10-Q 1 d10q.txt QUARTERLY REPORT DATED 3/31/01 UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-Q (Mark one) [X] Quarterly Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 For the quarterly period ended March 31, 2001 Or [_] Transition Report Pursuant to Section 13 or 15(d) of the Securities Exchange Act of 1934 For the transition period from __________ to ___________ Commission File Number 000-24051 UNITED PANAM FINANCIAL CORP. (Exact name of Registrant as specified in its charter) California 95-3211687 (State or other jurisdiction of (I.R.S. Employer incorporation or organization) Identification Number) 3990 Westerly Place, Suite 200 Newport Beach, CA 92660 (Address of principal executive offices) (Zip Code) (949) 224-1917 (Registrant's telephone number, including area code) 1300 South El Camino Real San Mateo, California 94402 (650) 345-1800 (Former name, former address and former fiscal year, if changed since last report) Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes X No____ --- The number of shares outstanding of the Registrant's Common Stock as of May 1, 2001 was 16,158,650 shares. UNITED PANAM FINANCIAL CORP. FORM 10-Q MARCH 31, 2001 INDEX
PART I. FINANCIAL INFORMATION Page ---- Item 1. Financial Statements (unaudited) Consolidated Statements of Financial Condition as of March 31, 2001 and December 31, 2000 1 Consolidated Statements of Operations for the three months ended March 31, 2001 and March 31, 2000 2 Consolidated Statements of Cash Flows for the three months ended March 31, 2001 and March 31, 2000 3 Notes to Consolidated Financial Statements 5 Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 7 Item 3. Quantitative and Qualitative Disclosures About Market Risk 21 PART II. OTHER INFORMATION Item 1. Legal Proceedings 22 Item 2. Changes in Securities and Use of Proceeds 22 Item 3. Defaults Upon Senior Securities 22 Item 4. Submission of Matters to a Vote of Security Holders 22 Item 5. Other Information 22 Item 6. Exhibits and Reports on Form 8-K 22
PART I. FINANCIAL INFORMATION Item 1. Financial Statements. -------------------- United PanAm Financial Corp. and Subsidiaries Consolidated Statements of Financial Condition (Unaudited)
March 31, December 31, (Dollars in thousands) 2001 2000 ----------- ------------ Assets Cash and due from banks $ 4,281 $ 6,115 Short term investments 95,925 46,528 ----------- ------------ Cash and cash equivalents 100,206 52,643 Securities available for sale, at fair value 181,063 213,214 Residual interests in securitizations, at fair value -- 8,861 Loans, net 193,090 192,368 Loans held for sale -- 712 Premises and equipment, net 1,727 1,591 Federal Home Loan Bank stock, at cost 3,048 3,000 Accrued interest receivable 2,252 814 Real estate owned, net 403 871 Other assets 15,529 15,904 ----------- ------------ Total assets $ 497,318 $ 489,978 =========== ============ Liabilities and Shareholders' Equity Deposits $ 355,555 $ 348,230 Federal Home Loan Bank advances 60,000 60,000 Accrued expenses and other liabilities 10,757 12,431 ----------- ------------ Total liabilities $ 426,312 $ 420,661 ----------- ------------ Common stock (no par value): Authorized, 30,000,000 shares Issued and outstanding, 16,158,650 and 16,149,650 shares at March 31, 2001 and December 31, 2000, respectively $ 65,291 $ 65,291 Retained earnings 5,068 3,524 Unrealized gain on securities available for sale, net 647 502 ----------- ------------ Total shareholders' equity 71,006 69,317 ----------- ------------ Total liabilities and shareholders' equity $ 497,318 $ 489,978 =========== ============
See notes to consolidated financial statements 1 United PanAm Financial Corp. and Subsidiaries Consolidated Statements of Operations (Unaudited)
Three Months (In thousands, except per share data) Ended March 31, ------------------------------ 2001 2000 -------------- ------------- Interest Income Loans $10,290 $ 7,675 Investments 3,640 711 -------------- ------------- Total interest income 13,930 8,386 -------------- ------------- Interest Expense Deposits 5,020 1,703 FHLB advances 515 -- -------------- ------------- Total interest expense 5,535 1,703 -------------- ------------- Net interest income 8,395 6,683 Provision for loan losses 44 72 -------------- ------------- Net interest income after provision for loan losses 8,351 6,611 -------------- ------------- Non-interest Income Service charges and fees 165 153 Loan related charges and fees 75 54 Gain on sale of loans 357 -- Other income 33 32 -------------- ------------- Total non-interest income 630 239 -------------- ------------- Non-interest Expense Compensation and benefits 3,709 3,097 Occupancy 764 533 Writedown of investment in common stock 500 -- Other 1,479 1,526 -------------- ------------- Total non-interest expense 6,452 5,156 -------------- ------------- Income from before income taxes 2,529 1,694 Income taxes 985 692 -------------- ------------- Net income $ 1,544 $ 1,002 ============== ============= Earnings per share-basic: Net income $ 0.10 $ 0.06 ============== ============= Weighted average shares outstanding 16,153 16,533 ============== ============= Earnings per share-diluted: Net income $ 0.10 $ 0.06 ============== ============= Weighted average shares outstanding 16,227 16,747 ============== =============
See notes to consolidated financial statements. 2 United PanAm Financial Corp. and Subsidiaries Consolidated Statements of Cash Flows (Unaudited)
(Dollars in thousands) Three Months Ended March 31, ------------------------- 2001 2000 ----------- ------------ Cash Flows from Operating Activities Net income $ 1,544 $ 1,002 Adjustments to reconcile net income (loss) to net cash provided by (used in) operating activities: Originations of loans held for sale -- (76,483) Sales of mortgage loans (net of gain) 14,381 147,162 Provision for loan losses 44 72 Depreciation and amortization 248 318 FHLB stock dividend (48) (34) Increase in accrued interest receivable (1,438) (60) Decrease in residual interests in securitizations 8,861 -- Writedown of investment in common stock 500 -- Decrease (increase) in other assets (339) 452 Increase in accrued expenses and other liabilities (1,460) (3,105) Amortization of discounts on investment securities (506) -- Other, net (24) 36 ----------- ------------ Net cash provided by operating activities 21,763 69,360 ----------- ------------ Cash Flows from Investing Activities Purchase of investment securities (107,166) (41,522) Proceeds from maturities of investment securities 140,091 -- Repayments of mortgage loans 899 5,889 Originations, net of repayments, of non-mortgage loans (15,345) (11,266) Purchase of premises and equipment (384) (179) Proceeds from sales of real estate owned 504 2,626 Other, net (124) 216 ----------- ------------ Net cash provided by (used in) investing activities 18,475 (44,236) ----------- ------------ Cash Flows from Financing Activities Net increase in deposits 7,325 3,272 Repayments of warehouse lines of credit -- (39,415) ----------- ------------ Net cash provided by (used in) financing activities 7,325 (36,143) ----------- ------------ Net increase (decrease) in cash and cash equivalents 47,563 (11,019) Cash and cash equivalents at beginning of period 52,643 90,357 ----------- ------------ Cash and cash equivalents at end of period $100,206 $ 79,338 =========== ============
