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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
FORM 10-Q
[ X ] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the quarterly period ended March 31, 1999
[ ] 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: 1-11416
CONSUMER PORTFOLIO SERVICES, INC.
(Exact name of registrant as specified in its charter)
CALIFORNIA 33-0459135
(State or other jurisdiction of (IRS Employer
incorporation or organization) Identification No.)
16355 LAGUNA CANYON ROAD, IRVINE, CALIFORNIA 92618
(Address of principal executive offices) (Zip Code)
Registrant's telephone number: (949) 753-6800
Former name, former address and former fiscal year, if changed since last
report: N/A
Indicate by check mark whether the registrant (1) 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 / /
As of May 14, 1999, the registrant had 18,773,501 common shares outstanding.
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CONSUMER PORTFOLIO SERVICES, INC. AND SUBSIDIARIES
INDEX TO FORM 10-Q FOR THE QUARTER ENDED MARCH 31, 1999
Part I. Financial Information
Item 1. Financial Statements
Condensed consolidated balance sheets as of March 31,
1999 and December 31, 1998.
Condensed consolidated statements of operations for
the three month periods ended March 31, 1999 and
1998.
Condensed consolidated statements of cash flows for
the three month periods ended March 31, 1999 and
1998.
Notes to condensed consolidated financial statements.
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations
Item 3. Quantitative and Qualitative Disclosures About Market Risk
Part II. Other Information
Item 3. Defaults Upon Senior Securities
Item 6. Exhibits and Reports on Form 8-K
Signatures
Exhibit Index
2
PART I - FINANCIAL INFORMATION
CONSUMER PORTFOLIO SERVICES, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED BALANCE SHEETS
(IN THOUSANDS, EXCEPT SHARE AND PER SHARE DATA)
March 31, December 31,
----------------- -----------------
1999 1998
---- ----
ASSETS
Cash $ 382 $ 1,940
Restricted cash 1,619 1,619
Contracts held for sale (note 2) 307,892 165,582
Servicing fees receivable 11,604 11,148
Residual interest in securitizations (note 3) 219,545 217,848
Furniture and equipment, net 3,979 4,272
Deferred financing costs 2,669 2,817
Investment in unconsolidated affiliates 3,826 4,145
Related party receivables 1,723 3,268
Other assets 19,773 19,323
----------------- -----------------
$ 573,012 $ 431,962
================= =================
LIABILITIES AND SHAREHOLDERS' EQUITY
LIABILITIES
Accounts payable & accrued expenses $ 27,095 $ 9,267
Warehouse lines of credit 277,632 151,857
Taxes payable 27,498 29,068
Capital lease obligations 1,987 2,132
Notes payable 3,846 2,557
Residual financing 33,000 33,000
Subordinated debt 65,000 65,000
Related party debt 20,000 20,000
----------------- -----------------
456,058 312,881
SHAREHOLDERS' EQUITY
Preferred stock, $1 par value; authorized
5,000,000 shares; none issued -- --
Series A preferred stock, $1 par value;
authorized 5,000,000 shares; 3,415,000
shares issued; none outstanding -- --
Common stock, no par value; authorized
30,000,000 shares; 15,658,501 shares
issued and outstanding at March 31, 1999
and December 31, 1998 52,533 52,533
Retained earnings 64,421 66,548
----------------- -----------------
116,954 119,081
----------------- -----------------
$ 573,012 $ 431,962
================= =================
See accompanying notes to condensed consolidated financial statements
3
CONSUMER PORTFOLIO SERVICES, INC. AND SUBSIDIARIES
CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS
(IN THOUSANDS, EXCEPT PER SHARE DATA)
Three Months Ended
March 31,
------------------------------------
1999 1998
---- ----
REVENUES:
Gain (loss) on sale of contracts, net (note 4) $ (1,560) $ 10,245
Interest income (note 5) 14,601 9,071
Servicing fees 7,918 5,096
Other income (loss) (135) 370
----------------- -----------------
20,824 24,782
----------------- -----------------
EXPENSES:
Employee costs 8,244 5,397
General and administrative 5,756 4,532
Interest 7,268 3,915
Marketing 1,882 448
Occupancy 710 481
Depreciation and amortization 533 332
Related party consulting fees 98 19
----------------- -----------------
24,491 15,124
----------------- -----------------
Income (loss) before income taxes (3,667) 9,658
Income taxes (1,540) 4,055
----------------- -----------------
Net income (loss) $ (2,127) $ 5,603
================= =================
Earnings (loss) per share (note 6):
Basic $ (0.14) $ 0.37
Diluted $ (0.14) $ 0.34
Number of shares used in computing
earnings per share (note 6):
Basic 15,659 15,210
Diluted 15,659 16,628
See accompanying notes to condensed consolidated financial statements
4
Consumer Portfolio Services, Inc. and Subsidiaries
Condensed Consolidated Statements of Cash Flows
(In thousands)
Three Months Ended
March 31,
-------------------------------------
1999 1998
---- ----
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss) $ (2,127) $ 5,603
Adjustments to reconcile net income (loss) to net cash
provided by operating activities:
Depreciation and amortization 533 332
Amortization of NIRs 10,270 4,952
Amortization of deferred financing costs 148 81
Provision for credit losses 1,378 2,537
NIR gains recognized -- (10,750)
Equity net (income) loss in unconsolidated affiliates 319 (216)
Net deposits into trusts (11,967) (9,577)
Changes in assets and liabilities:
Purchases of contracts held for sale (158,186) (254,189)
Liquidation of contracts held for sale 14,498 192,819
Net change in warehouse lines of credit 125,775 54,786
Other assets (1,129) (1,783)
Accrued taxes and expenses 16,258 11,971
----------------- -----------------
Net cash used in operating activities (4,230) (3,434)
CASH FLOWS FROM INVESTING ACTIVITIES:
Related party receivables (2) (157)
Repayment of related party receivables 1,547 2,114
Investment in unconsolidated affiliate -- (65)
Purchases of furniture and equipment (17) (528)
----------------- -----------------
Net cash provided by investing activities 1,528 1,364
CASH FLOWS FROM FINANCING ACTIVITIES:
Issuance of notes payable 1,395 990
Repayment of capital lease obligations (145) (154)
Repayment of notes payable (106) (229)
Exercise of options and warrants -- 500
----------------- -----------------
Net cash provided by financing activities 1,144 1,107
----------------- -----------------
Decrease in cash (1,558) (963)
Cash at beginning of period 1,940 1,745
----------------- -----------------
Cash at end of period $ 382 $ 782
================= =================
Supplemental disclosure of cash flow information:
Cash paid during the period for:
Interest $ 6,969 $ 3,546
Income taxes $ 32 $ 200
Supplemental disclosure of non-cash investing and
