-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, L9q9wwZZCwFwYAH8bs+sw/JfaxrWEIlea2UB+CHgV7OOMeedbVbMsqPHaH/lW6tx aanSTcA+aGJvGfdGdbOH2w== 0000882261-97-000008.txt : 19970401 0000882261-97-000008.hdr.sgml : 19970401 ACCESSION NUMBER: 0000882261-97-000008 CONFORMED SUBMISSION TYPE: 10-K405 PUBLIC DOCUMENT COUNT: 8 CONFORMED PERIOD OF REPORT: 19961231 FILED AS OF DATE: 19970331 SROS: NYSE FILER: COMPANY DATA: COMPANY CONFORMED NAME: NORTH AMERICAN MORTGAGE CO CENTRAL INDEX KEY: 0000882261 STANDARD INDUSTRIAL CLASSIFICATION: MORTGAGE BANKERS & LOAN CORRESPONDENTS [6162] IRS NUMBER: 680267088 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: 10-K405 SEC ACT: 1934 Act SEC FILE NUMBER: 001-11017 FILM NUMBER: 97569683 BUSINESS ADDRESS: STREET 1: 3883 AIRWAY DR CITY: SANTA ROSA STATE: CA ZIP: 95403 BUSINESS PHONE: 7075235000 10-K405 1 ANNUAL REPORT ON FORM 10-K FORM 10-K SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 (Mark One) [ X ] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the fiscal year ended December 31, 1996 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: 1-11017 NORTH AMERICAN MORTGAGE COMPANY (Exact name of registrant as specified in its charter) Delaware 68-0267088 (State or other jurisdiction (I.R.S. Employer Identification No.) of incorporation or organization) 3883 Airway Drive, Santa Rosa, California 95403-1699 (Address of principal executive offices) (Zip Code) Registrant's telephone number, including area code: (707) 546-3310 Securities registered pursuant to Section 12(b) of the Act: Title of each class Name of each exchange on which registered Common Stock, $.01 Par Value New York Stock Exchange Preferred Stock Purchase Rights New York Stock Exchange Securities registered pursuant to Section 12(g) of the Act: None Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes X No Indicate by check mark if disclosure of delinquent filers pursuant to Item 405 of Regulation S-K is not contained herein, and will not be contained, to the best of 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 [X] As of March 18, 1997, the latest practicable date, there were 14,057,820 shares of North American Mortgage Company(R) Common Stock, $.01 par value, (the "Common Stock") outstanding. Based on the closing price for shares of Common Stock on that date, the aggregate market value of Common Stock held by non-affiliates of the registrant was approximately $290,845,005. For the purposes of the foregoing calculation only, all members of the Board of Directors and executive officers of the registrant have been deemed affiliates. Documents Incorporated by Reference Portions of the North American Mortgage Company 1996 Annual Report to Stockholders (Exhibit 13 hereto) are incorporated by reference into Parts II and IV of this Annual Report on Form 10-K. With the exception of those portions which are specifically incorporated by reference in this Annual Report on Form 10-K, the North American Mortgage Company 1996 Annual Report to Stockholders is not to be deemed filed as part of this Report. Portions of the North American Mortgage Company Proxy Statement for the 1997 Annual Meeting of Stockholders to be filed with the Commission on or before April 30, 1997 are incorporated by reference into Part III of this Annual Report on Form 10-K. With the exception of those portions which are specifically incorporated by reference in this Annual Report on Form 10-K, the North American Mortgage Company Proxy Statement for the 1997 Annual Meeting of Stockholders is not to be deemed filed as part of this Report. PART I ITEM 1. BUSINESS General North American Mortgage Company (the "Company") is engaged primarily in the mortgage banking business and, accordingly, originates, acquires, sells and services mortgage loans which are principally first-lien mortgage loans secured by single (one to four) family residences. The Company also sells the servicing rights associated with a portion of such loans. The principal sources of revenue from the Company's business are (i) loan origination and related fees, (ii) net interest earned on mortgage loans during the period that they are held by the Company pending sale, (iii) proceeds from the sale of mortgage loans, (iv) mortgage loan servicing fees and (v) proceeds from the sale of mortgage loan servicing rights. The Company originates mortgage loans through three primary sources: wholesale, which represents loans solicited from loan brokers; retail, which represents loans generated principally through builders and real estate brokers; and telemarketing, which represents loans initiated by telephone and mail. Substantially all mortgage loans originated by the Company through such sources are underwritten, funded and closed by the Company. During 1996, total U.S. mortgage originations increased to an estimated $785 billion from $636 billion in 1995. Generally, U.S. mortgage origination volume varies with two factors: the level of new and existing home purchases and the level of refinancings of existing mortgage loans. According to industry estimates, 1996 was the largest home purchase market in history, an estimated $556 billion compared to $480 billion in 1995. Mortgage originations from refinances also increased to an estimated $229 billion in 1996 compared to $156 billion during 1995. During 1996, 1995 and 1994, the Company originated $9.5 billion, $7.5 billion and $9.8 billion, respectively, of mortgage loans. The increase in origination volume in 1996 is primarily attributable to the general rise in the total level of U.S. mortgage originations and to the positive impact of the Company's retail sales initiatives. In 1996, the Company's originations from purchases totaled $5.9 billion, while refinances totaled $3.6 billion. According to an industry publication, the Company ranked twelfth in 1996 and tenth in 1995 and 1994, among first mortgage loan originators in the United States. As of December 31, 1996, the Company's largest loan origination markets were in California, Texas, Minnesota, Florida and Arizona. As of February 28, 1997, the Company operated 106 origination offices located in 31 states. The Company customarily sells all of the mortgage loans it originates, generally retaining the right to service such loans. The Company sells the majority of the conventional mortgage loans it originates under purchase and guarantee programs sponsored by the Federal Home Loan Mortgage Corporation ("FHLMC") and the Federal National Mortgage Association ("FNMA"). The Company's loans insured by the Federal Housing Administration ("FHA") or partially guaranteed by the Veterans Administration ("VA") or the Farmers Home Administration ("FMHA") are pooled to form Government National Mortgage Association ("GNMA") securities. The Company sells FNMA, FHLMC and GNMA securities to investment banking firms that are usually primary dealers in government securities. Loans not conforming to requirements of such agencies are sold to private institutional investors. The Company also engages in mortgage loan servicing, which includes the processing of mortgage loan payments and the administration of mortgage loans. The Company's primary source of servicing is from mortgage loans it has originated and sold. At December 31, 1996, the Company's loan servicing portfolio totaled $13.3 billion. In 1996, the Company sold $8.2 billion of servicing rights. The Company may continue to sell portions of its loan servicing rights based on cash requirements, the impact on the Company's earnings and the market value of servicing rights. See "Loan Servicing - Servicing Sales." The address of the Company is 3883 Airway Drive, Santa Rosa, California, 95403. Its telephone number is (707) 546-3310. Mortgage Loan Originations Overview. The Company operates nationally, originating mortgage loans through three primary sources: wholesale, which represents loans solicited from loan brokers; retail, which represents loans generated principally through builders and real estate brokers; and telemarketing, which represents loans initiated by telephone and mail. Substantially all mortgage loans originated through such sources by the Company are underwritten, funded and closed by the Company. The following table shows the Company's mortgage loan originations since 1994:
Loan Originations (in millions) 1996.......................................... $ 9,473 1995.......................................... $ 7,496 1994.......................................... $ 9,755
All loan applications, regardless of source, must be approved by the Company in accordance with its underwriting criteria, including loan-to-value ratios, borrower income and credit qualifications, investor requirements, necessary insurance and property appraisal requirements. The Company's underwriting standards also comply with the relevant guidelines set forth by the FHA, VA, FMHA, FNMA, FHLMC, private conduits and private mortgage insurers, as applicable. The Company's underwriting personnel function independently of the Company's mortgage loan origination personnel and do not report to any individual directly involved in the mortgage loan origination process. The Company receives fees from borrowers for the origination of retail loans, generally in the range of one to two percent of the principal amount of the loan. The Company also receives fees in connection with the origination of wholesale loans which average approximately $360 per loan. The Company incurs certain costs in originating loans, including overhead, out-of-pocket costs, interest on money borrowed to finance loans and, where the loans are subject to a purchase commitment from private investors, related commitment fees. The volume of and type of loans and commitments made by the Company vary with competitive and economic conditions, resulting in fluctuations in revenues from loan originations. In periods of rising interests rates, the Company's volume of loan originations, particularly refinancings, declines, and the Company's revenues from loan originations decrease. Conversely, as mortgage interest rates decline, the Company's revenues from loan originations generally increase. See also "Management's Discussion and Analysis", 1996 Annual Report to Stockholders. Sources of Originations. As discussed above, the Company presently obtains mortgage loans from three primary sources of origination: wholesale, retail and telemarketing. A summary of the Company's recent loan originations, substantially all of which are underwritten, funded and closed by the Company, is shown below:
Year Ended December 31, 1996 1995 1994 ---- ---- ---- (Dollars in millions) Wholesale....................... $ 5,461 $ 4,184 $ 5,932 Retail.......................... 3,494 2,972 3,140 Telemarketing................... 518 340 683 --- --- --- Total........................... $ 9,473 $ 7,496 $ 9,755 ======= ======= =======
Wholesale Loan Origination. The Company's wholesale origination business utilizes independent loan brokers to originate loans. These loans are funded and closed by the Company. The Company's wholesale operations sales staff solicits loans meeting the Company's underwriting guidelines from loan brokers who have been previously approved by the Company. Each loan is underwritten by the Company according to its own and its investors' credit and property underwriting standards. During 1996, the Company did business with over 6,500 approved loan brokers. For the year ended December 31, 1996, no individual loan broker accounted for more than 2.6% of the Company's total wholesale mortgage loan originations. In general, the Company's volume of loan production is stimulated by lower interest rates and high refinance activity. Reflecting the national trend of higher originations during 1996 and relatively low interest rates during most of the year, the Company's wholesale originations increased from $4.2 billion in 1995 to $5.5 billion in 1996. Retail Loan Origination. The Company originates retail mortgage loans through a variety of sources, including individuals, home builders and real estate brokers. The Company has been successful in originating loans through home builders by maintaining a high service level and by providing a variety of products. These products include builder forward commitments, which provide the builder with interest rate protection, mortgage revenue bond financing options, and standard government and conventional loan programs. In arranging loans through builders and real estate brokers, the loan officer originating a loan is responsible for completing the loan application based on information obtained from the borrower. The loan application is then routed to a loan processor or mortgage specialist who verifies employment and assets, conducts credit checks, has the subject property appraised and enters the loan into the Company's computerized loan tracking system. The loan is underwritten by the Company and, if approved, loan documents are drawn and the loan is closed by the Company. In 1996, the Company continued to focus its efforts on increasing retail originations, which tend to be less sensitive to mortgage interest rate fluctuations. Additionally, on retail loans, the Company receives higher loan origination fees and retains more control over loan applications and pricing. In an effort to further expand and improve the retail base of the Company from which to emphasize purchase transactions, in 1996, the Company increased its retail branches by 15, its satellite locations by 29 and added 172 retail loan officers. Additionally, the Company introduced a significant number of new loan products. See "Loan Origination Products and Programs." Satellite offices, which are generally smaller facilities than branch offices, allow the Company to more conveniently and effectively service retail customers on a local level without adding a significant expense to the Company. Located in close proximity to a branch office, satellites give loan officers a convenient place to meet with customers, take applications and perform some loan processing functions, while the loan underwriting and closing take place at the branch office. This hub and spoke approach between branches and satellites is currently followed in all of the Company's regions and in 1997, the Company plans to continue expanding this approach. Telemarketing Loan Origination. Mortgage loans also are originated through the Company's telemarketing unit which was established in 1986 to originate loans pursuant to contractual relationships with major employers, universities and credit unions, whose employees and membership currently total over 300,000 people. The telemarketing unit also provides new mortgage loans primarily to mortgagors with whom the Company has existing relationships to try to capture a significant portion of mortgage refinancings which occur more often during periods of declining interest rates. The telemarketing unit originates loans by telephone and mail utilizing a computerized loan solicitation and processing system. While the telemarketing unit is located in California, the Company is licensed to originate mortgage loans by telemarketing in all states. Telemarketing activity is largely driven by refinancings and, as such, is particularly sensitive to changes in mortgage interest rates. Reflecting the national trend of higher originations and relatively low interest rates during most of 1996, the demand for refinancings increased and the Company's telemarketing originations increased from $340 million in 1995, to $518 million in 1996. Technology. In 1996, the Company's business strategy also focused on investing in the appropriate technology to improve customer support, as well as increase the efficiency of internal operations. The Company focused its efforts on improving its corporate-wide data transmission systems, as well as enhancements to its central computer system. This enhanced technology platform provides for decentralized information access, allowing the Company a link among production, processing, underwriting and servicing employees in locations throughout the country. Additionally, in 1996, the Company began using artificial intelligence servicing software as an indicator of future loan performance. In 1997, the Company plans to implement artificial intelligence in the underwriting process. See "Loan Servicing - Credit Risk." By the end of 1997, the Company expects to have automated underwriting installed on originators' laptop computers so that the customer can receive an early indication of potential problems with the loan application. Also in 1997, the Company plans to leverage its presence on the Internet and to improve internal efficiency by further exploring its Intranet capability. National Presence. The Company has pursued its market share growth objectives both through geographic expansion into new markets and through increased market penetration in its existing markets. Prior to 1988, the Company's loan originations were primarily in California and Hawaii. In 1989, the Company entered the Texas market by acquiring several loan origination offices. The Company used its Texas operations as a base for expansion throughout the Southwest. In 1992, the Company expanded into the East by acquiring the assets of a residential mortgage origination business located principally in the Washington, D.C. metropolitan area, with branch offices located in Virginia and Maryland. By the middle of 1994, the Company had completed its national expansion program by adding branch offices in the Midwest, Northeast and Northwest, which resulted in its presence in substantially all major markets of the country. As of February 28, 1997, the Company's 106 offices, doing either or all of retail and wholesale loan origination business or telemarketing were located as follows: 25 were located in California; 9 were located in each of Arizona and Texas; 5 were located in each of Massachusetts, Oregon and Virginia; 4 were located in each of Maryland, Michigan, Nevada and Washington; 3 were located in each of Florida and Louisiana; 2 were located in each of Colorado, Hawaii, Illinois, Indiana, Kansas, Ohio and Pennsylvania; 1 was located in each of Idaho, Maine, Minnesota, Missouri, New Hampshire, New Jersey, New Mexico, Oklahoma, Rhode Island, Tennessee, Utah and Wisconsin. The table below summarizes the Company's recent total loan originations by location of the Company's originating office:
Year Ended December 31, 1996 1995 1994 ---- ---- ---- (Dollars in millions) California(1) Volume..................... $ 3,060 $ 2,530 $ 3,989 Percentage of Total........ 32.3% 33.8% 40.9% Texas Volume..................... $ 643 $ 672 $ 1,147 Percentage of Total........ 6.8% 9.0% 11.8% Minnesota Volume..................... $ 482 $ 286 $ 34 Percentage of Total........ 5.1% 3.8% 0.3% Florida Volume..................... $ 432 $ 279 $ 243 Percentage of Total........ 4.6% 3.7% 2.5% Arizona Volume..................... $ 407 $ 320 $ 232 Percentage of Total........ 4.3% 4.3% 2.4% Virginia Volume..................... $ 328 $ 335 $ 492 Percentage of Total........ 3.5% 4.5% 5.0% Massachusetts Volume..................... $ 321 $ 201 $ 114 Percentage of Total........ 3.4% 2.7% 1.2% Ohio Volume..................... $ 315 $ 189 $ 46 Percentage of Total........ 3.3% 2.5% 0.5% Oregon Volume..................... $ 311 $ 224 $ 290 Percentage of Total........ 3.3% 3.0% 3.0% Colorado Volume..................... $ 310 $ 287 $ 490 Percentage of Total........ 3.3% 3.8% 5.0% Other States Volume..................... $ 2,864 $ 2,173 $ 2,678 Percentage of Total........ 30.2% 29.0% 27.4% ---- ---- ---- Total.............. $ 9,473 $ 7,496 $ 9,755 ======= ======= ======= - --------------- (1) Includes telemarketing.
In the past nine years, the Company has expanded so that it currently has a presence in substantially all major regions of the country. Because of the Company's high concentration of loan originations in California, however, there can be no assurance that its results of operations would not be adversely affected to the extent California experiences periods of slow or negative economic growth which result in decreased residential real estate lending activity. Loan Origination Products and Programs. The Company originates mortgage loans insured by the FHA, mortgage loans partially guaranteed by the VA or FMHA and conventional mortgage loans. Approximately 60.1% of the conventional mortgage loans originated by the Company in 1996 qualified for inclusion in purchase and guarantee programs sponsored by FNMA and FHLMC. In order to qualify for these programs, loans must meet the property and credit standards and loan size limits (currently $214,600 in the continental United States; $321,900 in Hawaii for one-unit properties) established by FNMA and FHLMC. The Company customarily sells all of its mortgage loan originations, generally retaining the servicing rights on such loans. Loans which are not eligible for sale to FNMA or FHLMC must meet the Company's own underwriting criteria, as well as satisfy the criteria of those private institutional investors to which such loans are sold by the Company. A summary of the Company's recent loan originations by type of loan is shown below:
Year Ended December 31, ----------------------- 1996 1995 1994 ---- ---- ---- (Dollars in millions, except Average Loan Size) FHA/VA Loans: Number of Loans.................... 22,838 17,062 13,853 Volume of Loans.................... $ 2,142 $ 1,619 $ 1,351 Percent of Total Volume............ 22.6% 21.6% 13.8% Conventional Conforming Loans: Number of Loans.................. 52,840 44,776 53,674 Volume of Loans.................. $ 5,696 $ 4,584 $ 5,608 Percent of Total Volume.......... 60.1% 61.2% 57.5% Conventional Non-Conforming Loans: Number of Loans.................... 6,984 3,942 7,902 Volume of Loans.................... $ 1,170 $ 803 $ 2,064 Percent of Total Volume............ 12.4% 10.7% 21.2% Other Loans: Number of Loans.................... 4,429 4,873 6,047 Volume of Loans.................... $ 465 $ 490 $ 732 Percent of Total Volume............ 4.9% 6.5% 7.5% Total Loans: Number of Loans.................... 87,091 70,653 81,476 Volume of Loans.................... $ 9,473 $ 7,496 $ 9,755 Average Loan Size.................... $ 109,000 $ 106,000 $120,000
In 1996, the Company continued its program of increasing product and program diversity while building certain channels of distribution. The Company focused additional efforts on consumer direct loan originations through PurchaseExpress(R), a pre-approval program for home buyers. Now in its third year, loan originations under this program increased to $1.2 billion in 1996 (approximately 12% of total fundings), from $925 million and $275 million in 1995 and 1994, respectively. Early in 1996, the Company introduced a new product, a home equity line of credit marketed as EquityEdge(R). This product can be used to augment a first mortgage, enhancing a borrower's financial position by improving the loan-to-value ratio on the borrower's first mortgage and thereby eliminating the need for mortgage insurance, or eliminating the need for a higher interest "jumbo" first mortgage. EquityEdge(R) is also available as a stand-alone product, permitting homeowners to access the equity in their homes, while enjoying tax benefits that other forms of credit, such as credit cards, do not offer. Through December 31, 1996, the Company's EquityEdge(R) originations were $59.5 million. In November 1996, the Company began offering a miles-for-mortgage program marketed as HouseMiles(TM), which gives United's MILEAGE PLUS(R) members frequent flyer miles for taking out a mortgage with the Company. Borrowers meeting program requirements can earn 1,000 Mileage Plus miles for every $10,000 of loan amount on purchase and refinance loans, or a flat 2,500 miles for a qualifying home equity loan. Loan fundings under the HouseMiles(TM) program were approximately $4.7 million for November, 1996 and $10.6 million for December, 1996. Also in 1996, the Company entered the subprime lending market with B/CExpress(TM). This product offers a financing option to borrowers who have problems on their credit record. Using its national wholesale presence, local wholesale relationships and reputation for service to brokers, who are a key source of B/C business, the Company began originating B/C loans with a pilot program from seven existing wholesale branches in November 1996 and increased to fifteen branches in February 1997. The Company plans to complete the roll-out of the subprime product to 46 wholesale branches by the end of the first quarter, 1997. The Company's B/C originations increased from $145,000 in November 1996 to $7.6 million in February 1997. The Company's subprime program is conducted in conjunction with a subsidiary of ContiFinancial, a major securitizer of subprime products, which underwrites and purchases the Company's subprime products, as well as assists the Company in training its originators and loan processors. Thus, the Company assumes neither underwriting nor purchase risk with respect to subprime loans. The Company has participated in programs targeting low- to moderate-income and minority borrowers for a number of years. Such programs include mortgage revenue bonds, which the Company began in 1982, community seconds and mortgage credit certificates. In 1993, the Company launched a major initiative to expand its lending to low- to moderate-income borrowers under the name of Opening Doors for America. Under the program, the Company added low down payment, rehabilitation and rural housing loan products. In 1996, community lending products accounted for $2.6 billion, or 27% of the Company's loan originations. The Company's 203(k) product, Rehab Express(TM), accounted for $63 million of the Company's total 1996 originations, and earned the Company the ranking of fourth largest 203(k) originator in the nation. The FHA 203(k) product is intended to rehabilitate the nation's housing stock, particularly in the inner-city, by combining acquisition and rehabilitation financing all in one loan. Sale of Loans The Company customarily sells all of its mortgage loan originations to investors (generally retaining the servicing rights on such loans), utilizing several methods. Conventional loans meeting FNMA and FHLMC requirements ("Conforming Loans") are normally exchanged for FNMA and FHLMC securities, which are then sold to investment banking firms that are usually primary dealers in government securities. In connection with such exchanges, the Company pays guarantee fees for agency guarantees of payment of principal and interest to security holders. The Company also may sell conventional Conforming Loans directly to the agencies for cash or to private investors when pricing advantages dictate. Loans exceeding FNMA and FHLMC maximum loan size limits and other loans not conforming to agency requirements ("Non-Conforming Loans") are sold directly to private institutional investors. FHA insured or VA or FMHA guaranteed loans are pooled to form GNMA securities, issued by the Company, which are sold to investment banking firms. The Company's continued viability, as that of any independent mortgage banker, depends on its ability to sell loans to FNMA, FHLMC and GNMA. Exchanges of loans into agency securities and sales of loans are generally made without recourse to the Company in the event of default by the borrower, subject, in the case of VA loans used to form GNMA pools, to limitations on the VA's loan guarantees. See "Loan Servicing - Credit Risk." In connection with the Company's loan exchanges and sales, the Company makes representations and warranties customary in the industry relating to, among other things, compliance with laws, regulations and program standards and to accuracy of information. In the event of a breach of these representations and warranties, the Company may be required to repurchase such loans. Typically, problems with respect to repurchased loans are corrected and the loans are resold, or, if in default, the repurchased loans are foreclosed and the property is resold. In 1996, 1995 and 1994, the Company recognized a charge of approximately $4.7 million, $3.6 million and $2.4 million, respectively, with respect to potential losses arising from repurchases related to third party misrepresentations. See "Loan Servicing - Liability Under Representations and Warranties." Accounting for Mortgage Servicing Rights. In May 1995, the Financial Accounting Standards Board issued FAS No. 122, "Accounting for Mortgage Servicing Rights," an amendment to FAS No. 65. Effective January 1, 1995, the Company adopted FAS No. 122. Since FAS No. 122 prohibits retroactive application, the historical accounting results for 1994 and before have not been restated and, accordingly, the accounting results for the years ended December 31, 1996 and December 31, 1995, are not directly comparable to the year ended December 31, 1994. See "Management's Discussion and Analysis," 1996 Annual Report to Stockholders. Loan Funding and Borrowing Arrangements The Company's cash flow requirements primarily depend on both the level and cost of its loan originations, level of its servicing sales and the cash flow generated by, or required by, its other operating activities. Additionally, the Company may use or provide cash through its investing and other financing activities. The Company's loan originations are primarily financed through warehouse borrowings, commercial paper borrowings and with corporate funds. This financing requirement begins at the time of loan closing and extends for an average of approximately 30 days until the loan is sold into the secondary market. On January 23, 1996, the Company entered into a new warehouse line of credit facility which will expire on January 23, 1999. The Company's management expects, although there can be no assurance, that this facility will continue to be available in the future. The Company also has a $500 million commercial paper borrowing program. Borrowings under this program replace, at a reduced interest rate, borrowings under the Company's warehouse line of credit. The warehouse line of credit acts as the liquidity backup facility for the commercial paper borrowings. At times, the Company will accelerate the sale of its mortgage loan inventory through the use of "gestation" facilities provided by an investment bank and FNMA. The Company's corporate funds are generally invested in its inventory of mortgage loans held for sale. In October 1993, the Company authorized a $250 million medium-term note program. Loan Servicing Overview. The Company recognizes revenue from servicing rights either by collecting servicing fees during its ownership of the servicing rights or selling a portion of its servicing rights to other servicers, resulting in gains on sales of servicing. See "Servicing Sales." Mortgage loan servicing includes collecting payments from borrowers and remitting such funds to investors, accounting for loan principal and interest, making advances when required, holding escrow funds for the payment of taxes and insurance, contacting delinquent borrowers, foreclosing in the event of unremedied defaults and performing other administrative duties. A servicer's obligation to provide mortgage loan servicing and its right to collect fees are set forth in a servicing contract. The Company's primary source of servicing rights is from mortgage loans originated by the Company. The Company's loan servicing portfolio is subject to reduction by reason of normal amortization, prepayment, or foreclosure of outstanding loans. Additionally, the Company has in the past and is likely to in the future sell portions of its servicing portfolio. See "Servicing Sales" below. The value of the Company's loan servicing portfolio may be adversely affected if mortgage interest rates decline and loan prepayments increase. Conversely, as mortgage interest rates increase, the value of the Company's loan servicing portfolio may be positively affected. See "Management's Discussion and Analysis," 1996 Annual Report to Stockholders. The Company maintains servicing and data processing operations at its headquarters facility in Santa Rosa, California. In 1996, in order to reduce the Company's computer hardware and operational personnel costs, the Company entered into an agreement with an outside vendor under which the Company's servicing software is operated by the vendor on the computer hardware located in Dallas, Texas. The following table sets forth certain information regarding the owned servicing portfolio of the Company for the periods indicated:
Year Ended December 31, 1996 1995 1994 ---- ---- ---- (Dollars in Millions, Except Average Loan Size) Servicing Portfolio Beginning Portfolio................ $ 14,109 $ 14,836 $ 17,276 Add: Loans Originated................... 9,473 7,496 9,755 Deduct: Sale of Servicing Rights........... 8,246 6,679 9,853 Loans Transferred Out(1)........... 1 9 191 Run-off(2)......................... 2,042 1,535 2,151 ------- ------ ----- Ending Portfolio (3)(4)............ $ 13,293 $ 14,109 $ 14,836 ====== ====== ====== Number of Loans.................... 136,815 143,317 151,847 Average Loan Size.................. $ 97,000 $ 98,000 $ 98,000 Weighted Average Interest Rate....... 7.80% 7.73% 7.55%
- --------------- (1) Loans transferred out represent termination of servicing under agreements with investors. For 1996, loans transferred out were $.725 million. (2) Run-off refers to regular amortization of loans, prepayments and foreclosures. (3) Does not include servicing rights of $2.6 billion, $2.1 billion and $1.2 billion for the years ended December 31, 1996, 1995 and 1994, respectively, which were sold but were being sub-serviced by the Company prior to transfer. (4) Does not include $.3 million, $.3 million and $3 million for the years ended December 31, 1996, 1995 and 1994, respectively, of mortgage loans which the Company serviced under sub-servicing contracts with other companies that had primary servicing responsibility. At December 31, 1996, the Company's loan servicing portfolio totaled $13.3 billion, excluding servicing rights sold and sub-serviced by the Company prior to transfer. The following table sets forth certain information concerning the geographic distribution of the Company's loan servicing portfolio at December 31, 1996:
Percentage Percentage Dollar of Dollar Number of Total Volume Volume of Loans Loans of Loans of Loans State Serviced* Serviced Serviced* Serviced - ------------------------------------ ---------------- --------------- -------------- --------------- (in millions) California.................. 50,458 37% $5,223 39% Texas....................... 16,305 12 1,277 10 Maryland.................... 4,812 4 543 4 Hawaii...................... 3,139 2 499 4 Colorado.................... 5,049 4 499 4 Virginia.................... 3,953 3 436 3 Florida..................... 5,320 4 429 3 Arizona..................... 3,851 3 364 3 Minnesota................... 3,829 3 354 2 Oregon...................... 3,062 2 296 2 Other....................... 37,037 27 3,373 25 ------ -- ----- -- Total....................... 136,815 100%** $13,293 100%** ======= === ====== ===
- --------------- * Does not include $2.6 billion of loan servicing rights sold to others but temporarily being sub-serviced by the Company prior to transfer. ** Totals do not equal 100% due to rounding. Servicing. As compensation for providing servicing, the Company receives annual loan servicing fees on its servicing, ranging typically from .25% to .50% of the unpaid principal balance of the loan, plus any late charges collected from delinquent borrowers and other fees incidental to the services provided. The performance of the Company's servicing operation benefits from the limited number of investors (i.e., loan purchasers) with which it has servicing contracts and the generally high quality of the loans serviced. As of December 31, 1996, 75% of the loans serviced by the Company (not including the $2.6 billion of loan servicing rights sold to others but temporarily being sub-serviced by the Company prior to transfer as described in the footnote above) are concentrated with three investors (FNMA, FHLMC and GNMA). This concentration of investors reduces the costs associated with reporting to investors. The Company is an approved seller/servicer with VA, FHA, FMHA, FNMA, FHLMC and GNMA. Management believes the quality of loans that the Company originates and its collection efforts have historically resulted in low delinquency ratios for its servicing portfolio. Additionally, the average age of the loans in the Company's servicing portfolio is approximately two years. For loans held beyond the two year average, the Company has experienced higher delinquency percentages during the third through fifth years after origination. Although the Company's combined delinquency and foreclosure ratio remains low relative to the industry average of 5.40% as of December 31, 1995 and 5.65% as of December 31, 1996, the delinquency percentage of the Company's total servicing portfolio increased from 3.06% in 1995 to 3.58% in 1996 due in part to an increased number of delinquencies in loans with higher loan-to-value ratios. Mortgage loans with 80% or more loan-to-value ratios represented approximately 62.0% of the Company's loan origination volume in 1996, as compared to approximately 66.6% in 1995. The following table shows in detail the Company's recent delinquency statistics as of the dates indicated:
As of December 31, 1996 1995 1994 ------ ------ ------ Percentage Percentage Percentage of Total of Total of Total Total of Loans Total of Loans Total of Loans Loans* Serviced Loans* Serviced Loans* Serviced Loans Delinquent for: 30-59 days 3,248 2.06% 3,015 1.84% 2,287 1.41% 60-89 days 735 .47 611 .37 497 .31 90 days & over 604 .38 669 .42 635 .39 --- --- ----- ----- ----- ----- Total Delinquencies 4,587 2.91% 4,295 2.63% 3,419 2.10% Foreclosures Pending 1,061 .67 705 .43 537 .33 ----- --- --- ---- --- --- Total 5,648 3.58% 5,000 3.06% 3,956 2.43% ===== ===== ===== ==== ===== ====
- --------------- *Includes the $2.6 billion, $2.1 billion and $1.2 billion for the years ended December 31, 1996, 1995 and 1994, respectively, of loan servicing rights sold to others but temporarily being sub-serviced by the Company prior to transfer. Servicing Sales. In addition to the recognition of revenue from the collection of servicing fees during its ownership of the servicing rights, the Company recognizes revenue from the sale of a portion of its servicing rights to other servicers. Since 1985, the Company has obtained substantially all of its servicing rights through in-house origination sources (i.e., loans which are funded and closed by the Company). The Company has sold servicing rights generated by its own origination activities to fund the cost of expanding its origination network, to repay a substantial portion of its indebtedness and to build its working capital. Servicing rights were sold on loans having aggregate principal amounts of $8.2 billion during 1996, $6.7 billion during 1995, and $9.9 billion during 1994. All sales were made through a competitive bid process, except for approximately $2.6 billion, $2.9 billion and $3.2 billion sold during 1996, 1995 and 1994, respectively, under the terms of negotiated contracts. The principal balance of the Company's servicing portfolio was $13.3 billion and $14.1 billion at December 31, 1996, and December 31, 1995, respectively. Management continually evaluates the Company's investment in retained servicing rights and periodically makes decisions to sell servicing rights after considering the following criteria: cash requirements, market value for servicing rights compared with their economic value to the Company, exposure to prepayment risk and impact on earnings. The Company's decision to sell servicing rights and the timing of such sales may have a significant impact on the Company's future results of operations. While the market for servicing has been large and active, there can be no guarantee that such market conditions will continue. A decreased ability to sell servicing would affect the results of operations. See "Management's Discussion and Analysis," 1996 Annual Report to Stockholders. Credit Risk. The degree of credit risk of a servicing portfolio is largely dependent on the extent to which the servicing portfolio is non-recourse or recourse. In non-recourse servicing, the credit risk to the servicer is the cost of temporary advances of funds. In recourse servicing, the servicer agrees to assume the credit losses with respect to the loans it services for its investors, such as FNMA or FHLMC. Losses on recourse servicing occur primarily when foreclosure sale proceeds of the property underlying a defaulted mortgage loan are less than the sum of the outstanding principal balance of such mortgage loans, accrued interest, and the costs of holding and disposing of the underlying property. As of December 31, 1996, approximately $8.2 million, not including VA loans as described below, (.61% of the Company's servicing portfolio at such date) was subject to recourse provisions. The Company has a quality control program, which includes an additional review of selected loans in an effort to minimize the credit risk. The Company is required to advance from corporate funds, escrow and foreclosure costs for loans which it services. A portion of the advances is not recoverable for loans serviced for GNMA. In addition, under the VA's policy for VA-guaranteed mortgages for the GNMA program, the servicer may be responsible for credit losses which exceed the VA's guarantee limitations. The VA's loan guarantee is expressed as a percentage of the original loan amount ("guarantee amount") based upon the veteran's eligibility up to the maximum in effect at the time the loan is originated. The maximum guarantee payment amount is revised from time to time by the VA. At present, the VA guarantee limitations are generally 25% to 50% of the loan amount, up to a maximum amount ranging from $22,500 to $50,750. As of December 31, 1996 and 1995, a reserve for the unrecoverable advances and losses of approximately $852,000 and $798,000 has been established for GNMA loans in default. GNMA FHA/VA losses for the years ended December 31, 1996, 1995 and 1994, were $1,444,000, $949,000 and $572,000, respectively. Upon foreclosure, an FHA/VA property is typically conveyed to HUD or VA. However, when it is in the VA's financial interest, VA has authority to deny conveyance of the foreclosed property to the VA ("VA no-bid"). Instead, the VA pays the guarantee amount described above, the foreclosed property is conveyed to the Company and the Company assumes the market risk of disposing of the property. GNMA VA no-bid losses, which are included in the GNMA FHA/VA losses noted above, were approximately $1,270,000 and $685,000 during 1996 and 1995, respectively. With respect to foreclosed FHA loans, prior to conveying title to HUD, the Company is required to return the property to a habitable condition. The cost of returning the property to a habitable condition is not recoverable from HUD. The related reserve for unrecoverable advances and losses on FHA/VA loans in default for potential no-bid losses as of December 31, 1996 and 1995 is included in the reserve for unrecoverable advances described above. In January 1996, the Company installed a servicing software system which utilizes artificial intelligence and scoring to assist the Company in identifying those borrowers most likely to default on their mortgages. This enables the Company's servicing personnel to contact such borrowers early on, and potentially prevent the occurrence of a foreclosure proceeding. Also in 1996, to realize the benefits of new software developments, and to meet investor needs for quantitative underwriting analysis, the Company chose to implement an automated underwriting system. The system analyzes risk factors in borrower characteristics, credit information, loan profile characteristics and geo-demographic information. Liability Under Representations and Warranties. In the ordinary course of business, the Company has potential liability under representations and warranties made to purchasers and insurers of mortgage loans and the purchasers of servicing rights. Under certain circumstances, the Company may become liable for the unpaid principal and interest on defaulted loans (whether recourse or non-recourse) if there has been a breach of representations or warranties. In this case, the Company may be required to repurchase such mortgage loan, with any subsequent loss on the mortgage loan being borne by the Company. In 1996, 1995 and 1994, the Company recognized a charge of approximately $4.7 million, $3.6 million and $2.4 million, respectively, with respect to potential losses arising from repurchases related to third party misrepresentations. Termination. Servicing rights represent a contractual right and not a beneficial ownership interest in the underlying mortgage loans. Failure to service the loans in accordance with contract requirements may lead to a termination of the servicing rights without the payment of any compensation. There have been no terminations of servicing rights by investors because of the Company's failure to service in accordance with its contractual obligations. Other Business Activities The Company's wholly-owned insurance agency subsidiary, North American Mortgage Insurance Services ("North American Mortgage Insurance"), markets life, disability, accidental death, mortgage, homeowners, auto and earthquake coverage, singularly or in some combination, in 20 states and the District of Columbia. Its principal market is in California. Additionally, North American Mortgage Insurance markets group life, group disability and group accidental death to its mortgagors in several of the states where the Company services mortgages. Sales are made through face-to-face meetings with potential customers, telemarketing campaigns or direct mailings. For its services, North American Mortgage Insurance collects a percentage of the insurance premiums as a commission. To date, North American Mortgage Insurance's income has not been material to the Company. In November 1996, North American Mortgage Insurance purchased substantially all of the operating assets of Lomas Insurance Services, Inc. ("Lomas"). The most significant assets acquired from Lomas were over 50,000 insurance policies insuring property and casualty risks in 50 states. This acquisition expanded the agency's market position for personal lines insurance sales, particularly in the Southwest and Eastern regions of the country, providing the agency with a stronger market presence and access to additional high quality insurance products for all of its markets. Forward-Looking Statements The Company may from time to time make oral forward-looking statements. In connection with the "safe harbor" provisions of the Private Securities Litigation Reform Act of 1995, the Company is hereby identifying certain important factors that could cause actual results to differ materially from those contained in any forward-looking statement made by or on behalf of the Company. Any such statement which refers to this caption is qualified by reference to the following cautionary statements. The volume of the Company's loan production is subject to an increase or decrease in interest rates, an increase or decrease in price and/or product competition, the Company's inability to build retail production as planned, major new competitors entering the market, significant new products marketed by competitors, development of new high-volume distribution channels, and introduction of subprime products by the Company found to be more difficult than contemplated. The profitability of the Company's loan production is subject to an increase or decrease in loan volume, an increase in price competition, the narrowing of margins in the subprime market, structural dislocations in the securities market for prime and subprime mortgage-backed securities, a decrease in the market value for servicing and excess servicing, increased levels of repurchase requests from lenders, high bond market volatility, an increase in the cost of funds, production expenses related to the subprime introduction which exceed projections and the Company's overall financial viability. The Company's ability to enlarge its servicing portfolio is subject to increased servicing sales, lower than projected production, a decrease in interest rates and other factors leading to an increase in prepayments. Developments in any of these areas or in risk factors described in the sections entitled "National Presence", "Sale of Loans", "Loan Funding and Borrowing Arrangements", "Loan Servicing", "Servicing Sales," and "Regulations" could cause the Company's results to differ materially from results that have been or may be projected by or on behalf of the Company. The Company cautions that the foregoing list of important factors is not exclusive. The Company does not undertake to update any forward-looking statement that may be made from time to time by or on behalf of the Company. Competition The business of mortgage banking is highly competitive and fragmented. The Company competes with other financial institutions, such as mortgage bankers, state and national commercial banks, savings and loan associations, credit unions and insurance companies for loan originations. As of December 31, 1996, the Company's largest loan origination markets were in California, Texas, Minnesota, Florida and Arizona where many of the nation's largest banks and savings and loans operate. The market shares of the Company and its competitors are generally small. The Company believes, however, that there is a trend toward consolidation of the originations market. For example, based on an industry publication, the combined market share of the top five mortgage originators increased from 9.3% in 1991, to 17.0% in 1995 and to 20.0% in 1996. The Company competes by providing a variety of products, reasonable pricing, motivating its sales force through incentive compensation based on volume of loan origination and by providing high-quality service to borrowers, builders, real estate agents and brokers and mortgage brokers. During 1996 and 1995, competition for mortgage loans remained intense due to industry overcapacity. The competition was largely led by major banks, who were aggressively trying to increase market share. Additionally, the Company encountered intense price competition for loans sourced through wholesale brokers, which, in the opinion of management, signals that a secular change has taken place in the pricing structure for the wholesale origination channel. See "Management's Discussion and Analysis," 1996 Annual Report to Stockholders. Regulation Mortgage banking is a highly regulated industry. The Company is subject to the rules and regulations of, and examinations by, the Department of Housing and Urban Development, FNMA, FHLMC, VA, GNMA and state regulatory authorities with respect to originating, processing, underwriting, making, selling, securitizing and servicing residential mortgage loans. In addition, there are other federal and state statutes and regulations affecting such activities. These rules and regulations, among other things, impose licensing obligations on the Company, establish eligibility criteria for mortgage loans, prohibit discrimination, provide for inspection and appraisals of properties, require credit reports on prospective borrowers, regulate payment features and, in some cases, fix maximum interest rates, fees and loan amounts. FHA lenders such as the Company are required annually to submit to the Federal Housing Commissioner and some states audited financial statements, and FNMA, FHLMC, GNMA and FHA require the maintenance of specified net worth levels. The Company's affairs are also subject to examination by the Federal Housing Commissioner at all times to assure compliance with FHA regulations, policies and procedures. Among other federal consumer credit laws, mortgage origination activities are subject to the Equal Credit Opportunity Act, Truth In Lending Act, Real Estate Settlement Procedures Act, the Fair Housing Act, the Home Mortgage Disclosure Act, as well as the regulations promulgated thereunder. These laws prohibit discrimination, kickbacks and referral fees, and require the disclosure of certain information to borrowers concerning credit and settlement costs. Many of the regulatory requirements are designed to protect the interests of consumers, while others protect the owners or insurers of mortgage loans. Failure to comply with these requirements can lead to loss of approved status, termination of servicing contracts without compensation to the servicer, demands for indemnification or loan repurchases, class action lawsuits and administrative enforcement actions, which may involve civil money penalties and, in some instances, treble damages. Although the Company believes that it is in compliance in all material respects with applicable Federal state laws, rules and regulations, the requirements to which the Company is subject often are ambiguous and subject to differing interpretations. There can be no assurance that more restrictive laws, rules and regulations will not be adopted in the future or that existing laws, rules and regulations, or the provisions of the mortgage loan documents with mortgagors, will not be interpreted in a more restrictive manner, which could make compliance more difficult or expensive, restrict the Company's ability to originate, purchase, sell, or service mortgage loans, further limit or restrict the amount of interest and other charges earned from loans originated, purchased or serviced by the Company, expose the Company to claims by mortgagors and administrative enforcement actions, or otherwise adversely affect the business, financial condition or prospects of the Company. Certain conventional mortgage loans are subject to state usury statutes. Federally-related first-lien mortgage loans are exempt from the effect of such statutes. Despite federal exemption of state usury limits, the Company must comply with usury statutes in those states that have opted out of the preemption. Various state laws affect the Company's mortgage banking operations. The Company is licensed to do business in those states where the Company's operations require such licensing. North American Mortgage Insurance is subject to the rules and regulations of the insurance regulatory agencies of the states in which it operates. Employees As of February 28, 1997, the business of the Company was conducted by approximately 2,918 employees. None of these employees is represented by a bargaining agent. The Company believes that its relations with employees are satisfactory. Corporate Background The predecessor of the Company was founded in Santa Rosa, California in 1948 as Sonoma Mortgage Company, which operated as a residential mortgage banker in Northern California until 1968, when it was sold to Wells Fargo Bank, N.A. and was operated as Wells Fargo Mortgage Company ("WFMC"). In 1985, IMCO Realty Services - a California Limited Partnership, (the "Partnership") acquired WFMC's residential mortgage lending division. The Company was incorporated in Delaware on February 8, 1991. In July 1992, the Company acquired the business of the Partnership as part of a reorganization (the "Reorganization") of the Partnership into corporate form and completed an initial public offering of its Common Stock. Prior to the acquisition, the Company had no business operations. As a result of the Reorganization, the Company acquired the business of the Partnership. ITEM 2. PROPERTIES The Company owns a 110,000 square foot office building in Santa Rosa, California that houses its corporate headquarters, marketing and other administrative departments of the Company and from which it conducts its loan servicing business. As of February 28, 1997, the Company operated 106 branch offices located in 31 states through which the Company conducts its retail, wholesale and telemarketing loan origination business. See "Mortgage Loan Originations - National Presence." The Company also occupies other office space for regional offices, satellite offices, records management, inventory control, telemarketing and for use by North American Mortgage Insurance Services. All of such offices, aggregating approximately 610,053 square feet of premises, are leased. None of the leases has a term of more than five years. The Company seeks to include options to renew in each lease and the right to early termination upon payment to the lessor of the unamortized portion of tenant improvement costs and leasing commissions. Generally, the Company's leases are net leases under which the Company is obligated to pay, in addition to base rent, a pro-rata portion of increases in the lessor's operating costs above those incurred for a base year. The aggregate annual base rental of all leased offices was approximately $10.8 million for the year ended December 31, 1996. Management of the Company believes that its facilities are adequate for its operations. ITEM 3. LEGAL PROCEEDINGS The Company is a defendant in certain litigation arising in the normal course of its business. Although the ultimate outcome of all pending litigation cannot be precisely determined at this time, the Company believes that any liability resulting from the aggregate amount of damages for outstanding lawsuits and claims will not have a material adverse effect on its financial position. ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS None. EXECUTIVE OFFICERS OF THE REGISTRANT The Company's executive officers and their ages are as follows: Name Position Age John F. Farrell, Jr. Chairman of the Board, Chief Executive Officer 59 and Director Terrance G. Hodel President, Chief Operating Officer 54 and Director Harold B. Bonnikson Executive Vice President, Manager of 42 Residential Production Michael G. Conway Executive Vice President, Manager of Secondary 48 Marketing and Credit Risk Management Robert J. Gallagher Executive Vice President, Manager of Planning 40 and Business Development Martin S. Hughes Executive Vice President, Chief Financial Officer 39 and Treasurer Gary F. Moore Executive Vice President, Manager of Information 46 Technology, Human Resources and Training Robert A. Rosen Executive Vice President, Manager of 46 Loan Administration All executive officers hold office at the pleasure of the Board of Directors. There is no family relationship between any of the directors or executive officers. John F. Farrell, Jr. has been Chairman of the Board, Chief Executive Officer and Director of the Company and the General Partner since 1985. Mr. Farrell practiced corporate law in New York City for six years and then joined Merrill Lynch in its investment banking division. He was a partner of Oppenheimer & Co. from 1971 to 1981. Since 1981, Mr. Farrell has been an investor involved in the purchase and management of various companies. He presently is a director of Automatic Service Company, a food services and vending company, and also a member of the Board of Trustees of Boston College and the Kennedy Library Foundation. He holds a B.S. and M.S. from New York University and an L.L.M. and L.L.B. from New York University Law School. Terrance G. Hodel has been President, Chief Operating Officer and Director of the Company and the General Partner since 1985. He joined Wells Fargo Mortgage Company in 1979 as President and Chief Executive Officer. Prior thereto, from 1975 to 1979, Mr. Hodel held the positions of Executive Vice President of Sutro Mortgage Investment Trust and Senior Vice President of Ralph C. Sutro Company. From 1972 to 1975, Mr. Hodel served as Vice President of Ralph C. Sutro Company. Mr. Hodel was a member of the National Advisory Council of FNMA from 1991 to 1994. He has been a member of the Board of Trustees of the Mortgage Bankers Association of America since 1992 and a member of the Board of Directors of the California Mortgage Bankers Association since 1991. Mr. Hodel received an M.B.A. from Stanford University and a B.A. from Pomona College. Harold B. Bonnikson has served as Executive Vice President and Manager of Residential Production of the Company since November 1995. From April 1995 to October 1995, he served as Manager of the Southern California and Telemarketing Regions. Prior thereto, Mr. Bonnikson served as Executive Vice President, Manager of Telemarketing, Product Development and Advertising from October 1992 to April 1995. From the commencement of the Company's operations to October 1992, Mr. Bonnikson was Senior Vice President and Manager, Telemarketing Loan Production. Mr. Bonnikson served as Senior Vice President and Manager, Telemarketing Loan Production of the General Partner from 1989 to July 1992. In 1981 he joined Wells Fargo Mortgage Company. Mr. Bonnikson was employed as a Certified Public Accountant at Peat, Marwick, Mitchell & Co. from 1978 to 1981. In 1996, he became a member of the Board of Directors of CPT, Inc. Mr Bonnikson received a B.A. in Business Administration from California State University, Sacramento. Michael G. Conway has been Executive Vice President and Manager of Secondary Marketing, and Credit Risk Management of the Company since October 1992. From the commencement of the Company's operations to October 1992, Mr. Conway was Senior Vice President and Manager, Secondary Marketing and Operations. Mr. Conway served as Senior Vice President and Manager, Secondary Marketing and Operations of the General Partner from 1985 to July 1992. Prior to joining Wells Fargo Mortgage Company in 1984, Mr. Conway was Executive Vice President of Pioneer Mortgage Company from 1983 to 1984. From 1975 to 1983, he was employed at Dade Savings Mortgage Corporation where he became Executive Vice President and Chief Operating Officer in 1981. Mr. Conway received a B.S. in Civil Engineering from the University of California at Davis and an M.B.A. from the University of California at Los Angeles. Robert J. Gallagher has served as Executive Vice President and Manager of Planning and Business Development of the Company since January 1997 and as Chief Administrative Officer since October 1992. From the commencement of the Company's operations to October 1992, Mr. Gallagher was Senior Vice President and Chief Financial Officer. He served as Senior Vice President and Chief Financial Officer of the General Partner from 1987 to July 1992. Prior to joining Wells Fargo Mortgage Company in 1984, he was Controller of Westnet Group, a stock brokerage and financial services joint venture involving Wells Fargo Bank, United Banks of Colorado, Valley National Bank of Arizona and Bank of Hawaii. From 1980 to 1982 Mr. Gallagher was the Controller for Letterman Transaction Services, a stock brokerage investment company. From 1978 to 1980, he was employed by Peat Marwick Mitchell & Co. In 1994, he became a member of the Board of Directors of Interlinq. Mr. Gallagher is a Certified Public Accountant and received his B.A. in Economics from the University of California at Santa Barbara. Martin S. Hughes has served as Executive Vice President, Chief Financial Officer and Treasurer of the Company since October 1992. From the commencement of the Company's operations to October 1992, Mr. Hughes was a Vice President of the Company. Prior thereto, Mr. Hughes served as a Vice President of the General Partner from September 1989 to July 1992 and from January 1984 to July 1992, he held executive positions with various companies. Mr. Hughes was controller of BTK Industries from 1984 to 1985. Subsequently, he served as a Vice President and Chief Financial Officer of Walls Holding Company from 1985 to 1989, of L-TEC Company from 1987 to 1988, and Shirley of Atlanta, Inc. from 1989 to 1990. In addition, Mr. Hughes was a Vice President of Brown Jordan Company from 1987 to 1988. Mr. Hughes is a Certified Public Accountant and received his B.S. in Accounting from Villanova University. Gary F. Moore has served as Executive Vice President, Manager of Information Technology, Human Resources and Training, since October, 1996. From April, 1994 to October, 1996, he was Senior Vice President, Manager of Information Technology for the Company. From 1977 to 1994, Mr. Moore held various positions with Electronic Data Systems Corp. (EDS), including Account Executive, Customer Support, Programmer, and Business Partner. EDS is one of the world's largest suppliers of technology integration services. Mr. Moore currently serves as Vice Chairman of the Technology Committee of the Mortgage Bankers Association of America. Mr. Moore received a B.S. from the United States Military Academy. Robert A. Rosen has served as Executive Vice President, Manager of Loan Administration, since February, 1994. From October, 1992 to February, 1994, he was Senior Vice President, Loan Administration, and from June, 1991 to October, 1992, he was Vice President, Loan Administration, for the Company. From 1985 to 1991, Mr. Rosen was Vice President and Controller, Loan Administration, with Imperial Corporation of America. From 1972 to 1985, Mr. Rosen held various positions, including Vice President, with Dime Savings Bank of New York. Mr. Rosen received a Bachelor of Business Administration, Banking and Finance from Hofstra University. PART II ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS The Company's Common Stock is listed on the New York Stock Exchange ("NYSE") (Symbol: "NAC"). The following table sets forth the high and low sale prices (as reported by the NYSE) for the Company's Common Stock.