See notes to consolidated financial statements. 3 United PanAm Financial Corp. and Subsidiaries Consolidated Statements of Cash Flows, Continued (Unaudited) (Dollars in thousands) Three Months Ended March 31, ------------------ 2001 2000 -------- ------- Supplemental Disclosures of Cash Flow Information Cash paid for: Interest $ 5,087 $ 3,991 ======== ======= Taxes $ 1,199 $ 166 ======== ======= Supplemental Schedule of Non-cash Investing and Financing Activities Acquisition of real estate owned through foreclosure of related mortgage loans $ -- $ 1,661 ======== ======= Loans transferred to held for sale $13,669 $ -- ======== ======= See notes to consolidated financial statements. 4 United PanAm Financial Corp. and Subsidiaries Notes to Consolidated Financial Statements Three Months Ended March 31, 2001 and 2000 (Unaudited) 1. Organization United PanAm Financial Corp. (the "Company") was incorporated in California on April 9, 1998 for the purpose of reincorporating its business in that state, through the merger of United PanAm Financial Corp., a Delaware corporation (the "Predecessor"), into the Company. Unless the context indicates otherwise, all references herein to the "Company" include the Predecessor. The Company was originally organized as a holding company for Pan American Financial, Inc. ("PAFI") and Pan American Bank, FSB (the "Bank") to purchase certain assets and assume certain liabilities of Pan American Federal Savings Bank from the Resolution Trust Corporation (the "RTC") on April 29, 1994. The Company, PAFI and the Bank are considered to be Hispanic owned. PAFI is a wholly owned subsidiary of the Company, and the Bank is a wholly owned subsidiary of PAFI. 2. Basis of Presentation Certain statements in this Quarterly Report on Form 10-Q, including statements regarding the Company's strategies, plans, objectives, expectations and intentions, may include forward-looking information within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. These forward-looking statements involve certain risks and uncertainties that could cause actual results to differ materially from those expressed or implied in such forward-looking statements. Such risks and uncertainties include, but are not limited to, the following factors: limited operating history; loans made to credit-impaired borrowers; need for additional sources of financing; concentration of business in California; reliance on operational systems and controls and key employees; competitive pressure in the banking industry; changes in the interest rate environment; rapid growth of the Company's businesses; general economic conditions; and other risks identified from time to time in the Company's filings with the Securities and Exchange Commission (the "SEC"). See "Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations - Factors That May Affect Future Results." The accompanying unaudited consolidated financial statements include the accounts of United PanAm Financial Corp., WorldCash Technologies, Inc., Pan American Financial, Inc. and Pan American Bank, FSB. Substantially all of the Company's revenues are derived from the operations of the Bank and they represent substantially all of the Company's consolidated assets and liabilities as of March 31, 2001 and December 31, 2000. Significant inter-company accounts and transactions have been eliminated in consolidation. These consolidated financial statements have been prepared in accordance with generally accepted accounting principles for interim financial information and the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by generally accepted accounting principles for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation of the Company's financial condition and results of operations for the interim periods presented in this Form 10-Q have been included. Operating results for the interim periods are not necessarily indicative of financial results for the full year. These unaudited consolidated financial statements should be read in conjunction with the audited consolidated financial statements and notes thereto included in the Company's Annual Report on Form 10-K for the year ended December 31, 2000. The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates. 5 3. Earnings Per Share From Continuing Operations Basic EPS and diluted EPS are calculated as follows for the three months ended March 31, 2001 and 2000: Three Months (Dollars in thousands, except per share amounts) Ended March 31, ----------------------- 2001 2000 ---------- ---------- Earnings per share- basic: Net income $ 1,544 $ 1,002 ========= ========= Average common shares outstanding 16,153 16,533 ========= ========= Per share $ 0.10 $ 0.06 ========= ========= Earnings per share - diluted: Net income $ 1,544 $ 1,002 ========= ========= Average common shares outstanding 16,153 16,533 Add: Stock options 74 214 --------- --------- Average common shares outstanding - diluted 16,227 16,747 ========= ========= Per share $ 0.10 $ 0.06 ========= ========= 4. Accounting Pronouncements In September 2000, the FASB issued SFAS 140, "Accounting for Transfers and Servicing of Financial Assets and Extinguishments of Liabilities" ("SFAS 140"), which replaces SFAS 125. It revises the standards for accounting for securitizations and other transfers of financial assets and collateral and requires certain disclosures, but it carries over most of SFAS 125's provisions without change. SFAS 140 is effective for transfers occurring after March 31, 2001 and for disclosures relating to securitization transactions and collateral for fiscal years ending after December 15, 2000. SFAS 140 did not have a material impact on the results of operations or the financial condition of UPFC. 5. Operating Segments The Company has three reportable segments: auto finance, insurance premium finance and banking. The auto finance segment acquires, holds for investment and services nonprime retail automobile installment sales contracts generated by franchised and independent dealers of used automobiles. The insurance premium finance segment, through a joint venture, underwrites and finances automobile and commercial insurance premiums in California. The banking segment operates a four-branch federal savings bank and is the principal funding source for the Company's auto and insurance premium finance segments. The accounting policies of the segments are the same as those of the Company's except for funds provided by the banking segment to the other operating segments which are accounted for at a predetermined transfer price (including certain overhead costs). The Company's reportable segments are strategic business units that offer different products and services. They are managed and reported upon separately within the Company. 6
At or For Three Months Ended March 31, 2001 ---------------------------------------------- Insurance Auto Premium Finance Finance Banking Total ---------- --------- --------- -------- Net interest income $ 6,542 $ 716 $ 1,137 $ 8,395 Provision for loan losses 0 44 0 44 Non-interest income 80 105 445 630 Non-interest expense 4,121 175 2,156 6,452 ---------- --------- --------- -------- Segment profit (loss), pre-tax $ 2,501 $ 602 $ (574) $ 2,529 ========== ========= ========= ======== Total assets $160,519 $ 34,183 $302,616 $497,318 ========== ========= ========= ======== At or For Three Months Ended March 31, 2000 ----------------------------------------------- Insurance Auto Premium Finance Finance Banking Total ---------- --------- --------- -------- Net interest income $ 4,663 $ 582 $ 1,438 $ 6,683 Provision for loan losses -- 18 54 72 Non-interest income 60 93 86 239 Non-interest expense 3,022 277 1,857 5,156 ---------- --------- --------- -------- Segment profit, pre-tax $ 1,701 $ 380 $ (387) $ 1,694 ========== ========= ========= ======== Total assets $111,185 $ 32,237 $189,652 $333,074 ========== ========= ========= ========
For the reportable segment information presented, substantially all expenses are recorded directly to each industry segment. For the three months ended March 31, 2000, segment assets differ from consolidated assets because the Company allocated certain assets to the discontinued mortgage segment from the banking segment. There were no differences between segment assets and total consolidated assets as of March 31, 2001. 