financing activities:
Furniture and equipment acquired through capital leases $ -- $ 351
See accompanying notes to condensed consolidated financial statements
5
CONSUMER PORTFOLIO SERVICES, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(1) SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
UNAUDITED CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
The unaudited condensed consolidated financial statements have been
prepared in conformity with generally accepted accounting principles and include
all adjustments that are, in the opinion of management, necessary for a fair
presentation of the results for the interim periods presented. All such
adjustments are, in the opinion of management, of a normal recurring nature. In
addition, certain items in prior period financial statements have been
reclassified for comparability to current period presentation. Results for the
three month period ended March 31, 1999, are not necessarily indicative of the
operating results to be expected for the full year.
Certain information and footnote disclosures normally included in
financial statements prepared in accordance with generally accepted accounting
principles have been condensed or omitted. These condensed consolidated
financial statements should be read in conjunction with the consolidated
financial statements and notes thereto included in the Company's annual report
on Form 10-K for the year ended December 31, 1998.
PRINCIPLES OF CONSOLIDATION
The condensed consolidated financial statements include the accounts of
the Company and its wholly-owned subsidiaries, Alton Receivables Corp., CPS
Receivables Corp., CPS Marketing, Inc., CPS Funding Corp., and CPS Warehouse
Corp. The consolidated financial statements also include the accounts of SAMCO
Acceptance Corp., LINC Acceptance Company, LLC and CPS Leasing, Inc., each of
which is 80% owned by the Company. All significant intercompany transactions and
balances have been eliminated. Investments in affiliates that are not majority
owned are reported using the equity method. During the three month period ended
March 31, 1999, the Company terminated all operations of SAMCO.
CONTRACTS HELD FOR SALE
Contracts held for sale include automobile installment sales contracts
(generally, "Contracts") on which interest is precomputed and added to the
principal amount financed. The interest on precomputed Contracts is included in
unearned financed charges. Unearned financed charges are amortized over the
remaining period to contractual maturity, using the interest method. Contracts
held for sale are stated at the lower of cost or market value. Market value is
determined by purchase commitments from investors and prevailing market prices.
Gains and losses are recorded as appropriate when Contracts are sold. The
Company considers a transfer of Contracts, where the Company surrenders control
over the Contracts, a sale to the extent that consideration, other than
beneficial interests in the transferred Contracts, is received in exchange for
the Contracts.
ALLOWANCE FOR CREDIT LOSSES
The Company provides an allowance for credit losses that management
believes provides adequately for known and inherent losses that may develop in
the Contracts held for sale. Provision for losses are charged to gain on sale of
Contracts. Charge-offs, net of recoveries, are charged to the allowance.
Management evaluates the adequacy of the allowance by examining current
delinquencies, the characteristics of the portfolio, the value of underlying
collateral, and general economic conditions and trends.
CONTRACT ACQUISITION FEES AND DISCOUNTS
Upon purchase of a Contract from an automobile dealer ("Dealer"), the
Company generally charges the Dealer an acquisition fee or purchases the
Contract at a discount from its face value (some Contracts are purchased at face
value). The acquisition fees and discounts associated with Contract purchases
are deferred until the Contracts are sold. At that time the deferred acquisition
fee or discount is recognized as a component of the gain on sale.
6
CONSUMER PORTFOLIO SERVICES, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
RESIDUAL INTEREST IN SECURITIZATIONS AND GAIN ON SALE OF CONTRACTS
The Company purchases Contracts with the primary intention of reselling
them in securitization transactions as asset-backed securities. The
securitizations are generally structured as follows: First, the Company sells a
portfolio of Contracts to a wholly owned subsidiary ("SPS"), which has been
established for the limited purpose of buying and reselling the Company's
Contracts. The SPS then transfers the same Contracts to either a grantor trust
or an owner trust (the "Trust"). The Trust in turn issues interest-bearing
asset-backed securities (the "Certificates"), generally in an amount equal to
the aggregate principal balance of the Contracts. The Company typically sells
these Contracts to the Trust at face value and without recourse, except that
representations and warranties similar to those provided by the Dealer to the
Company are provided by the Company to the Trust. One or more investors purchase
the Certificates issued by the Trust; the proceeds from the sale of the
Certificates are then used to purchase the Contracts from the Company. The
Company purchases a financial guaranty insurance policy, guaranteeing timely
payment of principal and interest on the senior Certificates, from an insurance
company (the "Certificate Insurer"). In addition, the Company provides a credit
enhancement for the benefit of the Certificate Insurer and the investors in the
form of an initial cash deposit to an account ("Spread Account") held by the
Trust. The agreements governing the securitization transactions (collectively
referred to as the "Servicing Agreements") require that the initial deposits to
the Spread Accounts be supplemented by a portion of collections from the
Contracts until the Spread Accounts reach specified levels, and then maintained
at those levels. The specified levels are generally computed as a percentage of
the principal amount remaining unpaid under the related Certificates. The
specified levels at which the Spread Accounts are to be maintained will vary
depending on the performance of the portfolios of Contracts held by the Trusts
and on other conditions, and may also be varied by agreement among the Company,
the SPS, the Certificate Insurer and the trustee. Such levels have increased and
decreased from time to time based on performance of the portfolios, and have
also been varied by agreement. The specified levels applicable to the Company's
sold pools increased materially in 1998 and have recently been decreased. See
note 7 - "Liquidity".