Sale Price 1996 1995 ---- ---- High Low High Low ---- --- ---- --- First Quarter............... $26.250 $19.375 $18.125 $14.500 Second Quarter.............. $21.000 $15.375 $25.875 $17.125 Third Quarter............... $19.375 $14.750 $26.000 $20.000 Fourth Quarter.............. $23.125 $19.750 $25.375 $20.250
As of March 12, 1997, the latest practicable date, the closing price of the Company's Common Stock on the New York Stock Exchange, as reported in The Wall Street Journal, was $21.875 per share. The Company paid a cash dividend of $.06 per share of Common Stock on March 8, 1995, May 22, 1995, August 15, 1995, November 15, 1995, March 4, 1996, May 31, 1996, August 15, 1996, November 15, 1996 and March 4, 1997. The Certificate of Incorporation and Bylaws of the Company do not state any dividend policy or establish any distribution requirements. The Company's ability to pay dividends depends upon restrictions contained in Delaware corporation law and in its credit agreements. The Company's credit agreements do not permit the aggregate of (a) all cash dividends declared or paid upon shares of its stock, and any other distribution of assets to its stockholders, whether in cash, property or securities plus (b) the cost of all purchases, acquisitions, redemptions or retirements of any shares of the Company's capital stock in any fiscal quarter, when added to the cost to the Company of all other such dividends and costs during such fiscal quarter and the immediately preceding three fiscal quarters, to exceed $35,000,000 during such fiscal quarter and the immediately preceding three fiscal quarters. There can be no assurance that any dividends will be paid. The Company's dividend policy will depend on the financial condition and results of operations of the Company, its cash needs and other factors deemed relevant by the Board of Directors, and will be subject to re-evaluation by the Board of Directors of the Company on a continuing basis. As of March 12, 1997, there were 974 stockholders of record of the Company's Common Stock. ITEM 6. SELECTED FINANCIAL DATA The information set forth under the caption, "Selected Financial Data" which appears on page 19 of the Company's 1996 Annual Report to Stockholders is incorporated herein by reference. ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The information set forth under the caption, "Management's Discussion and Analysis" which appears on pages 20 through 28 of the Company's 1996 Annual Report to Stockholders is incorporated herein by reference. ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA The consolidated financial statements, together with the report therein of Ernst & Young LLP dated January 31, 1997 and the Supplemental Pro Forma Financial Data, appearing on pages 29 through 33 of the Company's 1996 Annual Report to Stockholders are incorporated herein by reference. ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE Not Applicable. PART III ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT The information required by this Item 10 hereby is incorporated by reference from the information set forth under the caption "Election of Directors" in the Company's definitive proxy statement for the 1997 Annual Meeting of Stockholders to be filed pursuant to Regulation 14A within 120 days after the end of the registrant's fiscal year and from the information set forth under the caption "Executive Officers of the Registrant" appearing on pages 22 through 24 of this report. ITEM 11. EXECUTIVE COMPENSATION The information required by this Item 11 hereby is incorporated by reference from the information as set forth under the caption "Executive Compensation" in the Company's definitive proxy statement for the 1997 Annual Meeting of Stockholders to be filed pursuant to Regulation 14A within 120 days after the end of the registrant's fiscal year. ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT The information required by this Item 12 hereby is incorporated by reference from the information set forth under the captions "Security Ownership of Management" and "Security Ownership of Certain Beneficial Owners" in the Company's definitive proxy statement for the 1997 Annual Meeting of Stockholders to be filed pursuant to Regulation 14A within 120 days after the end of the registrant's fiscal year. ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS The information required by this Item 13 hereby is incorporated by reference from the information set forth under the captions "Certain Transactions" and "Executive Compensation" in the Company's definitive proxy statement for the 1997 Annual Meeting of Stockholders to be filed pursuant to Regulation 14A within 120 days after the end of the registrant's fiscal year. PART IV ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K (a) Financial Statements and Financial Statement Schedules: The following documents are filed as part of this report: Page in Annual Report1 1. Consolidated Financial Statements: Report of Independent Auditors 29 Consolidated Balance Sheets at December 31, 1996 and December 31, 1995 30 Consolidated Statements of Operations for the three years ended December 31, 1996, 1995 and 1994 31 Consolidated Statement of Stockholders' Equity for the three years ended December 31, 1996, 1995 and 1994 32 Consolidated Statements of Cash Flows for the three years ended December 31, 1996, 1995 and 1994 33 Notes to Consolidated Financial Statements 34 Page in This Report 2. Consolidated Financial Statement Schedules: Report of Independent Auditors on Financial Statement Schedules for the three years ended December 31, 1996, 1995 and 1994 36 VIII--Valuation and Qualifying Accounts 37 All other schedules are omitted because they are not applicable or the required information is shown in the financial statements or notes thereto. - -------- 1Incorporated by reference from the indicated pages of the Company's 1996 Annual Report to Stockholders. Exhibit Number Description - ------ ----------- 3.1 Certificate of Incorporation of the Company (Exhibit 3.1(5)) 3.2 Amended and Restated Certificate of Incorporation of the Company (Exhibit 3.2 (5)) 3.3 Certificate of Amendment dated April 1, 1992 to Amended and Restated Certificate of Incorporation of the Company (Exhibit 3.3(5)) 3.4 Certificate of Designation of Preferences and Rights of Series A Convertible Preferred Stock of the Company filed July 13, 1992 (Exhibit 3.4(5)) 3.5 Certificate of Merger dated July 16, 1992 of NAMC Sub I, Inc. into the Company (Exhibit 3.5(5)) 3.6 Certificate of Designation of Preferences and Rights of Series A Cumulative Preferred Stock of the Company filed November 6, 1992 (Exhibit 3.6(5)) 3.7 Amended and Restated By-Laws of the Company 4.1 Specimen Common Stock Certificate of the Company (Exhibit 4.1(2)) 4.2 Specimen Class A Convertible Preferred Stock Certificate of the Company (Exhibit 4.4(3)) 4.3 Certificate of Designation of Preferences and Rights of Series A Convertible Preferred Stock of the Company filed July 13, 1992 (See Exhibit 3.4) 4.4 Certificate of Designation of Preferences and Rights of Series A Cumulative Preferred Stock of the Company filed November 6, 1992 (See Exhibit 3.6) 4.5 Shareholder Rights Agreement, dated as of October 19, 1992 between the Company and The Bank of New York, as Rights Agent (Exhibit 4(4)) 4.6 Form of Commercial Paper Note of the Company (Exhibit 4.3(9)) 4.7 Form of Indenture between the Company and IBJ Schroder Bank & Trust Company, as Trustee (Exhibit 4.1(7)) 4.8 Form of Medium-Term Note, Series A (Fixed Rate) of the Company (Exhibit 4.2 (8)) 4.9 Form of Medium-Term Note, Series A (Floating Rate) of the Company (Exhibit 4.3(8)) 10.1 Master Agreement dated October 22, 1992 between Federal National Mortgage Association and the Company, as amended (Exhibit 10.4(5)) 10.2+ North American Mortgage Company Supplemental Executive Retirement Plan (Exhibit 10.16(5)) 10.3+ Form of Letter Agreement regarding Grant of Non-qualified Stock Options dated February 1, 1993 (Exhibit 10.19(5)) 10.4 Letters of approval to IMCO Realty Services -- a California Limited Partnership*, from Federal National Mortgage Association, Federal Home Loan Mortgage Corporation, Government National Mortgage Association, Veterans Administration and Department of Housing and Urban Development (Exhibit 10.26(1)) - --------------- +This exhibit constitutes a management contract, compensatory plan or arrangement. *Predecessor of the Company 10.5 Priority Forward Commitment dated April 30, 1993 between Residential Funding Corporation and the Company (Exhibit 10.58(6)) 10.6 Servicing Rights Purchase Agreement dated March 31, 1993 between the Company and GE Capital Mortgage Services, Inc. (Exhibit 10.59(6)) 10.7 Commercial Paper Dealer Agreement dated October 6, 1993 between Morgan Stanley & Co. Incorporated and the Company (Exhibit 10.62(9)) 10.8.1 First Amendment to Master Agreement dated December 17, 1992 between Federal National Mortgage Association and the Company (Exhibit 10.64.1(9)) 10.8.2 Second Amendment to Master Agreement dated March 25, 1993 between Federal National Mortgage Association and the Company (Exhibit 10.64.2(9)) 10.8.3 Third Amendment to Master Agreement dated March 18, 1993 between Federal National Mortgage Association and the Company (Exhibit 10.64.3(9)) 10.8.4 Fourth Amendment to Master Agreement dated April 28, 1993 between Federal National Mortgage Association and the Company (Exhibit 10.64.4(9)) 10.8.5 Fifth Amendment to Master Agreement dated May 17, 1993 between Federal National Mortgage Association and the Company (Exhibit 10.64.5(9)) 10.8.6 Sixth Amendment to Master Agreement dated June 11, 1993 between Federal National Mortgage Association and the Company (Exhibit 10.64.6(9)) 10.8.7 Seventh Amendment to Master Agreement dated July 8, 1993 between Federal National Mortgage Association and the Company (Exhibit 10.64.7(9)) 10.8.8 Eighth Amendment to Master Agreement dated August 16, 1993 between Federal National Mortgage Association and the Company (Exhibit 10.64.8(9)) 10.8.9 Ninth Amendment to Master Agreement dated September 2, 1993 between Federal National Mortgage Association and the Company (Exhibit 10.64.9(9)) 10.8.10 Tenth Amendment to Master Agreement dated September 3, 1993 between Federal National Mortgage Association and the Company (Exhibit 10.64.10 (9)) 10.9 As Soon As Pooled/Early Purchase Option Agreement dated August 12, 1993 between Federal National Mortgage Association and the Company (Exhibit 10.65(9)) 10.10 Mandatory Commitment Letter Agreement dated November 11, 1993 between The Prudential Home Mortgage Company, Inc. and the Company (Exhibit 10.29(10)) 10.11 Standby Commitment Contract dated December 9, 1993 between GE Capital Mortgage Services, Inc. and the Company (Exhibit 10.30(10)) 10.12 Agreement for Purchase and Sale of Servicing dated as of December 24, 1993 between BancBoston Mortgage Corporation and the Company (Exhibit 10.32(10)) 10.13.1 Eleventh Amendment to Master Agreement dated November 15, 1993 between Federal National Mortgage Association and the Company (Exhibit 10.33.1(10)) 10.13.2 Twelfth Amendment to Master Agreement dated November 24, 1993 between Federal National Mortgage Association and the Company (Exhibit 10.33.2(10)) 10.13.3 Thirteenth Amendment to Master Agreement dated December 22, 1993 between Federal National Mortgage Association and the Company (Exhibit 10.33.3(10)) 10.14 Renewal of Master Agreement dated as of December 22, 1993 between the Federal Home Loan Mortgage Corporation and the Company (Exhibit 10.34(10)) 10.15 Administrative Procedures for Deferral Elections for the North American Mortgage Company 1994 Deferred Compensation Program for Executive Vice Presidents, the President and the Chief Executive Officer (Exhibit 10.36(10)) 10.16 Deferred Compensation Program and Administrative Procedures for Deferral Elections (Exhibit 10.37(10)) 10.17 Master Agreement dated March 31, 1994 between Federal National Mortgage Association and the Company (Exhibit 10.41(11)) 10.18 Renewal of Master Agreement dated March 31, 1994 between Federal Home Loan Mortgage Corporation and the Company (Exhibit 10.42(11)) 10.19 First through Fourth Amendments to Master Agreement dated March 31, 1994, between Federal National Mortgage Association and the Company (Exhibit 10.45(12)) 10.20+ Form of Letter Agreement regarding Grant of Qualified Stock Options dated April 29, 1994 and Schedule of Option Agreements with Executive Officers (Exhibit 10.32(13)) 10.21+ Termination Agreement between John F. Farrell, Jr. and the Company dated February 6, 1995 (Exhibit 10.34(13)) 10.22+ Termination Agreement between Terrance G. Hodel and the Company dated February 6, 1995 (Exhibit 10.35(13)) 10.23+ Form of Termination Agreement for Executive Officers, other than the Chief Executive Officer and the President, and Schedule of Termination Agreements with Executive Officers (Exhibit 10.36(13)) 10.24+ Form of Letter Agreement regarding Grant of Qualified Stock Options dated February 22, 1995 and Schedule of Agreements with Executive Officers (Exhibit 10.37(13)) 10.25+ North American Mortgage Company Incentive Stock Option Plan, as amended (Exhibit 10.38(13)) 10.26.1 Fifth Amendment to Master Agreement dated December 8, 1994, between Federal National Mortgage Association and the Company (Exhibit 10.39.1(13)) 10.26.2 Sixth Amendment to Master Agreement dated January 31, 1995, between Federal National Mortgage Association and the Company (Exhibit 10.39.2(13)) 10.26.3 Seventh Amendment to Master Agreement dated March 7, 1995, between Federal National Mortgage Association and the Company (Exhibit 10.39.3(13)) 10.26.4 Eighth Amendment to Master Agreement dated March 22, 1995, between Federal National Mortgage Association and the Company (Exhibit 10.39.4(13)) 10.27 Commercial Paper Dealer Agreement dated as of February 15, 1995 between the Company and Chase Securities, Inc. (Exhibit 10.42(13)) 10.28 Third Amendment to Pool Purchase Contract between Federal National Mortgage Association and the Company (Exhibit 10.44(14)) - --------------- +This exhibit constitutes a management contract, compensatory plan or arrangement. 10.29 Renewal of Master Agreement dated as of March 23, 1995 between Federal National Mortgage Association and the Company (Exhibit 10.45(14)) 10.30 Master Agreement dated April 17, 1995 between Federal National Mortgage Association and the Company (Exhibit 10.46(15)) 10.31 Amendment No. One to Master Agreement dated April 17, 1995 between Federal National Mortgage Association and the Company (Exhibit 10.47(15)) 10.32 Amendment No. Two to Master Agreement dated April 17, 1995 between Federal National Mortgage Association and the Company (Exhibit 10.48(15)) 10.33 Amendment No. Three to Master Agreement dated April 17, 1995 between Federal National Mortgage Association and the Company (Exhibit 10.49(15)) 10.34 Consolidated Second Amended and Restated Revolving Credit Agreement dated as of January 23, 1996 by and among the Company and The First National Bank of Chicago, as administrative agent, and certain other parties identified therein (Exhibit 10.37(16)) 10.35 Renewal of Master Agreement dated as of March 23, 1996 between Federal Home Loan Mortgage Corporation and the Company (Exhibit 10.38(16)) 10.36+ Form of Letter Agreement regarding Grant of Qualified Stock Options dated February 14, 1996 and Schedule of Agreements with Executive Officers (Exhibit 10.39(16)) 10.37+ North American Mortgage Company Deferred Base Salary or Bonus Program (Exhibit 10.40(16)) 10.38+ National Union Fire Insurance Company of Pittsburgh, PA.(R) Directors and Officers Insurance and Company Reimbursement Policy (Exhibit 10.41(16)) 10.39+ Chubb Group of Insurance Companies Directors and Officers Liability and Reimbursement Excess Policy (Exhibit 10.42(16)) 10.40 Master Agreement dated as of April 4, 1996, between Federal National Mortgage Association and the Company (Exhibit 10.43(17)) 10.41 Master Commitment Amendment dated May 31, 1996 between Federal Home Loan Mortgage Corporation and the Company (Exhibit 10.44(18)) 10.42 Master Commitment Amendment dated July 23, 1996 between Federal Home Loan Mortgage Corporation and the Company (Exhibit 10.45(18)) 10.43 American International Companies Directors, Officers and Corporate Insurance Policy (Exhibit 10.46(19)) 10.44 Chubb Group of Insurance Companies Directors and Officers Liability and Reimbursement Excess Policy (Exhibit 10.47(19)) 10.45+ Senior Executive Severance Pay Plan of North American Mortgage Company 11 Statement re Computation of Per Share Earnings 13 1996 Annual Report to Stockholders 21 Subsidiaries of the Registrant 23 Consent of Independent Auditors 27 Financial Data Schedule - --------------- +This exhibit constitutes a management contract, compensatory plan or arrangement. (1) Incorporated by reference to designated exhibit to the Company's Registration Statement on Form S-4, filed under Registration No. 33-44681 on December 23, 1991. (2) Incorporated by reference to designated exhibit to the Company's Registration Statement on Form S-1 and Amendment No. 1 thereto, filed under Registration No. 33-44680 on February 12, 1992. (3) Incorporated by reference to designated exhibit to the Company's Registration Statement on Form S-4 and Amendment No. 2 thereto, filed under Registration No. 33-44681 on February 26, 1992. (4) Incorporated by reference to designated exhibit to the Company's Current Report on Form 8- K filed under Commission File No. 1-11017 on November 6, 1992. (5) Incorporated by reference to designated exhibit or schedule to the Company's Annual Report on Form 10-K filed under Commission File No. 1-11017 on March 30, 1993. (6) Incorporated by reference to designated exhibit to the Company's Quarterly Report on Form 10-Q filed under Commission File No. 1-11017 on May 14, 1993. (7) Incorporated by reference to designated exhibit to the Company's Registration Statement on Form S-3, filed under Registration No. 33-69318 on September 23, 1993. (8) Incorporated by reference to designated exhibit to the Company's Current Report on Form 8- K filed under Commission File No. 1-11017 on October 25, 1992. (9) Incorporated by reference to designated exhibit to the Company's Quarterly Report on Form 10-Q filed under Commission File No. 1-11017 on November 12, 1993. (10) Incorporated by reference to designated exhibit or schedule to the Company's Annual Report on Form 10-K filed under Commission File No. 1-11017 on March 30, 1994. (11) Incorporated by reference to designated exhibit to the Company's Quarterly Report on Form 10-Q filed under Commission File No. 1-11017 on May 14, 1994. (12) Incorporated by reference to designated exhibit to the Company's Quarterly Report on Form 10-Q filed under Commission File No. 1-11017 on November 12, 1994. (13) Incorporated by reference to designated exhibit or schedule to the Company's Annual Report on Form 10-K filed under Commission File No. 1-11017 on March 30, 1995. (14) Incorporated by reference to designated exhibit to the Company's Quarterly Report on Form 10-Q filed under Commission File No. 1-11017 on May 14, 1995. (15) Incorporated by reference to designated exhibit to the Company's Quarterly Report on Form 10-Q filed under Commission File No. 1-11017 on August 14, 1995. (16) Incorporated by reference to designated exhibit or schedule to the Company's Annual Report on Form 10-K filed under Commission File No. 1-11017 on March 30, 1996. (17) Incorporated by reference to designated exhibit to the Company's Quarterly Report on Form 10-Q filed under Commission File No. 1-11017 on May 14, 1996. (18) Incorporated by reference to designated exhibit to the Company's Quarterly Report on Form 10-Q filed under Commission File No. 1-11017 on August 14, 1996. (19) Incorporated by reference to designated exhibit to the Company's Quarterly Report on Form 10-Q filed under Commission File No. 1-11017 on September 14, 1996. (b) Reports on Form 8-K None. SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. Date: March 28, 1997 NORTH AMERICAN MORTGAGE COMPANY By: /s/MARTIN S. HUGHES ---------------------------- (Martin S. Hughes) Executive Vice President and Chief Financial Officer 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. Signature Title Date --------- ----- ---- JOHN F. FARRELL, JR. - -------------------- Chairman of the Board, March 28, 1997 (John F. Farrell, Jr.) Chief Executive Officer and Director TERRANCE G. HODEL - ----------------- President, March 28, 1997 (Terrance G. Hodel) Chief Operating Officer and Director MARTIN S. HUGHES - ---------------- Executive Vice President, March 28, 1997 (Martin S. Hughes) Chief Financial Officer and Treasurer (Principal Financial Officer) D. ALLAN HOFF - ------------- Senior Vice President and Corporate March 28, 1997 (D. Allan Hoff) Controller (Principal Accounting Officer) WILLIAM L. BROWN Director March 28, 1997 - ---------------- (William L. Brown) WILLIAM F. CONNELL Director March 28, 1997 - ------------------ (William F. Connell) MAGNA L. DODGE Director March 28, 1997 - -------------- (Magna L. Dodge) WILLIAM O. MURPHY Director March 28, 1997 - ----------------- (William O. Murphy) ROBERT J. MURRAY Director March 28, 1997 - ---------------- (Robert J. Murray) JAMES B. NICHOLSON Director March 28, 1997 - ------------------ (James B. Nicholson) Supplemental Information to be Furnished With Reports Filed Pursuant to Section 15(d) of the Act by Registrants Which Have Not Registered Securities Pursuant to Section 12 of the Act: Not Applicable. Report of Independent Auditors on Financial Statement Schedule North American Mortgage Company We have audited the consolidated financial statements of North American Mortgage Company and subsidiaries (the Company) as of December 31, 1996 and 1995, and for each of the three years in the period ended December 31, 1996, and have issued our report thereon dated January 31, 1997. Our audits also included the financial statement schedule of the Company listed in Item 14(a)(2) of the 1996 Form 10-K. This schedule is the responsibility of the Company's management. Our responsibility is to express an opinion based on our audits. In our opinion, the financial statement schedule referred to above, when considered in relation to the basic financial statements taken as a whole, presents fairly in all material respects the information set forth therein. /s/Ernst & Young LLP San Francisco, California January 31, 1997 SCHEDULE VIII NORTH AMERICAN MORTGAGE COMPANY SCHEDULE VIII - VALUATION AND QUALIFYING ACCOUNTS Three Years Ended December 31, 1996 (Dollar amounts in thousands)
Column A Column B Column C Column D Column E ---------- -------- -------- -------- --------- Balance at Charged to Charged Balance at Beginning Costs and to Other End of of Period Expenses Accounts Deductions Period --------- -------- -------- ---------- ------ Description FORECLOSURE RESERVE: Year ended December 31, 1996........ $ 798 $ 1,444 $ --- $ (1,390) $ 852 Year ended December 31, 1995........ 373 949 --- (524) 798 Year ended December 31, 1994........ 320 572 --- (519) 373 PROVISION FOR LOAN LOSSES: Year ended December 31, 1996........ $ 3,556 $ 4,656 $ --- $ (3,744) $ 4,468 Year ended December 31, 1995........ 2,471 3,853 --- (2,768) 3,556 Year ended December 31, 1994........ 4,348 2,360 --- (4,237) 2,471 RECEIVABLE RESERVE: Year ended December 31, 1996........ $ --- $ --- $ --- $ --- $ --- Year ended December 31, 1995........ --- --- --- --- --- Year ended December 31, 1994........ 120 --- --- (120) --- DEFERRED TAXES RESERVE: Year ended December 31, 1996........ $ --- $ --- $ --- $ --- $ --- Year ended December 31, 1995........ 2,519 --- (2,519) --- --- Year ended December 31, 1994........ 4,490 --- (1,971) --- 2,519 ORIGINATED LOAN SERVICING RESERVE: Year ended December 31, 1996........ $ 2,552 $ 1,537 $ --- $ --- $ 4,089 Year ended December 31, 1995........ --- 3,517 --- (965) 2,552 Year ended December 31, 1994........ --- --- --- --- ---
EX-3.(II) 2 BY-LAWS AMENDED AND RESTATED BY-LAWS NORTH AMERICAN MORTGAGE COMPANY ARTICLE I OFFICES SECTION 1. The registered office shall be located in Wilmington, Delaware. SECTION 2. The Corporation may also have offices at such other places both within and without the State of Delaware as the Board of Directors may from time to time determine or the business of the Corporation may require. ARTICLE II MEETINGS OF STOCKHOLDERS SECTION 1. The annual meeting of the stockholders of the Corporation, commencing with the year 1991 shall be held at such place, within or without the State of Delaware, at such time and on such day as may be determined by the Board of Directors and as such shall be designated in the notice of said meeting, for the purpose of electing directors and for the transaction of such other business as may properly be brought before the meeting. If for any reason the annual meeting shall not be held during the period designated herein, the Board of Directors shall cause the annual meeting to be held as soon thereafter as may be convenient. SECTION 2. Special meetings of the stockholders for any purpose or purposes, unless otherwise prescribed by statute or by the Certificate of Incorporation, may be held at any place, within or without the State of Delaware, and may be called by resolution of the Board of Directors. (Adopted 3/31/92). Business transacted at any special meeting of stockholders shall be limited to the purposes stated in the notice of meeting. SECTION 3. The holders of a majority of the shares of stock issued and outstanding and entitled to vote, represented in person or by proxy, shall constitute a quorum at all meetings of the stockholders for the transaction of business except as otherwise provided by statute or by the Certificate of Incorporation. If a quorum is present or represented, the affirmative vote of a majority of the shares of stock present or represented at the meeting shall be the act of the stockholders unless the vote of a greater number of shares of stock is required by law or by the Certificate of Incorporation. If, however, such quorum shall not be present or represented at any meeting of the stockholders, the stockholders present in person or represented by proxy shall have power to adjourn the meeting from time to time, without notice other than announcement at the meeting, until a quorum shall be present or represented. At such adjourned meeting at which a quorum shall be present or represented any business may be transacted which might have been transacted at the meeting as originally notified. SECTION 4. Any action required to be taken at a meeting of the stockholders may be taken without a meeting if a consent in writing, setting forth the action so taken, shall be signed by all of the stockholders entitled to vote with respect to the subject matter thereof. SECTION 5. At an annual meeting of stockholders, only such business shall be conducted as shall have been properly brought before the meeting. To be properly brought before the meeting business must be (a) specified in the notice of meeting (or any supplement thereto) given by or at the direction of the Board of Directors, (b) proposed by or at the direction of the Chairman of the Board of Directors or (c) proposed by any stockholder of the Corporation who is entitled to vote at the meeting, who complied with the notice provisions of this Section 5 and who is a stockholder of record at the time such notice is delivered to the Secretary of the Corporation. For business to be properly brought before an annual meeting by a stockholder, the stockholder must have given timely notice thereof in writing to the Secretary of the Corporation, and, such business must be a proper matter for stockholder action. To be timely, a stockholder's notice shall be delivered to the Secretary at the principal executive offices of the Corporation not less than sixty days nor more than ninety days prior to the first anniversary of the preceding year's annual meeting; provided, however, that in the event that the date of the annual meeting is advanced by more than twenty days, or delayed by more than seventy days, from such anniversary date, notice by the stockholder to be timely must be so delivered not earlier than the ninetieth day prior to such annual meeting and not later than the close of business on the later of the seventieth day prior to such annual meeting or the tenth day following the day on which public announcement of the date of such meeting is first made. Such stockholder's notice shall set forth (a) a brief description of the business desired to be brought before the meeting, the reasons for conducting such business at the meeting and any material interest in such business of such stockholder and the beneficial owner, if any, on whose behalf the proposal is made; and (b) as to the stockholder giving the notice and the beneficial owner, if any, on whose behalf the nomination or proposal is made (i) the name and address of such stockholder, as they appear on the Corporation's books, and of such beneficial owner and (ii) the class and number of shares of the Corporation which are owned beneficially and of record by such stockholder and such beneficial owner. ARTICLE III DIRECTORS SECTION 1. The number of directors which shall constitute the whole Board of Directors shall initially be seven. Thereafter, the number of directors which shall constitute the Board of Directors shall be such as from time to time shall be fixed by the Board of Directors, but in no case shall such number be greater than nine or less than two, provided that no decrease in the number of directorships shall shorten the term of any incumbent director. Any change in the number of directorships must be authorized by a majority of the whole Board of Directors, as constituted immediately prior to such change. The directors shall be elected at the annual meeting of the stockholders, except as provided in Section 2 of this Article, and each director elected shall hold office until the next annual meeting of stockholders and until his or her successor is elected and qualified or until his or her earlier death or resignation. Directors need not be stockholders. SECTION 2. Vacancies and newly created directorships resulting from any increase in the number of directorships may be filled by a majority of the directors then in office, though less than a quorum, or elected by a sole stockholder, and the directors so chosen shall hold office until the next annual election and until their successors are duly elected and qualified. A vacancy created by the removal of a director by the stockholders may be filled by the stockholders. SECTION 3. The first meeting of each newly elected Board of Directors shall be held at such time and place as shall be announced after the annual meeting of stockholders and no other notice of such meeting shall be necessary to the newly elected directors in order legally to constitute the meeting, provided a quorum shall be present. SECTION 4. Regular meetings of the Board of Directors may be held upon such notice, or without notice, and at such time and at such place as shall from time to time be determined by the Board of Directors or the Chairman of the Board of Directors. SECTION 5. Special meetings of the Board of Directors may be called by the Chairman of the Board of Directors on one day's notice to each director, and at such place as shall be determined by the Chairman of the Board of Directors, pursuant to the notice provisions of Article IV; special meetings shall be called by the Chairman of the Board of Directors or the Secretary in like manner and on like notice on the written request of two directors. SECTION 6. Attendance of a director at any meeting shall constitute a waiver of notice of such meeting, except where a director attends for the express purpose of objecting to the transaction in any business because the meeting is not lawfully called or convened. Neither the business to be transacted at, nor the purpose of, any regular or special meeting of the Board of Directors need be specified in the notice or waiver of notice of such meeting. SECTION 7. At all meetings of the Board of Directors a majority of the total number of directors then constituting the whole Board of Directors but in no event less than two directors shall constitute a quorum for the transaction of business, and the act of a majority of the directors present at any meeting at which there is a quorum shall be the act of the Board of Directors, except as may be otherwise specifically provided by statute or by the Certificate of Incorporation or by these By-Laws. If a quorum shall not be present at any meeting of the Board of Directors, the directors present may adjourn the meeting from time to time, without notice other than announcement at the meeting, until a quorum shall be present. SECTION 8. Unless otherwise restricted by the Certificate of Incorporation or by these By-Laws, any action required or permitted to be taken at any meeting of the Board of Directors or of any committee thereof may be taken without a meeting, if prior to such action a written consent thereto is signed by all members of the Board of Directors or of such committee, as the case may be, and such written consent is filed with the minutes of proceedings of the Board of Directors or committee. SECTION 9. The Board of Directors may, by resolution