6. Residual Interests in Securitizations The Company classifies its residual interest in securitizations as trading securities and records them at fair market value with any unrealized gains or losses recorded in the results of operations. The Company sold the residual interests in securities in January 2001. Accordingly, as of December 31, 2000, these residual interests were valued based on the terms and conditions of the sales contract and the cash proceeds received at the settlement date in January 2001. Item 2. Management's Discussion and Analysis of Financial ------------------------------------------------- Condition and Results of Operations. ----------------------------------- Certain statements in this Quarterly Report on Form 10-Q, including statements regarding United PanAm Financial Corp.'s (the "Company") strategies, plans, objectives, expectations and intentions, may include forward-looking information within the meaning of Section 27A of the Securities Act of 1933, as amended, and Section 21E of the Securities Exchange Act of 1934, as amended. These forward-looking statements involve certain risks and uncertainties that could cause actual results to differ materially from those expressed or implied in such forward-looking statements. Such risks and uncertainties include, but are not limited to, the following factors: limited operating history; loans made to credit-impaired borrowers; need for additional sources of financing; concentration of business in California; reliance on operational systems and controls and key employees; competitive pressure in the banking industry; changes in the interest rate environment; rapid growth of the Company's businesses; general economic conditions; and other risks, some of which may be identified from time to time in the Company's filings with the Securities and Exchange Commission (the "SEC"). 7 General The Company The Company is a specialty finance company engaged primarily in originating and acquiring retail automobile installment sales contracts and insurance premium finance contracts financed by bank deposits. The Company markets to customers who generally cannot obtain financing from traditional lenders. These customers usually pay higher interest rates than those charged by traditional lenders to gain access to consumer financing. The Company funds its operations principally through retail deposits, brokered deposits and Federal Home Loan Bank ("FHLB") advances. The Company commenced operations in 1994 by purchasing from the RTC certain assets and assuming certain liabilities of the Bank's predecessor, Pan American Federal Savings Bank. The Company has used the Bank as a base for expansion into its current specialty finance businesses. In 1995, the Company commenced its insurance premium finance business through a joint venture with BPN Corporation ("BPN") and in 1996, the Company commenced its automobile finance business. In September 2000, the Bank filed its application with the Department of Financial Institutions (DFI) for approval to convert from a federally chartered savings association to a state- chartered commercial bank due, in principal part, to lending restrictions that apply to federally chartered thrifts. As a result of the discontinuation of its subprime mortgage business, it will be more difficult for the Bank to remain in compliance with the qualified thrift lender (QTL) test and certain other consumer lending restrictions. California-chartered commercial banks are not subject to compliance with the QTL test or certain other consumer lending limitations. In the event that a Charter Conversion is not approved by the DFI, or is approved but not completed by the Bank, the Bank would have to adjust its lending activities to ensure that it continues to comply with the QTL test and other consumer lending limitations in the future. The Charter Conversion is still pending. Automobile Finance In 1996, the Bank commenced its automobile finance business through its subsidiary, United Auto Credit Corporation (such business, "UACC"). UACC acquires, holds for investment and services nonprime retail automobile installment sales contracts ("auto contracts") generated by franchised and independent dealers of used automobiles. UACC's customers are considered "nonprime" because they typically have limited credit histories or credit histories that preclude them from obtaining loans through traditional sources. As UACC provides all marketing, origination, underwriting and servicing activities for its loans, income is generated from a combination of spread and non-interest income and is used to cover all operating costs, including compensation, occupancy and systems expense. Insurance Premium Finance In May 1995, the Bank entered into a joint venture with BPN under the name "ClassicPlan" (such business, "IPF"). Under this joint venture, which commenced operations in September 1995, the Bank underwrites and finances private passenger automobile and small business insurance premiums in California and BPN markets the financing program and services the loans for the Bank. The Bank lends to individuals or small businesses for the purchase of single premium insurance policies and the Bank's collateral is the unearned insurance premium held by the insurance company. The unearned portion of the insurance premium is refundable to IPF in the event the underlying insurance policy is canceled. The Company does not sell or have the risk of underwriting the underlying insurance policy. As a result of BPN performing substantially all marketing and servicing activities, the Company's role is primarily that of an underwriter and funder of loans. Therefore, IPF's income is generated primarily on a spread basis, supplemented by non-interest income generated from late payment and returned check fees. The Bank uses this income to cover the costs of underwriting and loan administration, including compensation, occupancy and data processing expenses. 8 The Bank The Company currently funds its operations through the Bank's deposits and FHLB advances. As of March 31, 2001, the Bank was a four-branch federal savings bank with $355.6 million in deposits. The Bank generates spread income not only from loans originated or purchased by each of the Company's principal businesses, but also from its securities portfolio and consumer loans originated by its retail deposit branches. This income is supplemented by non-interest income from its branch banking activities (e.g., deposit service charges, safe deposit box fees), and is used to cover operating costs and other expenses. Average Balance Sheets The following table sets forth information relating to the Company for the three months ended March 31, 2001 and 2000. The yields and costs are derived by dividing annualized income or expense by the average balance of assets or liabilities allocated to continuing operations, respectively, for the periods shown. The yields and costs include fees, which are considered adjustments to yields.
Three Months Ended March 31, ------------------------------------------------------------------------ 2001 2000 --------------------------------- ------------------------------------- Average Average (Dollars in thousands) Average Yield/ Average Yield/ Balance Interest Cost Balance(1)(2) Interest (1) Cost ---------- ---------- ---------- ------------- ------------ -------- Assets Interest earning assets Securities $242,219 $ 3,640 6.01% $ 44,927 $ 711 6.32% Mortgage loans, net(3) 13,175 378 11.47% 19,411 421 8.67% IPF loans, net(4) 33,998 1,322 15.56% 30,099 1,128 15.01% Automobile installment contracts, net(5) 151,984 8,590 22.61% 105,585 6,126 23.21% ---------- ---------- ------------- ------------ Total interest earning assets 441,376 $13,930 12.62% 200,022 $8,386 16.77% ---------- ------------ Non-interest earnings assets 23,694 30,945 ---------- ------------- Total assets $465,070 $230,967 ========== ============= Liabilities and Equity Interest bearing liabilities Customer deposits $350,201 $ 5,020 5.81% $138,526 $1,703 4.94% FHLB advances 33,035 515 6.32% -- -- -- ---------- ---------- ------------- ------------ Total interest bearing liabilities 383,236 $ 5,535 5.86% 138,526 $1,703 4.94% ---------- ------------ Non-interest bearing liabilities 11,735 16,433 ---------- ------------- Total liabilities 394,971 154,959 Equity 70,099 76,008 ---------- ------------- Total liabilities and equity $465,070 $230,967 ========== ============= Net interest income before provision for loan losses $ 8,395 $6,683 ========== ============ Net interest rate spread(6) 6.76% 11.83% Net interest margin(7) 7.71% 13.44% Ratio of interest earning assets to interest bearing liabilities 115% 144%
_____________________________ (1) The table above excludes average assets and liabilities of the Company's mortgage operations for 2000, as interest income and interest expense associated with the subprime mortgage finance business were reported as discontinued operations in the unaudited consolidated statements of operations as follows. There were no such balances in 2001.