At the closing of each securitization, the Company removes from its
consolidated balance sheet the Contracts held for sale and adds to its
consolidated balance sheet (i) the cash received and (ii) the estimated fair
value of the ownership interest that the Company retains in Contracts sold in
securitization. That retained interest (the "Residual") consists of (a) the cash
held in the Spread Account and (b) the net interest receivables ("NIRs"). NIRs
represent the estimated discounted cash flows to be received from the Trust in
the future, net of principal and interest payable with respect to the
Certificates, and certain expenses. The excess of the cash received and the
assets retained by the Company over the carrying value of the Contracts sold,
less transaction costs, equals the net gain on sale of Contracts recorded by the
Company.
The Company allocates its basis in the Contracts between the
Certificates and the Residuals retained based on the relative fair values of
those portions on the date of the sale. The Company recognizes gains or losses
attributable to the change in the fair value of the Residuals, which are
recorded at estimated fair value and accounted for as "held-for-trading"
securities. The Company is not aware of an active market for the purchase or
sale of interests such as the Residuals, and accordingly, the Company determines
the estimated fair value of the Residuals by discounting the amount and timing
of anticipated cash flows released from the Spread Account (the cash out
method), using a discount rate that the Company believes is appropriate for the
risks involved. For that valuation, the Company has used an effective discount
rate of approximately 14% per annum.
The Company receives periodic base servicing fees for the servicing and
collection of the Contracts. In addition, the Company is entitled to the cash
flows from the Residuals that represent collections on the Contracts in excess
of the amounts required to pay principal and interest on the Certificates, the
base servicing fees, and certain other fees (such as trustee and custodial
fees). At the end of each collection period, the aggregate cash collections from
the Contracts are allocated first to the base servicing fees and certain other
fees such as trustee and custodial fees for the period, then to the
Certificateholders for interest at the pass-through rate on the Certificates
plus principal as defined in the Servicing Agreements. If the amount of cash
required for the above allocations exceeds the amount collected during the
collection period, the shortfall is drawn from the Spread Account. If the cash
collected during the period exceeds the amount necessary for the above
allocations, and there is no shortfall in the related Spread Account, the excess
is released to the Company or in certain cases is transferred to other Spread
Accounts that may be below their required levels. Pursuant to certain Servicing
Agreements, excess cash collected during the period is used to make accelerated
principal paydowns on certain Certificates to create excess collateral
(over-collateralization or OC account). If the Spread Account balance is not at
the required credit enhancement level, then the excess cash collected is
retained in the Spread Account until the specified level is achieved. The cash
in the Spread Accounts is restricted from use by the Company. Cash held in the
various Spread Accounts is invested in high quality, liquid investment
securities, as specified in the Servicing Agreements. Spread Account balances
are held by the Trusts on behalf of the Company as the owner of the Residuals.
Such balances are generally defined as percentages of the principal amount
remaining unpaid on the balance.
7
CONSUMER PORTFOLIO SERVICES, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
The annual percentage rate ("APR") payable on the Contracts is
significantly greater than the pass through rate on the Certificates.
Accordingly, the Residuals described above are a significant asset of the
Company. In determining the value of the Residuals described above, the Company
must estimate the future rates of prepayments, delinquencies, defaults and
default loss severity as they affect the amount and timing of the estimated cash
flows. The Company estimates prepayments by evaluating historical prepayment
performance of comparable Contracts and the effects of trends in the industry.
The Company has used a constant prepayment estimate of approximately 4% per
annum. The Company estimates defaults and default loss severity using available
historical loss data for comparable Contracts and the specific characteristics
of the Contracts purchased by the Company. In valuing the Residuals, the Company
estimates that losses as a percentage of the original principal balance will
total approximately 14% cumulatively over the lives of the related Contracts.
In future periods, the Company could recognize additional revenue from
the Residuals if the actual performance of the Contracts were to be better than
the original estimate, or the Company could increase the estimated fair value of
the Residuals. If the actual performance of the Contracts were to be worse than
the original estimate, then a downward adjustment to the carrying value of the
Residuals would be required. Due to the inherent uncertainty of the future
performance of the underlying Contracts, the Company during 1998, established a
$7.8 million allowance for losses on the Residuals which did not change during
the three month period ended March 31, 1999.