passed by a majority of the whole Board of Directors, designate one or more committees, each committee to consist of two or more of the directors of the Corporation, which, to the extent provided in the resolution, shall have and may exercise the powers of the Board of Directors in the management of the business and affairs of the Corporation and may authorize the seal of the Corporation to be affixed to all papers which may require it. Such committee or committees shall have such name or names as may be determined from time to time by resolution adopted by the Board of Directors. SECTION 10. Subject to any exclusive rights of holders of any class or series of stock having a preference over the common stock, par value $0.01 per share, of the Corporation as to dividends or upon liquidation to elect directors upon the happening of certain events, only persons who are nominated at any meeting of stockholders of the Corporation in accordance with the following procedures shall be eligible for election as directors. Nominations of persons for election to the Board of Directors of the Corporation may be made at a meeting of stockholders at which directors are to be elected only (i) by or at the direction of the Board of Directors or (ii) by any stockholder of the Corporation entitled to vote for the election of directors generally at the meeting who complies with the notice procedures set forth in this Section 10. Such nominations by a stockholder shall be made pursuant to timely notice in writing to the Secretary of the Corporation. To be timely, a stockholder's notice shall be delivered to or mailed and received at the principal executive offices of the Corporation not less than 60 days nor more than 90 days prior to the date of the meeting; provided, however, that in the event that less than 75 days' notice or prior public disclosure of the date of the meeting is given or made to stockholders, notice by the stockholder to be timely must be so received not later than the close of business on the 10th day following the day on which such notice of the date of the meeting was mailed or such public disclosure was made. Such stockholder's notice to the Secretary shall set forth (a) as to each person whom the stockholder proposes to nominate for election or re-election as a director, all information relating to such person that is required to be disclosed in solicitations of proxies for election of directors, or is otherwise required, in each case pursuant to Regulation 14A under the Securities Exchange Act of 1934, as amended (including such person's written consent to being named in the proxy statement as a nominee and to serving as a director if elected); and (ii) as to the stockholder giving the notice (x) the name and address, as they appear on the Corporation's books, of such Stockholder and (y) the class and number of shares of the Corporation's stock that are beneficially owned by such stockholder. At the request of the Board of Directors, any person nominated by the Board of Directors for election as a director shall furnish to the Secretary of the Corporation that information required to be set forth in a stockholder's notice of nomination which pertains to the nominee. No person shall be eligible for election as a director of the Corporation unless nominated in accordance with the provisions of this Section 10. The officer of the Corporation or other person presiding at the meeting shall, if the facts so warrant, determine and declare to the meeting that a nomination was not made in accordance with such provisions and, if he should so determine, he shall so declare to the meeting and the defective nomination shall be disregarded. In addition to any other requirements relating to amendments to these By-Laws, no proposal to amend or repeal this Section 10 shall be brought before any meeting of the stockholders of the Corporation unless written notice is given of (i) such proposed repeal or the substance of such proposed amendment, (ii) the name and address of the stockholder who intends to propose such repeal or amendment, and (iii) a representation that the stockholder is a holder of record of stock of the Corporation specified in such notice, is or will be entitled to vote at such meeting and intends to appear in person or by proxy at the meeting to make the proposal. Such notice shall be given in the manner and at the time specified above in this Section 10. ARTICLE IV NOTICES SECTION 1. Whenever, under the provisions of statute or Certificate of Incorporation or of these By-Laws, notice is required to be given to any director or stockholder, it shall not be construed to mean only personal notice, but such notice may be given in writing, by mail, addressed to such director or stockholder, at his or her address as it appears on the records of the Corporation, with postage thereon prepaid, and such notice shall be deemed to be given at the time when the same shall be deposited in the United States mail. Notice to directors may be sent by a private or public overnight delivery service and such notice shall be deemed given at the time when notice is delivered to such service. Notice to directors also may be given by telegram, telex and by facsimile transmission; any such notice is effective when sent. Notices to be given to stockholders in connection with any annual or special meeting of stockholders shall be given to all stockholders of record as determined at least 30 days prior to such meeting. SECTION 2. Whenever notice is required to be given under the provisions of statute or of the Certificate of Incorporation or of these By-Laws, a waiver thereof in writing signed by the person or persons entitled to such notice, whether before or after the time stated therein, shall be deemed equivalent to the giving of such notice. ARTICLE V OFFICERS SECTION 1. The officers of the Corporation may include a Chairman of the Board of Directors (who shall also be the Chief Executive Officer), one or more Vice-Chairmen, a President, one or more Executive Vice Presidents, one or more Senior Vice Presidents, one or more Vice Presidents, a Secretary, a Treasurer, a Controller, one or more Assistant Vice Presidents, one or more Assistant Secretaries, one or more Assistant Treasurers and one or more Assistant Controllers. The Board of Directors shall have the power to choose all or any of such officers. In addition, each of the Chief Executive Officer and the President, acting alone, may from time to time appoint one or more Senior Vice Presidents, Vice Presidents, Assistant Vice Presidents, Assistant Secretaries, Assistant Controllers and Assistant Treasurers. Two or more offices may be held by the same person except the offices of President and Secretary or the offices of President and Vice President. SECTION 2. The Board of Directors shall elect officers of the Corporation at its first meeting after each annual meeting of stockholders. SECTION 3. The Board of Directors may appoint such other officers and agents as it shall deem necessary who shall hold their offices for such terms and shall exercise such powers and perform such duties as shall be determined from time to time by the Board of Directors. SECTION 4. All salaries and bonuses of officers of the Corporation at the rank of Executive Vice President or above shall be subject to approval by the Board of Directors. SECTION 5. Each officer of the Corporation shall hold office until the first meeting of the Board of Directors next following the annual meeting of stockholders next following the election or appointment of such officer. The Board of Directors may remove any officer at any time. The Chief Executive Officer or the President may each, acting alone, remove at any time any person from any office other than the office of President or Chief Executive Officer. Any vacancy occurring in any office of the Corporation may be filled by the Board of Directors or by an officer having the power to make an appointment to such vacant office. CHAIRMAN OF THE BOARD SECTION 6. The Chairman of the Board of Directors, if there be a Chairman, shall be chosen from among the directors and shall be the Chief Executive Officer of the Corporation, shall preside at all meetings of the stockholders and the Board of Directors. The Chief Executive Officer shall be vested with general supervisory power and authority over the business affairs of the Corporation, and shall see that all orders and resolutions of the Board of Directors are carried into effect. Any Vice-Chairman or Vice-Chairmen, shall be chosen from among the directors and shall have such powers and duties as may from time to time be assigned by the Board of Directors. PRESIDENT SECTION 7. The President shall be the Chief Operating Officer of the Corporation, unless there is no Chairman of the Board of Directors, in which case the President shall be the Chief Executive Officer of the Corporation as well as the Chief Operating Officer. In the absence of the Chairman of the Board of Directors, or if there be no Chairman, the President shall preside at all meetings of the stockholders and the Board of Directors; the President shall have general and active management of the business of the Corporation, subject to the direction of the Board of Directors and the Chief Executive Officer, and shall see that all orders and resolutions of the Board of Directors and the Chief Executive Officer are carried into effect, and shall perform all duties incident to the office of a President of a corporation, and such other duties as from time to time may be assigned by the Board of Directors and the Chief Executive Officer. EXECUTIVE VICE PRESIDENTS SECTION 8. Any Executive Vice-Presidents elected shall have such duties as the Board of Directors or Chief Executive Officer, or President may from time to time prescribe, and shall, except as the Board of Directors may otherwise direct, perform such duties under the general supervision of the President. SENIOR VICE-PRESIDENTS SECTION 9. Any Senior Vice-Presidents elected shall have such duties as the Board of Directors or President may from time to time prescribe, and shall, except as the Board of Directors may otherwise direct, perform such duties under the general supervision of the President. VICE-PRESIDENTS SECTION 10. Any Vice-Presidents elected shall have such duties as the Board of Directors or President may from time to time prescribe, and shall, except as the Board of Directors may otherwise direct, perform such duties under the general supervision of the President. SECRETARY SECTION 11. The Secretary shall take minutes of the proceedings of the stockholders and the Board of Directors and record the same in a suitable book for preservation. The Secretary shall give notice of all regular and duly called special meetings of the stockholders and the Board of Directors. The Secretary shall have charge of and keep the seal of the Corporation, and shall affix the seal, attested by his or her signature, to such instruments as may require the same. Unless the Board of Directors shall have appointed a transfer agent, the Secretary shall have charge of the certificate books, transfer books, and stock ledgers, and shall prepare voting lists prior to all meetings of stockholders. The Secretary shall have charge of such other books and papers as the Board of Directors may direct and shall perform such other duties as may be prescribed from time to time by the Board of Directors or the President. ASSISTANT SECRETARY SECTION 12. The Assistant Secretary, if there shall be one, or, if there shall be more than one, the Assistant Secretaries in the order determined by the Board of Directors, shall, in the absence or disability of the Secretary, perform the duties and exercise the powers of the Secretary and shall perform such other duties and have such other powers as the Board of Directors or the officer to whom such Assistant Secretary reports may from time to time prescribe. TREASURER SECTION 13. The Treasurer shall have custody of the funds, securities and other assets of the Corporation. The Treasurer shall keep a full and accurate record of all receipts and disbursements of the Corporation, and shall deposit or cause to be deposited in the name of the Corporation all monies or other valuable effects in such banks, trust companies, or other depositories as may from time to time be selected by the Board of Directors. The Treasurer shall have power to make and endorse notes and pay out monies on check without countersignature and shall perform such other duties as may be prescribed from time to time by the Board of Directors or the President. ASSISTANT TREASURER SECTION 14. The Assistant Treasurer, if there shall be one, or, if there shall be more than one, the Assistant Treasurers in the order determined by the Board of Directors, shall, in the absence or disability of the Treasurer, perform the duties and exercise the powers of the Treasurer and shall perform such other duties and have such other powers as the Board of Directors or the officer to whom such Assistant Treasurer reports may from time to time prescribe. ARTICLE VI CERTIFICATES FOR SHARES LOST CERTIFICATES SECTION 1. The Board of Directors, the Chief Executive Officer, the President, or the Secretary may direct a new certificate to be issued in place of any certificate theretofore issued by the Corporation alleged to have been lost, stolen or destroyed. When authorizing each such issue of a new certificate, the Board of Directors, the Chief Executive Officer, the President, or the Secretary in its or his or her discretion and as a condition precedent to the issuance thereof, may prescribe such terms and conditions as it deems expedient, and may require such indemnities as it deems adequate to protect the Corporation from any claim that may be made against it with respect to any such certificate alleged to have been lost, stolen or destroyed. TRANSFER OF SHARES SECTION 2. Upon surrender to the Corporation or the transfer agent of the Corporation of a certificate representing shares duly endorsed or accompanied by proper evidence of succession, assignment or authority to transfer, a new certificate shall be issued to the person entitled thereto, and the old certificate canceled and the transaction recorded upon the books of the Corporation. REGISTERED STOCKHOLDERS SECTION 3. The Corporation shall be entitled to recognize the exclusive right of a person registered on its books as the owner of shares to receive dividends, and to vote as such owner, and to hold liable for calls and assessments a person registered on its books as the owner of shares, and shall not be bound to recognize any equitable or other claim to or interest in such share or shares on the part of any other person, whether or not it shall have express or other notice thereof, except as otherwise provided by the laws of Delaware. SIGNING AUTHORITY SECTION 4. All contracts, agreements, assignments, transfers, deeds, stock powers or other instruments of the Corporation may be executed and delivered by (i) the Chief Executive Officer or the President, or (ii) by such other officers or agent or agents, of the Corporation as shall be thereunto authorized from time to time by the Chief Executive Officer or the President or the Board of Directors, or (iii) by power of attorney executed by any person pursuant to authority granted by the Chief Executive Officer or the President or the Board of Directors; and the Secretary or any Assistant Secretary or the Treasurer or any Assistant Treasurer may affix the seal of the Corporation thereto and attest the same. ARTICLE VII GENERAL PROVISIONS CHECKS SECTION 1. All checks or demands for money and notes of the Corporation shall be signed by the Chief Executive Officer, the President, the Treasurer, or any other such officer or officers or such other person or persons as the Chief Executive Officer, the President, the Treasurer, or the Board of Directors may from time to time designate. FISCAL YEAR SECTION 2. The fiscal year of the Corporation shall be fixed by resolution of the Board of Directors. SEAL SECTION 3. The corporate seal shall have inscribed thereon the name of the Corporation, the year of its organization and the words Corporation Seal, Delaware. The seal may be used by causing it or a facsimile thereof to be impressed or affixed or in any manner reproduced. INDEMNIFICATION SECTION 4. The Corporation shall indemnify its officers, directors, employees and agents to the fullest extent permitted by the General Corporation Law of Delaware, as the same exists or may hereafter be amended (but, in the case of any such amendment, only to the extent that such amendment permits the Corporation to provide broader indemnification rights than said law permitted the Corporation to provide prior to such amendment). ARTICLE VIII AMENDMENTS SECTION 1. These By-Laws may be altered, amended or repealed or new By-Laws may be adopted (a) at any regular or special meeting of stockholders at which a quorum is present or represented subject to Section 10 of Article III of these By-Laws, by the affirmative vote of a majority of the stock entitled to vote, provided notice of the proposed alteration, amendment or repeal be contained in the notice of such meeting, or (b) by the affirmative vote of a majority of the Board of Directors at any regular or special meeting of the Board of Directors. The stockholders shall have authority to change or repeal any By-Laws adopted by the directors, subject to Section 10 of Article III of these By-Laws. EX-10 3 SENIOR EXECUTIVE SEVERANCE PAY PLAN SENIOR EXECUTIVE SEVERANCE PAY PLAN OF NORTH AMERICAN MORTGAGE COMPANY Introduction North American Mortgage Company, a Delaware corporation (the "Company"), has had in effect a practice of paying severance pay to senior executives in the event of specific types of Terminations (as hereinafter defined) on a case-by-case basis. This practice has not heretofore been set forth in any written document. For the benefit of Named Executives, in order to establish the prospective terms of the Company's severance Policy with respect to such executives, the Company hereby adopts, effective as of October 13, 1994, the Senior Executive Severance Pay Plan of North American Mortgage Company (the "Plan"). Section 1. Definitions 1.1. "Average Bonus" means the average of the sum of the last three annual bonuses earned by a Named Executive (regardless of whether payment is deferred by the Named Executive or paid by the Employer in a subsequent year), or, if the Named Executive has been employed by the Employer for less than three annual bonus periods, the average of the sum of all annual bonuses paid to the Named Executive by the Employer; provided, however, that for any partial year of employment a bonus earned by an Executive for such partial year will be annualized for purposes of the Plan (unless such bonus represents a payment that will not be made more often than once per year). 1.2. "Board" means the Board of Directors of the Company. 1.3. "Cause" means (a) refusal to perform or gross neglect by the Named Executive of responsibilities of the employment position; (b) misconduct on the part of the Named Executive that is materially detrimental to or has a material adverse effect on the Company; (c) Named Executive's conviction or plea of nolo contendere to a misdemeanor involving embezzlement or fraud or other offense involving the money or property of the Company; (d) the commission by the Named Executive of one or more acts which constitute an indictable crime under United States federal, state, or local law. 1.4 "Change of Control" means (i) the sale of all the outstanding common stock of the Company; (ii) the approval by the shareholders of the Company of the merger or consolidation of the Company with any other corporation; (iii) the sale of all or substantially all of the assets of the Company; or (iv) the liquidation or dissolution of the Company (other than, in each of (i) through (iv) above, a sale to or merger or consolidation with, or a liquidation or dissolution which results in the stock or assets of the Company being held by an affiliate of the Company or in which the stockholders of the Company immediately prior to such event own at least 65 percent of the resulting entity and no other Stockholder or group of stockholders of the entity involved in such transaction (other than the Company) owns more than fifteen percent of the resulting entity). 1.5. "Code" means the Internal Revenue Code of 1986, as amended. 1.6. "Committee" means the Committee appointed by the Board, or in lieu of such Committee, the Board's designee. 1.7. "Company" means North American Mortgage Company, a corporation incorporated under the laws of the State of Delaware. 1.8. "Comparable Position" means a position with at least the same level of Compensation, responsibilities, substantially the same benefits, and in the same immediate geographic area as a Named Executive's present position. 1.9. "Compensation" means the amount per annum that a Named Executive was paid or provided by the Company as salary or wage, including deferred compensation, (excluding all bonuses, commissions, overtime, and other forms of special or incentive remuneration) immediately preceding the Termination. 1.10 "Employer" means the Company and any of its subsidiaries. 1.11. "Named Executive" means any employee actively performing services for the Employer on the date of Notice of Termination or the date of Termination who holds the title of President, Chief Executive Officer, Senior Vice President or Executive vice President. 1.12. "Notice of Termination" means a written or oral notice that employment will be terminated, provided to the Named Executive by the Company or its representative at least two weeks prior to the date of Termination; provided, however, that a Termination will be deemed to occur without two weeks' notice so long as Section 3.1 hereof is complied with. 1.13. "Parachute Payment" means any payment deemed to constitute a "parachute payment" as defined in Section 28OG of the Code. 1.14. "Plan" means this senior Executive Severance Pay Plan of North American Mortgage Company, as set forth in this document, and as it may be amended from time to time. 1.15. "Release" means a written release, in form and substance satisfactory to the Committee, in its sole discretion, executed by a Named Executive who has been granted Severance Pay, releasing and discharging the Company, the Committee and any other persons from and against any claim, liability or obligation in respect of or arising out of the Named Executive's employment or Termination. 1.16. "Severance Pay" means the amounts, if any, payable under Section 3.1 of this Plan to a Named Executive upon Termination. 1.17. "Severance Percentage" means the percentage of a Named Executive's Compensation set forth on Exhibit A hereto. 1.18. "Termination" Except as otherwise provided under a Termination Agreement, "Termination" means a Named Executive's involuntary termination of employment with the Employer without Cause; provided, however, that Termination shall not include any termination of employment by reason of death, disability or retirement of the Named Executive. 1.19. "Termination Agreement" means that agreement by and between the Company and a Named Executive which provides for certain benefits upon the occurrence of certain terminations within one year following a Change of Control. 1.20. "Severance Period" means that number of months equal to twelve multiplied by the Severance Percentage. Section 2. Eligibility 2.1. A Named Executive must have a minimum of ninety days of Service prior to the earlier of the date of Termination or the date Notice of Termination is issued to such Named Executive to be eligible to receive benefits under this Plan and must in fact not be employed by any Employer or any successor to any Employer (whether by merger, stock sale or the purchase of assets of any Employer or any business unit thereof). Notwithstanding anything to the contrary herein, no Named Executive shall be entitled to receive benefits under this Plan if the Named Executive has been offered a Comparable Position with any Employer or any successor to any Employer (whether by merger, stock sale, or the purchase of the assets of any Employer or any business unit thereof). Section 3. Benefits 3.1. (a) As soon as practicable after the date of Termination, a Named Executive eligible to receive benefits under this Plan shall receive Severance Pay in a lump sum amount equal to the Severance Percentage, multiplied by the sum of (i) such Named Executive's Compensation, plus (ii) such Named Executive's Average Bonus. (b) In addition to the amounts payable under Section 3.1(a) above, as soon as practicable after the date of Termination, if the Company failed to issue a Notice of Termination to the Named Executive, in lieu of such Notice of Termination, the Named Executive shall receive a lump sum amount equal to 2/52 of Severance Pay. 3.2. Notwithstanding anything to the contrary in this Plan, under no circumstances may the aggregate Severance Pay granted to any Named Executive upon a Termination be paid unless the Committee has received a Release. If payments made pursuant to this Plan, when aggregated with any other payments made to you, are considered Parachute Payments which would result in a loss of deduction to the Employer under Section 280G of the Code, then payments under this Plan shall be limited to the greatest amount which may be paid to you under Section 280G of the Code without causing any loss of deduction to the Employer under that Section. The limitations imposed by the foregoing sentence shall be computed by Ernst & Young, or in the event they decline, another "big six" accounting firm chosen by the Employer and reasonably acceptable to the Named Executive, and any expenses relating to such computation shall be borne by the Employer. 3.3. The Named Executive shall be entitled to medical benefits and life insurance benefits under the same terms as if the Named Executive continued employment with the Employer for the twelve month period following Termination; provided, however, that to the extent the Named Executive is entitled to receive such benefits from the Company under any other plan or agreement, there shall be no duplication of such benefits. 3.4. No Severance Pay or benefits shall be provided (or payments or benefits shall cease) if, between the date of Notice of Termination and the date of Termination, the Named Executive: (a) is found by the Company at any time to have engaged in an act or acts of willful malfeasance or nonfeasance of his duties; or (b) fails to perform any services requested of him by his employer, supervisor, or superior; or (c) demonstrates a deterioration in performance or misconduct which warrants termination of his employment; or (d) is offered or reassigned to a Comparable Position, or refuses to interview for any position with any Employer or any successor to any Employer (whether by merger, stock sale, or the purchase of the assets of any Employer or any business unit thereof). 3.5. Any benefits provided pursuant to this Plan may be reduced by any amounts owed to the Employer by the Named Executive and any and all withholdings required by law or authorized by the Named Executive. Section 4. Administration of Plan 4.1. The Committee shall be the plan administrator. In addition to any other powers granted to the Committee under the Plan, the Committee shall have the exclusive right, power and authority to interpret, in its sole discretion, any and all of the provisions of the Plan; to establish claims and appeals procedures; and to consider and decide conclusively any questions (whether of fact or otherwise) arising in connection with the administration of the Plan or any claim for severance pay arising under the Plan, including, without limitation, the determination of a termination for cause. Any decision or action of the Committee shall be final, conclusive and binding on all interested parties. 4.2. The Company shall indemnify any individual who is an employee, officer or director of the Company, or his or her heirs and legal representatives, against all liability and reasonable expense (including reasonable counsel fees, amounts paid in settlement and amounts of judgments, fines or penalties) incurred or imposed upon him or her in connection with any claim, action, suit or proceeding, whether civil, criminal, administrative or investigative, in connection with his or her duties with respect to this Plan, provided that such act or omission does not constitute gross negligence or willful misconduct. 5.1. The Board reserves the right, upon unanimous written consent or a majority vote of the directors present, in person or by telephone, at a meeting of the Board, to modify, amend or terminate the Plan in whole or part, without notice at any time, and benefits hereunder, whether in an individual case or more generally, may be altered, reduced, or eliminated by the Board. All modifications of or amendments to the Plan shall be in writing. 5.2. Neither the establishment of the Plan nor any action of the Company, the Committee, or a fiduciary shall be held or construed to confer upon any person any legal right to continue employment with the Company. The Company expressly reserves the right to discharge any employee whenever the interest of the Company, in its sole judgment, may so require, without any liability on the part of the Company, the Committee, or any fiduciary. 5.3. Benefits payable under the Plan shall be paid out of the general assets of the Company, and are not required to be funded in any manner, although the Company may set aside amounts in respect of, or fund, benefits payable hereunder. Benefits payable to a Named Executive will represent an unsecured claim by such Named Executive against the general assets of the Company. 5.4. Except to the extent required by law, benefits payable under the Plan shall not be subject to assignment, alienation, transfer, pledge, levy, attachment or other legal process, encumbrance, commutation or anticipation by the Named Executive and any attempt to do so shall be void. 5.5. This Plan shall be interpreted and applied in accordance with the laws of the State of Delaware (without reference to rules relating to conflicts of laws), except to the extent superseded by applicable federal law. NORTH AMERICAN MORTGAGE COMPANY SENIOR EXECUTIVE SEVERANCE PAY PLAN EXHIBIT A SEVERANCE PERCENTAGE Chief Executive Officer 100% Chief Operating Officer 100% Executive Vice Presidents 75% Senior Vice Presidents 50% EX-11 4 STATEMENT RE: COMPUTATION OF PER SHARE EARNINGS Computation of Earnings Per Share Year Ended December 31 1996 1995 1994 ----------- ---------- ---------- Primary: Average Shares Outstanding 14,317,465 15,039,179 15,480,368 Net effect of dilutive stock options - based on the treasury stock method using average market price 200,306 252,649 347,892 ------- ------- ------- Total 14,517,771 15,291,828 15,828,260 ========== ========== ========== Net Income $ 32,953,000 $ 40,455,00 $ 8,182,000 ============ =========== =========== Per Share Amount $ 2.27 $ 2.65 $ 0.52 ====== ====== ====== Fully Diluted: Average Shares Outstanding 14,317,465 15,039,179 15,480,368 Net effect of dilutive stock options - based on the treasury stock method using the year-end market price, if higher than average market price 200,977 271,235 348,642 ------- ------- ------- Total 14,518,442 15,310,414 15,829,010 ========== ========== ========== Net Income $ 32,953,000 $ 40,455,00 $ 8,182,000 ============ =========== =========== Per Share Amount $ 2.27 $ 2.64 $ 0.52 ====== ====== ====== EX-13 5 [INSIDE FRONT COVER] CONTENTS Letter to Stockholders 2 Financial Highlights 4 Positioned for Profits 5 Financials 17 Corporate Directory 48 Stockholder Information 49 COMPANY OVERVIEW North American Mortgage Company is a leading U.S. mortgage banker funding $9.5 billion in loans for the purchase or refinance of homes in 1996 and operating more than 100 loan production offices in 32 states. The Company is the nationOs third largest independent mortgage banker and ranks in the top dozen of all home mortgage lenders It offers a wide array of loan products and programs to consumers realty brokers, mortgage brokers and builders, and in addition provides related financial products, including home equity credit and full lines of insurance. The Company also services Mortgage loans and ended 1996 with a servicing portfolio of $13.3 billion. [PHOTO] TO OUR STOCKHOLDERS During the past year, North American Mortgage Company completed the investment phase of the corporate strategy we developed to strengthen, diversify and grow the Company. Many key initiatives are now fully implemented and others are well underway. We believe that, due to strategic decisions and additional investments made during the past two years, the Company is well positioned to succeed in todayOs difficult mortgage-banking environment. In 1996, the strong housing market and relatively favorable interest rate environment spurred consumer loan demand, resulting in an estimated $785 billion in new residential mortgage originations. This growth in volume, however, was accompanied by continued consolidation within the industry and severe price competition. In this highly charged environment, your Company increased its loan fundings by 26 percent over 1995, to $9.5 billion. Earnings for the year were $2.30 per share despite price competition and continued start-up costs associated with strategic investments. We believe that, with initiatives on course, investments made and major expansions complete, we will be able to compete effectively in 1997. The recent trend toward consolidation in our industry shows no signs of abating. Commercial banks have become major players in the mortgage market through banking industry consolidation and the acquisition of independent mortgage companies. North American Mortgage Company faces larger and more powerful competitors than ever before. Fewer companies control more of the market. At the beginning of the decade, the combined market shares of the 25 largest originators accounted for little more than one-quarter of the total, while in 1996 the same group captured nearly 40 percent. Consolidation has also resulted in price competition, driving the CompanyOs price subsidies to borrowers to an average of 35 basis points on loans originated in 1996, compared with 32 basis points in 1995 and 22 basis points in 1994. As these statistics demonstrate, mortgage banking today is an enterprise that demands new thinking. North American Mortgage Company has considered carefully how best to compete under these evolving conditions, and we have taken specific strategic actions to deal with each of the challenges presented by our industry. We have met our challenges by strengthening our core business of mortgage origination; by entering related businesses where we can leverage our expertise and resources; by reducing our production costs through hub-and-spoke processing between branches and satellites; and by investing in people and technology. Each of these actions merits discussion, and each should strengthen our competitive position in 1997. 