Three Months Ended March 31, ----------------- 2000 ----------------- Average assets of continuing operations $230,967 Average mortgage loans of discontinued operations 148,213 ----------------- Total average assets 379,180 ================= Average liabilities and equity of continuing operations 230,967 Average customer deposits allocated to discontinued operations 141,720 Average warehouse lines of credit of discontinued operations 6,493 ----------------- Total average liabilities and equity $379,180 =================
(2) Average balances are measured on a month-end basis. (3) Net of deferred loan origination fees, unamortized discounts, premiums and allowance for estimated loan losses; includes non-performing loans. (4) Net of allowance for estimated losses; includes non-performing loans. (5) Net of unearned finance charges and allowance for estimated losses; includes non-performing loans. (6) Net interest rate spread represents the difference between the yield on interest earning assets and the cost of interest bearing liabilities. (7) Net interest margin represents net interest income divided by average interest earning assets. 9 Comparison of Operating Results for the Three Months Ended March 31, 2001 and March 31, 2000 General Net income increased from $1.0 million for the three months ended March 31, 2000 to $1.54 million for the three months ended March 31, 2001. The increase in net income was due primarily to an increase in net interest income from $6.7 million in the first quarter of 2000 to $8.4 million during the same quarter of 2001. Net interest income was favorably impacted by the continued expansion and growth of the Company's automobile finance business. Auto contracts purchased, including unearned finance charges, increased from $40.3 million for the three months ended March 31, 2000 to $57.7 million for the three months ended March 31, 2001, as a result of our planned growth in the auto finance business, while insurance premium finance originations decreased from $25.0 million for the three months ended March 31, 2000 to $24.3 million for the three months ended March 31, 2001. Interest Income Interest income increased from $8.4 million for the three months ended March 31, 2000 to $13.9 million for the three months ended March 31, 2001 due primarily to a $241.4 million increase in average interest earning assets partially offset by a 4.15% decrease in the weighted average interest rate on interest earning assets. The largest components of growth in average interest earning assets were securities, which increased $197.3 million, and automobile installment contracts, which increased $46.4 million. The increase in securities was a result of an increase in liquidity, reflecting proceeds received from the sale of loans of the discontinued mortgage business. The increase in auto contracts principally resulted from the purchasing of additional dealer contracts in existing and new markets consistent with the planned growth of this business unit. The decline in the average yield on interest earning assets was principally due to an increased concentration of lower yielding securities in the three months ended March 31, 2001 compared to the three months ended March 31, 2000. Average short term investments and investment securities, with an average yield of 6.01%, comprised 54.9% of average interest earning assets in the three months ended March 31, 2001 compared with 22.5% of average interest earning assets in the three months ended March 31, 2000. Interest Expense Interest expense increased from $1.7 million for the three months ended March 31, 2000 to $5.5 million for the three months ended March 31, 2001 due to a $244.7 million increase in average interest bearing liabilities. The largest component of growth in average interest bearing liabilities was deposits of the Bank, which increased from an average balance of $138.5 million during the quarter ended March 31, 2000 to $350.2 million during the quarter ended March 31, 2001. During the three months ended March 31, 2000, $141.7 million of average deposits were allocated to the company's discontinued operations. During the three months ended March 31, 2001 no allocation was required. The average cost of deposits increased from 4.94% for the three months ended March 31, 2000 to 5.81% for the comparable period in 2001 generally as a result of an increase in market interest rates. Provision for Loan Losses Provision for loan losses was $44,000 for the three months ended March 31, 2001 compared to $72,000 for the three months ending March 31, 2000. The provision for loan losses reflects estimated losses associated with the Company's insurance premium finance business. The total allowance for loan losses was $16.4 million at March 31, 2001 compared with $14.8 million at March 31, 2000, representing 8.47% of loans held for 10 investment at March 31, 2001 and 8.63% at March 31, 2000. Annualized net charge-offs to average loans were 4.11% for the three months ended March 31, 2001 compared with 2.87% for the three months ended March 31, 2000 and 5.03% for the year ended December 31, 2000. In addition to its provision for losses, the Company's allowance for loan losses is also increased by its allocation of acquisition discounts related to the purchase of automobile installment contracts. The Company allocates the estimated amount of its acquisition discounts attributable to credit risk to the allowance for loan losses. A provision for loan losses is charged to operations based on the Company's regular evaluation of its loans and the adequacy of its allowance for loan losses. While management believes it has adequately provided for losses and does not expect any material loss on its loans in excess of allowances already recorded, no assurance can be given that economic or real estate market conditions or other circumstances will not result in increased losses in the loan portfolio. Non-interest Income Non-interest income increased $391,000, from $239,000 for the three months ended March 31, 2000 to $630,000 for the three months ended March 31, 2001 as a result of higher service charges and fee income and a gain of $357,000 on the sale of a major portion of the mortgage loan portfolio. Non-interest Expense Non-interest expense increased $1.3 million, from $5.2 million for the three months ended March 31, 2000 to $6.5 million for the three months ended March 31, 2001. The increase in non-interest expense was driven primarily by an increase in salaries, employee benefit costs and occupancy expenses associated with the planned growth of the auto finance business segment and the write-off of the remaining $500,000 investment in a software technology company. During the last 12 months, the Company expanded its automobile finance operations, resulting in an increase from 162 employees in 22 offices, as of March 31, 2000, to 213 employees in 31 offices, as of March 31, 2001. Income Taxes Income taxes increased $293,000, from $692,000 for the three months ended March 31, 2000 to $985,000 for the three months ended March 31, 2001. This increase occurred as a result of an $835,000 increase in income before income taxes between the two periods. Discontinued Operations - Mortgage Finance As announced on February 9, 2000, the Company discontinued its subprime mortgage origination operations and recorded the estimated loss from discontinuing these activities in its 1999 financial statements. In connection with the wind down of these operations, the Company originated $76.2 million in mortgage loans during the first quarter of 2000. In determining net interest income charged to discontinued operations for 2000, the Company included all interest income from its mortgage finance business less an allocation for interest expense. The Company allocated average deposits of $141.7 million and average warehouse lines of credit of $6.5 million for the three months ended March 31, 2000 to the discontinued mortgage operations in computing interest expense. No such allocations were made during 2001. Comparison of Financial Condition at March 31, 2001 and December 31, 2000 Total assets increased $7.3 million, from $490.0 million at December 31, 2000 to $497.3 million at March 31, 2001. The increase resulted primarily from a $15.4 million increase in cash and cash equivalents and investment securities from $265.9 at December 31, 2000 to $281.3 at March 31, 2001 offset by the sale of $8.9 million residual interests in mortgage securitizations during the three months ended March 31, 2001. 