(2) CONTRACTS HELD FOR SALE
The following table presents the components of Contracts held for sale:
March 31, December 31,
1999 1998
---------------- ----------------
(in thousands)
Gross receivable balance............................................ $ 333,553 $ 183,876
Unearned finance charges............................................ (15,757) (10,949)
Deferred acquisition fees and discounts............................. (7,584) (4,594)
Allowance for credit losses......................................... (2,320) (2,751)
---------------- ----------------
Net contracts held for sale......................................... $ 307,892 $ 165,582
================ ================
(3) RESIDUAL INTEREST IN SECURITIZATIONS
The following table presents the components of the residual interest in
securitizations:
March 31, December 31,
1999 1998
---------------- ----------------
(in thousands)
Cash, commercial paper, US government securities and other
qualifying investments (Spread Account)........................... $ 141,154 $ 130,394
NIRs................................................................ 44,530 54,800
OC accounts......................................................... 33,099 31,836
Funds held by investor ............................................. 500 480
Investments in subordinated certificates............................ 262 338
---------------- ----------------
Residual interest in securitizations:............................... $ 219,545 $ 217,848
================ ================
8
CONSUMER PORTFOLIO SERVICES, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
The following table presents the activity of the NIRs:
Three Months Ended March 31,
------------------------------------
1999 1998
---------------- ----------------
(in thousands)
Balance, beginning of period........................................ $ 54,800 $ 45,112
NIR gains recognized................................................ -- 10,750
Amortization of NIRs ............................................... (10,270) (4,952)
---------------- ----------------
Balance, end of period.............................................. $ 44,530 $ 50,910
================ ================
The following table presents estimated remaining undiscounted credit
losses included in the fair value estimate of the Residuals as a percentage of
the Company's servicing portfolio subject to recourse provisions:
March 31, December 31,
1999 1998
---------------- ----------------
(in thousands)
Undiscounted estimated credit losses................................. $ 140,821 $ 169,110
================ ================
Servicing subject to recourse provisions............................. $ 1,219,246 $ 1,362,801
================ ================
Undiscounted estimated credit losses as percentage of servicing
subject to recourse provisions....................................... 11.55% 12.41%
================ ================
(4) GAIN (LOSS) ON SALE OF CONTRACTS
The following table presents components of net gain (loss) on sale of
Contracts:
Three Months Ended March 31,
------------------------------------
1999 1998
---------------- ----------------
(in thousands)
NIRs gains recognized................................................ $ -- $ 10,750
Deferred acquisition fees and discounts.............................. -- 2,925
Expenses related to sales............................................ (182) (893)
Provision for credit losses.......................................... (1,378) (2,537)
---------------- ----------------
Net gain (loss) on sale of contracts................................. $ (1,560) $ 10,245
================ ================
(5) INTEREST INCOME
The following table presents the components of interest income:
Three Months Ended March 31,
------------------------------------
1999 1998
---------------- ----------------
(in thousands)
Interest on Contracts held for sale.................................. $ 12,659 $ 7,838
Residual interest income............................................. 12,212 6,185
Amortization of NIRs................................................. (10,270) (4,952)
---------------- ----------------
Net interest income.................................................. $ 14,601 $ 9,071
================ ================
9
CONSUMER PORTFOLIO SERVICES, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
(6) EARNINGS (LOSS) PER SHARE
Diluted loss per share for the three month period ending March 31,
1999, was calculated using the weighted average number of shares outstanding for
the related period. Diluted earnings per share for the three month period ending
March 31, 1998, was calculated using the weighted average number of diluted
common shares outstanding including common stock equivalents which consist of
certain outstanding dilutive stock options and warrants and incremental shares
attributable to conversion of certain subordinated debt. The following table
reconciles the number of shares used in the computations of basic and diluted
earnings (loss) per share for the three month period ending March 31, 1999 and
1998:
Three Months Ended March 31,
------------------------------------
1999 1998
---------------- ----------------
(in thousands)
Weighted average number of common shares outstanding during the period
used to compute basic earnings per share........................... 15,659 15,210
Incremental common shares attributable to exercise of outstanding
options and Warrants............................................... -- 673
Incremental common shares attributable to conversion of subordinated
debt............................................................... -- 745
---------------- ----------------
Number of common shares used to compute diluted earnings (loss) per
share.............................................................. 15,659 16,628
=============== ================
If the anti dilutive effects of common stock equivalents were not
considered, additional shares included in diluted loss per share calculation for
the three month period ended March 31, 1999, would have included an additional
2.2 million from outstanding stock options and warrants and an additional 2.4
million from incremental shares attributable to the conversion of certain
subordinated debt, for an aggregate total of approximately 20.2 million diluted
shares.
(7) LIQUIDITY
The Company's business requires substantial cash to support its
operating activities. The Company's primary sources of cash from operating
activities are amounts borrowed under its various warehouse lines, servicing
fees on portfolios of Contracts previously sold, proceeds from the sales of
Contracts, customer payments on Contracts held for sale, interest earned on
Contracts held for sale, and releases of cash from Spread Accounts. The
Company's primary uses of cash are the purchases of Contracts, repayment of
amounts borrowed under its various warehouse lines, operating expenses such as
employee, interest, and occupancy expenses, the establishment of and further
contributions to Spread Accounts and income taxes. As a result, the Company is
dependent on its warehouse lines of credit to purchase Contracts and on the
availability of additional capital in order to finance its continued operations.
If the Company's warehouse lenders decided to terminate or not to renew these
credit facilities with the Company, or if additional capital were to be
unavailable, the loss of borrowing capacity or unavailability of such capital
would have a material adverse effect on the Company's results of operations
unless the Company found suitable alternative sources.
