taxes was $16,826,000 or $0.69 per share in 2015, up $1,681,000 or 11% from $15,145,000 or $0.60 in 2014.

Investment income was $42,653,000 in 2015, up $1,585,000 or 4% from $41,068,000 a year ago, and included $864,000 from interest recoveries and bonuses on certain investments in 2015, compared to $4,363,000 in 2014. Also included in 2015 and 2014 were $18,889,000 and $15,000,000 in dividends from Medallion Bank and other controlled subsidiaries. Excluding those items, investment income increased $1,195,000 or 6%, primarily reflecting portfolio growth, partially offset by the repricing of the portfolios to lower current market interest rates. Investment income also reflected a $326,000 or 19% reduction in lease revenue received from our owned Chicago medallions, reflecting the tightening of the market and increased competition in Chicago. The yield on the investment portfolio was 7.74% in 2015, down 6% from 8.25% in 2014. Excluding the extra interest and dividends, the 2015 yield was down 5% to 4.16% from 4.36% in 2014, reflecting the general decrease in market interest rates and changes in the portfolio mix. Average investments outstanding were $550,763,000 in 2015, up 11% from $497,536,000 a year ago, primarily reflecting portfolio growth, partially offset by loan payments received.

Medallion loans were $308,408,000 at year end, down $3,486,000 or 1% from $311,894,000 a year ago, representing 51% of the investment portfolio, compared to 59% a year ago, and were yielding 4.09% compared to 4.03% a year ago, up 1%, reflecting our increasing rates as loans refinance. The decrease in outstandings primarily reflected increases in valuation reserves reflecting current market conditions, and relatively stable portfolio markets. The managed medallion portfolio, which includes loans at Medallion Bank and those serviced for third parties, was $667,863,000 at year end, down $36,950,000 or 5% from $704,813,000 a year ago, reflecting the above and portfolio decreases in the New York and Chicago markets, reflecting management’s decision to cull weaker and less profitable borrowers from the portfolio. The commercial loan portfolio was $81,895,000 at year end, compared to $71,149,000 a year ago, an increase of $10,746,000 or 15%, and represented 14% of the investment portfolio in both years. The increase primarily reflected growth in the high-yield mezzanine portfolio, partially offset by a decrease in the other secured commercial loan portfolio. Commercial loans yielded 12.80% at year end, up 7% from 11.91% a year ago, reflecting the change in portfolio mix and higher yields on the mezzanine portfolio. The net managed commercial loan portfolio, which includes loans at Medallion Bank and those serviced for or by third parties, was $122,463,000 at year end, up $8,177,000 or 7% from $114,286,000 a year ago, primarily reflecting the changes described above, and an increase in asset-based loan participations purchased. Approximately $11,652,000 of managed asset-based loans ($6,991,000 after valuation adjustments) has been reclassified to other assets awaiting the outcome of legal proceedings as described further on page 43. Investments in Medallion Bank and other controlled subsidiaries were $159,913,000 at year end, up $23,065,000 or 17% from $136,848,000 a year ago, primarily reflecting our equity in the earnings of Medallion Bank other portfolio company investments, capital contributions made, dividends paid, portfolio sales, and net appreciation, and which represented 26% of the investment portfolio in both years, and which yielded 12.74% at year end, compared to 11.44% a year ago, primarily reflecting the dividends from Medallion Bank. See Notes 3 and 10 of the consolidated financial statements for additional information about Medallion Bank and the other controlled subsidiaries. Equity investments were $6,859,000 at year end, down $851,000 or 11% from $7,710,000 a year ago, primarily reflecting increased equity investments offset by portfolio depreciation and the transfer of an investment to investment in controlled subsidiaries, and which represented 1% of the investment portfolio at both year ends, and had a dividend yield of 0.72%, compared to 0.86% a year ago. Investment securities were $49,884,000 at year end, compared to $0 a year ago, representing 8% of the net investment portfolio, and had a yield of 0.35%, reflecting new investment activity. See page 40 for a table that shows balances and yields by type of investment.

Interest expense was $9,422,000 in 2015, up $879,000 or 10% from $8,543,000 in 2014. The increase in interest expense was primarily due to increased borrowing levels. The cost of borrowed funds was 2.60% in 2015, compared to 2.70% a year ago, a decrease of 4%, reflecting the adjustable rate nature of much of our borrowings, and changes in our funding mix. Average debt outstanding was $361,738,000 in 2015, compared to $316,842,000 a year ago, up 14%, primarily reflecting increased borrowings required to fund portfolio growth and investment activity. See page 48 for a table that shows average balances and cost of funds for our funding sources.

        Net interest income was $33,231,000 and the net interest margin was 6.03% in 2015, up $706,000 or 2% from $32,525,000 a year ago, which represented a net interest margin of 6.54%, all reflecting the items discussed above.

 

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Noninterest income, which is comprised of management fees, prepayment fees, servicing fee income, late charges, and other miscellaneous income was $319,000 in 2015, down $190,000 or 37% from $509,000 a year ago, primarily reflecting lower servicing and other fees generated from the portfolio base at Medallion Bank, and lower prepayment fees.

Operating expenses were $16,724,000 in 2015, down $1,165,000 or 7% from $17,889,000 in 2014. Salaries and benefits expense was $11,644,000 in the year, down $1,159,000 or 9% from $12,803,000 in 2014, primarily reflecting lower bonus accruals, partially offset by higher salaries and health insurance costs, and also by lower salary deferrals related to loan originations. Professional fees were $1,486,000 in 2015, up $292,000 or 24% from $1,194,000 a year ago, primarily reflecting higher legal expenses for a variety of corporate and investment-related matters. Occupancy expense was $877,000 in 2015, up $79,000 or 10% from $798,000 in 2014, primarily reflecting rent previously allocated to a sold unconsolidated portfolio company. Other operating expenses of $2,717,000 in 2015 were down $377,000 or 12% from $3,094,000 a year ago, primarily reflecting lower advertising expenses.

Income tax expense was $0 in 2015 and 2014.

Net change in unrealized appreciation on investments was $4,914,000 in 2015, compared to $19,154,000 in 2014, a decrease in appreciation of $14,240,000 or 74%. Net change in unrealized appreciation other than the portion related to Medallion Bank and the other controlled subsidiaries, was depreciation of $11,916,000 in 2015, compared to appreciation of $3,511,000 in 2014, resulting in decreased appreciation of $15,427,000 in 2015. Unrealized appreciation (depreciation) arises when we make valuation adjustments to the investment portfolio. When investments are sold or written off, any resulting realized gain (loss) is grossed up to reflect previously recorded unrealized components. As a result, movement between periods can appear distorted. The 2015 activity resulted from net appreciation on Medallion Bank and other controlled subsidiaries of $16,830,000, reversals of unrealized depreciation associated with fully depreciated loans which were charged off of $1,015,000, net reversals of unrealized depreciation associated with equity investments which were sold of $292,000, and net unrealized appreciation on equity investments of $209,000, partially offset by net depreciation on investments other than securities of $9,621,000, net unrealized depreciation on loans of $3,743,000, and net depreciation on other assets of $68,000. The 2014 activity resulted from net appreciation on Medallion Bank and other controlled subsidiaries of $15,643,000, reversals of unrealized depreciation associated with fully depreciated loans which were charged off of $5,408,000, net appreciation on other assets of $1,141,000, reversals of unrealized depreciation associated with equity investments which were sold of $674,000, and net unrealized appreciation on equity investments of $553,000, partially offset by net depreciation on investments other than securities of $2,900,000 and net unrealized depreciation on loans of $1,365,000. The net appreciation on Medallion Bank and other controlled subsidiaries described above is net of the dividends declared by them to us of $18,889,000 in 2015 and $15,000,000 in 2014.

Our net realized gains on investments were $7,636,000 in 2015, compared to losses of $5,607,000 in 2014, an increase in realized gains of $13,243,000 in 2015. The 2015 activity reflected the reversals described in the unrealized paragraph above, and reversals of $4,809,000 of unrealized appreciation related to sales of other controlled subsidiaries, $3,296,000 of other gains from the other controlled subsidiaries sales, and other gains on equity investments of $913,000, partially offset by net direct chargeoffs of loans and equity investments of $75,000. The 2014 activity reflected the reversals described in the unrealized paragraph above and other gains on loans of $385,000, other gains on equity investments of $49,000, and net direct loan recoveries of $41,000.