11 Cash and cash equivalents increased $57.6 million, from $42.6 million at December 31, 2000 to $100.2 million at March 31, 2001. Securities available for sale decreased from $223.3 million at December 31, 2000 to $181.1 million at March 31, 2001. This net increase of $17.2 million in cash, cash equivalents and securities reflected the investment of the proceeds received from sales of mortgage residuals and increased deposits. Residual interests in securitizations consist of beneficial interests in the form of an interest-only strip representing the subordinated right to receive cash flows from a pool of securitized loans after payment of required amounts to the holders of the securities and certain costs associated with the securitization. The company sold the residual interests in securitizations in January 2001. Accordingly, as of December 31, 2000, these residual interests were valued based on the terms and conditions of the sales contract and the proceeds received at the settlement date in January 2001. Deposits increased $7.3 million, from $348.2 million at December 31, 2000 to $355.5 million at March 31, 2001. Retail deposits decreased $1.4 million from $299.1 million at December 31, 2000 to $297.7 million at March 31, 2001. Wholesale deposits increased $8.7 million from $49.1 million at December 31, 2000 to $57.8 million at March 31, 2001. Shareholders' equity increased from $69.3 million at December 31, 2000 to $71.0 million at March 31, 2001, primarily as a result of net income of $1.5 million during the three months ended March 31, 2001. Management of Interest Rate Risk The principal objective of the Company's interest rate risk management program is to evaluate the interest rate risk inherent in the Company's business activities, determine the level of appropriate risk given the Company's operating environment, capital and liquidity requirements and performance objectives and manage the risk consistent with guidelines approved by the Board of Directors. Through such management, the Company seeks to reduce the exposure of its operations to changes in interest rates. The Board of Directors reviews on a quarterly basis the asset/liability position of the Company, including simulation of the effect on capital of various interest rate scenarios. The Company's profits depend, in part, on the difference, or "spread," between the effective rate of interest received on the loans it originates and the interest rates paid on deposits and other financing facilities, which can be adversely affected by movements in interest rates. The Bank's interest rate sensitivity is monitored by the Board of Directors and management through the use of a model, which estimates the change in the Bank's net portfolio value ("NPV") over a range of interest rate scenarios. NPV is the present value of expected cash flows from assets, liabilities and off-balance sheet instruments, and "NPV Ratio" is defined as the NPV in that scenario divided by the market value of assets in the same scenario. The Company reviews a market value model (the "OTS NPV model") prepared quarterly by the Office of Thrift Supervision (the "OTS"), based on the Bank's quarterly Thrift Financial Reports filed with the OTS. The OTS NPV model measures the Bank's interest rate risk by approximating the Bank's NPV under various scenarios which range from a 300 basis point increase to a 300 basis point decrease in market interest rates. The OTS has incorporated an interest rate risk component into its regulatory capital rule for thrifts. Under the rule, an institution whose sensitivity measure, as defined by the OTS, in the event of a 200 basis point increase or decrease in interest rates exceeds 20% would be required to deduct an interest rate risk component in calculating its total capital for purposes of the risk-based capital requirement. At December 31, 2000, the most recent date for which the relevant OTS NPV model is available, the Bank's sensitivity measure resulting from a 200 basis point decrease in interest rates was 27 basis points and would result in a $2.0 million increase in the NPV of the Bank and a 200 basis point increase in interest rates was 23 basis points and would result in a $1.7 million decrease in the NPV of the Bank. At December 31, 2000, the Bank's sensitivity measure was below the threshold at which the Bank could be required to hold additional risk-based capital under OTS regulations. 12 Although the NPV measurement provides an indication of the Bank's interest rate risk exposure at a particular point in time, such measurement is not intended to and does not provide a precise forecast of the effect of changes in market interest rates on the Bank's net interest income and will differ from actual results. Management monitors the results of this modeling, which are presented to the Board of Directors on a quarterly basis. The following table shows the NPV and projected change in the NPV of the Bank at December 31, 2000 assuming an instantaneous and sustained change in market interest rates of 100, 200 and 300 basis points ("bp"). This table is based on data prepared by the OTS. The Company makes no representation as to the accuracy of this data. Interest Rate Sensitivity of Net Portfolio Value
NPV as % of Portfolio Net Portfolio Value Value of Assets ------------------------------------ --------------------------- Change in Rates $ Amount $ Change % Change NPV Ratio % Change --------------- --------- --------- ---------- ----------- ------------ (Dollars in thousands) +300 bp $57,293 $(3,042) -5% 11.64% -43 bp +200 bp 58,616 (1,719) -3% 11.84% -23 bp +100 bp 59,635 (700) -1% 11.98% -09 bp 0 bp 60,335 -- -- 12.07% -- -100 bp 60,830 495 +1% 12.12% +05 bp -200 bp 62,308 1,973 +3% 12.34% +27 bp -300 bp 64,358 4,023 +7% 12.65% +58 bp
Liquidity and Capital Resources General The Company's primary sources of funds are deposits at the Bank, FHLB advances, principal and interest payments on loans, and, to a lesser extent, interest payments on short-term investments and proceeds from the maturation of securities. While maturities and scheduled amortization of loans are a predictable source of funds, deposit flows and loan prepayments are greatly influenced by general interest rates, economic conditions and competition. However, the Company has continued to maintain adequate levels of liquid assets to fund its operations. The Company has always met or exceeded any regulatory requirements. Management, through its Asset and Liability Committee, monitors rates and terms of competing sources of funds to use the most cost-effective source of funds wherever possible. The major source of funds is deposits obtained through the Bank's four retail branches in California. The Bank offers checking accounts, various money market accounts, regular passbook accounts, fixed interest rate certificates with varying maturities and retirement accounts. Deposit account terms vary by interest rate, minimum balance requirements and the duration of the account. Interest rates paid, maturity terms, service fees and withdrawal penalties are established by the Bank periodically based on liquidity and financing requirements, rates paid by competitors, growth goals and federal regulations. At March 31, 2001, such retail deposits were $297.7 million or 83.7% of total deposits. The Bank uses wholesale and broker-originated deposits to supplement its retail deposits and, at March 31, 2001, these deposits totaled $57.8 million or 16.3% of total deposits. The Bank solicits wholesale deposits by posting its interest rates on a national on-line service, which advertises the Bank's wholesale products to investors. Generally, most of the wholesale deposit account holders are institutional investors, commercial businesses or public sector entities. Broker deposits are originated through major dealers specializing in such products. Brokered deposits at March 31, 2001 totaled $38.6 million. 13 The following table sets forth the average balances and rates paid on each category of deposits for the dates indicated.
Years Ended Three Months Ended December 31, March 31, ---------------------------------------------------- 2001 2000 1999 -------------------------- --------------------------- ----------------------- Weighted Weighted Weighted Average Average Average Balance Rate Balance Rate Balance Rate ------------ ---------- ------------ ---------- ------------ ---------- (Dollars in thousands) Passbook accounts $ 41,207 3.98% $ 45,891 4.26% $ 50,672 4.24% Checking accounts 13,634 2.28% 14,394 2.10% 13,064 1.84% Certificates of deposit Under $100,000 213,870 6.15% 171,975 5.94% 176,983 5.20% $100,000 and over 82,113 6.28% 70,262 6.16% 68,050 5.45% ----------- ---------- --------- Total $350,824 5.78% $302,442 5.55% $308,769 4.96% =========== ========== =========
The following table sets forth the time remaining until maturity for all CDs for the dates indicated.