The Servicing Agreements call for the requisite levels of the various
Spread Accounts to increase if the related receivables experience delinquencies,
repossessions or net losses in excess of certain predetermined levels. At March
31, 1999, 18 of the Company's 21 securitized pools were at higher than original
requisite levels due to the delinquency, repossession or net loss performance of
16 of the 21 securitized pools. Such Spread Account balances therefore included
approximately $34.8 million more than would have been required at the original
requisite levels. The higher requisite Spread Account levels ranged from 30% to
100% of the related outstanding balance of the securitized pools. In April 1999,
the Company entered into an amendment with the Certificate Insurer of the
Company's asset-backed securities to cap the amount of cash retained in the
Spread Accounts at 21% of the outstanding securities balance for 19 of the
Company's 21 securitized pools. The effectiveness of the amendment is contingent
upon approval of certain subordinated Certificateholders. This new cap on the
Spread Accounts described above is expected to provide cash flows to the Company
during 1999. The amendment is subject to certain performance measures that may
result in an increase in the cap from 21% to 25%. There can be no assurance that
such cash flows will occur. In addition to requiring higher Spread Account
levels, the Servicing Agreements provide the Certificate Insurer with certain
other rights and remedies, which have been waived on a monthly basis by the
Certificate Insurer.
10
CONSUMER PORTFOLIO SERVICES, INC.
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
On April 15, 1999, the Company issued $5.0 million of subordinated
promissory notes to an affiliate of Levine Leichtman Capital Partners, Inc.,
("LLCP") and received proceeds (net of $250,000 of capitalized issuance costs)
of approximately $4.75 million. The debt includes certain covenants, one of
which is the agreement by by Stanwich Financial Services Corp ("SFSC"), an
affiliate of the chairman of the Company's board of directors, to provide
additional capital to the Company of $15.0 million during 1999. SFSC's
commitment in turn has been collateralized by certain assets pledged by the
chairman of the Company's board of directors and the president of the Company.
Additionally, the $5.0 million has been personally guaranteed by the chairman of
the Company's board of directors and the president of the Company.
The Company did not sell any Contracts in the first quarter of 1999,
and is currently evaluating alternatives for selling its Contracts during the
second quarter of 1999. Alternatives being considered by the Company include
various securitization structures, unsecuritized sale of Contracts, or perhaps,
some combination of both alternatives. The Company has received a letter of
intent from an investor to purchase up to $300.0 million of the Company's
Contracts on an unsecured basis in the second quarter. There can be no assurance
that such a sale will take place.
In the event the Company incurs a net loss in two consecutive quarters
it would be in default of its agreements for the Residual Line. Unless waived by
the lender, the default could result in acceleration of the Residual Line and a
cross default on the Warehouse Lines. The lender would receive any releases from
Spread Account to retire outstanding principal and interest. The Company
believes that the lender would waive the default. Provided that the lender does
waive such default, the Company believes that cash flows from operations would
be sufficient to fund its obligations as they become due and payable. There can
be no assurance, however, that lender would waive the default or that other cash
flows will be sufficient to fund the Company's operations.
11
CONSUMER PORTFOLIO SERVICES, INC.
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
OVERVIEW
Consumer Portfolio Services, Inc. (the "Company") and its subsidiaries
primarily engage in the business of purchasing, selling and servicing retail
automobile installment sale contracts ("Contracts") originated by automobile
dealers ("Dealers") located throughout the Unites States. In recent months, the
Company has suspended its solicitation of Contract purchases in 27 states, and
as of the date of this report is active in 22 states. There can be no assurance
as to resumption of Contract purchasing activities in other states. Through its
purchase of Contracts, the Company provides indirect financing to Dealer
customers with limited credit histories, low incomes or past credit problems,
who generally would not be expected to qualify for financing provided by banks
or by automobile manufacturers' captive finance companies.
The major components of the Company's revenue are gains recognized on
the sale or securitization of its Contracts, servicing fees earned on Contracts
sold, and interest earned on Contracts held for sale. Because the servicing fees
are dependent in part on the collections received on sold Contracts, the
Company's income is affected by losses incurred on Contracts, whether such
Contracts are held for sale or have been sold in securitizations.
The Company purchases Contracts with the primary intention of reselling
them in securitization transactions as asset-backed securities. The
securitizations are generally structured as follows: First, the Company sells a
portfolio of Contracts to a wholly owned subsidiary ("SPS"), which has been
established for the limited purpose of buying and reselling the Company's
Contracts. The SPS then transfers the same Contracts to either a grantor trust
or an owner trust (the "Trust"). The Trust in turn issues interest-bearing
asset-backed securities (the "Certificates"), generally in an amount equal to
the aggregate principal balance of the Contracts. The Company typically sells
these Contracts to the Trust at face value and without recourse, except that
representations and warranties similar to those provided by the Dealer to the
Company are provided by the Company to the Trust. One or more investors purchase
the Certificates issued by the Trust; the proceeds from the sale of the
Certificates are then used to purchase the Contracts from the Company. The
Company purchases a financial guaranty insurance policy, guaranteeing timely
payment of principal and interest on the senior Certificates, from an insurance
company (the "Certificate Insurer"). In addition, the Company provides a credit
enhancement for the benefit of the Certificate Insurer and the investors in the
form of an initial cash deposit to an account ("Spread Account") held by the
Trust. The agreements governing the securitization transactions (collectively
referred to as the "Servicing Agreements") require that the initial deposits to
the Spread Accounts be supplemented by a portion of collections from the
Contracts until the Spread Accounts reach specified levels, and then maintained
at those levels. The specified levels are generally computed as a percentage of
the principal amount remaining unpaid under the related Certificates. The
specified levels at which the Spread Accounts are to be maintained will vary
depending on the performance of the portfolios of Contracts held by the Trusts
and on other conditions, and may also be varied by agreement among the Company,
the SPS, the Certificate Insurer and the trustee. Such levels have increased and
decreased from time to time based on performance of the portfolios, and have
also been varied by agreement. The specified levels applicable to the Company's
sold pools increased materially in 1998, and have recently been decreased, as is
discussed under the heading "Liquidity and Capital Resources."