Our net realized/unrealized gains on investments were $12,550,000 in 2015, compared to $13,547,000 in 2014, a decrease of $997,000 or 7% of net gains in the year, reflecting the above.

ASSET/LIABILITY MANAGEMENT

Interest Rate Sensitivity

We, like other financial institutions, are subject to interest rate risk to the extent that our interest-earning assets (consisting of medallion, commercial, and consumer loans; and investment securities) reprice on a different basis over time in comparison to our interest-bearing liabilities (consisting primarily of credit facilities with banks and other lenders, bank certificates of deposit, and SBA debentures).

Having interest-bearing liabilities that mature or reprice more frequently on average than assets may be beneficial in times of declining interest rates, although such an asset/liability structure may result in declining net earnings during periods of rising interest rates. Abrupt increases in market rates of interest may have an adverse impact on our earnings until we are able to originate new loans at the higher prevailing interest rates. Conversely, having interest-earning assets that mature or reprice more frequently on average than liabilities may be beneficial in times of rising interest rates, although this asset/liability structure may result in declining net earnings during periods of falling interest rates. This mismatch between maturities and interest rate sensitivities of our interest-earning assets and interest-bearing liabilities results in interest rate risk.

 

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The effect of changes in interest rates is mitigated by regular turnover of the portfolio. Based on past experience, we anticipate that approximately 40% of the taxicab medallion portfolio will mature or be prepaid each year. We believe that the average life of our loan portfolio varies to some extent as a function of changes in interest rates. Borrowers are more likely to exercise prepayment rights in a decreasing interest rate environment because the interest rate payable on the borrower’s loan is high relative to prevailing interest rates. Conversely, borrowers are less likely to prepay in a rising interest rate environment. However, borrowers may prepay for a variety of other reasons, such as to monetize increases in the underlying collateral values, particularly in the medallion loan portfolio.

In addition, we manage our exposure to increases in market rates of interest by incurring fixed-rate indebtedness, such as ten year subordinated SBA debentures, and by setting repricing intervals on certificates of deposit, for terms of up to five years. We had outstanding SBA debentures of $81,985,000 with a weighted average interest rate of 3.63%, constituting 24% of our total indebtedness, and unsecured notes of $33,625,000, with a weighted average interest rate of 9.00%, constituting 10% of total indebtness as of December 31, 2016. Also, as of December 31, 2016, certain of the certificates of deposit were for terms of up to 59 months, further mitigating the immediate impact of changes in market interest rates.

A relative measure of interest rate risk can be derived from our interest rate sensitivity gap. The interest rate sensitivity gap represents the difference between interest-earning assets and interest-bearing liabilities, which mature and/or reprice within specified intervals of time. The gap is considered to be positive when repriceable assets exceed repriceable liabilities, and negative when repriceable liabilities exceed repriceable assets. A relative measure of interest rate sensitivity is provided by the cumulative difference between interest sensitive assets and interest sensitive liabilities for a given time interval expressed as a percentage of total assets.

The following table presents our interest rate sensitivity gap at December 31, 2016, compared to the respective positions at the end of 2015 and 2014. The principal amounts of interest earning assets are assigned to the time frames in which such principal amounts are contractually obligated to be repriced. We have not reflected an assumed annual prepayment rate for such assets in this table.

 

    December 31, 2016 Cumulative Rate Gap (1)  

(Dollars in thousands)

  Less Than 1 Year     More Than 1 and
Less Than 2
Years
    More Than 2 and
Less Than 3
Years
    More Than 3 and
Less Than 4
Years
    More Than 4 and
Less Than 5
Years
    More Than 5 and Less
Than 6 Years
    Thereafter     Total  

Earning assets

             

Floating-rate

  $ —       $ —       $ —       $ —       $ —       $ —       $ —       $ —    

Adjustable rate

    29,360       —         2,407       3,854       —         —         —         35,621  

Fixed-rate

    180,491       93,893       23,087       15,166       18,128       3,258       10,532       344,555  

Cash

    20,962       —         —         —         —         —         —         20,962  
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total earning assets

  $ 230,813     $ 93,893     $ 25,494     $ 19,020     $ 18,128     $ 3,258     $ 10,532     $ 401,138  
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Interest bearing liabilities

             

DZ loan

  $ 106,244     $ —       $ —       $ —       $ —       $ —       $ —       $ 106,244  

Notes payable to banks

    94,111       68       —         40       —         —         —         94,219  

SBA debentures

    2,000       —         3,000       —         15,985       —         61,000       81,985  

Unsecured notes

    —         —         —         —         33,625       —         —         33,625  

Preferred securities

    33,000       —         —         —         —         —         —         33,000  
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total liabilities

  $ 235,355     $ 68     $ 3,000     $ 40     $ 49,610     $ —       $ 61,000     $ 349,073  
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Interest rate gap

  ($ 4,542   $ 93,825     $ 22,494     $ 18,980     ($ 31,482   $ 3,258     ($ 50,468   $ 52,065  
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Cumulative interest rate gap (2)

  ($ 4,542   $ 89,283     $ 111,777     $ 130,757     $ 99,275     $ 102,533     $ 52,065       —    
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

December 31, 2015 (2)

  ($ 114,848   $ 19,834     $ 86,273     $ 102,726     $ 125,935     $ 114,139     $ 71,928       —    

December 31, 2014 (2)

  ($ 160,108   ($ 47,283   $ 73,765     $ 108,360     $ 124,790     $ 131,736     $ 84,006       —    
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 
(1) The ratio of the cumulative one year gap to total interest rate sensitive assets was (1%), (24%), and (37%), as of December 31, 2016, 2015, and 2014, and was (11%), (14%), and (19%) on a combined basis with Medallion Bank.
(2) Adjusted for the medallion loan 40% prepayment assumption results in a cumulative one year positive interest rate gap and related ratio of $36,392 or 9% for December 31, 2016, compared to negative interest rate gaps of ($43,838) or (9%) and ($53,066) or (12%) for December 31, 2015 and 2014, and was ($86,349) or (6%), ($77,488) or (5%), and ($28,650) or (2%) on a combined basis with Medallion Bank.

        Our interest rate sensitive assets were $401,138,000 and interest rate sensitive liabilities were $349,073,000 at December 31, 2016. The one-year cumulative interest rate gap was a negative $4,542,000 or 1% of interest rate sensitive assets, compared to a negative $114,848,000 or 24% at December 31, 2015 and $160,108,000 or 37% at December 31, 2014. However, using our estimated 40% prepayment/refinancing rate for medallion loans to adjust the interest rate gap resulted in a positive gap of $36,392,000 or 9% at December 31, 2016. We seek to manage interest rate risk by originating adjustable-rate loans, by incurring fixed-rate indebtedness, by evaluating appropriate derivatives, pursuing securitization opportunities, and by other options consistent with managing interest rate risk.

On a combined basis with Medallion Bank, our interest rate sensitive assets were $1,476,967,000 and interest rate sensitive liabilities were $1,257,515,000 at December 31, 2016. The one-year cumulative interest rate gap was a negative $160,931,000 or 11% of interest rate sensitive assets, compared to a negative $220,686,000 or 14% and $257,578,000 or 19% at December 31, 2015 and 2014. Using our estimated 40% prepayment/refinancing rate for medallion loans to adjust the interest rate gap resulted in a negative gap of $86,349,000 or 6% at December 31, 2016.

 

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Interest Rate Cap Agreements

We manage our exposure to increases in market rates of interest by periodically purchasing interest rate caps to lock in the cost of funds of our variable-rate debt in the event of a rapid run up in interest rates. We entered into contracts to purchase interest rate caps on $110,000,000 of notional value of principal from various multinational banks, with termination dates ranging to December 2018. The caps provide for payments to us if various LIBOR thresholds are exceeded during the cap terms. Total cap purchases were generally fully expensed when paid, including $20,000, $81,000, and $75,000, in 2016, 2015, and 2014, and all are carried at $0 on the balance sheet at December 31, 2016.

Liquidity and Capital Resources

Our sources of liquidity are with a variety of local and regional banking institutions, unfunded commitments to sell debentures to the SBA, loan amortization and prepayments, private issuances of debt securities, participations or sales of loans to third parties, the disposition of other assets of the Company, and dividends from Medallion Bank. As a RIC, we were required to distribute at least 90% of our investment company taxable income; consequently, we primarily relied upon external sources of funds to finance growth. However, for the year ended December 31, 2016, we did not qualify for the RIC election, and therefore became subject to taxation as a corporation under Subchapter C of the Code. There were $5,500,000 of unfunded commitments from the SBA, $3,500,000 of which would be issued without further capital contribution from us.