2 STRENGTHENING OUR CORE BUSINESS North American Mortgage Company has gained capacity through expanded operations and a continuing push for efficiencies, with a focus on processing. From our origins in California, your Company has sought and achieved a national presence that allows us to take full advantage of the regional nature of business cycles, expanding where the local economy is growing. With 109 offices in 32 states in every region of the country, our expansion drive is now complete. We have also worked to become a more efficient producer with the full implementation of our re-engineered loan processing system, developed in consultation with Coopers & Lybrand. ENTERING RELATED BUSINESSES In todayOs competitive climate, a broad market presence and efficient operations cannot, in themselves, ensure the continued financial health of your Company. We are engaged in ongoing evaluation of and entry into closely related businesses that draw on our core competencies as mortgage bankers, businesses where we can capitalize on our existing distribution network and physical and technological infrastructure. We look for opportunities in higher- margin businesses that will generate additional revenue streams and that will offset the cycles of the mortgage industry. In prior years, we took the first steps of introducing insurance, home equity and credit card products. In 1996, we made an important decision to enter subprime lending, which offers considerably higher profit margins than conventional mortgage lending. After examining alternatives, we inaugurated this highly promising venture in a strategic alliance with a major subprime securitizer, ContiMortgage, a subsidiary of ContiFinancial. Following a pilot phase in seven of our branches during the fourth quarter of 1996, we are now rolling out the subprime program across the Company and we expect to complete implementation in our wholesale branches during the first quarter of 1997. During 1996, the Company decided to securitize mortgage loans that exceed Fannie Mae and Freddie Mac guidelines in order to offer desirable products with more timely approvals and consistent pricing and underwriting standards than are possible under sale to a loan conduit. We intend to sponsor our first securitization in the second quarter of 1997. We also introduced an affinity program with United Airlines that offers members of UnitedOs frequent flier program miles for mortgages, and we are actively investigating similar programs with market leaders in travel and other industry sectors. REDUCING PRODUCTION COSTS In addition to expanding our reach during the past year, we continued to seek ways to lower production costs. Beginning in wholesale branches, we experimented with a hub-and-spoke transaction model in which full-service branches within a region carry out the processing and underwriting functions for loan applications generated by satellite offices. We then expanded the model to selected retail branches. Our retail branches now support processing for more than 50 satellites. We are currently analyzing the existing branch network to identify additional locations where hub-and-spoke linkages will generate further savings. 3 INVESTING IN PEOPLE AND TECHNOLOGY In tandem with our geographical expansion and cost-saving initiatives, we have invested significant resources in recruiting, training and retaining top employees and adding important new technological tools. These investments are now complete and we look forward to profiting from them in the years to come. In addition to inaugurating and following through on its strategic initiatives, North American Mortgage Company continues to pay close attention to financial fundamentals. Our balance sheet remains strong; we have a current warehouse line of credit of $1 billion; our investment-grade debt ratings were affirmed by the rating agencies; and we continue to enjoy good financial liquidity. Despite the challenges of the increasingly competitive lending environment, we believe that 1997 will offer many opportunities to North American Mortgage Company. The economy is healthy, and consumer confidence is high - both primary determinants for home purchase decisions. Your Company is now positioned to benefit from the initiatives we have implemented and the investments we have made. We thank you for your support during this period of building, and we look forward to rewarding your confidence in 1997. [s/John F. Farrell, Jr.] [s/Terrance G. Hodel] John F. Farrell, Jr Terrance G. Hodel Chairman of the Board President Chief Executive Officer Chief Operating Officer March 14, 1997 FINANCIAL HIGHLIGHTS
Years ended December 31, 1996 1995 1994 1993 - ---------------------------------------------------------------------- - - Loan production In millions $9,473 $7,495 $9,755 $17,607 Servicing portfolio In millions $13,293 $14,109 $14,839 $17,280 Net income In thousands $32,953 $40,455 $8,182 $47,694 Total assets In thousands $853,657 $746,368 $765,374 $1,627,843 StockholdersO equity In thousands $203,401 $193,144 $153,105 $165,380 Net income per share $2.30 $2.69 $0.53 $3.17 Average shares outstanding In thousands 14,317 15,039 15,480 15,035
4 NORTH AMERICAN MORTGAGE COMPANY POSITIONED FOR PROFITS In 1996, North American Mortgage Company increased originations by 26 percent to $9.5 billion, while implementing initiatives designed to increase profits in 1997 and beyond. As we continue to compete effectively in a mortgage-banking environment characterized by fewer major players and greater price competition, we know that long-term success depends on maintaining a solid foundation in our core business, entering promising new businesses, operating through the most efficient structure, and making the most of our investments in people and technology. LOAN ORIGINATIONS($ IN BILLIONS) [BAR CHART] - ----------------------------------- O95 O96 7.5 9.5 - ----------------------------------- 5 [PHOTO] Profitability depends on making the right strategic decisions - like growing our retail market share by offering customers attractive products and the ability to do business at their convenience. NORTH AMERICAN MORTGAGE COMPANY A STRONG BASE The Company has steadily developed its core business of mortgage lending by extending its geographical market reach, employing multiple origination channels, offering a range of diverse products and emphasizing operational efficiency. In addition to generating revenue from mortgage production, the Company has continued to improve the performance of its servicing operation. Over the past five years, we have achieved a significant presence in all major markets. We are particularly pleased with the performance of our Midwest and Northeast regions, both operations we built from the ground up. Within four years of start-up, together the Midwest and Northeast regions have grown to generate more than one-quarter of the CompanyOs total fundings. THE RIGHT BALANCE OF ORIGINATION CHANNELS The Company recognizes the value of reaching customers through retail, wholesale and telemarketing channels. This three-part approach allows the Company to benefit from the advantages of each channel without becoming too dependent on any one. Our branch expansion, completed in 1996, has increased our volume of retail business, which today is our most profitable origination channel. Retail is primarily oriented to the purchase market, which, since the refinancing boom in 1993, has accounted for more than 70 percent of originations nationwide. At North American Mortgage Company, retail volume, including telemarketing, stood at 42 percent of all originations in 1996. The wholesale channel, which produces a higher percentage of refinancings than retail production, is based on the CompanyOs relationship with a network of more than 6,500 independent mortgage brokers. The Company maintains ties with this broker network through calling officers and marketing seminars, which are designed to increase awareness of the CompanyOs loan products and to assist brokers in educating their customers. AN ARRAY OF PROGRAMS AND PRODUCTS We believe that providing consumers with a diverse array of attractive programs and products is a way to differentiate North American Mortgage Company in the marketplace. Accordingly, we have created programs that are directed primarily at purchase loans and are targeted to different kinds of consumers and markets. These programs are particularly important to maintaining a healthy retail channel, and they performed well in 1996. Purchase Express(R), for example, is an advance credit approval program intended to build customer loyalty. As popular among realty brokers as it is among buyers, Purchase Express accounted for 24 percent of the CompanyOs total retail fundings in 1996. RETAIL/WHOLESALE COMPARISON ($ In Millions) [BAR CHART] O94 O95 O96 - ---------------------------------- * 3,822 3,312 3,995 + 5,933 4,183 5,478 - ---------------------------------- * Retail + Wholesale FUNDING BY REGION (% of Total Funding) [CHART BY REGION] O94 O95 O96 - ------------------------------------------------ Pacific 23% 19% 20% Southern CA/NV 21% 19% 18% Southwest 24% 23% 18% Midwest 3% 14% 18% Mid-Atlantic 20% 15% 13% Northeast 2% 5% 8% Telemarketing 7% 5% 5% - ------------------------------------------------ [REGIONAL GRAPHIC MAP OF UNITED STATES] 7 NORTH AMERICAN MORTGAGE COMPANY NUMBER OF LOANS PER SERVICING EMPLOYEE [BAR CHART] O94 O95 O96 - ---------------------------------- + 933 1,070 1,086 * 692 732 n/a - ---------------------------------- + NAMC* * MBA** * North American Mortgage Company **Mortgage Bankers Association LOAN DELINQUENCY RATE (INCLUDES FORECLOSURES) [BAR CHART] O94 O95 O96 - ---------------------------------- + 2.43% 3.06% 3.43% * 5.28% 5.40% 5.40% - ---------------------------------- + North American Mortgage Company * Mortgage Bankers Association Some of the CompanyOs most successful loan programs are aimed at fast- growing but traditionally underserved segments of the overall mortgage market. Opening Doors for America(TM)is a community lending program that uses such vehicles as special loan programs, flexible underwriting, outreach and education to help make home buying a reality for first-time, low- to moderate-income and minority purchasers. This commitment has benefited communities across the country, and it has had a significant impact on the Company, accounting for $2.6 billion of our 1996 production. Opening Doors for America has also earned us recognition from the Federal Housing Administration as one of the nationOs top five FHA lenders to African- American, Asian-American and Hispanic households. Another innovative program, introduced in 1995, is Rehab Express,(TM)a government-insured loan that targets older, urban markets by combining purchase and property improvement costs. In 1996, the first full year Rehab Express was offered, North American Mortgage Company was the fourth-largest originator of loans of this type, according to the Department of Housing and Urban Development. Although this specialized and complex product represents modest volume for the Company, it generates high revenue due to limited price competition. Based on the success of Rehab Express, we are planning to add a conventional loan to our rehabilitation product line in 1997. A HIGH-QUALITY SERVICING PORTFOLIO North American Mortgage Company ended 1996 with a servicing portfolio of $13.3 billion. The delinquency rate is a key measure of portfolio quality, and in 1996 the Company continued its enviable record against the industry average. While our delinquency rate rose slightly in 1996 to 3.58 percent (including foreclosures), it compares very favorably with the industry-wide figure of 5.65 percent. Our average coupon rate also rose modestly, to 7.80 percent in 1996 from 7.73 percent in 1995, but it remained in line with prevailing interest rates, continuing to reduce the probability of borrower refinancing and consequent portfolio runoff. Making optimal use of technology, reporting and tracking regulatory changes, the Company is among the most efficient servicers in the industry. For example, in 1996, the Company serviced an average of 1,086 loans per servicing employee. This figure, up for the third consecutive year, compares with an industry average of 732 loans per servicing employee in 1995, the latest year for which statistics are available. 8 NORTH AMERICAN MORTGAGE COMFPANY NEW OPPORTUNITIES North American Mortgage Company actively evaluates related new business opportunities that hold promise for the future. We subject these ventures to stringent tests: they must draw on our core competencies as mortgage bankers, they must be delivered through our existing channels, they must be congruent with our corporate mission and they must hold significant potential for profit. In 1996, we expanded our existing related businesses, introduced three highly promising new initiatives and began planning for future additions. CROSS-SELLING PRODUCTS TO CURRENT CUSTOMERS North American Mortgage Company has a broad database of qualified customers - new homebuyers, refinancers and those whose loans it services - who are potential buyers of related products and services. New homeowners, for example, frequently encounter changing insurance requirements, and the Company has expanded its product lines through its subsidiary North American Mortgage Insurance Services (NAMIS) to serve them. NAMIS has a dedicated sales force operating in conjunction with the CompanyOs production branches and from its headquarters in Santa Rosa. The insurance operation offers homeowners, auto and life insurance and is licensed to write policies in most states where the Company originates loans. The Company more than doubled the size of its insurance portfolio in 1996 with the acquisition of the assets of Lomas Insurance Services, a national provider of personal lines insurance products and services. At year-end, NAMIS had 89,068 policies in force, compared with 33,225 at the close of 1995. In December 1995, the Company introduced EquityEdge,(TM)a home equity line of credit. Homebuyers can take advantage of this convenient product at the time of a mortgage loan closing with virtually no extra paperwork. Some customers use the credit line for immediate improvements, some employ it to eliminate the need for mortgage insurance or to reduce a OjumboO loan to meet the conforming limit, and some simply want to have a cushion for unexpected expenses. EquityEdge is also available as a stand-alone product, allowing homeowners to draw on the equity in their homes to meet such needs as home improvements, major purchases, college tuition or debt consolidation while taking advantage of tax benefits. In 1996, the productOs first year, EquityEdge generated $58.5 million in fundings. As these examples demonstrate, the Company and its insurance subsidiary have recently increased the number of products available for cross-sale, and each is actively marketing its products to customers - at the point of sale, when the customer has an active need. 9 [PHOTO] Through subprime lending, we offer people who have hit a financial rough spot the chance to consolidate debt and get on with their lives. SUBPRIME LENDING The most significant strategic decision the Company reached in 1996 was to enter subprime lending. This line of business, generating loans used primarily as debt-consolidation vehicles by homeowners with less than impeccable credit histories, offers opportunity on many fronts. Consumers, who have collectively run up the highest rates of personal debt ever, are now eager to use the equity they have in their homes to help them manage that debt, especially at interest rates considerably lower than those on credit cards. Current market size is estimated at $120 billion, and no lender controls even a five percent market share. The yields available to originators are much higher than for conventional mortgage loans. Subprime lending will flow through the retail, wholesale and telemarketing channels already employed by the Company. North American Mortgage Company can take advantage of this market, originating subprime loans in its existing production offices, for the most part with current personnel. As a leading mortgage lender, we can bring efficiencies, add credibility and increase the customer service quotient in subprime lending. In determining the course of its entry into the subprime market, the Company evaluated and rejected the alternative scenarios of acquisition and start-up. Instead, we decided to capitalize on our strengths in processing and distribution by seeking a strategic alliance with a major securitizer of subprime loans. This option had a threefold advantage: it was the quickest, the most cost effective and entailed the least amount of risk. In October, the Company officially entered the subprime business in a strategic alliance with ContiMortgage, a subsidiary of ContiFinancial, a major securitizer of subprime loans. ContiMortgage will underwrite and purchase the CompanyOs originations and will also assist us in training our originators and processors in the special characteristics of these loans. A pilot subprime program was inaugurated in six wholesale branch offices and our telemarketing operation during the fourth quarter of 1996, using our existing broker network and reaching out to additional brokers who specialize in subprime lending. Initial response has been very positive, and we plan to roll out subprime lending to our 46 wholesale branches during the first quarter. We will also implement training, tools and systems to support subprime lending through our retail channel. SECURITIZING NONCONFORMING LOANS Nonconforming loans, in contrast to subprime loans, are distinguished by size or other characteristics apart from borrower credit. Traditionally, nonconforming loans have been sold to securitizers who offer a patchwork of constantly changing guidelines, leading inevitably to approval delays and inconsistent pricing and underwriting standards. In 1996, North American Mortgage Company studied the option of leveraging the CompanyOs financial strength to create its own nonconforming products. We determined that we can benefit by acting as our own securitizer, gaining control over product, pricing and underwriting while streamlining approval. We plan to complete our first securitization during the second quarter of the year. UNITED AIRLINES AFFINITY PROGRAM In late 1996, North American Mortgage Company entered into a partnership with United Airlines in a miles-for- mortgage program offered to UnitedOs MILEAGE PLUS(R) members. The HouseMiles(TM)program proved immediately popular with consumers because of its special features: a simple formula based on loan amount rather than interest payment, with no ceiling; all miles delivered up front rather than in installments; and the draw of a major airline carrier. The size of the average HouseMiles loan to date is in excess of $156,000, compared with the 1996 Company-wide average of $97,162. The program underscores the value of strategic partnerships with leading companies, an avenue the Company will continue to pursue in 1997. 11 [PHOTO] We have structured our business to foster entrepreneurship and flexibility within regions while lowering costs. NORTH AMERICAN MORTGAGE COMPANY A Flexible Business Structure Throughout the entire organization, North American Mortgage Company practices autonomous decision making in the context of a cohesive corporate culture. In growing our Company to a national organization, we opted for a decentralized structure supported by significant management guidance. Branches function as entrepreneurial small businesses, competing aggressively in their local territories and making their own decisions, within Company guidelines, on pricing, processing, underwriting and funding. This approach has enabled us to operate flexibly, seeking maximum opportunity in a highly regionalized mortgage market, while giving us an edge in recruiting able, ambitious staff. HUBS AND SPOKES In 1996, we experimented with a lower-cost way to expand our market penetration through a regional hub-and-spoke transaction model. We believe that delegating authority within established guidelines allows us to be more competitive in regional markets. Nevertheless, we recognize that certain processing and underwriting functions can be accomplished more efficiently by full- service branches on behalf of satellite offices within the same region. We began applying the hub-and-spoke model in existing wholesale branches and expanded it to include selected retail branches and satellites in 1996. In 1997, we will extend the use of the model to additional locations within our network of existing branches. In addition to benefiting from processing efficiencies, we can now respond more quickly to local economic conditions because satellite offices are easier to open and less costly to operate than full- service branches. With hub-and-spoke processing, we will ultimately achieve a greater local presence, while giving loan officers in satellite offices the back-up they need to be successful and reducing our overall origination costs. RETAIL BRANCH FUNCTIONS IN HUB-AND-SPOKE SYSTEM [FLOW CHART] - --------------------------------------------------------------- SATELLITE BRANCHES SATELLITE BRANCHES FULL-SERVICE BRANCHES SATELLITE BRANCHES SATELLITE BRANCHES - --------------------------------------------------------------- FULL-SERVICE BRANCHES SATELLITE BRANCHES Meet with customers Meet with customers Take applications Take applications Process loans Ship loans to full-service Underwrite loans branches for processing Prepare loan documents Fund loans Ship funded loan packages to corporate headquarters - --------------------------------------------------------------- 13 [PHOTO} Bringing the origination process closer to the customer is one of the ways we deliver superior service...and gain competitive advantage. NORTH AMERICAN MORTGAGE COMPANY A UNIQUE CONVERGENCE OF PEOPLE AND TECHNOLOGY The Company has invested heavily in both skilled people and appropriate technology over the past several years - adding 172 retail loan officers in 1996, for example. We fully expect to capitalize on that investment in 1997 and the years to come. We take an integrated approach to human and technological resources: by recruiting the right people, by giving them the training to make them more productive and by putting powerful and user-friendly technological tools on their desktops, we benefit from a unique convergence of these two key resources. In 1996, we implemented a new telecommunications infrastructure that will be capable of supporting future growth even if specific overlaying business strategies change. In 1997, we plan to create an enterprise-wide data warehouse to ensure consistency and usability of data throughout the Company. This initiative symbolizes our philosophy of maintaining centralized control of data with decentralized delivery of information so that all offices and all functions - production, processing, underwriting and servicing - can access the tools they need to do their jobs more efficiently and more profitably. FASTER, BETTER, CLOSER TO THE CUSTOMER Automated credit scoring, introduced in 1995, was fully implemented across all wholesale branches in 1996. This system gives the Company immediate feedback regarding a customerOs credit risk and increases the accuracy and consistency of our credit scoring, resulting in greater efficiencies and higher-quality loan originations. Even more ambitious is the automated underwriting program, which is currently being integrated into the process our underwriters use to do their jobs. We anticipate that this automated system will handle approximately one-third of our loans with very little manual intervention by underwriters, thus saving personnel costs. For the balance of our loan applications, the system will flag specific problems for the underwriter to investigate. Automated underwriting will be moved further forward in the production system. By the fourth quarter of 1997, we expect to have it installed on originatorsO laptop computers so that they can have an early indication of risk and counsel customers accordingly. Automated underwriting at the laptop level is part of our ongoing effort to bring the entire production process closer to the customer at the retail point of sale, whether that point is a kitchen table, a satellite office or a full-service branch. In 1996, we completed the enhancement of software on laptops across the Company, transforming them from data recorders for applications into interactive tools capable of generating prequalification or loan status reports when the loan officer and customer are face to face. Technology also plays a major role in the efficient handling of our servicing portfolio. Our artificial intelligence and scoring collection system enables our servicing employees to spot potential problem areas earlier in the process so they may contact certain borrowers sooner in the credit cycle and work with those who need help. RETAIL LOAN OFFICERS AND RETAIL BRANCHES [BAR CHART] - --------------------------------- O94 O95 O96 * 638 623 803 + 85 91 106 - --------------------------------- * Number of Retail Loan Officers + Number of Retail Branches 15 NORTH AMERICAN MORTGAGE COMPANY ENHANCED COMMUNICATIONS In 1996, we began to make use of the World Wide Web for communicating inside and outside the Company. We implemented a Company intranet for internal communications, a particular advantage for a national organization such as ours. Currently, our intranet offers features such as bulletin boards where employees in different regions can share information. The intranet will also deliver information during the production process and serve as a training medium. On the external front, the Company launched its site on the World Wide Web in February 1997 at www.namc.com. As electronic commerce develops more fully, we expect our Web site to emerge as an alternative delivery channel for retail customers, realty brokers, builders and our partners in business alliances. DEVELOPING THE POTENTIAL OF OUR PEOPLE During the past year, we increased our emphasis on branch management training, raising capabilities with new management tools and techniques. In small-group sessions throughout the year, all regional, district and branch managers participated in Branch Management Works, a week-long intensive learning experience at North American Mortgage CompanyOs Santa Rosa headquarters. The curriculum, which was developed at the corporate level with input from the field, covered financial analysis, pricing, planning for growth and sales management. 16 FINANCIALS SELECTED FINANCIAL DATA YEAR ENDED DECEMBER 31 (Amounts in thousands, except Operating and Per Share Data)
SELECTED STATEMENT OF OPERATING DATA 1996 1995 1994 1993 1992 - -------------------------------------------------------------------------------- - ---------------- REVENUES: Loan administration fees, net $ 45,280 $ 41,830 $ 50,574 $ 38,784 $ 26,314 Loan origination fees 84,605 69,282 75,140 125,807 80,860 Gain (loss) from sales of loans 101,153 81,652 (14,951) 37,912 26,508 Net interest income 28,680 27,534 29,491 30,021 24,425 Gain from sales of servicing 37,634 46,037 120,739 88,821 52,102 Other 9,441 8,445 7,172 7,594 6,279 - -------------------------------------------------------------------------------- - ---------------- Total Revenues $306,793 $274,780 $268,165 $ 328,939 $ 216,488 Expenses: Amortization and impairment of purchased and originated servicing 10,462 7,310 965 5,072 5,799 Other expenses 241,349 203,753 255,963 250,435 163,233 - -------------------------------------------------------------------------------- - ---------------- Total Expenses $251,811 $211,063 $256,928 $ 255,507 $ 169,032 ================================================================================ ================ Income before income tax expense 54,982 63,717 11,237 73,432 47,456 Income tax expense 22,029 23,262 3,055 25,738 7,290 Net Income $ 32,953 $ 40,455 $ 8,182 $ 47,694 $ 40,166 - -------------------------------------------------------------------------------- - ---------------- Net income per share(1) $ 2.30 $ 2.69 $ .53 $ 3.17 - -------------------------------------------------------------------------------- - ---------------- Dividends per share $ .24 $ .24 $ .24 $ .21 $ .05 - -------------------------------------------------------------------------------- - ---------------- SUPPLEMENTAL PRO FORMA INFORMATION(2) - -------------------------------------------------------------------------------- - ---------------- Supplemental pro forma net income $ 32,456 - -------------------------------------------------------------------------------- - ---------------- Supplemental pro forma net income per share $ 2.37 - -------------------------------------------------------------------------------- - ---------------- Weighted average shares outstanding(3) 14,317 15,039 15,480 15,035 13,704 - -------------------------------------------------------------------------------- - ---------------- SELECTED BALANCE SHEET DATA AT END OF PERIOD - -------------------------------------------------------------------------------- - ---------------- Cash and cash equivalents $ 22,005 $ 12,273 $102,045$ 11,695 $ 5,192 Total assets 853,657 746,368 765,374 1,627,843 1,020,560 Short-term borrowings(4) 158,584 146,833 205,175 1,047,357 783,801 Term loan -- -- -- -- 16,388 Purchase money note -- -- 10,580 12,091 13,473 Notes payable 75,724 74,801 99,699 99,592 Subordinated debt 10,070 10,070 10,070 10,070 9,967 Total liabilities 650,256 553,224 612,269 1,462,463 945,117 StockholdersO equity/partnersO capital $203,401 $193,144 $153,105 $ 165,380 $ 75,443 ================================================================================ ================ SELECTED OPERATING DATA ($ in millions) Volume of loans originated $ 9,473 $ 7,495 $ 9,755 $ 17,607 $ 11,789 Loan servicing portfolio @ end of period(5)$ 13,293 $ 14,109 $ 14,839 $ 17,280 $ 11,813 ================================================================================ ================ 1 1996 and 1995 results are not directly comparable to results for 1994 and prior years due to the adoption of FAS No. 122. See Financial Accounting Standards Board No. 122, OAccounting for Mortgage Servicing RightsO on page 23 for further discussion. 2 Supplemental pro forma net income is computed by adjusting revenues and expenses for interest savings from the net proceeds of the public offering, additional operating expenses caused by the corporate structure and income taxes on adjusted net income that would have been payable had the Company purchased the Partnership at the beginning of the first period presented in the CompanyOs Registration Statement related to its initial public offering. Supplemental pro forma net income per share is then computed on the basis of the weighted average number of shares that would have been outstanding during the year. 3 1992 is pro forma. 4 Short-term borrowings are comprised of warehouse lines of credit and commercial paper. 5 Excludes servicing rights of $1.4 billion, $2.5 billion, $1.2 billion, $2.1 billion, and $2.6 billion, for the years ended December 31, 1992, through 1996 respectively, which had been sold but were sub-serviced by the Company prior to transfer.