At the closing of each securitization, the Company removes from its
consolidated balance sheet the Contracts held for sale and adds to its
consolidated balance sheet (i) the cash received and (ii) the estimated fair
value of the ownership interest that the Company retains in the Contracts sold
in the securitization. That retained interest (the "Residual") consists of (a)
the cash held in the Spread Account and (b) the net interest receivables
("NIRs"). NIRs represent the estimated discounted cash flows to be received by
the Trust in the future, net of principal and interest payable with respect to
the Certificates, and certain expenses. The excess of the cash received and the
assets retained by the Company over the carrying value of the Contracts sold,
less transaction costs, equals the net gain on sale of Contracts recorded by the
Company.
12
CONSUMER PORTFOLIO SERVICES, INC.
The Company allocates its basis in the Contracts between the
Certificates and the Residuals retained based on the relative fair values of
those portions on the date of the sale. The Company recognizes gains or losses
attributable to the change in the fair value of the Residuals, which are
recorded at estimated fair value and accounted for as "held-for-trading"
securities. The Company is not aware of an active market for the purchase or
sale of interests such as the Residuals, and accordingly, the Company determines
the estimated fair value of the Residuals by discounting the amount and timing
of anticipated cash flows released from the Spread Account (the cash out
method), using a discount rate that the Company believes is appropriate for the
risks involved. For that valuation, the Company has used an effective discount
rate of approximately 14% per annum.
The Company receives periodic base servicing fees for the servicing and
collection of the Contracts. In addition, the Company is entitled to the cash
flows from the Residuals that represent collections on the Contracts in excess
of the amounts required to pay principal and interest on the Certificates, the
base servicing fees, and certain other fees (such as trustee and custodial
fees). At the end of each collection period, the aggregate cash collections from
the Contracts are allocated first to the base servicing fees and certain other
fees such as trustee and custodial fees for the period, then to the
Certificateholders for interest at the pass-through rate on the Certificates
plus principal as defined in the Servicing Agreements. If the amount of cash
required for the above allocations exceeds the amount collected during the
collection period, the shortfall is drawn from the Spread Account. If the cash
collected during the period exceeds the amount necessary for the above
allocations, and there is no shortfall in the related Spread Account, the excess
is released to the Company or in certain cases is transferred to other Spread
Accounts that may be below their required levels. Pursuant to certain Servicing
Agreements, excess cash collected during the period is used to make accelerated
principal paydowns on certain Certificates to create excess collateral
(over-collateralization or OC account). If the Spread Account balance is not at
the required credit enhancement level, then the excess cash collected is
retained in the Spread Account until the specified level is achieved. The cash
in the Spread Accounts is restricted from use by the Company. Cash held in the
various Spread Accounts is invested in high quality, liquid investment
securities, as specified in the Servicing Agreements. Spread Account balances
are held by the Trusts on behalf of the Company as the owner of the Residuals.
Such balances are generally defined as percentages of the principal amount
remaining unpaid on the Certificates.
The annual percentage rate ("APR") payable on the Contracts is
significantly greater than the rates payable on the Certificates. Accordingly,
the Residuals described above are a significant asset of the Company. In
determining the value of the Residuals described above, the Company must
estimate the future rates of prepayments, delinquencies, defaults and default
loss severity as they affect the amount and timing of the estimated cash flows.
The Company estimates prepayments by evaluating historical prepayment
performance of comparable Contracts and the effect of trends in the industry.
The Company has used a constant prepayment estimate of approximately 4% per
annum. The Company estimates defaults and default loss severity using available
historical loss data for comparable Contracts and the specific characteristics
of the Contracts purchased by the Company. In valuing the residuals, the Company
estimates that losses as a percentage of the original principal balance will
total approximately 14% cumulatively over the lives of the related Contracts.
In future periods, the Company could recognize additional revenue from
the Residuals if the actual performance of the Contracts were to be better than
the original estimate, or the Company could increase the estimated fair value of
the Residuals. If the actual performance of the Contracts were to be worse than
the original estimate, then a downward adjustment to the carrying value of the
Residuals would be required. Due to the inherent uncertainty of the future
performance of the underlying Contracts, the Company has established a provision
for future losses on the Residuals.
The structure described above is applicable to securitization
transactions conducted at least once quarterly from June 1994 through December
1998. The Company did not sell any Contracts in securitization transactions in
the first quarter of 1999, and there can be no assurance as to when it will next
sell Contracts using the structure described above.
13
CONSUMER PORTFOLIO SERVICES, INC.
RESULTS OF OPERATIONS
The three month period ended March 31, 1999 compared to the three month period
ended March 31, 1998
- ------------------------------------------------------------------------------
REVENUES. During the three months ended March 31, 1999, revenues
decreased $4.0 million, or 16.0%, compared to the three month period ended March
31, 1998. Gain on sale of Contracts decreased by $11.8 million, or 115.2%, from
a $10.2 million gain on sale in the first quarter of 1998 to a $1.6 million loss
in the first quarter of 1999. Although no Contracts were sold in the quarter,
expenses of approximately $182,000 were incurred related to previous
securitization transactions, including the amortization of a warrant issued to
the Certificate Insurer in November 1998. In addition, for the three month
period ended March 31, 1999 and 1998, the Company charged against gain on sale
$1.4 million and $2.5 million, respectively, of provision for losses on
Contracts held for sale.
Interest income increased by $5.5 million, or 61.0%, and represented
70.0% of total revenues for the three month period ended March 31, 1999. The
increase is primarily due to an increase in the average aggregate balance of
Contracts held for sale, and thus earning interest, during the three month
period ended March 31, 1999, compared to the same period in the prior year. That
increase in average aggregate balance, in turn, was due primarily to the
Company's not having sold any Contracts in the first quarter of 1999.