Additionally, Medallion Bank, our wholly-owned, unconsolidated portfolio company has access to independent sources of funds for our business originated there, primarily through brokered certificates of deposit. Medallion Bank has $25,000,000 available under Fed Funds lines with several commercial banks. In addition, Medallion Bank is allowed to retain all earnings in the business to fund future growth.

The components of our debt were as follows at December 31, 2016. See Note 4 to the consolidated financial statements on page F-20 for details of the contractual terms of our borrowings.

 

(Dollars in thousands)

   Balance      Percentage     Rate (1)  

DZ loan

   $ 106,244        30     2.36

Notes payable to banks

     94,219        27       3.22  

SBA debentures

     81,985        24       3.63  

Unsecured notes

     33,625        10       9.00  

Preferred securities

     33,000        9       3.07  
  

 

 

    

 

 

   

Total outstanding debt

   $ 349,073        100     3.60  
  

 

 

    

 

 

   

 

 

 

Deposits and other borrowings at Medallion Bank

     908,442        —       1.22

Total outstanding debt, including Medallion Bank

   $ 1,257,515        —       1.88  
  

 

 

    

 

 

   

 

 

 

 

(1) Weighted average contractual rate as of December 31, 2016.

 

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Our contractual obligations expire on or mature at various dates through September 2037. The following table shows all contractual obligations at December 31, 2016.

 

     Payments due by period  

(Dollars in thousands)

   Less than 1 year      1 – 2 years      2 – 3 years      3 – 4 years      4 – 5 years      More than 5 years      Total  

DZ loan

   $ 106,244      $ —      $ —      $ —      $ —      $ —      $ 106,244  

Notes payable to banks

     62,748        31,431        —          40        —        —        94,219  

SBA debentures

     —        —        3,000        —        15,985        63,000        81,985  

Unsecured notes

     —        —        —        —        33,625        —        33,625  

Preferred securities

     —        —        —        —        —        33,000        33,000  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total

   $ 168,992      $ 31,431      $ 3,000      $ 40    $ 49,610      $ 96,000      $ 349,073  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Deposits and other borrowings at Medallion Bank

     411,493        255,792        156,401        40,147        44,609        —        908,442  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Total, including Medallion Bank

   $ 580,485      $ 287,223      $ 159,401      $ 40,187      $ 94,219      $ 96,000      $ 1,257,515  
  

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

    

 

 

 

Most of our borrowing relationships have maturity dates during 2017. We have been in active and ongoing discussions with each of these lenders and have extended each of the facilities as they matured except as set forth in the following paragraph. The lenders have worked with us to extend and change the terms of the borrowing agreements. We have arranged for changes to the terms of the notes and payment and borrowing base calculations which we anticipate will facilitate our operations for the foreseeable future.

We and our subsidiaries obtain financing under lending facilities extended by various banks and other financial institutions, some of which are secured by loans, taxi medallions and other assets. Where these facilities are extended to our subsidiaries, we and others of our subsidiaries may guarantee the obligations of the relevant borrower. Five of our smallest subsidiaries are borrowers under promissory notes extended to them by a bank that total $8.8 million that came due on October 17, 2016. These loans are secured by Chicago taxi medallions owned by our subsidiaries. These notes are guaranteed by Medallion Funding, not by Medallion Financial Corp. These subsidiaries have not repaid the amounts due under the notes and the bank has filed a suit seeking payment of these amounts. This failure to pay would constitute an event of default under certain loan agreements under which we or our subsidiaries are borrowers, but the lenders under those agreements have waived the default. If judgment is entered against us in the suit brought by the bank or entered and not satisfied within specified periods of time, these outcomes may constitute an additional event of default under these other agreements. If waivers are required and not granted for this additional event of default, it would lead to events of default under other of our financing arrangements.

We value our portfolio at fair value as determined in good faith by the Board of Directors in accordance with our valuation policy. Unlike certain lending institutions, we are not permitted to establish reserves for loan losses. Instead, we must value each individual investment and portfolio loan on a quarterly basis. We record unrealized depreciation on investments and loans when we believe that an asset has been impaired and full collection is unlikely. We record unrealized appreciation on equities if we have a clear indication that the underlying portfolio company has appreciated in value and, therefore, our equity investment has also appreciated in value. Without a readily ascertainable market value, the estimated value of our portfolio of investments and loans may differ significantly from the values that would be placed on the portfolio if there existed a ready market for the investments. We adjust the valuation of the portfolio quarterly to reflect our Board of Directors’ estimate of the current fair value of each investment in the portfolio. Any changes in estimated fair value are recorded in our statement of operations as net unrealized appreciation (depreciation) on investments. Our investment in Medallion Bank, as a wholly-owned portfolio investment, is also subject to quarterly assessments of its fair value. We conduct a thorough valuation analysis, and also receive an opinion regarding the valuation from an independent third party to assist the Board of Directors in its determination of the fair value of Medallion Bank. We determine whether any factors give rise to valuation different than recorded book value. As a result of this valuation process, we had previously used Medallion Bank’s actual results of operations as the best estimate of changes in fair value, and recorded the results as a component of unrealized appreciation (depreciation) on investments. In the second quarter of 2015, we first became aware of external interest in Medallion Bank and its portfolio assets at values in excess of their book value. Expression of interest in Medallion Bank from both investment bankers and interested parties has continued through 2016. In addition, in the third quarter of 2016 there was a court ruling involving a marketplace lender that the Company believes heightens the interest of marketplace lenders to acquire or merge with Utah industrial banks. We incorporated these new factors in the Medallion Bank’s fair value analysis and the Board of Directors determined that Medallion Bank had a fair value in excess of book value. We also engaged a valuation specialist to assist the Board of Directors in their determination of Medallion Bank’s fair value, and this appreciation of $15,500,000 was thereby recorded in 2015, and additional appreciation of $128,918,000 was recorded in 2016 as a component of unrealized appreciation (depreciation) on investments, in addition to Medallion Bank’s actual results of operations for the year. For more information, see “Risk Factors – Risks Relating to Our Business and Structure – Our investment portfolio is, and will continue to be, recorded at fair value as determined in good faith by our Board of Directors and, as a result, there is, and will continue to be, uncertainty as to the value of our portfolio investments which could adversely affect our net asset value.”

 

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In addition, the illiquidity of our loan portfolio and investments may adversely affect our ability to dispose of loans at times when it may be advantageous for us to liquidate such portfolio or investments. In addition, if we were required to liquidate some or all of the investments in the portfolio, the proceeds of such liquidation may be significantly less than the current value of such investments. Because we borrow money to make loans and investments, our net operating income is dependent upon the difference between the rate at which we borrow funds and the rate at which we invest these funds. As a result, there can be no assurance that a significant change in market interest rates will not have a material adverse effect on our interest income. In periods of sharply rising interest rates, our cost of funds would increase, which would reduce our net operating income before net realized and unrealized gains. We use a combination of long-term and short-term borrowings and equity capital to finance our investing activities. Our long-term fixed-rate investments are financed primarily with short-term floating-rate debt, and to a lesser extent by term fixed-rate debt. We may use interest rate risk management techniques in an effort to limit our exposure to interest rate fluctuations. Such techniques may include various interest rate hedging activities to the extent permitted by the 1940 Act. We have analyzed the potential impact of changes in interest rates on net interest income. Assuming that the balance sheet were to remain constant and no actions were taken to alter the existing interest rate sensitivity, and including the impact on Medallion Bank, a hypothetical immediate 1% increase in interest rates would result in an increase to the line item “net increase in net assets resulting from operations” as of December 31, 2016 by $1,100,000 on an annualized basis, compared to a positive impact of $692,000 at December 31, 2015, and the impact of such an immediate increase of 1% over a one year period would have been ($792,000) at December 31, 2016, compared to ($1,855,000) at December 31, 2015. Although management believes that this measure is indicative of our sensitivity to interest rate changes, it does not adjust for potential changes in credit quality, size, and composition of the assets on the balance sheet, and other business developments that could affect net increase in net assets resulting from operations in a particular quarter or for the year taken as a whole. Accordingly, no assurances can be given that actual results would not differ materially from the potential outcome simulated by these estimates.