19 MANAGEMENTOS DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS GENERAL The CompanyOs revenues from its mortgage origination activities result from loan originations and related fees, interest income earned on mortgage loans that are held by the Company pending their sale and net gains on the sale of mortgage loans. The CompanyOs revenues related to servicing rights are derived principally from loan servicing fees earned on servicing rights and from gains realized on the sale of servicing rights. LOAN ORIGINATIONS - During 1996, total U.S. mortgage originations increased to an estimated $785 billion from $636 billion in 1995. Generally, U.S. mortgage origination volume varies with two factors: the level of new and existing home purchases and the level of refinancings of existing mortgage loans. (See adjacent table.) Both of these factors are impacted by interest rates. To the extent the economy encounters a period of rising interest rates, mortgage loan originations may decline, particularly loan originations due to refinancings. Mortgage originations for the purchase of new and existing homes increased in 1996 to an estimated $556 billion from $480 billion in 1995. This increase reflects the very strong U.S. housing market in 1996. According to industry estimates, 1996 was the highest purchase market in history. Mortgage originations from refinances also increased to an estimated $229 billion compared with $156 billion during 1995. As demonstrated in the graph shown below, refinancing activity is especially sensitive to changes in mortgage interest rates. The strongest refinance quarters for the industry over the past two years were the last quarter of 1995 and the first quarter of 1996, when 30-year mortgage rates were generally below the 7.5% level. The overall higher level of refinancings in 1996 compared with 1995 resulted from a particularly slow first half of 1995, when prevailing refinance mortgage rates were on average above borrowersO existing fixed mortgage rates.
1-4 Family U.S. Mortgage Originations* ---------------------- ($ in Billions) 1996 1995 1994 - ---------------------------------------------------------------------- - -- New and existing home purchases $556 $480 $551 Refinancings 229 156 222 - ---------------------------------------------------------------------- - -- Total $785 $636 $773 ====================================================================== == * Sources: HUD and Mortgage Bankers Association (1996 market data based on current estimates).
COMPANYOS REFINANCING AND 30-YEAR FIXED INTEREST RATES 1995-1996 [BAR/MOUNTAIN CHART] - --------------------------------- Industry Refinance Fundings (in millions) - --------------------------------- 1995 1st Qtr 14 2nd Qtr 21 3rd Qtr 54 4th Qtr 67 1996 1st Qtr 89 2nd Qtr 59 3rd Qtr 36 4th Qtr 45 - --------------------------------- 30 Year Fixed Interest Rate - --------------------------------- Jan95 9.15% Jan96 7.03% Feb95 8.83% Feb96 7.08% Mar95 8.46% Mar96 7.62% Apr95 8.32% Apr96 7.93% May95 7.96% May96 8.07% Jun95 7.57% Jun96 8.32% Jul95 7.61% Jul96 8.25% Aug95 7.86% Aug96 8.00% Sep95 7.64% Sep96 8.23% Oct95 7.48% Oct96 7.92% Nov95 7.38% Nov96 7.62% Dec95 7.20% Dec96 7.60% 20 The CompanyOs loan origination volume in 1996 of $9.5 billion increased by 26% over the $7.5 billion in 1995. This increase in origination volume is primarily attributable to the general rise in the total level of U.S. mortgage originations and to the positive impact of the CompanyOs retail sales initiatives. During the year, the Company increased its retail branch offices by 15, its satellite locations by 29 and added 172 retail loan officers. Despite these increases, however, the CompanyOs loan origination volumes have been and continue to be negatively impacted by aggressive price competition from other originators. (See discussion of price subsidies following.) The adjacent tables show the CompanyOs market share and its originations by distribution channel: CURRENT ORIGINATION TRENDS - The first quarter of the year is generally the slowest for housing sales due to seasonal conditions. Total fundings for the Company in the first two months of 1997 totaled $1.3 billion compared with $1.6 billion for the same period in 1996. As previously discussed, the origination level for the first quarter of 1996 benefited from a relatively high level of refinance activity. Refinance fundings for the Company were $549 million in the first two months of 1997 compared with $868 million in the same period of 1996.
COMPANYOS MARKET SHARE* ------------------------ 1996 1995 1994 - ---------------------------------------------------------------------- - - New and existing home purchases 1.04% 1.08% 0.94% Refinancings 1.57% 1.48% 2.28% Total 1.20% 1.18% 1.26% - ---------------------------------------------------------------------- - - * Based on total 1-4 Family Mortgage Originations as reported by HUD and Mortgage Bankers Association (1996 market data based on current estimates). COMPANYOS ORIGINATION BY DISTRIBUTION CHANNEL ------------------------ ($ in billions) 1996 1995 1994 - ---------------------------------------------------------------------- - - Wholesale $5.5 $4.2 $5.9 Retail* 4.0 3.3 3.9 - ---------------------------------------------------------------------- - - Total $9.5 $7.5 $9.8 - ---------------------------------------------------------------------- - - * Includes telemarketing.
NET INTEREST INCOME - Between the closing of a loan and its sale, the CompanyOs loans are financed by short-term borrowings under a warehouse line of credit, a commercial paper facility and with general corporate funds. The CompanyOs net interest income or loss is the difference between the interest income it earns on the mortgage loans it originates and its interest costs under its short-term borrowings during the holding period. Generally, the CompanyOs net interest income is impacted by: (i) the spread between short-term and long-term interest rates, (ii) the average balance of the CompanyOs real estate loans held for sale and (iii) the level of corporate cash balances and compensating balances used to reduce short-term borrowing costs. A decrease in any of the above factors would have a negative impact on the CompanyOs net interest income. 21 During 1996, the CompanyOs interest rate spread, its average balance of loans held for sale and its compensating balances used to reduce short-term borrowing costs increased compared with 1995. This increase, however, was largely offset by a reduction in corporate cash used to finance the loans held for sale (see OLiquidity and Capital ResourcesO). GAIN (LOSS) FROM SALES OF LOANS - In 1996 and 1995, the CompanyOs gain from sales of loans was impacted by three factors: price subsidies, hedging activity and the recognition of gains related to Originated Mortgage Servicing Rights (OMSRs) under FAS No. 122. In 1994, OMSRs were not recognized for accounting purposes, and therefore, the only comparable factors were pricing and hedging. The following paragraphs describe each of these factors. Price subsidies: The Company may make a loan at a price (i.e., interest rate and discount) that is higher or lower than it would receive if it immediately sold the loan in the secondary market. The Company adjusts the pricing on its loans depending on competitive pressures. From 1994 through 1996, price competition for mortgage loans remained intense, and the Company generally priced its loans below the secondary market. The price competition was largely led by major banks, which were aggressively trying to increase market share and build their servicing portfolios. Price competition in the CompanyOs wholesale origination channel was particularly intense throughout 1996 and remained intense even when origination volumes were increasing during the year. In the opinion of management, this prolonged price competition for loans sourced through wholesale brokers has signaled that a secular change has taken place in the pricing structure of this origination channel. To the extent that such pricing pressure continues or intensifies further, the CompanyOs gain on sales of loans will be negatively impacted. Hedging activity: Gains or losses may result from changes in interest rates that result in changes in the market value of the loans, or commitments to purchase loans, from the time the interest rate lock is given to the borrower until the time that the loan is sold by the Company to the investor. The Company uses an options pricing model to provide information to hedge this latter interest rate risk. The Company uses forward delivery contracts for mortgage-backed securities and whole loan sales as hedging instruments. This strategy virtually eliminates basis risk as the borrowerOs loan is used to satisfy the forward delivery contract. In periods of gradually declining rates with relatively low volatility, such as the Company experienced for most of 1995, the CompanyOs hedging activity generally produces gains. The CompanyOs hedging strategy is negatively impacted during periods of high interest rate volatility or during periods when there is a significant change in the direction of interest rates. The Company experienced both of these conditions during the first nine months of 1996 and, therefore, its hedging profitability for the year was negatively affected. 22 OMSR impact: OMSR gains result from the creation of servicing rights in the loan origination process. OMSR gains are affected by the volume of loan originations, the product mix of servicing originated and the general market for mortgage servicing rights. (See discussion Financial Accounting Standards Board No. 122, OAccounting for Mortgage Servicing Rights,O which follows.) FINANCIAL ACCOUNTING STANDARDS BOARD NO. 122, OACCOUNTING FOR MORTGAGE SERVICING RIGHTSO - In May 1995, the Financial Accounting Standards Board issued FAS No. 122, OAccounting for Mortgage Servicing Rights,O an amendment to FAS No. 65. Effective January 1, 1995, the Company adopted FAS No. 122. Since FAS No. 122 prohibits retroactive application, the historical accounting results for 1994 and before have not been restated and, accordingly, the accounting results for the years ended December 31, 1996, and December 31, 1995, are not directly comparable to the year ended December 31, 1994. The primary difference between FAS No. 122 and FAS No. 65, as it relates to the Company, is the accounting treatment for the normal servicing fee associated with in-house OMSRs. Virtually all of the CompanyOs originations are in-house, whereby the underlying loan is funded and closed by the Company. Under FAS No. 65, OMSRs were not recorded as an asset. In 1994, the revenues and costs of creating OMSRs were recognized by the Company in the financial statements at the time the underlying loans were sold. As a result of this accounting treatment, the CompanyOs financial statements in 1994 did not recognize any balance sheet or income statement value for the OMSRs created by the Company, even though these OMSRs had a substantial market value. Under FAS No. 122, OMSRs are treated as an asset separate from the underlying loan. In 1996 and 1995, the total cost of creating a mortgage loan was allocated at the time of origination between the loan and the servicing right based on their respective fair values. Additionally, gains on the sales of loans attributable to the allocation of costs to the OMSR were recognized when the related loan was sold, even though the OMSR asset was recognized on the date the loan was originated. A portion of the asset established for OMSRs was amortized and the OMSR asset was analyzed for impairment based on market prices under comparable servicing sale contracts when available or, alternatively, on the expected future net servicing revenue stream. Several financial statement captions reported in the CompanyOs Statement of Operations for the year ended December 31, 1996, and December 31, 1995, were impacted by the adoption of FAS No. 122, including: Gain (loss) from sale of loans, Gain from sales of servicing, and Amortization and impairment of loan servicing. The impact on each of these line items is discussed in detail in the Results of Operations discussion for the years ended December 31, 1996, and December 31, 1995. 23 SERVICING RIGHTS - The principal balance of the CompanyOs servicing portfolio was $13.3 billion and $14.1 billion at December 31, 1996, and December 31, 1995, respectively. Substantially all of these servicing rights have been obtained through in-house origination sources (i.e., loans which are funded and closed by the Company). As more fully described above, servicing rights for mortgage loans originated prior to 1995 were capitalized on the balance sheet only to the extent of the value of excess servicing, while essentially all of the value of servicing originated since 1995 has been capitalized. As a result of the difference in accounting treatment, the balance sheet carrying value for servicing rights is significantly different depending on whether the servicing was originated before January 1, 1995 (pre-1995), or after January 1, 1995 (post-1995). Management believes that the total fair market value of its pre-1995 servicing rights is substantially more than its carrying value, while the fair market value of post-1995 servicing rights is approximately equal to its total carrying value. In 1996, the Company sold $2.8 billion of pre-1995 servicing rights and recorded a net pre-tax gain of $32.8 million. The prices received for sales in 1996 may not necessarily reflect the value of the remaining pre-1995 portfolio, due to differences in portfolio characteristics (i.e., servicing fees, age, coupon rates) and changes in market conditions. At December 31, 1996, the net balance sheet carrying value (the total OMSR, Purchased Servicing and Excess Servicing Assets) and the principal balance of the servicing portfolio originated pre-1995 and post-1995 were as shown in the adjacent table: Management continually evaluates the CompanyOs investment in retained servicing rights and periodically makes decisions to sell servicing rights after considering the following criteria: cash requirements, market value for servicing rights compared with their economic value to the Company, exposure to prepayment risk, and earnings impact. To the extent the Company elects to sell pre-1995 servicing rights, virtually all of the net proceeds from such sales are recognized as one-time gains from the sale of servicing due to the minimal book value of these servicing rights. Of the approximately $5.8 billion of pre-1995 servicing remaining at December 31, 1996, the Company estimates that it may be economically advantageous (i.e., where market value equals or exceeds the economic value to the Company) to sell approximately $2.5 billion as part of its future servicing sales. The CompanyOs results of operations have historically been and will continue to be impacted by the amount and timing of sales of pre-1995 servicing rights. Historically, when interest rates decline, the incremental value created by the CompanyOs production organization from higher refinance originations has more than offset the loss in value to its servicing portfolio resulting from higher prepayments. Accordingly, the Company does not presently hold any financial prepayment hedges, but it has relied on its ability to originate new servicing as a macro-hedge. Under FAS No. 122, however, if rates were to decline, the timing of additional production revenues and any servicing impairment charge might not occur in the same period for financial statement purposes. The Company could be required to recognize a servicing impairment charge in one reporting period, while the incremental production revenues could be generated over several periods.
TOTAL AT PRE-1995 POST-1995 12/31/96 - ---------------------------------------------------------------------- - - Balance sheet carrying value $1,338 $132,440 $133,778 (In thousands) Servicing portfolio principal $5,757 $ 7,536 $ 13,293 balance (In millions) - ---------------------------------------------------------------------- - - Carrying Value Percentage 0.03% 1.76% 1.01%
24 RESULTS OF OPERATIONS Year ended December 31, 1996, compared with the year ended December 31, 1995. SUMMARY - Net income in 1996 was $33.0 million, compared with $40.5 million for 1995. The decrease in net income was attributable to a combination of factors. The CompanyOs direct origination income (origination fees and OMSR gains less origination expenses) increased as a result of the 26% rise in origination volume. This increase was more than offset by lower servicing sale gains, lower hedging gains and higher amortization and impairment of OMSRs. REVENUES - Revenues for 1996 were $306.8 million, a $32.0 million or 12% increase, compared with 1995 revenue of $274.8 million. Loan administration fees were $45.3 million in 1996, an 8% increase, compared with $41.8 million in 1995. Loan administration fees rose, despite a 2% decline in the average size of the CompanyOs servicing portfolio, due to an increase in the CompanyOs weighted average service fee and a reduction in excess servicing fee amortization, which is netted against servicing revenues. Loan origination fees were $84.6 million in 1996, a 22% increase, compared with $69.3 million in 1995. This increase reflects the higher origination level, partially offset by a decrease in the average origination fees collected on each loan as a result of a slightly higher percentage of wholesale and telemarketing originations. In 1996, the CompanyOs wholesale and telemarketing originations represented 63% of total production as opposed to 60% in 1995. The gain on sales of loans was $101.2 million in 1996, compared with $81.7 million in 1995. The gain from sales of loans is impacted by hedging activities, pricing subsidies and gains recorded due to the allocation of a portion of the cost of the loan to OMSR under FAS No. 122. (See adjacent table.)
(In thousands) 1996 1995 - ---------------------------------------------------------------------- - - Hedging gains $ 6,631 $ 14,289 Pricing subsidies (33,471) (23,697) FAS No. 122 impact 127,993 91,060 - ---------------------------------------------------------------------- - - $101,153 $ 81,652 - ---------------------------------------------------------------------- - -
Hedging gains were $6.6 million, or 7 basis points on loans originated in 1996, compared with $14.3 million, or 19 basis points, in 1995. The CompanyOs hedging results were negatively impacted by the upward turn in interest rates and increased bond market volatility experienced during the first three quarters of this year. Hedging gains for this period averaged 1 basis point on loans originated compared with 25 basis points on loans originated during the fourth quarter of 1996. Pricing subsidies increased to $33.5 million during 1996, with the average subsidy on loans produced at 35 basis points, compared with $23.7 million, or 32 basis points, during 1995. This increase reflects the continued price competition for mortgage loans, particularly loans sourced through wholesale brokers. FAS No. 122 related gains were $128.0 million in 1996, an increase of 41%, compared with $91.1 million during 1995. This increase is related to a 36% increase in loans sold during 1996, compared with 1995, that were originated after the implementation of FAS No. 122 and a higher OMSR capitalization rate, resulting from changes in product mix and market values. Interest income, net of warehouse interest expense, increased to $28.7 million for 1996, compared with $27.5 million for 1995. This 4% increase in net interest income was due to an increase in the average balance of loans held for sale, an increase in the interest rate spread earned, and an increase in compensating balance credits used to reduce warehouse borrowing costs. These increases were partially offset by a reduction in corporate cash used to fund the warehouse (see OLiquidity and Capital ResourcesO). 25 Gain from sales of servicing was $37.6 million in 1996, compared with $46.0 million in 1995, an 18% decrease. In 1996, the Company sold $8.2 billion (or 87% of originations) of servicing rights, compared with the sale of $6.7 billion (or 89% of originations) in 1995. The related gain decreased, however, due to a smaller amount of pre-1995 servicing sold during 1996. The gain on sale of pre-1995 servicing during 1996 was $32.8 million (on $2.8 billion of principal sold), compared with a gain of $37.3 million (on $3.3 billion of principal sold) in 1995. EXPENSES - Expenses for 1996 were $251.8 million, a 19% increase compared with $211.1 million in 1995. Personnel costs were $150.1 million, a 23% increase, compared with $122.0 million in 1995, caused primarily by a 26% growth rate in loan origination volume. Personnel costs were also impacted by hiring additional loan officers in connection with the CompanyOs retail sales initiative. Other operating costs increased 15% to $73.5 million for 1996 from $64.1 million in 1995. These expense increases were primarily attributable to the 26% increase in origination volume and the higher startup and operating costs associated with new branches and satellite locations. Interest expense decreased to $9.4 million in 1996, compared with $9.8 million in 1995. This decrease was the result of the decline in interest expense on the medium-term notes (MTNs), due to a lower average balance of MTNs outstanding in 1996. Amortization and impairment of loan servicing increased to $10.5 million during 1996, compared with $7.3 million during 1995. The primary causes for this increase were the size of the OMSR assets on the balance sheet, which caused higher amortization expense, partially offset by a lower impairment charge in 1996. YEAR ENDED DECEMBER 31, 1995, COMPARED WITH THE YEAR ENDED DECEMBER 31, 1994. SUMMARY - Net income in 1995 increased by 394% to $40.5 million, compared with net income of $8.2 million for 1994. The increase in net income for 1995 reflected a significant improvement in gain on sale of loans (see discussion of FAS No. 122 impact below) and a reduction of costs, largely due to the closing of 29 offices in a downsizing plan during 1994. These improved results were partially offset by a reduction in the gain from sales of servicing resulting from a reduction in the volume of servicing sold and due to higher book value of the servicing rights. REVENUES - Revenues for 1995 were $274.8 million, a $6.6 million, or 2% increase, compared with 1994 revenue of $268.2 million. Loan administration fees, net of the amortization of excess servicing fees of $4.7 million in 1995 and $629,000 in 1994, were $41.8 million in 1995, a 17% decrease, compared with $50.6 million in 1994. This decrease is primarily the result of the 12% decrease in the average size of the Company-owned loan servicing portfolio, partially offset by an increase in the average servicing fee collected. Loan origination fees were $69.3 million in 1995, an 8% decrease, compared with $75.1 million in 1994. This decrease resulted primarily from a 23% decrease in loan originations, partially offset by an increase in origination fees collected on each loan. This increase in the average fees collected was primarily a result of a higher percentage of retail production in 1995 (44% as opposed to 39%), on which the Company receives higher loan origination fees. The gain on sales of loans was $81.7 million in 1995, compared with a loss of $15.0 million during 1994. In 1994, gains or losses on sales of loans resulted from hedging activities and pricing subsidies. In 1995, gains or losses on sales of loans were affected by these same factors, but were also affected by FAS No. 122. Under FAS No. 122, a higher gain on sale is recorded when a loan originated by the Company is sold and the servicing is retained compared with FAS No. 65, because under FAS No. 122, the cost of the loan is reduced by the amount allocated to OMSRs. 26 Hedging gains increased by $7.6 million as a result of periods of declining interest rates and lower interest rate volatility, both of which existed during most of 1995. Adjacent is a summary of marketing results for 1995 and 1994:
(In thousands) 1995 1994 - ---------------------------------------------------------------------- - -- Hedging gains $ 14,289 $ 6,640 Pricing subsidies (23,697) (21,591) FAS No. 122 impact 91,060 -- - ---------------------------------------------------------------------- - -- $ 81,652 $ (14,951) - ---------------------------------------------------------------------- - --