Servicing fees increased by $2.8 million, or 55.4%, and represented
38.0% of total revenues. The increase in servicing fees is due to the increase
in the servicing portfolio. As of March 31, 1999, the Company was earning
servicing fees on 119,699 sold Contracts with aggregate outstanding principal
balances approximating $1,219.2 million, compared to 87,833 Contracts with
aggregate outstanding principal balances approximating $935.7 million as of
March 31, 1998. In addition to the $1,219.2 million in sold Contracts, on which
servicing fees were earned, the Company was holding for sale and servicing an
additional $321.2 million in Contracts, for an aggregate total servicing
portfolio of $1.5 billion. The Company expects a decline in the outstanding
servicing portfolio during 1999, and a comparable decrease in servicing fees.
EXPENSES. During the three month period ended March 31, 1999, operating
expenses increased $9.4 million, or 61.9%, compared to the three month period
ended March 31, 1998. Employee costs increased by $2.8 million, or 52.8%, and
represented 33.7% of total operating expenses. The increase is due to the
addition of staff necessary to accommodate the increase in the Company's
servicing portfolio, to increases in the cost of fringe benefits provided to
employees, and to certain increases in salaries of existing staff. General and
administrative expenses increased by $1.2 million, or 27.0% and represented
23.5% of total operating expenses. Increases in general and administrative
expenses included increases in telecommunications, stationery, credit reports
and other related items as a result of increases in the Company's servicing
portfolio.
Interest expense increased $3.4 million, or 85.6%, and represented
29.7% of total operating expenses. The increase is due primarily to the increase
in average aggregate borrowings incurred to hold Contracts for sale and to
increases in the interest rates payable with respect to such borrowings. See
"Liquidity and Capital Resources." The increase is also due in part to the
interest paid on an additional $30.0 million in subordinated debt securities and
$33.0 million of senior secured debt, all of which was issued by the Company at
various times after March 31, 1998, and all of which was outstanding throughout
the first quarter of 1999.
The Company expects to purchase and hold for sale fewer Contracts in
1999 than it did in 1998, which would be expected to result in a decrease in
interest earned on Contracts held for sale, and a decrease in interest expense
incurred. Furthermore, the Company plans to terminate one of its two warehouse
lines of credit (discussed below), which may result in an increase in the
average effective interest rate at which the Company borrows to finance
purchases of Contracts held for sale.
LIQUIDITY AND CAPITAL RESOURCES
The Company's business requires substantial cash to support its
operating activities. The Company's primary sources of cash from operating
activities are amounts borrowed under its various warehouse lines, servicing
fees on portfolios of Contracts previously sold, proceeds from the sales of
Contracts, customer payments of principal and interest on Contracts held for
sale, and releases of cash from Spread Accounts. The Company's primary uses of
cash are the purchases of Contracts, repayment of amounts borrowed under its
various warehouse lines, operating expenses such as employee, interest, and
occupancy expenses, the establishment of and further contributions to Spread
14
CONSUMER PORTFOLIO SERVICES, INC.
Accounts and income taxes. As a result, the Company is dependent on its
warehouse lines of credit to purchase Contracts, and on the availability of
capital from outside sources in order to finance its continued operations. If
the Company's warehouse lenders decided to terminate or not to renew any of
these credit facilities with the Company, or if other capital were to be
unavailable, the loss of borrowing capacity or the unavailability of capital
would have a material adverse effect on the Company's results of operations
unless the Company found a suitable alternative source or sources.
Net cash used in operating activities was $4.2 million during the three
month period ended March 31, 1999, compared to $3.4 million for the three month
period ended March 31, 1998. Net cash deposited into trusts was $12.0 million,
an increase of $2.4 million, or 25.0%, over net cash deposited into trusts in
the three month period ended March 31, 1998.
On a day-to-day basis, the Company funds its purchases of Contracts
from Dealers by drawing on either of two warehouse lines of credit (collectively
referred to as the "Warehouse Lines"), and pledges the purchased Contracts to
one or the other warehouse lender. The amount borrowed under the Warehouse Lines
increases until the Company sells the pledged Contracts, at which time the
majority of the proceeds of the sale are used to pay down the related balance of
the Warehouse Lines. Securitization transactions have been completed on
approximately a quarterly basis from June 1994 through December 1998, but the
Company has not sold Contracts in a securitization transaction since December
1998, and there can be no assurance as to when the Company next will sell
Contracts or the terms of any such sale. The amount of Contracts the Company can
hold for sale prior to their sale is limited by its available cash and the
Warehouse Lines, which as currently structured permit borrowings of up to a
maximum total of $300.0 million.
The Company's cash requirements have been and will continue to be
significant. The Company may borrow under the Warehouse Lines no more than an
amount generally defined as a percentage ("advance rate") of the principal
amount of the Contracts pledged to the respective warehouse lenders. The
difference between what the Company may borrow and what it pays Dealers for
Contracts must come from the Company's working capital.
Under one of the Company's two Warehouse Lines, an affiliate of First
Union National Bank lends to the Company, with the loans funded by commercial
paper issued by that affiliate, and secured by Contracts pledged periodically by
the Company. The First Union line has a maximum lending amount of $200.0
million, will terminate no later than July 16, 1999, and may terminate earlier.