March 31, December 31, December 31, 2001 2000 1999 ----------------- --------------- ----------------- (Dollars in thousands) Maturity within one year $293,652 $257,710 $199,110 Maturity within two years 5,969 36,440 28,770 Maturity within three years 139 100 149 ---------------- -------------- ---------------- Total certificates of deposit $299,760 $294,250 $228,029 ================ ============== ================
Although the Bank has a significant amount of deposits maturing in less than one year, the Company believes that the Bank's current pricing strategy will enable it to retain a significant portion of these accounts at maturity and that it will continue to have access to sufficient amounts of CDs which, together with other funding sources, will provide the necessary level of liquidity to finance its lending businesses. However, as a result of these shorter-term deposits, the rates on these accounts may be more sensitive to movements in market interest rates, which may result in a higher cost of funds. At March 31, 2001, the Bank exceeded all of its regulatory capital requirements with tangible capital of $42.7 million, or 8.91% of total adjusted assets, which is above the required level of $7.2 million, or 1.5%; core capital of $42.7 million, or 8.91% of total adjusted assets, which is above the required level of $14.3 million, or 3.0%; and risk-based capital of $45.9 million, or 18.76% of risk-weighted assets, which is above the required level of $19.6 million, or 8.0%. As used herein, leverage or core ratio means the ratio of core capital to adjusted total assets, Tier 1 risk-based capital ratio means the ratio of core capital to risk-weighted assets, and total risk-based capital ratio means the ratio of total capital to risk-weighted assets, in each case as calculated in accordance with current OTS capital regulations. Under the Federal Deposit Insurance Corporation Act of 1991 ("FDICIA"), the Bank is deemed to be "well capitalized" at March 31, 2001. The Company has other sources of liquidity, including FHLB advances and its liquidity and investments portfolio. Through the Bank, the Company can obtain advances from the FHLB, collateralized by its securities and the Bank's FHLB stock. The FHLB functions as a central reserve bank providing credit for thrifts and certain other member financial institutions. Advances are made pursuant to several programs, each of which has it's own interest rate and range of maturities. Limitations on the amount of advances are based generally on a fixed percentage of total assets or on the FHLB's assessment of an institution's credit-worthiness. As of March 31, 2001, the Bank's total borrowing capacity under this credit facility was $72.0 million. 14 The following table sets forth certain information regarding the Company's short-term borrowed funds (consisting of FHLB advances and its warehouse lines of credit) at or for the periods ended on the dates indicated.
March 31, December 31, ---------------------------- 2001 2000 1999 ----------- ------------ ------------ (dollars in thousands) FHLB advances Maximum month-end balance $60,000 $ 60,000 $ 2,300 Balance at end of period 60,000 60,000 -- Average balance for period 33,035 22,877 6 Weighted average interest rate on balance at end of period 5.29% 6.81% --% Weighted average interest rate on average balance for period 6.32% 6.58% 5.84% Warehouse lines of credit Maximum month-end balance -- $26,623 $159,342 Balance at end of period -- -- 54,415 Average balance for period -- 1,796 45,404 Weighted average interest rate on balance at end of period --% --% 5.78% Weighted average interest rate on average balance for period --% 6.27% 5.84%
The Company had no material contractual obligations or commitments for capital expenditures at March 31, 2001. Summary of Loan Portfolio. At March 31, 2001, the Company's loan portfolio constituted $193.1 million, or 38.8% of the Company's total assets. The following table sets forth the composition of the Company's loan portfolio at the dates indicated.
March 31, December 31, December 31, 2001 2000 1999 -------------- --------------- --------------- Consumer Loans Automobile installment contracts $193,275 $176,255 $128,093 Insurance premium finance 25,145 25,843 23,846 Other consumer loans 467 577 864 ------------ ------------- ------------- Total consumer loans 218,887 202,675 152,803 ------------ ------------- ------------- Mortgage Loans Mortgage loans (purchased primarily from RTC) 1,884 16,784 21,835 Subprime mortgage loans 444 1,845 149,876 ------------ ------------- ------------- Total mortgage loans 2,328 18,629 171,711 ------------ ------------- ------------- Commercial Loans Insurance premium finance 9,184 8,342 6,488 Other commercial loans 74 55 15 ------------ -------------- -------------- Total commercial loans 9,258 8,397 6,503 ------------ -------------- -------------- Total loans 230,473 229,701 331,017 Unearned discounts and premium (52) (728) (954) Unearned finance charges (20,978) (20,737) (21,181) Allowance for loan losses (16,353) (15,156) (14,139) ------------ -------------- -------------- Total loans, net $ 193,090 $193,080 294,743 ============ ============== ==============
15 Loan Maturities. The following table sets forth the dollar amount of loans maturing in the Company's loan portfolio at March 31, 2001 based on scheduled contractual amortization. Loan balances are reflected before unearned discounts and premiums, unearned finance charges and allowance for loan losses.
March 31, 2001 ---------------------------------------------------------------------------------------------- More Than More Than More Than More Than One Year 1 Year to 3 Years to 5 Years to 10 Years to More Than Total or Less 3 Years 5 Years 10 Years 20 Years 20 Years Loans ---------- ----------- ----------- ------------ ------------ ----------- -------- (Dollars in thousands) Consumer Loans $31,377 $81,057 $106,171 $282 $ -- $ -- $218,887 Mortgage loans -- -- 16 -- 1,898 414 2,328 Commercial loans 9,245 13 -- -- -- -- 9,258 -------- -------- --------- -------- -------- ------- -------- Total $40,622 $81,070 $106,187 $282 $1,898 $414 $230,473 ======== ======== ========= ======== ======== ======= ========
Classified Assets and Allowance for Loan Losses The Company maintains an asset review and classification process for purposes of assessing loan portfolio quality and the adequacy of its loan loss allowances. The Company's Asset Review Committee reviews for classification all problem and potential problem assets and reports the results of its review to the Board of Directors quarterly. The Company has incorporated the OTS internal asset classifications as a part of its credit monitoring systems and in order of increasing weakness; these designations are "substandard," "doubtful" and "loss." Substandard assets have one or more defined weaknesses and are characterized by the distinct possibility that some loss will be sustained if the deficiencies are not corrected. Doubtful assets have the weaknesses of substandard assets with the additional characteristic that the weaknesses make collection or liquidation in full, on the basis of currently existing facts, condition and values, questionable and there is a high possibility of loss. Loss assets are considered uncollectible and of such little value that continuance as an asset is not warranted. Assets that do have weaknesses but do not currently have sufficient risk to warrant classification in one of the categories described above are designated as "special mention." At March 31, 2001, the Company had $2.1 million in assets classified as special mention, $3.3 million of assets classified as substandard, $183,000 in assets classified as doubtful and no assets classified as loss. This compares with $1.1 million as special mention, $18.2 million as substandard, $112,000 as doubtful and no loss at March 31, 2000. The following table sets forth the remaining balances of all loans (before specific reserves for losses) that were more than 30 days delinquent at March 31, 2001, December 31, 2000 and 1999.
Loan ----- March 31, % of Total December 31, % of Total December 31, % of Total Delinquencies 2001 Loans 2000 Loans 1999 Loans ------------- ------------- ------------ --------------- ------------ ------------- ------------- (Dollars in thousands) 30 to 59 days $596 0.3% $ 953 0.5% $ 3,071 1.0% 60 to 89 days 435 0.2% 494 0.3% 2,443 0.8% 90+ days 1,383 0.7% 2,374 1.2% 13,307 4.6% ----------- ---------- ------------- ----------- ----------- ---------- Total $2,414 1.2% $ 3,821 2.0% $18,821 6.4% =========== ========== ============= =========== =========== ==========
Nonaccrual and Past Due Loans. The Company's general policy is to discontinue accrual of interest on a mortgage loan when it is two payments or more delinquent. Accordingly, loans are placed on non-accrual status generally when they are 60-89 days delinquent. A non-mortgage loan is placed on nonaccrual status when it is delinquent for 120 days or more. When a loan is reclassified from accrual to nonaccrual status, all previously accrued interest is reversed. Interest income on nonaccrual loans is subsequently recognized only to the extent that cash payments are received or the borrower's ability to make periodic interest and principal payments is in accordance with the loan terms, at which time the loan is returned to accrual status. Accounts, which are deemed fully or partially uncollectible by management, are generally fully reserved or charged off for the amount that exceeds the estimated fair value (net of selling costs) of the underlying collateral. 16 The following table sets forth the aggregate amount of nonaccrual loans (net of unearned discounts, premiums and unearned finance charges.) at March 31, 2001, December 31, 2000 and 1999.