Pricing subsidies increased 10%, with the average subsidy on loans produced increasing to 32 basis points during 1995, compared with 22 basis points in 1994, due to intense price competition associated with industry overcapacity. Interest income, net of warehouse interest expense, decreased to $27.5 million for 1995, compared with $29.5 million for 1994. This 7% decrease in net interest income was primarily due to a lower average daily balance of loans held for sale. Gain from sales of servicing was $46.0 million in 1995, compared with $120.7 million in 1994, a 62% decrease. The reduction in gain resulted primarily from a 32% decrease in the volume of servicing sold and the reduction of the gain from sales of servicing by $34.8 million in 1995 due to OMSR basis associated with servicing sold. The Company sold mortgage servicing rights with an aggregate principal balance of $6.7 billion in 1995, or 89% of originations, compared with $9.9 billion, or 101% of originations, in 1994. EXPENSES - Expenses for 1995 were $211.1 million, an 18% decrease compared with $256.9 million in 1994. Personnel costs were $122.0 million, an 18% decrease, compared with $147.9 million in 1994. This decrease in personnel expenses from 1994 occurred principally in the residential loan production area. These declining expense levels resulted from staffing reductions and reduced commission payments as a result of lower production volume. Other operating costs decreased 21% to $64.1 million for 1995 from $81.1 million in 1994. These cost reductions occurred throughout the Company, but were greatest in the loan production area, due to the closing of 29 offices in the downsizing plan during 1994 and the reduced loan origination volumes from 1994 to 1995. Interest expense decreased to $9.8 million for 1995, compared with $10.8 million for 1994. This decrease was the result of lower prepayments on certain securitized loan pools serviced by the Company, which require the Company to pay interest to the security holders for the period from the prepayment to the end of the month, as well as reduced interest on its purchase money note, which matured in March 1995. Amortization and impairment of loan servicing increased to $7.3 million during 1995, compared with $965,000 during 1994. The primary cause for the increase relates to amortization and impairment of OMSRs of $6.6 million in 1995 resulting from the adoption of FAS No. 122 and a pattern of falling interest rates, which produces higher prepayment activity. INFLATION The Company is affected by inflation primarily through its impact on interest rates. During periods of rising inflation, interest rates generally tend to increase, causing decline in loan origination volumes, particularly loan refinancing activity. During periods of rising interest rates, prepayment rates tend to slow, extending the average life of the CompanyOs servicing portfolio and generally enhancing its value. During periods of reduced inflation, interest rates generally tend to decline, resulting in increased loan origination volume and loan refinancing activity, affecting the CompanyOs servicing portfolio in the opposite manner. LIQUIDITY AND CAPITAL RESOURCES The CompanyOs cash flow requirements primarily depend on both the level and cost of its loan originations, the level of its servicing sales and the cash flow generated by, or required by its other operating activities. Additionally, the Company may use or provide cash through its investing and other financing activities. 27 LIQUIDITY SOURCES - The CompanyOs loan originations are primarily financed through warehouse borrowings, commercial paper borrowings, and with corporate funds. This financing requirement begins at the time of loan closing and extends for an average of approximately 30 days until the loan is sold into the secondary market. On January 23, 1996, the Company entered into a new warehouse line of credit facility which will expire on January 23, 1999. The outstanding commitment under this facility was $1.0 billion at December 31, 1996. The CompanyOs management expects, although there can be no assurance, that this facility will continue to be available in the future. The Company also has a commercial paper borrowing program. Borrowings under this $500 million program replace, at a reduced interest rate, borrowings under the CompanyOs warehouse line of credit. The warehouse line of credit acts as the liquidity backup facility for the commercial paper borrowings. At times, the Company will accelerate the sale of its mortgage loan inventory through the use of OgestationO facilities provided by an investment bank and the Federal National Mortgage Association. The CompanyOs corporate funds are generally invested in its inventory of mortgage loans held for sale. The level of funds available to support its inventory decreased from 1995 to 1996 because of the cash used for the investing and other financial activities detailed below. In October 1993, the Company implemented a $250 million MTN program. Since 1993, $126 million in MTNs have been issued and $76 million remain outstanding at December 31, 1996. INVESTING AND OTHER FINANCIAL ACTIVITIES COMMON STOCK - On February 7, 1996, the Company authorized the repurchase of up to 1.5 million shares of common stock. During 1996, the Company repurchased 1,182,400 shares under this authorization at an aggregate cost of $21.5 million. As of December 31, 1996, the Company held 2,322,916 shares in treasury stock, which have been acquired since 1994 under the current and prior repurchase authorizations at an aggregate cost of $40.7 million. DIVIDENDS - The Company has paid quarterly common stock dividends since the initial public offering on July 15, 1992. Dividend payments totaled $3.4 million in 1996 and $3.6 million in 1995. In February 1997, the CompanyOs board of directors approved a common stock dividend of $.06 per share. BUSINESS INVESTMENT - In October 1996, the Company purchased the assets of Lomas Insurance Services for $3.5 million. MTN PROGRAM AND PURCHASE MONEY NOTE - In 1996, the Company issued $26 million in seven-year MTNs. The Company paid off in both 1996 and 1995, $25 million of MTNs that matured. Also, in 1995, the Company paid off a purchase money mortgage for $10.2 million. PROPERTY, PLANT AND EQUIPMENT - During 1996 and 1995, the Company purchased property and equipment totaling $10.0 million and $3.6 million, respectively. EXCESS SERVICING FEES - During 1996 and 1995, the Company created $37.9 million and $49.1 million of excess servicing fees during loan sales transactions. In general, the Company creates excess servicing fees when the secondary market price offered for that servicing asset is lower than the economic value or the amount the Company could receive by accumulating the asset and selling it as part of a bulk sale at a later date. During the CompanyOs holding period of the Excess Servicing Fee asset, the Company is at risk that the asset will decline in value and a write down will be required, primarily due to faster prepayment speeds. The carrying amount of excess servicing rights was $25.5 million and $20.6 million at December 31, 1996 and December 31, 1995, respectively. 28 REPORT OF INDEPENDENT AUDITORS Board of Directors North American Mortgage Company(R) We have audited the accompanying consolidated balance sheets of North American Mortgage Company(R) and subsidiaries as of December 31, 1996 and 1995, and the related consolidated statements of operations, stockholdersO equity and cash flows for each of the three years in the period ended December 31, 1996. These financial statements are the responsibility of North American Mortgage Company(R)Os management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the consolidated financial position of North American Mortgage Company(R) and subsidiaries at December 31, 1996 and 1995 and the consolidated results of their operations and their cash flows for each of the three years in the period ended December 31, 1996, in conformity with generally accepted accounting principles. In 1995, North American Mortgage Company(R) adopted Financial Accounting Standards Board Statement No. 122, OAccounting for Mortgage Servicing Rights.O These changes are discussed in Note D of the Notes to the Consolidated Financial Statements. [s/ERNST & YOUNG LLP] San Francisco, California January 31, 1997 29 CONSOLIDATED BALANCE SHEETS
DECEMBER 31 1996 1995 - ---------------------------------------------------------------------- - - DOLLARS IN THOUSANDS ASSETS Cash and cash equivalents $ 22,005 $ 12,273 Advances and other receivables 85,299 76,628 Real estate loans held for sale to investors net of unearned discounts 554,415 526,913 Originated loan servicing - Note D 107,679 56,353 Excess servicing fees - Note D 25,540 20,559 Purchased loan servicing - Note D 559 1,163 Other intangible assets - Note D 9,391 6,438 Property and equipment - Note E 38,541 36,339 Other assets 10,228 9,702 - ---------------------------------------------------------------------- - -- $853,657 $746,368 ====================================================================== == LIABILITIES AND STOCKHOLDERSO EQUITY LIABILITIES Warehouse line of credit - Note C $158,584 $146,833 Notes payable - Note C 75,724 74,801 Commercial paper - Note C 340,115 279,221 Subordinated debt - Note C 10,070 10,070 Accounts payable and other liabilities 65,763 42,299 - ---------------------------------------------------------------------- - -- 650,256 553,224 ====================================================================== == COMMITMENTS AND CONTINGENCIES - Notes I, J, K, and N STOCKHOLDERSO EQUITY - Note G Convertible preferred stock (1,000,000 shares authorized, 748,179 shares issued and outstanding) -- -- Common stock (50,000,000 shares authorized, 16,394,544 and 16,394,543 shares issued at December 31, 1996 and 1995, respectively) 164 163 Additional paid-in capital 112,492 110,250 Retained earnings 131,435 101,909 Treasury stock (2,322,916 and 1,140,516 shares at December 31, 1996 and 1995, respectively) (40,690) (19,178) 203,401 193,144 - ---------------------------------------------------------------------- - -- $853,657 $746,368 ====================================================================== ==
See accompanying notes to consolidated financial statements. 30 CONSOLIDATED STATEMENTS OF OPERATIONS
Years Ended December 31 1996 1995 1994 Amounts in thousands, except per share data INCOME Loan administration fees, net of excess servicing fee amortization $ 45,280 $ 41,830 $ 50,574 Loan origination fees 84,605 69,282 75,140 Gain (loss) from sales of loans 101,153 81,652 (14,951) Interest income, net of warehouse interest expense of $20,428, $11,588 and $11,166 for 1996, 1995 and 1994, respectively - Note C 28,680 27,534 29,491 Gain from sales of servicing - Note J 37,634 46,037 120,739 Other 9,441 8,445 7,172 - ---------------------------------------------------------------------- - -- 306,793 274,780 268,165 EXPENSES Personnel 150,076 122,033 147,941 Other operating expenses 73,487 64,142 81,121 Interest expense 9,430 9,828 10,812 Downsizing expenses - Note M -- -- 8,470 Depreciation and amortization of property and equipment 7,852 7,306 7,207 Amortization and impairment of loan servicing 10,462 7,310 965 Amortization of other intangibles 504 444 412 - ---------------------------------------------------------------------- - -- 251,811 211,063 256,928 ====================================================================== == Income before income taxes 54,982 63,717 11,237 Income tax expense - Note H 22,029 23,262 3,055 - ---------------------------------------------------------------------- - -- NET INCOME $ 32,953 $ 40,455 $ 8,182 ====================================================================== == Net income per share $ 2.30 $ 2.69 $ .53 - ---------------------------------------------------------------------- - -- Weighted average shares outstanding 14,317 15,039 15,480 - ---------------------------------------------------------------------- - -- DIVIDENDS PER SHARE $ .24 $ .24 $ .24 ====================================================================== ==
See accompanying notes to consolidated financial statements. 31 CONSOLIDATED STATEMENT OF STOCKHOLDERSO EQUITY
COMMON ADD. TOTAL COMMON STOCK PAID-IN RETAINED TREASURY STCKHLDRS STOCK SHARES AMOUNT CAPITAL EARNINGS STOCK EQUITY - -------------------------------------------------------------------------------- - ---------------- Amounts in thousands Balance at December 31, 1993 15,848 $158 $104,620 $ 60,602 $165,380 Net income 8,182 8,182 Dividends (3,716) (3,716) Stock issuances under option plan 82 1 1,324 1,325 Stock issuances under Employee Stock Purchase Plan 89 1 1,111 1,112 Purchases of Treasury Stock $(19,178) (19,178) - -------------------------------------------------------------------------------- - ---------------- Balance at December 31, 1994 16,019 160 107,055 65,068 (19,178) 153,105 Net income 40,455 40,455 Dividends (3,614) (3,614) Stock issuances under option plan 144 2 2,002 2,004 Stock issuances under Employee Stock Purchase Plan 95 1 1,193 1,194 - -------------------------------------------------------------------------------- - ---------------- Balance at December 31, 1995 16,258 163 110,250 101,909 (19,178) 193,144 Net income 32,953 32,953 Dividends (3,427) (3,427) Stock issuances under option plan 39 599 599 Stock issuances under Employee Stock Purchase Plan 98 1 1,643 1,644 Purchases of Treasury Stock (21,512) (21,512) - -------------------------------------------------------------------------------- - ---------------- Balance at December 31, 1996 16,395 $164 $112,492 $131,435 $(40,690) $203,401 ================================================================================ ================ See accompanying notes to consolidated financial statements.
32 CONSOLIDATED STATEMENT OF CASH FLOWS
YEARS ENDED DECEMBER 31 1996 1995 1994 - ---------------------------------------------------------------------- - -- DOLLARS IN THOUSANDS OPERATING ACTIVITIES Net income $32,953 $ 40,455 $ 8,182 Adjustments to reconcile net income to net cash provided by (used in) operating activities Depreciation and amortization 21,441 19,738 9,214 Capitalized excess servicing fee income (37,937) (49,110) (5,407) Gain on sales of servicing rights (37,634) (46,037) (120,739) Cash proceeds from sales of servicing rights 135,126 111,850 122,244 Decrease (increase) in real estate loans held for sale, net of unearned discounts (27,502) 15,090 952,641 Decrease (increase) in advances and other receivables (8,671) (19,887) 3,397 Increase (decrease) in accounts payable and other liabilities 23,464 17,440 (19,049) Decrease (increase) in other assets (527) (1,720) 3,571 - ---------------------------------------------------------------------- - -- NET CASH PROVIDED BY OPERATING ACTIVITIES 100,713 87,819 954,054 INVESTING ACTIVITIES Acquisition of assets of branches and insurance operations acquired including purchase accounting adjustments (3,551) (143) (913) Purchase of servicing rights -- (80) (131) Acquisition of originated servicing rights (128,343) (97,751) -- Purchase of property and equipment (9,959) (3,608) (11,058) Retirement of property and equipment -- 892 -- - ---------------------------------------------------------------------- - -- NET CASH USED IN INVESTING ACTIVITIES (141,853) (100,690) (12,102) FINANCING ACTIVITIES Issuance of notes payable 25,844 -- -- Principal payments on long-term debt (24,921) (35,478) (1,511) Net increase (decrease) in warehouse line of credit and commercial paper 72,645 (41,007) (829,634) Dividends (3,427) (3,614) (3,716) Purchases of Treasury Stock (21,512) -- (19,178) Stock issuance under Employee Stock Purchase Plan and Stock Option Plan 2,243 3,198 2,437 - ---------------------------------------------------------------------- - -- NET CASH PROVIDED BY (USED IN) FINANCING ACTIVITIES 50,872 (76,901) (851,602) - ---------------------------------------------------------------------- - -- INCREASE (DECREASE) IN CASH AND CASH EQUIVALENTS 9,732 (89,772) 90,350 - ---------------------------------------------------------------------- - -- Cash and cash equivalents at beginning of year 12,273 102,045 11,695 - ---------------------------------------------------------------------- - -- CASH AND CASH EQUIVALENTS AT END OF YEAR $22,005 $ 12,273 $102,045 ====================================================================== ==
See accompanying notes to consolidated financial statements. 33 Notes to Consolidated Financial Statements NOTE A - ORGANIZATION AND SIGNIFICANT ACCOUNTING POLICIES - ---------------------------------------------------------------------- - -- ORGANIZATION The accompanying Consolidated Financial Statements include the accounts of North American Mortgage Company(R); North American Mortgage Insurance Services; Sonoma Conveyancing Corporation; Fairfield Financial Holdings Inc.; IC Capital Co., Inc.; Vintage Reinsurance Company; and IMCO Capital Co., Inc. CASH AND CASH EQUIVALENTS Cash and cash equivalents include cash on hand and in banks and short-term investments with maturities of three months or less. REAL ESTATE LOAN VALUATION Real estate loans held for sale, net of the related commitments, are stated at the lower of aggregate cost or market value. PURCHASED LOAN SERVICING Purchased loan servicing is recorded at cost which is not in excess of the future net cash flows related to the servicing portfolio. The cost is being amortized in proportion to the estimated future net servicing income. Impairment of purchased loan servicing is determined using the estimated fair value of the purchased mortgage servicing rights on a disaggregated portfolio basis. ORIGINATED LOAN SERVICING Originated loan servicing is recorded based on its fair value relative to the loan as a whole. The cost is being amortized in proportion to the estimated future net servicing income. Impairment of originated loan servicing is determined using the estimated fair value of the mortgage servicing rights on a disaggregated portfolio basis. EXCESS SERVICING FEES In determining the gain or loss on sale of mortgage loans to investors where the stated servicing fee rate differs materially from a normal servicing fee rate, the sales price is adjusted by the difference between the actual sales price and the estimated sales price that would have been obtained if a normal servicing fee rate had been specified and a capitalized servicing fee receivable is recorded. Capitalized servicing fees are carried at amounts not in excess of the estimated future discounted cash flows using original discount rates on a disaggregated portfolio basis. The Company uses the income forecast method to amortize capitalized servicing fees. Under the income forecast method, capitalized servicing fees are amortized in proportion to the estimated future excess servicing income and over the period of the estimated economic life of the loans sold. The estimated economic lives of the loans used by the Company are based on the median prepayment rates forecasted by several large brokerage firms. OTHER INTANGIBLE ASSETS Amortization of other intangible assets is provided by the straight-line method over estimated useful lives of 5 to 20 years. PROPERTY AND EQUIPMENT Property and equipment is stated at cost. Depreciation and amortization is calculated using the straight-line method over estimated useful lives of the assets (3 to 35 years). LOAN ADMINISTRATION The Company services mortgages for investors as well as mortgages held for sale. In connection with mortgage servicing activities, the Company segregates escrow and custodial funds in separate trust accounts and excludes these balances (approximately $276.9 million and $230.1 million at December 31, 1996 and 1995, respectively) from the balance sheet. These funds represent principal and interest payment amounts held for investors pending scheduled remittance and funds held for borrowers for payment of scheduled items, primarily taxes and insurance. 34 INCOME RECOGNITION Lending transaction costs are deferred until the related loan is sold. Commitment fees paid to investors are being deferred until either the expiration of the commitment or the sale of the related loan. Upon sale of the loan or expiration of the commitment, the deferred origination fees are recognized as loan origination fees in the statement of operations and deferred origination costs are recognized in the applicable expense classification. Loan administration income represents fees earned for servicing loans for various investors. The fees are either based on a contractual percentage of the outstanding principal balance or a fixed dollar amount per loan. Fees are credited to income when the related payments are received. Discounts and premiums from the origination of real estate loans held for sale are deferred and recognized as adjustments to gain or loss upon sale. INCOME TAXES The Company has adopted Statement of Financial Accounting Standards No. 109, OAccounting for Income Taxes.O The Company has provided disclosures related to income taxes (see Note H). The Company and its subsidiaries file separate United States federal income tax returns and separate or combined returns for certain states, including California. State and local income tax returns are filed according to the taxable activities of the Company. The liability method of accounting is used for income taxes. Under the liability method, deferred tax assets and liabilities are recognized for the expected future tax consequences of existing differences between financial reporting and tax reporting bases of assets and liabilities, as well as for the operating losses and tax credit carry- forwards, using enacted tax laws and rates. Deferred tax expense represents the net change in the deferred tax asset or liability balance during the year. This amount, together with income taxes currently payable or refundable for the current year, represents the total income tax expense for the year. NET INCOME PER SHARE Net income per share is computed by dividing net income by the average number of common shares outstanding and the additional dilutive effect (if any) of stock options outstanding during the period. The dilutive effect of stock options is computed using the Treasury Stock method. COMMITMENT DEPOSITS FROM BUILDERS AND PRE-PAID COMMITMENT FEES Commitment deposits from builders are included in other liabilities and represent fees received for guaranteeing the funding of mortgage loans to borrowers. Prepaid commitment fees are included in other assets and represent fees paid to permanent investors to ensure the ultimate sale of the loans. These fees are recognized as revenue or expense when the loans are sold to permanent investors or when the commitment expires. USE OF ESTIMATES IN THE PREPARATION OF FINANCIAL STATEMENTS The preparation of the Consolidated Financial Statements of the Company requires management to make estimates and assumptions that affect reported amounts. These estimates are based on information available as of the date of the financial statements. Therefore, actual results could differ from those estimates. RECENTLY ISSUED FINANCIAL ACCOUNTING STANDARD In June 1996, the Financial Accounting Standards Board issued Statement of Financial Accounting Standards No. 125, OAccounting for Transfers and Servicing of Financial Assets and Extinguishments of LiabilitiesO (SFAS No. 125). As amended, SFAS No. 125, applies to securities lending, repurchase agreements, dollar rolls, and other similar secured financing transactions occurring after December 31, 1997, and to all other transfers and servicing of financial assets occurring after December 31, 1996. FAS 125 will result in the recording of 35 Originated Mortgage Servicing Rights (OMSR) on the date of the sale of a mortgage loan as opposed to the current practice of recording OMSRs on the date that loans are originated. Additionally, under FAS 125, excess servicing fees will be combined with OMSR for balance sheet presentation as well as for transactions beginning in the first quarter of 1997. Based on current circumstances, the Company believes that the application of the new rules will not have a material impact on the financial statements. NOTE B - NATURE OF OPERATIONS - ---------------------------------------------------------------------- - -- The Company is engaged primarily in the mortgage banking business and accordingly, originates, acquires, sells and services mortgage loans which are principally first-lien mortgage loans secured by single (one to four) family residences. The Company also sells the servicing rights associated with a portion of such loans. The Company sells the majority of the conventional mortgage loans it originates under purchase and guarantee programs sponsored by the Federal Home Loan Mortgage Corporation (OFHLMCO) and the Federal National Mortgage Association (OFNMAO). The CompanyOs loans insured by the Federal Housing Administration (OFHAO) or partially guaranteed by the Veterans Administration (OVAO) or Farmers Home Administration are pooled to form Government National Mortgage Association (OGNMAO) securities. The Company sells FHLMC, FNMA and GNMA securities to investment banking firms that are primary dealers in government securities. Loans not conforming to requirements of such agencies are sold to private institutional investors. The principal sources of revenue from the CompanyOs business are (i) loan administration fees, (ii) loan origination fees, (iii) gain from sales of loans, (iv) net interest earned on mortgage loans during the period that they are held by the Company pending sale and (v) gain from sales of servicing. NOTE C - BORROWING ARRANGEMENTS - ---------------------------------------------------------------------- - -- Borrowing arrangements consist of the following:
December 31 1996 1995 - ---------------------------------------------------------------------- - -- Dollars in thousands Warehouse line of credit facilities with banks at December 31, 1996, of $1 billion expiring January 23, 1999, and at December 31, 1995, of $800 million, bearing a variable interest rate, as described below, with outstanding interest and principal due on demand and collateralized by mortgage loans held for sale. $158,584 $146,833 Outstanding medium-term notes, net of discount, bearing interest rates between 5.78% and 7.34% at December 31, 1996, and between 4.61% and 6.53% at December 31, 1995. Interest is payable semi-annually and principal is due at various dates through August 25, 2003. $75,724 $74,801 Outstanding Commercial paper notes at December 31, 1996, bearing interest rates of 5.59% to 6.75% and due between January 2, 1997 and January 16, 1997 and at December 31, 1995, bearing interest rates of 5.78% to 6.30% and due between January 2, 1996 and January 24, 1996. $340,115 $279,221 Unsecured notes payable to insurance companies and accrued interest, due August 1999, subordinated to the warehouse line of credit, interest at 10 percent payable or capitalized at the CompanyOs option semi-annually, principal and accrued interest due upon maturity. $10,070 $10,070
36 The Company has a warehouse line of credit with banks to fund its mortgage loan activity. The line bears interest at various interest rates. The weighted average cost of funds to fund the CompanyOs mortgage loan activity in 1996, 1995, and 1994 was 5.99 percent, 6.68 percent and 5.62 percent, respectively. Under various agreements, interest expense is reduced as a result of holding escrows and custodial funds at non-affiliated banks. Borrowing costs were reduced by $10.9 million, $9.9 million and $10.7 million during 1996, 1995, and 1994 respectively, for the use of such compensating balances. Compensating balances averaged $217.3 million and $209.5 million for the years ended December 31, 1996 and 1995, respectively, and were comprised of corporate and custodial accounts. The Company must comply with certain covenants provided in its warehouse loan agreement, including requirements relating to net worth, working capital and leverage. In addition, the Company is limited to $35 million as the aggregate amount it may disburse for cash dividends and stock repurchases in any four consecutive quarters. At any time that the Company is not in compliance with certain covenants to its loan agreement, the Company cannot declare or pay any non-stock dividends. At December 31, 1996, and December 31, 1995, the Company was in compliance with the aforementioned loan covenants. Aggregate maturities of borrowing arrangements excluding discounts, at December 31, 1996, are as shown in the chart.