We continue to work with investment banking firms and other financial intermediaries to investigate the viability of a number of other financing options which include, among others, the sale or spinoff of certain assets or divisions, the development of a securitization conduit program, and other independent financing for certain subsidiaries or asset classes. These financing options would also provide additional sources of funds for both external expansion and continuation of internal growth.

 

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The following table illustrates sources of available funds for us and each of our subsidiaries, and amounts outstanding under credit facilities and their respective end of period weighted average interest rates at December 31, 2016. See Note 4 to the consolidated financial statements for additional information about each credit facility.

 

(Dollars in thousands)

  The Company     MFC     MCI     FSVC     MB     12/31/2016     12/31/2015  

Cash

  $ 8,922 (1)    $ 1,033     $ 7,656     $ 3,351     $ —       $ 20,962     $ 30,912  

Bank loans

    71,135       22,836       —         248       —         94,219       122,429  

Average interest rate

    3.16     3.36     —         6.03     —         3.22     2.60

Maturity

    11/16-7/18 (2)      10/16-12/20       —         1/17-11/18       —         10/16-12/20       2/16-12/20  

Preferred securities

    33,000       —         —         —         —         33,000       33,000  

Average interest rate

    3.07     —         —         —         —         3.07     2.58

Maturity

    9/37       —         —         —         —         9/37       9/37  

Unsecured notes

    33,625       —         —         —         —         33,625       —    

Average interest rate

    9.00             9.00     —    

Maturity

    4/21               4/21       —    

DZ loan

    —         106,244       —         —         —         106,244       129,518  

Average interest rate

    —         2.36     —         —         —         2.36     2.05

Maturity

    —         6/17       —         —         —         6/17       12/16  

Margin loans

    —         —         —         —         —         —         45,108  

Average interest rate

    —       —         —         —         —         —       1.48

Maturity

    N/A       —         —         —         —         N/A       N/A  

SBA debentures

    —         —         54,000       33,485       —         87,485       77,485  

Amounts undisbursed (3)

    —         —         5,500 (2)      —         —         5,500       3,000  

Amounts outstanding

    —         —         48,500       33,485       —         81,985       74,485  

Average interest rate

    —         —         3.42     3.92     —         3.63     3.52

Maturity

    —         —         3/21-3/27       3/19-9/23 (4)      —         3/19-3/27       3/19-3/26  
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total debt outstanding

  $ 137,760     $ 129,080     $ 48,500     $ 33,733     $ —       $ 349,073     $ 404,540  
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Including Medallion Bank

             

Cash

    —         —         —         —       $ 30,881     $ 30,881     $ 23,094  

Deposits and other borrowings

    —         —         —         —         908,442       908,442       908,896  

Average interest rate

    —         —         —         —         1.22     1.22     1.04

Maturity

    —         —         —         —         1/17-12/21       1/17-12/21       1/16-12/20  
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total cash

  $ 8,922     $ 1,033     $ 7,656     $ 3,351     $ 30,881     $ 51,843     $ 54,006  
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

Total debt outstanding

  $ 137,760     $ 129,080     $ 48,500     $ 33,733     $ 908,442     $ 1,257,515     $ 1,313,436  
 

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

   

 

 

 

 

(1) $7,840 is pledged to a lender of an affiliate.
(2) $3,898 that matured in November 2016 was refinanced in 2017.
(3) $2,000 of this requires a $1,000 capital contribution from the Company.
(4) In connection with the Freshstart loan described in Note 19 the $33,485 of principal was restructured into a new note and matures in tranches from February 2018 to February 2020.

Loan amortization, prepayments, and sales also provide a source of funding for us. Prepayments on loans are influenced significantly by general interest rates, medallion loan market values, economic conditions, and competition.

        We generate liquidity through deposits generated at Medallion Bank, borrowing arrangements with other banks, and through the issuance of SBA debentures, as well as from cash flow from operations. In addition, we may choose to participate a greater portion of our loan portfolio to third parties. We are actively seeking additional sources of liquidity, however, given current market conditions, we cannot assure you that we will be able to secure additional liquidity on terms favorable to us or at all. If that occurs, we may decline to underwrite lower yielding loans in order to conserve capital until credit conditions in the market become more favorable; or we may be required to dispose of assets when we would not otherwise do so, and at prices which may be below the net book value of such assets in order for us to repay indebtedness on a timely basis. Also, Medallion Bank is not a RIC, and therefore is able to retain earnings to finance growth.

Recently Issued Accounting Standards

In January 2017, the Financial Accounting Standards Board (FASB) issued Accounting Standards Update (ASU) 2017-04. “Intangibles – Goodwill and Other (Topic 350): Simplifying the Test for Goodwill Impairment.” The objective of this update is to simplify the subsequent measurement of goodwill, by eliminating step 2 from the goodwill impairment test. The amendments in this update are effective for annual periods beginning after December 15, 2019, and interim periods within those fiscal years. We do not believe this update will have a material impact on our financial condition.

In August 2016, the Financial Accounting Standards Board (FASB) issued Accounting Standards Update (ASU) 2016-15, “Statement of Cash Flows (Topic 230): Classification of Certain Cash Receipts and Cash Payments.” The update clarifies how entities should classify certain cash receipts and cash payments on the statement of cash flows with the objective of reducing the existing diversity in practice related to eight specific cash flow issues. The amendments in this update are effective for annual periods beginning after December 15, 2017, and interim periods within those fiscal years. Early adoption is permitted. We do not expect the adoption of ASU 2016-15 to have a material impact on our consolidated financial statements.

In March 2016, the FASB issued ASU 2016-09, “Compensation – Stock Compensation (Topic 718): Improvements to Employee Share-Based Payment Accounting.” ASU 2016-09 enhances the reporting model for stock compensation and provides users of financial statements with more decision-useful information. ASU 2016-09 simplifies guidance on several aspects of the accounting

 

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for shared-based payment transactions, including the income tax consequences, classification of awards as either equity or liabilities, and classification on the statement of cash flow. The update, as amended, is effective for annual periods beginning after December 15, 2016. We do not believe this update will have a material impact on our financial condition.

In February 2016, the FASB issued ASU 2016-02, “Leases (Topic 842)”. ASU 2016-02 requires the recognition of lease assets and lease liabilities by lessees for leases classified as operating under current GAAP. ASU 2016-02 applies to all entities and is effective for fiscal years beginning after December 15, 2018 for public entities and is effective for fiscal years beginning after December 15, 2019 for all other entities, with early adoption permitted. We are assessing the impact the update will have on our financial condition and results of operations.

In January 2016, the FASB issued ASU 2016-01, “Financial Instruments – Overall (Topic 825-10): Recognition and Measurement of Financial Assets and Financial Liabilities.” The main objective of this Update is to enhance the reporting model for financial instruments and provide users of financial statements with more decision-useful information. ASU 2016-01 requires equity investments to be measured at fair value, simplifies the impairment assessment of equity investment without readily determinable fair value, eliminates the requirements to disclose the fair value of financial instruments measured at amortized cost, and requires public business entities to use the exit price notion when measuring the fair value of financial instruments. The update, as amended, is effective for fiscal years, and interim periods within those fiscal years, beginning after December 15, 2017. We do not believe this update will have a material impact on our financial condition.

 

ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

Our business activities contain elements of risk. We consider the principal types of risk to be fluctuations in interest rates and portfolio valuations. We consider the management of risk essential to conducting our businesses. Accordingly, our risk management systems and procedures are designed to identify and analyze our risks, to set appropriate policies and limits, and to continually monitor these risks and limits by means of reliable administrative and information systems and other policies and programs.