December 31, March 31, ------------------------------- 2001 2000 1999 -------------- --------------- --------------- (Dollars in thousands) Nonaccrual loans Single-family residential $ 1,075 $ 2,281 $15,825 Multi-family residential and commercial -- -- 100 Consumer and other loans 1,427 1,323 1,060 ------------ ------------ ----------- Total $ 2,502 $ 3,604 $16,985 ============ ============ =========== Nonaccrual loans as a percentage of Total loans held for investment 1.30% 1.87% 10.73% Total assets 0.50% 0.74% 3.88% Allowance for loan losses as a percentage of Total loans held for investment 8.47% 7.88% 8.93% Nonaccrual loans 653.60% 420.53% 83.24%
Real Estate Owned. Real estate acquired through foreclosure or by deed in lieu of foreclosure ("REO") is recorded at the lower of cost or fair value at the time of foreclosure. Subsequently, an allowance for estimated losses is established when the recorded value exceeds fair value less estimated selling costs. Holding and maintenance costs related to real estate owned are recorded as expenses in the period incurred. Real estate owned was $403,000 at March 31, 2001 and $871,000 at December 31, 2000, and consisted entirely of one to four family residential properties. Allowance for Loan Losses. The following is a summary of the changes in the consolidated allowance for loan losses of the Company for the periods indicated.
At or For the At or For the Year Ended Three Months December 31, Ended March 31, ------------------------------- 2001 2000 1999 --------------- --------------- --------------- (Dollars in thousands) Allowance for Loan Losses Balance at beginning of period $ 15,156 $ 14,139 $ 10,183 Provision for loan losses - continuing operations 44 201 432 Provision for loan losses - discontinued operations -- 2,396 7,376 Charge-offs Mortgage loans -- (6,402) (7,525) Consumer loans (2,388) (6,025) (4,395) ------------ ------------ ------------ (2,388) (12,427) (11,920) Recoveries Mortgage loans -- 327 296 Consumer loans 209 286 414 ------------ ------------ ------------ 209 613 710 ------------ ------------ ------------ Net charge-offs (2,179) (11,814) (11,210) Acquisition discounts allocated to loss allowance 3,332 10,234 7,358 ------------ ------------ ------------ Balance at end of period $ 16,353 $ 15,156 $ 14,139 ============ ============ ============ Annualized net charge-offs to average loans 5.65% 5.03% 2.95% Ending allowance to period end loans, net 8.47% 7.88% 8.93%
The Company's policy is to maintain an allowance for loan losses to absorb future losses, which may be realized on its loan portfolio. These allowances include specific reserves for identifiable impairments of individual loans and general valuation allowances for estimates of probable losses not specifically identified. In addition, the Company's allowance for loan losses is also increased by its allocation of acquisition discounts related to the purchase of automobile installment contracts. 17 The determination of the adequacy of the allowance for loan losses is based on a variety of factors, including an assessment of the credit risk inherent in the portfolio, prior loss experience, the levels and trends of non-performing loans, the concentration of credit, current and prospective economic conditions and other factors. The Company's management uses its best judgment in providing for possible loan losses and establishing allowances for loan losses. However, the allowance is an estimate, which is inherently uncertain and depends on the outcome of future events. In addition, regulatory agencies, as an integral part of their examination process, periodically review the Bank's allowance for loan losses. Such agencies may require the Bank to increase the allowance based upon their judgment of the information available to them at the time of their examination. The Bank's most recent examination by its regulatory agencies was completed in April 2001 and no adjustment to the Bank's allowance for loan losses was required. Cash Equivalents and Securities Portfolio The Company's cash equivalents and securities portfolios are used primarily for liquidity purposes and secondarily for investment income. Cash equivalents and securities satisfy regulatory requirements for liquidity. The following is a summary of the Company's cash equivalents and securities portfolios as of the dates indicated.
December 31, March 31, ----------------------------------- 2001 2000 1999 ------------------ ---------------- ---------------- (Dollars in thousands) Balance at end of period Overnight deposits $ 75,783 $ 36,477 $ 85,500 U.S. agency securities 133,337 166,838 9,918 U.S. agency mortgage backed securities 47,726 46,376 Mutual funds 20,142 10,051 -- -------------- --------------- --------------- Total $ 276,988 $ 259,742 $ 95,418 ============== =============== =============== Weighted average yield at end of period Overnight deposits 4.97% 5.69% 3.25% U.S. agency securities 5.57% 6.27% 7.11% U.S. agency mortgage backed securities 7.29% 7.35% --% Mutual funds (mortgage-backed securities) 6.08% 6.59% --% Weighted average maturity at end of period Overnight deposits 1 day 1 day 1 day U.S. agency securities 61 months 5 months 62 months U.S. agency mortgage-backed securities 262 months 267 months -- Mutual funds (mortgage backed securities) 1 day 1 day --
Factors That May Affect Future Results Because we have a limited operating history, we cannot predict our future operating results. The Company purchased certain assets and assumed certain liabilities of Pan American Federal Savings Bank from the RTC in 1994. In 1995, the Company commenced its insurance premium finance business through a joint venture with BPN, and in 1996 the Company commenced its subprime mortgage and automobile finance businesses. Accordingly, the Company has only a limited operating history upon which an evaluation of the Company and its prospects can be based. See "Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations." Because we loan money to credit-impaired borrowers, we may have a higher risk of delinquency and default. Loans made to borrowers who cannot obtain financing from traditional lenders generally entail a higher risk of delinquency and default and higher losses than loans made to borrowers with better credit. Substantially all of the Company's auto loans are made to individuals with more impaired or limited credit histories than are permitted by traditional borrowers. If the Company experiences higher losses than anticipated, the Company's financial condition, results of operations and business prospects would be materially and adversely affected. 18 We may have to restrict our lending activities if we are unable to maintain or expand our sources of financing. The Company's ability to maintain or expand its current level of lending activity will depend on the availability and terms of its sources of financing. The Company currently funds its operations principally through deposits and FHLB advances. The Bank competes for deposits primarily on the basis of interest rates and, accordingly, the Bank could experience difficulty in attracting deposits if it does not continue to offer rates that are competitive with other financial institutions. Federal regulations restrict the Bank's ability to lend to affiliated companies and limit the amount of non- mortgage consumer loans that may be held by the Bank. Accordingly, the growth of the Company's insurance premium and automobile finance businesses will depend to a significant extent on the availability of additional sources of financing. There can be no assurance that the Company will be able to develop additional financing sources on acceptable terms or at all. To the extent the Bank is unable to maintain its deposits and the Company is unable to develop additional sources of financing, the Company will have to restrict its lending activities, which would materially and adversely affect the Company's financial condition, results of operations and business prospects. See "Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations - Liquidity and Capital Resources." Our systems and controls may be inadequate to support our growth and if they are not adequate, it would have a material adverse impact on our business. The Company depends heavily upon its systems and controls, some of which have been designed specifically for a particular business, to support the evaluation, acquisition, monitoring, collections and administration of that business. There can be no assurance that these systems and controls, including those specially designed and built for the Company, are adequate or will continue to be adequate to support the Company's growth. A failure of the Company's automated systems, including a failure of data integrity or accuracy, could have a material adverse effect upon the Company's financial condition, results of operations and business prospects. If we do not retain our key employees and we fail to attract new