Years Ended December 31 - ---------------------------------------------------------------------- - -- (In thousands) 1997 $498,699 1998 25,000 1999 10,070 2000 25,000 2001 -- 2002 and beyond 26,000 $584,769
Interest paid for the years ended December 31, 1996, 1995 and 1994 was $29.9 million, $22.5 million and $21.6 million, respectively. NOTE D - ORIGINATED LOAN SERVICING, PURCHASED LOAN SERVICING, EXCESS SERVICING FEES AND OTHER INTANGIBLE ASSETS - ---------------------------------------------------------------------- - -- The Company elected to adopt FAS No. 122, OAccounting for Mortgage Servicing RightsO for its financial statement reporting beginning January 1, 1995. FAS No. 122 prohibits retroactive application prior to that date. FAS No. 122 requires that mortgage servicing rights be capitalized when acquired either through purchase or origination for mortgage loans that will be subsequently sold or securitized with the servicing rights retained. The amount of the mortgage servicing right capitalized is based on its fair value relative to the loan as a whole. To determine the fair value of servicing rights created, the Company used the market prices under comparable servicing sale contracts, when available, or alternatively used a valuation model that calculates the present value of future cash flows to determine the fair value of the servicing rights. In using this valuation method, the Company incorporated assumptions that market participants would use in estimating future net servicing income which included estimates of the cost of servicing per loan, the discount rate, float value, an inflation rate, ancillary income per loan, prepayment speeds and default rates. In determining servicing value impairment, the post-implementation originated servicing portfolio was disaggregated into its predominant risk characteristics. The Company has determined those risk characteristics to be prepayment and foreclosure risks. The Company has disaggregated the portfolio by loan type, investor type and interest rate to reflect those risk characteristics. To determine the fair value for impairment measurement purposes, the Company used the market prices under comparable servicing sale contracts, when available, or alternatively used a valuation model to determine the fair value of the servicing rights. 37 The fair value of post-implementation Originated Loan Servicing was $109.5 million and $56.4 million at December 31, 1996 and 1995, respectively. Originated loan servicing and the related valuation allowance activity for 1996 and 1995 were as follows:
In thousands 1996 1995 - -------------------------------------------------------------------------------- - ---------------- Originated Valuation Originated Valuation Loan Servicing, Allowance, Loan Servicing, Allowance, Net of Originated Net of Originated Amortization Servicing Amortization Servicing Balance at beginning of year $ 58,905 $(2,552) $ -- $ -- Additions 128,343 -- 97,751 -- Scheduled amortization (8,321) -- (3,067) -- Impairment additions charged to operations -- (3,589) -- (3,517) Impairment reductions credited to operations -- 2,052 -- -- Basis on servicing sales (67,159) -- (35,779) 965 - -------------------------------------------------------------------------------- - ---------------- $111,768 $(4,089) $58,905 $(2,552) ================================================================================ ================
Purchased loan servicing and excess servicing fees, net of accumulated amortization were as follows:
Purchased Loan Servicing, Excess Servicing Fees, Net of Amortization Net of Amortization In thousands 1996 1995 1994 1996 1995 1994 - -------------------------------------------------------------------------------- - ---------------- Balance at beginning of year $1,163 $1,933 $2,907 $20,559 $ 7,001 $ 3,588 Additions -- 80 131 37,937 49,110 5,407 Scheduled amortization (604) (725) (964) (2,498) (1,878) (630) Amortization resulting from higher than anticipated prepayments -- -- -- (125) (2,800) -- Basis on servicing sales -- (125) (141) (30,333) (30,874) (1,364) - -------------------------------------------------------------------------------- - ---------------- Balance at end of year $ 559 $1,163 $1,933 $25,540 $20,559 $7,001 ================================================================================ ================
Other intangible assets consist of the following:
December 31 1996 1995 - -------------------------------------------------------------- In thousands Goodwill $7,479 $7,412 Book of insurance business 3,354 55 Organization costs 1,731 1,641 Trademark 349 349 - -------------------------------------------------------------- 12,913 9,457 Accumulated amortization (3,522) (3,019) - -------------------------------------------------------------- $9,391 $6,438 ==============================================================
38 NOTE E - PROPERTY AND EQUIPMENT - ---------------------------------------------------------------------- - --Property and equipment consists of the following:
December 31 1996 1995 - ---------------------------------------------------------------------- - --In thousands Land $ 3,900 $ 3,900 Building 17,230 17,163 Furniture and equipment 49,674 40,567 Leasehold improvements 2,191 1,500 - ---------------------------------------------------------------------- - -- 72,995 63,130 Accumulated depreciation and amortization (34,454) (26,791) - ---------------------------------------------------------------------- - -- $38,541 $36,339 ====================================================================== ==
NOTE F - RETIREMENT AND 401(K) SAVINGS PLAN AND SUPPLEMENTAL EXECUTIVE RETIREMENT PLAN - ---------------------------------------------------------------------- - -- The Company has a defined contribution Retirement Plan and 401(k) Savings Plan which covers substantially all employees. The CompanyOs contributions to the Retirement Plan are equal to 4% of the participantsO compensation and were $1.8 million, $2.0 million, and $1.9 million in 1996, 1995, and 1994, respectively. The Company began contributions to the 401(k) Savings Plan in 1996 equal to 50% of the participantsO contributions not to exceed the lessor of 1 1/2% of the participantsO basic compensation or the maximum amount permissible under the plan. Company contributions for the 401(k) Savings Plan were $0.9 million in 1996. The Retirement Plan contains a vesting schedule graduated from three to seven years of service, and the 401(k) Savings Plan contains a vesting schedule graduated from one to four years of service. The Company has a Supplemental Executive Retirement Plan, which covers certain members of management. The plan benefits accrue as a percentage of the portion of each participantOs annual salary and bonuses in excess of the amount included in the retirement plan covering all employees. The cost of the Plan was $87,000, $69,000, and $30,000 in 1996, 1995 and 1994, respectively. The plan is an unfunded plan. NOTE G - PREFERRED STOCK, STOCK PLANS AND STOCK RIGHTS PLAN - ---------------------------------------------------------------------- - -- The Board of Directors of the Company is authorized, without further action of stockholders of the Company, to issue up to 20,000,000 shares of Preferred Stock in one or more classes or series and to fix the number of shares constituting such series, the designations, relative rights, preferences and limitations relating to shares of any such series. The CompanyOs Board of Directors has authorized the issuance of a series of Preferred Stock consisting of 1,000,000 shares of Series A Convertible Preferred Stock par value $0.01 per share, with a dividend rate of $0.20 per annum and for which unpaid dividends are cumulative. Unpaid cumulative dividends were $667,000 and $517,000 at December 31, 1996 and December 31, 1995, respectively. The Company has the option to convert each share of Convertible Preferred Stock into one share of Common Stock. At December 31, 1996 and 1995, 748,179 shares of Series A Convertible Preferred Stock were outstanding, all of which are held by Fairfield Financial Holdings, Inc., a wholly-owned subsidiary. 39 During 1992, the Board of Directors declared a dividend distribution of one Preferred Stock Purchase Right (a ORightO) for each outstanding share of Common Stock. The Rights are not currently exercisable and are attached to all outstanding shares of Common Stock. The Rights will generally separate from the Common Stock and be distributed to registered holders of the Common Stock upon (1) acquisition of beneficial ownership by a person or persons of 15% or more of the CompanyOs Common Stock, (2) a tender offer or exchange offer for 15% or more of the CompanyOs Common Stock which is not approved by the board of directors of the Company, or (3) the declaration by the board that any person holding 10% or more of the CompanyOs Common Stock is an Oadverse personO (generally, an adverse person is a party seeking a financial gain by taking actions that are not in the interest of the remaining stockholders). Each Right gives the registered holder the right to purchase from the Company one one-hundredth of a share of Series A Cumulative Preferred Stock upon certain terms and subject to certain conditions. The Company has a stock option plan (the OPlanO) that provides for the granting of non-qualified and qualified options to employees and directors. Options are generally granted at the average market price of the CompanyOs common stock on the date of grant, vest over a three-year period of equal amounts each year and expire 10 years after the date of grant. Stock option transactions under the Plan were as follows:
Weighted-Average Options Exercise Price Options 1996 1996 1995 - -------------------------------------------------------------------------------- - ---------------- Outstanding options at beginning of year 1,338,193 $18.18 1,323,379 Options granted 234,475 $25.63 236,822 Options exercised (39,005) $15.35 (143,915) Options expired or canceled (3,457) $19.88 (78,093) - -------------------------------------------------------------------------------- - ---------------- Outstanding options at end of year 1,530,206 $19.39 1,338,193 - -------------------------------------------------------------------------------- - ---------------- Exercise price: Per share for options exercised during the year $11.50-$18.625 $11.50-$24.19 Per share for options outstanding at end of year $11.50-$29.375 $11.50-$29.375 Weighted-average fair value of options granted $ 12.90 $ 8.78 Weighted-average contractual life of options outstanding (in years) 7.6 5.6
Of the outstanding options as of December 31, 1996, 1,306,189 options were immediately exercisable under the Plan. Options designated for future grants under the Plan were 149,521 and 446,294 as of December 31, 1996, and December 31, 1995, respectively. The Company has an Employee Stock Purchase Plan which covers substantially all employees. Employees may purchase stock at a price equal to 85% of the lower stock price at the beginning or the end of the purchase period. The Company issued 97,924 shares of Common Stock for the Employee Stock Purchase Plan at $16.7875 per share on December 31, 1996, and 95,193 shares at $12.5375 per share on December 31, 1995. 40 The Company currently follows Accounting Principles Board Opinion No. 25, OAccounting for Stock Issued to EmployeesO (APB 25) and related interpretations in accounting for its stock options. Under APB 25, because the exercise price of the CompanyOs employee stock options equals the market price of the underlying stock on the date of grant, no compensation expense is recognized. The Company intends to follow the provisions of APB 25 for future years. Pro forma information regarding net income and earnings per share is required by FASB Statement No. 123, OAccounting for Stock-Based CompensationO (OStatement 123O), and has been determined as if the Company had accounted for its employee stock options under the fair value method of that Statement. The fair value for these options was estimated at the date of grant using a Black-Scholes option pricing model with the following weighted-average assumptions for 1996 and 1995, respectively: risk-free interest rates of 5.5% and 7.4%; dividend yields of 1.5% and 1.5%; volatility factors of the expected market price of the CompanyOs common stock of .50 and .50; and a weighted-average expected life of the options of 7 years. The Black-Scholes option valuation model was developed for use in estimating the fair value of traded options which have no vesting restrictions and are fully transferable. In addition, option valuation models require the input of highly subjective assumptions including the expected stock price volatility. Because the CompanyOs employee stock options have characteristics significantly different from those of traded options, and because changes in the subjective input assumptions can materially affect the fair value estimate, in managementOs opinion, the existing models do not necessarily provide a reliable single measure of the fair value of its employee stock options. For purposes of pro forma disclosures, the estimated fair value of the options is amortized to expense over the optionsO vesting period. The CompanyOs pro forma net income and earnings per share determined as if the Company had accounted for its employee stock options under Statement 123 follows (in thousands except for earnings per share information):
1996 1995 - ---------------------------------------------------------------------- - -- Pro forma net income $30,625 $39,310 Pro forma earnings per share $ 2.14 $ 2.61
41 NOTE H - INCOME TAXES - -------------------------------------------------------------------------------- - ---------------- Significant components of the CompanyOs deferred tax liabilities and assets as of December 31, 1996 and 1995, are as follows:
Years Ended 1996 1995 - -------------------------------------------------------------------------------- - ---------------- In thousands Deferred tax liabilities Warehouse capitalized origination costs $ 533 $ 875 Depreciation 4,079 4,062 Originated and excess servicing 40,635 20,099 Other 247 543 - -------------------------------------------------------------------------------- - ---------------- Total deferred tax liabilities $45,494 $25,579 ================================================================================ ================ Deferred tax assets: Purchased servicing 1,916 3,011 Loss, foreclosure & other book reserves 2,080 2,295 Accrued expenses 549 876 Other 512 464 - -------------------------------------------------------------------------------- - ---------------- Total deferred tax assets $ 5,057 $ 6,646 - -------------------------------------------------------------------------------- - ---------------- Net deferred liability $40,437 $18,933 ================================================================================ ================
During 1996, net income of the Company was entirely from the U.S. Significant components of the provision for income taxes are as follows:
Years Ended 1996 1995 1994 - -------------------------------------------------------------------------------- - ---------------- In thousands Current: Federal $ 371 $ 3,845 $ 2,297 State 154 484 758 - -------------------------------------------------------------------------------- - ---------------- Total Current 525 4,329 3,055 - -------------------------------------------------------------------------------- - ---------------- Deferred: Federal $17,133 $14,271 0 State 4,371 4,662 0 - -------------------------------------------------------------------------------- - ---------------- Total Deferred 21,504 18,933 0 - -------------------------------------------------------------------------------- - ---------------- $22,029 $23,262 $ 3,055 ================================================================================ ================
The reconciliation of income tax expense at the U.S. federal statutory tax rate to income tax expense calculated for financial reporting purposes is:
Years Ended 1996 1995 1994 - -------------------------------------------------------------------------------- - ---------------- In thousands % % % Tax at U.S. statutory rate $19,244 35 $22,301 35 $3,933 35 State income taxes net of federal benefit 2,941 5 3,345 5 590 5 Change in valuation allowance 0 --- (2,519) (4) (1,971) (17) Other (156) --- 135 1 503 4 - -------------------------------------------------------------------------------- - ---------------- $22,029 40 $23,262 37 $3,055 27 ================================================================================ ================
Income taxes paid in 1996, 1995 and 1994 totaled $2.5 million, $7.7 million, and $7.5 million, respectively. 42 NOTE I - LEASES - -------------------------------------------------------------------------------- - ---------------- The Company occupies certain office space and rents equipment under various operating leases which expire at various dates through 2001. Future minimum payments consist of the following at December 31, 1996. Rental expense for the years ended December 31, 1996, 1995 and 1994, was $13.9 million, $14.6 million and $17.2 million, respectively.
Years Ended December 31 - -------------------------------------------------------------- In thousands 1997 $12,545 1998 8,155 1999 4,009 2000 1,865 2001 and beyond 992 - -------------------------------------------------------------- Total $27,566 ==============================================================
NOTE J - MORTGAGE SERVICING PORTFOLIO AND RELATED OFF-BALANCE SHEET RISK AND INSURANCE COVERAGE - -------------------------------------------------------------------------------- - ---------------- The CompanyOs origination and servicing activities are primarily concentrated within the states of California, Texas, Virginia, Arizona and Maryland. The CompanyOs servicing portfolio is comprised of the following:
December 31 1996 1995 1994 - -------------------------------------------------------------------------------- - ---------------- Number Principal Number Principal Number Principal of Balance of Balance of Balance Loans Outstanding Loans Outstanding Loans Outstanding GNMA FHA/VA 29,772 $ 2,646 28,041 $ 2,488 21,611 $ 1,900 Conventional loans & other 107,043 10,647 115,276 11,621 130,236 12,936 Loans subserviced for others 3 -- 3 -- 41 3 - -------------------------------------------------------------------------------- - ---------------- 136,818 $13,293 143,320 $14,109 151,888 $14,839 ================================================================================ ================
The above amounts exclude servicing rights, which had been sold but were being subserviced by the Company prior to transfer, of $2,646 million, $2,146 million and $1,224 million as of December 31, 1996, 1995 and 1994, respectively. The Company is required to advance, from corporate funds, escrow and foreclosure costs for loans which it services. A portion of the advances is not recoverable for loans serviced for GNMA. In addition, VA insurance only protects the Company from losses for a set percentage of the initial loan amount or a set dollar amount. As of December 31, 1996 and 1995, a reserve for the unrecoverable advances and losses of approximately $852,000 and $798,000 has been established for GNMA loans in default. GNMA FHA/VA losses including GNMA VA no-bid losses for the years ended December 31, 1996, 1995 and 1994, were $1,444,000, $949,000 and $572,000, respectively. Upon foreclosure, a FHA/VA property is typically conveyed to HUD or VA. However, when it is in the VAOs financial interest, they have the authority to deny conveyance of the foreclosed property to the VA (OVA no-bidO). The VA instead reimburses the Company based on a percentage of the loansO outstanding principal balance (OguaranteeO amount). For GNMA VA no-bids, the foreclosed property is conveyed to the Company, and the Company then assumes the market risk of disposing of the property, GNMA VA no-bid losses were approximately $1,270,000 and $685,000 during 1996 and 1995, respectively. There were no significant GNMA VA no-bid losses for the year ended December 31, 1994. Prior to conveying title to HUD on FHA loans that have been foreclosed upon, the Company is required to return the property to an inhabitable condition. The cost of returning the property to an inhabitable condition is not recoverable from HUD. The related reserve for unrecoverable advances and losses on FHA/VA loans in default for potential no-bid losses as of December 31, 1996 and 1995 is included in the reserve for unrecoverable advances described above. 43 The Company has servicing agreements with certain investors which require the repurchase of real estate mortgages in the event of default by the primary and, if applicable, secondary obligors. The aggregate principal balances outstanding as of December 31, 1996 and 1995 relating to these agreements are approximately $8.2 million and $16.8 million, respectively. As of December 31, 1996, there have been no significant repurchases of loans under the terms of the servicing agreements. The Company has the ability to meet these funding requirements under normal business circumstances. At December 31, 1996 and 1995, the number of loans in the CompanyOs servicing portfolio included loans collateralized by California properties of 37% and 45%, respectively, and loans collateralized by Texas properties of 12% and 14%, respectively. Loans from no other state exceed 5% of the number of loans in the portfolio of either year. The Company sold servicing rights for mortgages with outstanding principal balances of $8.2 billion, $6.7 billion and $9.9 billion during the years ended December 31, 1996, 1995 and 1994, respectively. These sales resulted in gains of $37.6 million, $46.0 million and $120.7 million. The Company has issued various representations and warranties associated with whole loan and bulk servicing sales. These representations and warranties may require the Company to repurchase defective loans as defined in the applicable servicing and sales agreements. At December 31, 1996 and 1995, the Company had reserved $4.5 million and $3.6 million, respectively, for potential losses resulting from these representations and warranties. Errors and omissions coverage was $23.5 million and fidelity bond insurance coverage under a mortgage bankerOs bond was $47.0 million at December 31, 1996 and 1995. NOTE K - MORTGAGE LOAN PIPELINE, HEDGES AND RELATED OFF-BALANCE SHEET RISK - ---------------------------------------------------------------------- - -- The Company enters into financial instruments with off-balance sheet risk in the normal course of business through the origination and sale of mortgage loans and the management of the related loss exposure caused by fluctuations in interest rates. These financial instruments include commitments to extend credit (e.g., mortgage loan pipeline), mandatory and optional forward commitments, and other hedging instruments. The CompanyOs pipeline of loans in process totaled approximately $2.1 billion and $2.4 billion as of December 31, 1996 and 1995, respectively. Until a rate commitment is extended by the Company to a borrower, there is no market risk to the Company. Loans in process for which interest rates were committed to the borrower totaled approximately $534.7 million and $509.9 million as of December 31, 1996 and 1995, respectively. For loans in process for which interest rates were committed to borrowers, the Company determines daily what portion of those loans to hedge. In making this determination, both the anticipated percentage of the pipeline that is expected to fund and the inherent risk position of the portfolio are considered. Mandatory and optional forward commitments are used by the Company to hedge its interest rate exposure during the period from when the Company extends an interest rate lock to a loan applicant until the time in which the loan is sold to an investor. These instruments involve, to varying degrees, elements of credit and interest rate risk. Credit risk is managed by the Company by entering into agreements only with Wall Street investment bankers with primary dealer status and with permanent investors meeting the credit standards of the Company. At any time the risk to the Company, in the event of 44 default by the purchaser, is the difference between the contract price and current market value, which amount is a percentage of the outstanding commitments. To the extent that the counterparties are not able to fulfill the forward commitments, the Company is at risk to the extent that there are fluctuations in the market value of the mortgage loans and locked pipeline. Realized gains and losses on mandatory and optional delivery forward commitments are recognized in gain (loss) from sales of loans in the period settlement occurs. Unrealized gains and losses on mandatory and optional forward commitments are included in the lower of cost or market valuation adjustment to mortgage loans held for sale. At December 31, 1996 and 1995, the Company had mandatory and optional forward commitments aggregating $756.9 million and $589.1 million, respectively, which covered the market risk associated with the real estate loans held for sale to investors of $554 million and $527 million, respectively, and the pipeline loans for which interest rates were committed of $534.7 million and $509.9 million, respectively. The Company had adequate lines of credit at December 31, 1996 and 1995 to fund its projected loan closings from its mortgage loan pipeline. At December 31, 1996 and 1995, the Company had firm commitments outstanding to fund residential mortgages for various builders totaling $96.0 million and $38.0 million, respectively. These commitments expose the Company to market risk as the builder has the option to require the Company to fund loans to borrowers at precommitted interest rates. The Company hedges its optional builder commitments by investing in put and call options to sell and purchase Treasury bonds and notes and in over-the-counter put and call options to sell and purchase mortgage-backed securities. During 1996 and 1995, the Company did not have any significant open put or call options. NOTE L - FAIR VALUE OF FINANCIAL INSTRUMENTS - ---------------------------------------------------------------------- - -- The following methods and assumptions were used to estimate the fair value of each class of financial instruments: * Cash and cash equivalents, warehouse line of credit, purchase money notes and commercial paper: The carrying amounts of the assets and liabilities approximate fair value because of the short maturity of those instruments. * Real estate loans held for sale (LHS) to investors and mandatory and optional delivery forward commitments used to hedge market-rate risk: Fair values of LHS and commitments are based on quoted market prices. * Excess servicing fees: Fair values for excess servicing fee assets approximate the present values, based on market interest rates for similar instruments, of the difference between the normal and stated servicing fees over the estimated lives of the underlying mortgage loans. The estimated lives of the loans used by the Company are based on the median prepayment rates forecasted by several large brokerage firms. * Notes payable and subordinated debt: The fair value is estimated using discounted cash flow analysis for similar types of borrowing arrangements to companies with similar credit standing. * Loans in process for which interest rates were committed to the borrower (locked pipeline) and mandatory and optional-delivery forward commitments used to hedge market-rate risk: Fair values of the locked pipeline, allowing for estimated fallout based on historical experience and commitments, are based on quoted market prices. 45 The following table presents the carrying amounts and estimated fair values of certain of the CompanyOs financial instruments at December 31, 1996 and 1995.
In millions 1996 1995 - ---------------------------------------------------------------------- - -- Carrying Carrying Amount Fair Value Amount Fair Value Financial assets: Real estate loans for sale to investors $554.4 $557.5 $526.9 $532.3 Locked Pipeline --- (1.8) --- 3.1 Forward Delivery Commitments --- 5.4 --- (2.2) - ---------------------------------------------------------------------- - -- Net 554.4 561.1 526.9 533.2 ====================================================================== == Excess servicing fees 25.5 26.8 20.6 20.8 Financial liabilities: Notes payable (75.7) (75.5) (74.8) (74.7) Subordinated debt (10.1) (10.1) (10.1) (10.1)
The carrying amounts shown in the table are included in the balance sheet under the indicated captions. NOTE M - DOWNSIZING EXPENSES Beginning in the second quarter of 1994, the CompanyOs loan production volumes began to decline significantly. The decline in volume was consistent with overall industry trends and was the result of a contracting origination market caused by sharp increases in interest rates. Lower origination volumes resulted in production over capacity within the mortgage banking industry. In addition, industry overcapacity intensified price competition reducing margins throughout the CompanyOs branch origination network. During 1994, management developed a plan to downsize the CompanyOs production capacity in order to adjust to the contracted loan origination market. Management first reduced headcount throughout its branches and at its corporate office in order to bring personnel costs in line with lower production levels. Approximately 1,100 employees were terminated during 1994 as a result of the downsizing efforts. Total severance expenses recognized for the year were $2.5 million.
December 31, 1996 1995 1994 - ---------------------------------------------------------------------- - -- Occupancy lease costs, net of recovery on subleases $293 $ 907 $3,397 Fixed asset write-offs and equipment lease buyouts 160 236 1,438 Severance costs -- -- 40 Other 81 89 302 --------------------------------------------------------------------- - - $534 $1,232 $5,177 ====================================================================== ==
Management also identified unprofitable and marginally profitable production locations and decided to close 29 facilities. Each lease on the closed branches was evaluated for a possible buyout or sublease arrangement to either eliminate or reduce the future lease obligations associated with the closed production facilities. Based on this analysis, the Company established a reserve totaling $3.8 million which was charged to expense in the fourth quarter of 1994. At December 31, 1996, 1995 and 1994, $293,000, $907,000 and $3.4 million in the reserve remained. During the fourth quarter of 1994, the Company also recorded a reserve totaling $1.6 million for write-offs of leasehold improvements, furniture and equipment and terminations of certain equipment leases for assets located at the production facilities identified above. At December 31, 1996, 1995 and 1994, $160,000, $236,000 and $1.4 million of the reserve remained. Downsizing expenses incurred during 1994 were $8.5 million. There were no downsizing expenses incurred during 1995 or 1996. The related reserves at December 31, 1996, 1995 and 1994 are shown in the above chart. Management believes that remaining reserves are adequate to cover future costs expected to be incurred from remaining payments required from the downsizing plan. 46 NOTE N - CONTINGENCIES The Company is a defendant in litigation arising in the normal course of its business. Although the ultimate outcome of pending litigation cannot be reasonably estimated at this time, the Company believes that any liability resulting from the aggregate amount of damages for outstanding lawsuits and claims will not have a material adverse effect on its financial position. NOTE O - QUARTERLY FINANCIAL DATA - ---------------------------------------------------------------------- - --
1996 UNAUDITED - ---------------------------------------------------------------------- - -- Dollars in thousands, except per share data First Second Third Fourth Total Revenues $68,562 $77,163 $76,836 $84,232 $306,793 Costs and expenses 56,128 62,698 61,961 71,024 251,811 Income before income taxes 12,434 14,465 14,875 13,208 54,982 Income tax expense 4,974 5,794 5,950 5,311 22,029 Net income $ 7,460 $ 8,671 $ 8,925 $ 7,897 $ 32,953 ====================================================================== == Net income per share $ 0.50 $ 0.61 $ 0.64 $ 0.57 $ 2.30 ====================================================================== == Stock price per Common Share: High 26.250 20.750 19.000 23.000 Low 19.750 15.750 15.000 18.625 - ---------------------------------------------------------------------- - -- Dividends per Common Share $ 0.06 $ 0.06 $ 0.06 $ 0.06 $ 0.24 ====================================================================== ==
1995 UNAUDITED - ---------------------------------------------------------------------- - -- Dollars in thousands, except per share data First Second Third Fourth Total Revenues $53,736 $67,267 $74,579 $79,198 $274,780 Costs and expenses 45,039 51,325 55,029 59,670 211,063 Income before income taxes 8,697 15,942 19,550 19,528 63,717 Income tax expense 3,039 5,893 7,427 6,903 23,262 - ---------------------------------------------------------------------- - -- Net income $ 5,658 $10,049 $12,123 $ 12,625 $ 40,455 ====================================================================== == Net income per share $ 0.38 $ 0.67 $ 0.80 $ 0.84 $ 2.69 ====================================================================== == Stock price per Common Share: High 18.125 25.875 26.000 25.375 Low 14.500 17.125 20.000 20.250 - ---------------------------------------------------------------------- - --Dividends per Common Share $ 0.06 $ 0.06 $ 0.06 $ 0.06 $ 0.24 ====================================================================== ==
47 CORPORATE DIRECTORY BOARD OF DIRECTORS JOHN F. FARRELL, JR. Chairman of the Board and Chief Executive Officer TERRANCE G. HODEL President and Chief Operating Officer WILLIAM L. BROWN*+ Former Chairman and Chief Executive Officer Bank of Boston WILLIAM F. CONNELL*+ Chairman and Chief Executive Officer Connell Limited Partnership MAGNA L. DODGE* Senior Vice President Lehman Brothers Inc. WILLIAM O. MURPHY+* Retired Partner Simpson Thacher & Bartlett ROBERT J. MURRAY*+ Chairman, Chief Executive Officer and President New England Business Services JAMES B. NICHOLSON+ President and Chief Executive Officer Pressure Vessel Services, Inc. SENIOR OFFICERS JOHN F. FARRELL, JR. Chairman of the Board and Chief Executive Officer TERRANCE G. HODEL President and Chief Operating Officer HAROLD B. BONNIKSON Executive Vice President Residential Loan Production MICHAEL G. CONWAY Executive Vice President Secondary Marketing and Credit Risk Management ROBERT J. GALLAGHER Executive Vice President Planning and Business Development MARTIN S. HUGHES Executive Vice President, Chief Financial Officer and Treasurer GARY F. MOORE Executive Vice President Information Technology, Human Resources and Training ROBERT A. ROSEN Executive Vice President Loan Administration CAROLYN OWENS VOGT Senior Vice President, General Counsel and Secretary * Member of Audit Committee + Member of Compensation Committee * Member of Nominating Committee 48 STOCKHOLDER INFORMATION EXECUTIVE OFFICE North American Mortgage Company 3883 Airway Drive Santa Rosa, California 95403-1699 707-536-3310 Internet: www.namc.com TRANSFER AGENT AND REGISTRAR The Bank of New York 101 Barclay Street New York, New York 10286 800-524-4458 ANNUAL MEETING OF SHAREHOLDERS To be held at Chase Manhattan Bank, 270 Park Avenue, 3rd floor, New York, New York, at 10:00 a.m. (Eastern time) on May 28, 1997. COMMON STOCK Shares of North American Mortgage Company are traded on the New York Stock Exchange under the symbol NAC. As of February 18, 1997, North American Mortgage Company had 997 registered stockholders of record. STOCKHOLDER INQUIRIES Communications concerning stock transfers, lost certificates, changes of address and dividend payments should be directed to the Transfer Agent (see above). The CompanyOs Form 10-K as filed with the Securities and Exchange Commission will be provided without charge, but without exhibits. Requests should be addressed to: Martin S. Hughes Executive Vice President Investor Relations North American Mortgage Company 3883 Airway Drive Santa Rosa, California 95403-1699 INVESTOR RELATIONS Inquiries concerning the Company or its operations should be directed to: Martin S. Hughes Executive Vice President North American Mortgage Company 3883 Airway Drive Santa Rosa, California 95403-1699 707-523-5049 EMPLOYEES As of January 31, 1997, the Company had 2,877 employees. 49 EX-21 6 SUBSIDIARIES OF THE REGISTRANT Subsidiaries of the Company State of Incorporation ---------------------- 1. Fairfield Financial Holdings Inc. Delaware 2. IC Capital Co., Inc. Delaware 3. IMCO Capital Co., Inc. Delaware 4. Sonoma Conveyancing Corporation California 5. North American Mortgage Insurance Services California (a wholly owned subsidiary of Sonoma Conveyancing Corporation) 6. Vintage Reinsurance Company Vermont EX-23 7 CONSENT OF INDEPENDENT AUDITORS Consent of Independent Auditors We consent to the incorporation by reference in this Form 10-K of North American Mortgage Company and subsidiaries (the "Company"), and in the previously filed Form S-8 Registration Statement No. 33-49400 of the Company (North American Mortgage Company Employee Stock Purchase Plan and North American Mortgage Incentive Stock Option Plan), and in the previously filed Form S-3 Registration Statement No. 33-69318 of the Company ($250,000,000 of Debt Securities), of our report dated January 31, 1997 included in the 1996 Annual Report to Stockholders of the Company. /s/Ernst & Young, LLP San Francisco, California March 28, 1997 EX-27 8 FINANCIAL DATA SCHEDULE
5 This schedule contains summary financial information extracted from the Consolidated Balance Sheets and Consolidated Statements of Operations in the Company's 1996 Annual Report to Stockholders, and is qualified in its entirety be reference to such financial statements. 0000882261 Financial Data Schedule 1,000 0 12-MOS DEC-31-1996 JAN-1-1996 DEC-31-1996 1 22,005 0 85,299 0 0 0 38,541 7,852 853,657 0 0 0 0 164 0 853,657 0 306,793 0 0 0 0 9,430 54,982 22,029 0 0 0 0 32,953 2.30 0
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