We value our portfolio at fair value as determined in good faith by the Board of Directors in accordance with our valuation policy. Unlike certain lending institutions, we are not permitted to establish reserves for loan losses. Instead, we must value each individual investment and portfolio loan on a quarterly basis. We record unrealized depreciation on investments and loans when we believe that an asset has been impaired and full collection is unlikely. We record unrealized appreciation on equities if we have a clear indication that the underlying portfolio company has appreciated in value and, therefore, our equity investment has also appreciated in value. Without a readily ascertainable market value, the estimated value of our portfolio of investments and loans may differ significantly from the values that would be placed on the portfolio if there existed a ready market for the investments. We adjust the valuation of the portfolio quarterly to reflect our Board of Directors’ estimate of the current fair value of each investment in the portfolio. Any changes in estimated fair value are recorded in our statement of operations as net unrealized appreciation (depreciation) on investments. Our investment in Medallion Bank, as a wholly-owned portfolio investment, is also subject to quarterly assessments of its fair value. We conduct a thorough valuation analysis, and also receive an opinion regarding the valuation from an independent third party to assist the Board of Directors in its determination of the fair value of Medallion Bank. We determine whether any factors give rise to valuation different than recorded book value. As a result of this valuation process, we had previously used Medallion Bank’s actual results of operations as the best estimate of changes in fair value, and recorded the results as a component of unrealized appreciation (depreciation) on investments. In the second quarter of 2015, we first became aware of external interest in Medallion Bank and its portfolio assets at values in excess of their book value. Expression of interest in Medallion Bank from both investment bankers and interested parties has continued through 2016. In addition, in the third quarter of 2016 there was a court ruling involving a marketplace lender that the Company believes heightens the interest of marketplace lenders to acquire or merge with Utah industrial banks. We incorporated these new factors in the Medallion Bank’s fair value analysis and the Board of Directors determined that Medallion Bank had a fair value in excess of book value. We also engaged a valuation specialist to assist the Board of Directors in their determination of Medallion Bank’s fair value, and this appreciation of $15,500,000 was thereby recorded in 2015, and additional appreciation of $128,918,000 was recorded in 2016 as a component of unrealized appreciation (depreciation) on investments, in addition to Medallion Bank’s actual results of operations for the year. For more information, see “Risk Factors – Risks Relating to Our Business and Structure – Our investment portfolio is, and will continue to be, recorded at fair value as determined in good faith by our Board of Directors and, as a result, there is, and will continue to be, uncertainty as to the value of our portfolio investments which could adversely affect our net asset value.”

In addition, the illiquidity of our loan portfolio and investments may adversely affect our ability to dispose of loans at times when it may be advantageous for us to liquidate such portfolio or investments. In addition, if we were required to liquidate some or all of the investments in the portfolio, the proceeds of such liquidation may be significantly less than the current value of such investments. Because we borrow money to make loans and investments, our net operating income is dependent upon the difference between the rate at which we borrow funds and the rate at which we invest these funds. As a result, there can be no assurance that a significant change in market interest rates will not have a material adverse effect on our interest income. In periods of sharply rising

 

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interest rates, our cost of funds would increase, which would reduce our net operating income before net realized and unrealized gains. We use a combination of long-term and short-term borrowings and equity capital to finance our investing activities. Our long-term fixed-rate investments are financed primarily with short-term floating-rate debt, and to a lesser extent by term fixed-rate debt. We may use interest rate risk management techniques in an effort to limit our exposure to interest rate fluctuations. Such techniques may include various interest rate hedging activities to the extent permitted by the 1940 Act. We have analyzed the potential impact of changes in interest rates on net interest income. Assuming that the balance sheet were to remain constant and no actions were taken to alter the existing interest rate sensitivity, and including the impact on Medallion Bank, a hypothetical immediate 1% increase in interest rates would result in an increase to the line item “net increase in net assets resulting from operations” as of December 31, 2016 by $1,100,000 on an annualized basis, compared to a positive impact of $692,000 at December 31, 2015, and the impact of such an immediate increase of 1% over a one year period would have been ($792,000) at December 31, 2016, compared to ($1,855,000) at December 31, 2015. Although management believes that this measure is indicative of our sensitivity to interest rate changes, it does not adjust for potential changes in credit quality, size, and composition of the assets on the balance sheet, and other business developments that could affect net increase in net assets resulting from operations in a particular quarter or for the year taken as a whole. Accordingly, no assurances can be given that actual results would not differ materially from the potential outcome simulated by these estimates.

 

ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

Reference is made to the financial statements set forth under Item 15 (A) (1) in this Annual Report on Form 10-K, which financial statements are incorporated herein by reference in response to this Item 8.

 

ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE

None.

 

ITEM 9A. CONTROLS AND PROCEDURES

Disclosure Controls and Procedures

As required by Rule 13a-15(b) under the Exchange Act, our management, including our Chief Executive Officer and Chief Financial Officer, have evaluated the effectiveness of our disclosure controls and procedures as of the end of the fiscal year covered by this annual report. As a result of this evaluation, we have concluded that our disclosure controls and procedures were effective as of December 31, 2016.

Changes in Internal Control over Financial Reporting

As required by Rule 13a-15(d) under the Exchange Act, our management, including our Chief Executive Officer and Chief Financial Officer, have evaluated our internal control over financial reporting to determine whether any changes occurred during the 2016 fourth quarter that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting, and have concluded that there have been no changes that occurred during the 2016 fourth quarter that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

Management’s Annual Report on Internal Control over Financial Reporting

Our management is responsible for establishing and maintaining adequate internal control over financial reporting. Internal control over financial reporting is defined in Rule 13a-15(f) and 15d-15(f) promulgated under the Exchange Act as a process designed by, or under the supervision of, our principal executive and principal financial officers and effected by our Board of Directors, management, and other personnel, to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles, and includes those policies and procedures that:

 

    Pertain to the maintenance of records that in reasonable detail accurately and fairly reflect the transactions and dispositions of our assets;

 

    Provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that our receipts and expenditures are being made only in accordance with authorizations of our management and directors; and

 

    Provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of our assets that could have a material effect on the financial statements.

 

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Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

Our management assessed the effectiveness of our internal control over financial reporting as of December 31, 2016. In making this assessment, management used the criteria set forth by the Committee of Sponsoring Organizations of the Treadway Commission (“COSO”) in Internal Control-Integrated Framework (2013). Based on its assessment and those criteria, management believes that we maintained effective internal control over financial reporting as of December 31, 2016.

We believe that the consolidated financial statements included in this report fairly represent our consolidated financial position and consolidated results of operations for all periods presented.

Our Independent Registered Public Accounting Firm, Mazars USA LLP, has audited and issued a report on management’s assessment of our internal control over financial reporting. The report of Mazars USA LLP appears below.

 

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Report Of Independent Registered Public Accounting Firm

To the Board of Directors and Shareholders of Medallion Financial Corp.

We have audited Medallion Financial Corp. and subsidiaries’ (the “Company”) internal control over financial reporting as of December 31, 2016, based on criteria established in Internal Control – Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission (“COSO”). The Company’s management is responsible for maintaining effective internal control over financial reporting and for its assessment of the effectiveness of internal control over financial reporting, included in the accompanying Management’s Annual Report on Internal Control over Financial Reporting. Our responsibility is to express an opinion on the Company’s internal control over financial reporting based on our audit.

We conducted our audit in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether effective internal control over financial reporting was maintained in all material respects. Our audit of internal control over financial reporting included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control, based on the assessed risk. Our audit also included performing such other procedures as we considered necessary in the circumstances. We believe that our audit provides a reasonable basis for our opinion.

A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (1) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (2) provide reasonable assurance that transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (3) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies and procedures may deteriorate.

In our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of December 31, 2016, based on criteria established in Internal Control-Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission.

We also have audited, in accordance with the standards of the Public Company Accounting Oversight Board (United States), the consolidated balance sheets of the Company including the consolidated summary schedule of investments, as of December 31, 2016 and 2015, and the related consolidated statements of operations, changes in net assets, and cash flows for each of the three years in the three-year period ended December 31, 2016, and the selected financial ratios and other data for each of the five years in the five-year period ended December 31, 2016 of the Company, and our report dated March 14, 2017 expressed an unqualified opinion.

/s/ Mazars USA LLP

New York, New York

March 14, 2017

 

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ITEM 9B. OTHER INFORMATION

None.

PART III

 

ITEM 10. DIRECTORS, EXECUTIVE OFFICERS AND CORPORATE GOVERNANCE

Incorporated by reference from our Definitive Proxy Statement expected to be filed by May 1, 2017 for our fiscal year 2017 Annual Meeting of Shareholders under the captions “Our Directors and Executive Officers” and “Corporate Governance.”

 

ITEM 11. EXECUTIVE COMPENSATION

Incorporated by reference from our Definitive Proxy Statement expected to be filed by May 1, 2017 for our fiscal year 2017 Annual Meeting of Shareholders under the caption “Executive Compensation.”