employees, our business will be impaired. The Company is dependent upon the continued services of its key employees as well as the key employees of BPN. The loss of the services of any key employee, or the failure of the Company to attract and retain other qualified personnel, could have a material adverse effect on the Company's financial condition, results of operations and business prospects. Competition may adversely affect our performance. Each of the Company's businesses is highly competitive. Competition in the Company's markets can take many forms, including convenience in obtaining a loan, customer service, marketing and distribution channels, amount and terms of the loan, loan discounts and interest rates. Many of the Company's competitors are substantially larger and have considerably greater financial, technical and marketing resources than the Company. The Company competes in the insurance premium finance business with other specialty finance companies, independent insurance agents who offer premium finance services, captive premium finance affiliates of insurance companies and direct bill plans established by insurance companies. The Company competes in the nonprime automobile finance industry with commercial banks, the captive finance affiliates of automobile manufacturers, savings associations and companies specializing in nonprime automobile finance, many of which have established relationships with automobile dealerships and may offer dealerships or their customers other forms of financing, including dealer floor plan financing and lending, which are not offered by the Company. In attracting deposits, the Bank competes primarily with other savings institutions, commercial banks, brokerage firms, mutual funds, credit unions and other types of investment companies. 19 Fluctuations in interest rates and general and localized economic conditions also may affect the competition the Company faces. Competitors with lower costs of capital have a competitive advantage over the Company. During periods of declining interest rates, competitors may solicit the Company's customers to refinance their loans. In addition, during periods of economic slowdown or recession, the Company's borrowers may face financial difficulties and be more receptive to offers of the Company's competitors to refinance their loans. As the Company expands into new geographic markets, it will face additional competition from lenders already established in these markets. There can be no assurance that the Company will be able to compete successfully with these lenders. Changes in interest rates may adversely affect our performance. The Company's results of operations depend to a large extent upon its net interest income, which is the difference between interest income on interest-earning assets, such as loans and investments, and interest expense on interest-bearing liabilities, such as deposits and other borrowings. When interest-bearing liabilities mature or reprice more quickly than interest- bearing assets in a given period, a significant increase in market rates of interest could have a material adverse effect on the Company's net income. Further, a significant increase in market rates of interest could adversely affect demand for the Company's financial products and services. Interest rates are highly sensitive to many factors, including governmental monetary policies and domestic and international economic and political conditions, which are beyond the Company's control. The Company's liabilities generally have shorter terms and are more interest rate sensitive than its assets. Accordingly, changes in interest rates could have a material adverse effect on the profitability of the Company's lending activities. See "Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations - Management of Interest Rate Risk." We may be unable to manage our growth and if we cannot do so, it could have a material effect on our business. The Company has experienced steady growth in its automobile finance business. In addition, the Company may broaden its product offerings to include additional types of consumer or commercial loans. Further, the Company may enter other specialty finance businesses. This growth strategy will require additional capital, systems development and human resources. The failure of the Company to implement its planned growth strategy would have a material adverse effect on the Company's financial condition, results of operations and business prospects. Change in general economic conditions may adversely affect our performance. Each of the Company's businesses is affected directly by changes in general economic conditions, including changes in employment rates, prevailing interest rates and real wages. During periods of economic slowdown or recession, the Company may experience a decrease in demand for its financial products and services, an increase in its servicing costs, a decline in collateral values and an increase in delinquencies and defaults. A decline in collateral values and an increase in delinquencies and defaults increase the possibility and severity of losses. Although the Company believes that its underwriting criteria and collection methods enable it to manage the higher risks inherent in loans made to such borrowers, no assurance can be given that such criteria or methods will afford adequate protection against such risks. Any sustained period of increased delinquencies, defaults or losses would materially and adversely affect the Company's financial condition, results of operations and business prospects. Impact of inflation and changing prices may adversely affect our performance. The financial statements and notes thereto presented herein have been prepared in accordance with Generally Accepted Accounting Principles ("GAAP"), which require the measurement of financial position and 20 operating results in terms of historical dollar amounts without considering the changes in the relative purchasing power of money over time due to inflation. The impact of inflation is reflected in the increased cost of the Company's operations. Unlike industrial companies, nearly all of the assets and liabilities of the Company are monetary in nature. As a result, interest rates have a greater impact on the Company's performance than do the effects of general levels of inflation. Interest rates do not necessarily move in the same direction or to the same extent as the price of goods and services. If our application for approval of a Charter Conversion is not approved, our current lending activities may be adversely affected. The Bank filed its application with the DFI for approval to convert from a federally chartered savings association to a state-chartered commercial bank due, in principal part, to lending restrictions which apply to federally- chartered thrifts. As a result of the discontinuation of its subprime mortgage business, it will be more difficult for the Bank to remain in compliance with the QTL test or certain other consumer lending restrictions. California- chartered commercial banks are not subject to compliance with the QTL test or certain other consumer lending limitations. In the event that a Charter Conversion is not approved by the DFI, or is approved but not completed by the Bank, the Bank would have to adjust its lending activities to ensure that it continues to comply with the QTL test or other consumer lending limitations in the future. We may face other risks. From time to time, the Company details other risks with respect to its business and financial results in its filings with the SEC. Item 3. Quantitative and Qualitative Disclosures About Market Risk. ---------------------------------------------------------- See "Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations - Management of Interest Rate Risk; and Factors That May Affect Future Results. 21 PART II. OTHER INFORMATION Item 1. Legal Proceedings. ----------------- Not applicable Item 2. Changes in Securities and Use of Proceeds. ----------------------------------------- Not applicable Item 3. Defaults Upon Senior Securities. ------------------------------- Not applicable Item 4. Submission of Matters to a Vote of Security Holders. --------------------------------------------------- Not applicable Item 5. Other Information. ----------------- Not applicable Item 6. Exhibits and Reports on Form 8-K. -------------------------------- (a) List of Exhibits 10.109 Employment agreement dated December 8, 2000 between Pan American Bank, FSB and Ray C. Thousand. (b) Reports on Form 8-K Not applicable 22 SIGNATURES Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized. United PanAm Financial Corp. Date: May , 2001 By: ______________________________ Guillermo Bron Chairman and Chief Executive Officer (Principal Executive Officer) May , 2001 By: ______________________________ Garland W. Koch Vice President and Chief Financial Officer (Principal Financial and Accounting Officer) 23