 

ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT AND RELATED STOCKHOLDER MATTERS

Incorporated by reference from our Definitive Proxy Statement expected to be filed by May 1, 2017 for our fiscal year 2017 Annual Meeting of Shareholders under the captions “Stock Ownership of Certain Beneficial Owners and Management” and “Equity Compensation Plan Information.”

 

ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS, AND DIRECTOR INDEPENDENCE

Incorporated by reference from our Definitive Proxy Statement expected to be filed by May 1, 2017 for our fiscal year 2017 Annual Meeting of Shareholders under the captions “Certain Relationships and Related Party Transactions”, “Our Directors and Executive Officers,” and “Corporate Governance.”

 

ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES

Incorporated by reference from our Definitive Proxy Statement expected to be filed by May 1, 2017 for our fiscal year 2017 Annual Meeting of Shareholders under the caption “Principal Accountant Fees and Services.”

PART IV

 

ITEM 15. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES

(A) 1. FINANCIAL STATEMENTS

The consolidated financial statements of Medallion Financial Corp. and the Report of Independent Public Accountants thereon are included as set forth on the Index to Financial Statements on F-1.

2. FINANCIAL STATEMENT SCHEDULES

See Index to Financial Statements on F-1.

 

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3. EXHIBITS

 

Number

 

Description

3.1(a)   Restated Medallion Financial Corp. Certificate of Incorporation. Filed as Exhibit 2(a) to the Company’s Registration Statement on Form N-2 (File No. 333-1670) and incorporated by reference herein.
3.1(b)   Amendment to Restated Certificate of Incorporation. Filed as Exhibit 3.1.1 to the Quarterly Report on Form 10-Q for the quarterly period ended June 30, 1998 (File No. 814-00188) and incorporated by reference herein.
  3.2   Restated By-Laws. Filed as Exhibit (b) to the Company’s Registration Statement on Form N-2 (File No. 333-1670) and incorporated by reference herein.
  4.1   Fixed/Floating Rate Junior Subordinated Note, dated June 7, 2007, by Medallion Financial Corp., in favor of Medallion Financing Trust I. Filed as Exhibit 4.1 to the Current Report on Form 8-K filed on June 11, 2007 (File No. 814-00188) and incorporated by reference herein.
  4.2   Indenture, dated April 15, 2016, between Medallion Financial Corp. and Wilmington Trust, National Association. Filed as Exhibit d.6 to the Registration Statement on Form N-2 filed on April 15, 2016 (File No. 333-206692) and incorporated by reference herein.
  4.3   First Supplemental Indenture, dated April 15, 2016, between Medallion Financial Corp. and Wilmington Trust, National Association. Filed as Exhibit d.7 to the Registration Statement on Form N-2 filed on April 15, 2016 (File No. 333-206692) and incorporated by reference herein.
  4.4   Note, effective March 1, 2017, by Freshstart Venture Capital Corp., in favor of Small Business Administration. Filed as Exhibit 4.1 to the Current Report on Form 8-K filed on January 31, 2017 (File No. 814-00188) and incorporated by reference herein.
10.1   First Amended and Restated Employment Agreement, between Medallion Financial Corp. and Alvin Murstein dated May 29, 1998. Filed as Exhibit 10.19 to the Annual Report on Form 10-K for the fiscal year ended December 31, 1998 (File No. 814-00188) and incorporated by reference herein.*
10.2   First Amended and Restated Employment Agreement, between Medallion Financial Corp. and Andrew Murstein dated May 29, 1998. Filed as Exhibit 10.20 to the Annual Report on Form 10-K for the fiscal year ended December 31, 1998 (File No. 814-00188) and incorporated by reference herein.*
10.3   Employment Agreement, dated June 27, 2016, between Donald Poulton, Medallion Financial Corp. and Medallion Bank. Filed as Exhibit 10.2 to the Current Report on Form 8-K filed on June 30, 2016 (File No. 814-00188) and incorporated by reference herein.*
10.4   Medallion Financial Corp. Amended and Restated 1996 Stock Option Plan. Filed as Exhibit 10.1 to the Quarterly Report on Form 10-Q for the quarterly period ended June 30, 2002 (File No. 814-00188) and incorporated by reference herein.*
10.5   2006 Employee Stock Option Plan. Filed as Exhibit II to our definitive proxy statement for our 2006 Annual Meeting of Shareholders filed on April 28, 2006 (File No. 814-00188) and incorporated by reference herein.*
10.6   First Amended and Restated 2006 Non-Employee Director Stock Option Plan. Filed as Exhibit B to Amendment No. 3 to Form 40-APP filed on June 18, 2012 (File No. 812-13666) and incorporated by reference herein.*
10.7   2009 Employee Restricted Stock Plan. Filed as Exhibit I to our definitive proxy statement for our 2010 Annual Meeting of Shareholders filed on April 29, 2010 (File No. 814-00188) and incorporated by reference herein.*
10.8   2015 Employee Restricted Stock Plan. Filed as Exhibit B to Amendment No. 1 to Form 40-APP filed on December 11, 2015 (File No. 812-14433) and incorporated by reference herein.*
10.9   2015 Non-Employee Director Stock Option Plan. Filed as Exhibit B to Amendment No. 2 to Form 40-APP filed on January 14, 2016 (File No. 812-14458) and incorporated by reference herein.*
10.10   Non-Employee Director Compensation Summary Sheet. Filed herewith.*
10.11   Indenture of Lease, dated October 31, 1997, by and between Sage Realty Corporation, as Agent and Landlord, and Medallion Financial Corp., as Tenant. Filed as Exhibit 10.64 to the Annual Report on Form 10-K for the fiscal year ended December 31, 1997 (File No. 814-00188) and incorporated by reference herein.
10.12   First Amendment of Lease, dated September 6, 2005, by and between Medallion Financial Corp. and Sage Realty Corporation. Filed as Exhibit 10.1 to the Current Report on Form 8-K filed on September 12, 2005 (File No. 814-00188) and incorporated by reference herein.

 

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10.13    Second Amendment of Lease, dated August 5, 2015, by and between Sage Realty Corporation and Medallion Financial Corp. Filed as Exhibit 10.1 to the Current Report on form 8-K filed on August 7, 2015 (File No. 814-00188) and incorporated by reference herein.
10.14    Amended and Restated Loan and Security Agreement, dated as of March 28, 2011, by and among Medallion Financial Corp., Medallion Funding LLC and Sterling National Bank. Filed as Exhibit 10.1 to the Current Report on Form 8-K filed on April 1, 2011 (File No. 814-00188) and incorporated by reference herein.
10.15    First Amendment to Amended and Restated Loan and Security Agreement, dated September 1, 2011, by and among Medallion Financial Corp., Medallion Funding LLC and Sterling National Bank. Filed as Exhibit 10.1 to the Current Report on Form 8-K filed on September 7, 2011 (File No. 814-00188) and incorporated by reference herein.
10.16    Second Amendment to Amended and Restated Loan and Security Agreement, dated January 8, 2013, by and among Medallion Financial Corp., Medallion Funding LLC and Sterling National Bank. Filed as Exhibit 10.1 to the Current Report on Form 8-K filed on January 11, 2013 (File No. 814-00188) and incorporated by reference herein.
10.17    Third Amendment to Amended and Restated Loan and Security Agreement, dated October 23, 2013, by and among Medallion Financial Corp., Medallion Funding LLC and Sterling National Bank. Filed as Exhibit 10.1 to the Current Report on Form 8-K filed on November 5, 2013 (File No. 814-00188) and incorporated by reference herein.
10.18    Fourth Amendment to Amended and Restated Loan and Security Agreement, dated August 11, 2014, by and among Medallion Financial Corp., Medallion Funding LLC and Sterling National Bank. Filed as Exhibit 10.1 to the Current Report on Form 8-K filed on August 14, 2014 (File No. 814-00188) and incorporated by reference herein.
10.19    Sixth Amendment to Amended and Restated Loan and Security Agreement, dated June 29, 2016, by and among Medallion Financial Corp., Medallion Funding LLC and Sterling National Bank. Filed as Exhibit 10.1 to the Current Report on Form 8-K filed on June 30, 2016 (File No. 814-00188) and incorporated by reference herein.
10.20    Eighth Amendment to Amended and Restated Loan and Security Agreement, dated July 29, 2016, by and among Medallion Financial Corp., Medallion Funding LLC and Sterling National Bank. Filed as Exhibit 10.1 to the Current Report on Form 8-K filed on August 4, 2016 (File No. 814-00188) and incorporated by reference herein.
10.21    Ninth Amendment to Amended and Restated Loan and Security Agreement, dated August 11, 2016, by and among Medallion Financial Corp., Medallion Funding LLC and Sterling National Bank. Filed as Exhibit 10.1 to the Current Report on Form 8-K filed on August 15, 2016 (File No. 814-00188) and incorporated by reference herein.
10.22    Amended and Restated Unlimited Guaranty, dated March 28, 2011, by Medallion Funding LLC, in favor of Sterling National Bank. Filed as Exhibit 10.2 to the Current Report on Form 8-K filed on April 1, 2011 (File No. 814-00188) and incorporated by reference herein.
10.23    Commitment Letter, dated March 1, 2006, by the Small Business Administration to Medallion Capital, Inc., accepted and agreed to by Medallion Capital, Inc. on March 8, 2006. Filed as Exhibit 10.1 to the Current Report on Form 8-K filed on March 9, 2006 (File No. 814-00188) and incorporated by reference herein.
10.24    Commitment Letter, dated September 20, 2006, by the Small Business Administration to Freshstart Venture Capital Corp., accepted and agreed to by Freshstart Venture Capital Corp. on October 10, 2006. Filed as Exhibit 10.1 to the Current Report on Form 8-K filed on October 11, 2006 (File No. 814-00188) and incorporated by reference herein.
10.25    Commitment Letter, dated September 1, 2010, by the Small Business Administration to Medallion Capital, Inc., accepted and agreed to by Medallion Capital, Inc. on September 7, 2010. Filed as Exhibit 10.2 to the Current Report on Form 8-K filed on September 13, 2010 (File No. 814-00188) and incorporated by reference herein.
10.26    Commitment Letter, dated September 1, 2010, by the Small Business Administration to Freshstart Venture Capital Corp., accepted and agreed to by Freshstart Venture Capital Corp. on September 8, 2010. Filed as Exhibit 10.1 to the Current Report on Form 8-K filed on September 13, 2010 (File No. 814-00188) and incorporated by reference herein.
10.27    Commitment Letter, dated January 25, 2013, by the Small Business Administration to Medallion Capital, Inc., accepted and agreed to by Medallion Capital, Inc. on January 28, 2013. Filed as Exhibit 10.1 to the Current Report on Form 8-K filed on January 30, 2013 (File No. 814-00188) and incorporated by reference herein.
10.28    Commitment Letter, dated February 6, 2013, by the Small Business Administration to Freshstart Venture Capital Corp., accepted and agreed to by Freshstart Venture Capital Corp. on February 13, 2013. Filed as Exhibit 10.1 to Current Report on Form 8-K filed on February 14, 2013 (File No. 814-00188) and incorporated by reference herein.
10.29    Commitment Letter, dated July 29, 2013, by the Small Business Administration to Freshstart Venture Capital Corp., accepted and agreed to by Freshstart Venture Capital Corp. on August 1, 2013. Filed as Exhibit 10.1 to the Current Report on Form 8-K filed on August 5, 2013 (File No. 814-00188) and incorporated by reference herein.

 

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10.30    Commitment Letter, dated September 2, 2014, by the Small Business Administration to Medallion Capital, Inc., accepted and agreed to by Medallion Capital, Inc. on September 2, 2014. Filed as Exhibit 10.1 to the Quarterly period ended September 30, 2014 (File No. 814.00188) and incorporated by reference herein.
10.31    Commitment Letter, dated April 15, 2015, by the Small Business Administration to Medallion Capital, Inc., accepted and agreed to by Medallion Capital, Inc. on April 20, 2015. Filed as Exhibit 10.1 to the Current Report on Form 8-K filed on April 21, 2015 (File No. 814-00188) and incorporated by reference herein.
10.32    Commitment Letter, dated October 27, 2015, by the Small Business Administration to Medallion Capital, Inc., accepted and agreed to by Medallion Capital, Inc. on November 2, 2015. Filed as Exhibit 10.1 to the Current Report on Form 8-K filed on November 3, 2015 (filed No. 814-00188) and incorporated by reference herein.
10.33    Commitment Letter, dated March 30, 2016, by the Small Business Administration to Medallion Capital, Inc., accepted and agreed to by Medallion Capital, Inc. on April 7, 2016. Filed as Exhibit 10.1 to the Current Report on Form 8-K filed on April 7, 2016 (filed No. 814-00188) and incorporated by reference herein.
10.34    Junior Subordinated Indenture, dated as of June 7, 2007, between Medallion Financing Trust I and Wilmington Trust Company as trustee. Filed as Exhibit 10.1 to the Current Report on Form 8-K filed on June 11, 2007 (File No. 814-00188) and incorporated by reference herein.
10.35    Purchase Agreement, dated as of June 7, 2007, among Medallion Financial Corp., Medallion Financing Trust I, and Merrill Lynch International. Filed as Exhibit 10.3 to the Current Report on Form 8-K filed on June 11, 2007 (File No. 814-00188) and incorporated by reference herein.
10.36    Servicing Agreement, dated as of December 12, 2008, by and among Taxi Medallion Loan Trust III, Medallion Funding Corp., and DZ Bank AG Deutsche Zentral-Genossenschaftsbank, Frankfurt am Main. Filed as Exhibit 10.2 to the Current Report on Form 8-K filed on December 16, 2008 (File No. 814-00188) and incorporated by reference herein.
10.37    Loan Sale and Contribution Agreement, dated December 12, 2008, by and between Medallion Funding Corp. and Taxi Medallion Loan Trust III. Filed as Exhibit 10.3 to the Current Report on Form 8-K filed on December 16, 2008 (File No. 814-00188) and incorporated by reference herein.
10.38    Limited Recourse Guaranty, dated as of December 12, 2008, by Medallion Funding Corp., in favor of Autobahn Funding Company LLC, as Lender, and DZ Bank AG Deutsche Zentral-Genossenschaftsbank, Frankfurt am Main, as Agent. Filed as Exhibit 10.5 to the Current Report on Form 8-K filed on December 16, 2008 (File No. 814-00188) and incorporated by reference herein.
10.39    Performance Guaranty, dated as of December 12, 2008, by Medallion Financial Corp., in favor of Taxi Medallion Loan Trust III, Autobahn Funding Company LLC, as Lender, and DZ Bank AG Deutsche Zentral-Genossenschaftsbank, Frankfurt am Main, as Agent. Filed as Exhibit 10.6 to the Current Report on Form 8-K filed on December 16, 2008 (File No. 814-00188) and incorporated by reference herein.
10.40    Reaffirmation Agreement, dated as of February 26, 2010, by and among Medallion Funding LLC, Taxi Medallion Loan Trust III, DZ Bank AG Deutsche Zentral-Genossenschaftsbank, Frankfurt am Main, in its capacity as Agent, and Wells Fargo Bank, National Association. Filed as Exhibit 10.2 to the Current Report on Form 8-K filed on March 5, 2010 (File No. 814-00188) and incorporated by reference herein.
10.41    Custodial Agreement, dated as of December 12, 2008, among DZ Bank AG Deutsche Zentral-Genossenschaftsbank, Frankfurt am Main, Taxi Medallion Loan Trust III, Wells Fargo Bank, National Association, and Medallion Funding Corp. Filed as Exhibit j.2 to the Registration Statement on Form N-2 filed on December 20, 2011 (File No. 333-178644) and incorporated by reference herein.
10.42    Second Amended and Restated Trust Agreement, dated as of December 12, 2013, by and between Medallion Funding LLC and US Bank Trust, N.A. Filed as Exhibit 10.2 to the Current Report on Form 8-K filed on December 16, 2013 (File No. 814-00188) and incorporated by reference herein.
10.43    Amended and Restated Loan and Security Agreement, dated as of December 12, 2016, among Taxi Medallion Loan Trust III, Autobahn Funding Company LLC, and DZ Bank AG Deutsche Zentral Genossenschaftsbank, Frankfurt am Main. Filed as Exhibit 10.1 to the Current Report on Form 8-K filed on December 13, 2016 (File No. 814-00188) and incorporated by reference herein.

 

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10.44    Amendment No. 1 to Second Amended and Restated Trust Agreement, dated as of December 12, 2016, by and among Medallion Funding LLC, U.S. Bank Trust, N.A. and DZ Bank AG Deutsche Zentral Genossenschaftsbank, Frankfurt am Main. Filed as Exhibit 10.2 to the Current Report on Form 8-K filed on December 13, 2016 (File No. 814-00188) and incorporated by reference herein.
10.45    Omnibus Amendment No. 1, dated as of February 15, 2017, by and among Taxi Medallion Loan Trust III, Medallion Funding LLC, Medallion Financial Corp., Medallion Capital, Inc., Freshstart Venture Capital Corp., Autobahn Funding Company LLC, and DZ Bank AG Deutsche Zentral Genossenschaftsbank, Frankfurt am Main. Filed as Exhibit 10.1 to the Current Report on Form 8-K filed on February 17, 2017 (File No. 814-00188) and incorporated by reference herein.
10.46    Custodian Agreement, effective July 23, 2003, among Wells Fargo Bank Minnesota, National Association, as custodian, and Medallion Financial Corp., Medallion Funding Corp. and Freshstart Venture Capital Corp. Filed as Exhibit j.1 to the Registration Statement on Form N-2 filed on December 20, 2011 (File No. 333-178644) and incorporated by reference herein.
10.47    Loan Agreement, effective as of January 25, 2017, by and among U.S. Small Business Administration, Freshstart Venture Capital Corp. and Medallion Financial Corp. Filed as Exhibit 10.1 to the Current Report on Form 8-K filed on January 31, 2017 (File No. 814-00188) and incorporated by reference herein.
12.1    Computation of ratio of debt to equity. Filed herewith.
21.1    List of Subsidiaries of Medallion Financial Corp. Filed herewith.
23.1    Consent of Mazars USA LLP, independent registered public accounting firm, related to reports on financial statements of Medallion Financial Corp. and Medallion Bank. Filed herewith.
31.1    Certification of Alvin Murstein pursuant to Rule 13a-14(a) and 15d-14(a) as adopted pursuant to section 302 of the Sarbanes-Oxley Act of 2002. Filed herewith.
31.2    Certification of Larry D. Hall pursuant to Rule 13a-14(a) and 15d-14(a) as adopted pursuant to section 302 of the Sarbanes-Oxley Act of 2002. Filed herewith.
32.1    Certification of Alvin Murstein pursuant to 18 USC. Section 1350, as adopted, pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. Filed herewith.
32.2    Certification of Larry D. Hall pursuant to 18 USC. Section 1350, as adopted, pursuant to Section 906 of the Sarbanes-Oxley Act of 2002. Filed herewith.
99.1    Consolidated Schedule of Investments for the years ended December 31, 2016 and 2015. Filed herewith.

 

* Compensatory plan or arrangement required to be identified pursuant to Item 15(a)(3) of this Annual Report on Form 10-K.

 

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IMPORTANT INFORMATION RELATING TO FORWARD-LOOKING STATEMENTS

The Private Securities Litigation Reform Act of 1995 provides a safe harbor for forward-looking statements so long as those statements are identified as forward-looking and are accompanied by meaningful cautionary statements identifying important factors that could cause actual results to differ materially from those projected in such statements. In connection with certain forward-looking statements contained in this Form 10-K and those that may be made in the future by or on behalf of the Company, the Company notes that there are various factors that could cause actual results to differ materially from those set forth in any such forward-looking statements. The forward-looking statements contained in this Form 10-K were prepared by management and are qualified by, and subject to, significant business, economic, competitive, regulatory, and other uncertainties and contingencies, all of which are difficult or impossible to predict, and many of which are beyond control of the Company. Accordingly, there can be no assurance that the forward-looking statements contained in this Form 10-K will be realized or that actual results will not be significantly higher or lower. The statements have not been audited by, examined by, compiled by, or subjected to agreed-upon procedures by independent accountants, and no third-party has independently verified or reviewed such statements. Readers of this Form 10-K should consider these facts in evaluating the information contained herein. In addition, the business and operations of the Company are subject to substantial risks which increase the uncertainty inherent in the forward-looking statements contained in this Form 10-K. The inclusion of the forward-looking statements contained in this Form 10-K should not be regarded as a representation by the Company or any other person that the forward-looking statements contained in this Form 10-K will be achieved. In light of the foregoing, readers of this Form 10-K are cautioned not to place undue reliance on the forward-looking statements contained herein. These risks and others that are detailed in this Form 10-K and other documents that the Company files from time to time with the Securities and Exchange Commission, including quarterly reports on Form 10-Q and any current reports on Form 8-K, must be considered by any investor or potential investor in the Company.

 

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SIGNATURES

Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange of Act of 1934, registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.

MEDALLION FINANCIAL CORP.

 

Date:    March 14, 2017
By:   /s/ Alvin Murstein
  Alvin Murstein
 

Chairman and Chief

Executive Officer

 

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Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant and in the capacities and on the dates indicated.

 

Signatures

  

Title

 

Date

/s/ Alvin Murstein

  

Chairman of the Board of Directors

and Chief Executive Officer

(Principal Executive Officer)

  March 14, 2017

Alvin Murstein

    

/s/ Larry D. Hall

  

Senior Vice President and Chief Financial Officer

(Principal Financial and Accounting Officer)

  March 14, 2017

Larry D. Hall

    

/s/ Andrew M. Murstein

   President and Director   March 14, 2017

Andrew M. Murstein

    

/s/ Henry L. Aaron

   Director   March 14, 2017

Henry L. Aaron

    

/s/ Stanley Kreitman

   Director   March 14, 2017

Stanley Kreitman

    

/s/ Frederick A. Menowitz

   Director   March 14, 2017

Frederick A. Menowitz

    

/s/ David L. Rudnick

   Director   March 14, 2017

David L. Rudnick

    

/s/ Lowell P. Weicker, Jr.

   Director   March 14, 2017

Lowell P. Weicker, Jr.

    

 

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MEDALLION FINANCIAL CORP.

INDEX TO FINANCIAL STATEMENTS

 

     Page

Report of Independent Registered Public Accounting Firm

   F-2

Consolidated Statements of Operations for the Years ended December  31, 2016, 2015, and 2014

   F-3

Consolidated Balance Sheets as of December 31, 2016 and 2015

   F-4

Consolidated Statements of Changes in Net Assets for the Years ended December 31, 2016, 2015, and 2014

   F-5

Consolidated Statements of Cash Flows for the Years ended December  31, 2016, 2015, and 2014

   F-6

Notes to Consolidated Financial Statements

   F-7

Consolidated Summary Schedules of Investments as of December  31, 2016 and 2015

   F-37

Consolidated Schedule of Investments In and Advances to Affiliates as of and for the years ended December 31, 2016 and 2015

   F-42

Medallion Bank Financial Statements

   F-55

Report of Independent Registered Public Accounting Firm

   F-56

Statements of Comprehensive Income for the Years ended December  31, 2016, 2015, and 2014

   F-57

Balance Sheets as of December 31, 2016 and 2015

   F-58

Statements of Changes in Shareholder Equity for the Years ended December 31, 2016, 2015, and 2014

   F-59

Statements of Cash Flows for the Years ended December  31, 2016, 2015, and 2014

   F-60

Notes to Financial Statements

   F-61

 

F-1


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Report of Independent Registered Public Accounting Firm

To the Board of Directors and Shareholders of Medallion Financial Corp.

We have audited the accompanying consolidated balance sheets of Medallion Financial Corp. and subsidiaries (the “Company”), including the consolidated summary schedule of investments, as of December 31, 2016 and 2015, and the related consolidated statements of operations, changes in net assets, and cash flows for each of the three years in the three-year period ended December 31, 2016 and the selected financial ratios and other data (see note 14) for each of the five years in the five-year period ended December 31, 2016. We have also audited the consolidated schedules of investments in and advances to affiliates as of and for the years ended December 31, 2016 and 2015. These consolidated financial statements, selected financial ratios and other data, and schedules are the responsibility of the Company’s management. Our responsibility is to express an opinion on these consolidated financial statements, selected financial ratios and other data, and schedules based on our audits.

We conducted our audits in accordance with the standards of the Public Company Accounting Oversight Board (United States). Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the consolidated financial statements, selected financial ratios and other data, and schedules are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the consolidated financial statements. Our procedures included physical inspection or confirmation of