See "Defaults on Senior Securities" in this report. Under the Company's second
warehouse line of credit, the Company borrows from General Electric Capital
Corporation ("GECC"). The GECC line was entered into in November 1998, and
replaced a prior line of credit arrangement under which an affiliate of GECC
lent money to the Company in a structure similar to that of the First Union
line. The GECC line has an aggregate maximum lending amount of $100.0 million,
and will terminate on November 30, 1999, unless renewed. The two lines together
had an outstanding balance of $277.6 million at March 31, 1999, as compared to
$151.9 million at December 31, 1998. The Company uses the two Warehouse Lines in
tandem, pledging specific Contracts to each lender alternatively.
The amount of cash that the Company needs for daily operations is most
heavily dependent on (i) its level of Contract purchases, and (ii) the amount
that the Company may borrow under its Warehouse Lines, secured by the Contracts
purchased. The First Union Line allows the Company to borrow a varying
percentage (not in excess of 95%) of Contract balances, depending on the
performance of Contracts pledged to that lender. The advance rate under the
First Union Line decreased during 1998 to an average of approximately 91% in the
fourth quarter, and remained at 91% for the first quarter of 1999. However, the
advance rate has decreased during the second quarter to 90%. The Company has no
expectation that it will be able to borrow at a higher advance rate with respect
to Contracts pledged to the First Union Line in the immediate future. The GECC
Line (entered into in November 1998) allows the Company to borrow no more than
88% of the principal amount of the pledged Contracts.
When the Company subsequently sells the warehoused Contracts in
securitization transactions, the Servicing Agreements require the Company to
make a significant initial cash deposit, for purposes of credit enhancement, to
the Spread Accounts. Excess cash flows from the securitized Contracts are also
deposited into the Spread Accounts until such time as the Spread Account balance
reaches its requisite level, which is computed as a specified percent of the
outstanding balance of the related asset-backed securities or collateral.
15
CONSUMER PORTFOLIO SERVICES, INC.
During the three month period ended March 31, 1999, the Company did not
complete a securitization transaction, and therefore, did not use any cash for
initial deposits to Spread Accounts, compared to $6.5 million used during the
three month period ended March 31, 1998. During 1998, the cash required for
initial Spread Account deposits was significantly increased from 3.5% in the
prior year's transactions to 8.0% in the transaction completed in the third
quarter of 1998, with an additional credit enhancement of 2.0%
over-collateralization. The Company subsequently reached an agreement, discussed
below, that allowed a reduced initial cash deposit of 3.0% in the Company's
fourth quarter 1998 securitization transaction. Cash used for subsequent
deposits to Spread Accounts for the three month period ended March 31, 1999, was
$12.5 million, a decrease of $456,000, or 3.5%, over cash used for subsequent
deposits to Spread Accounts in the three month period ended March 31, 1998. Such
subsequent deposits into Spread Accounts in the first quarter of 1999 include
$1.3 million of cash used to pay down certain senior series of Certificates to
create excess collateral in an over-collateralization account. Cash released
from Spread Accounts for the three month period ended March 31, 1999, was
$577,000, a decrease of $9.4 million, or 94.2%, over cash released from Spread
Accounts in the three month period ended March 31, 1998. Changes in deposits to
and releases from Spread Accounts are affected by the relative size, seasoning
and performance of the various pools of sold Contracts that make up the
Company's Servicing Portfolio.
As of March 31, 1999, 16 of the 21 Trusts incurred cumulative net
losses as a percentage of the original contract balance in excess of the
predetermined levels specified in the respective Servicing Agreements.
Accordingly, pursuant to the Servicing Agreements, the specified credit
enhancement levels were increased. As a result of this and certain cross
collateralization arrangements, excess cash flows that would otherwise have been
released to the Company were retained in the Spread Accounts to bring the
balance of those Spread Accounts up to a higher level. Funding such balance
increases has materially increased the Company's capital requirements. In
addition to requiring higher Spread Account levels, the Servicing Agreements
provide the Certificate Insurer with certain other rights and remedies, which
have been waived on a monthly basis by the Certificate Insurer. Due to the
increase in the Spread Account requirements, there have been no significant
releases of cash from the Trusts since June 1998. As a result, approximately
$34.8 million of cash flows were delayed and retained in the Spread Accounts as
of March 31, 1999. The higher requisite Spread Account levels ranged from 30% to
100% of the related outstanding balance of the securitized pools. In April 1999,
the Company entered into an amendment with the Certificate Insurer of the
Company's asset-backed securities to cap the amount of cash retained in the
Spread Accounts at 21% of the outstanding securities balance for 19 of the
Company's 21 securitized pools. The agreement is subject to certain performance
measures that may result in an increase in the maximum level to 25% of the
outstanding principal balance of the securities. The effectiveness of the
amendment is contingent upon approval of certain subordinated
Certificateholders. As of April 30, 1999, the aggregate Spread Account balance
of the related 19 securitized pools was 16.8% of the outstanding principal
balance of the securities.
Due to the Company's continuing purchases of Contracts and the need to
fund Spread Accounts when those Contracts are sold in securitization
transactions, the Company has a continuing need for capital. The amount of
capital required is most heavily dependent on the rate of the Company's Contract
purchases, the required level of initial Spread Account deposits, and the extent
to which the Spread Accounts either release cash to the Company or capture cash
from collections on sold Contracts. As noted above, the absence of any
significant releases of cash from Spread Accounts since June 1998, together with
the reduction in advance rates available to the Company under its Warehouse
Lines, has materially increased the Company's capital requirements. To reduce
its capital requirements and to meet those requirements, the Company in November
1998 began to implement a three-part plan: the plan includes (i) issuance of
debt and equity securities, (ii) agreements with the Certificate Insurer to
reduce the level of initial Spread Account deposits, and to reduce the maximum
levels of the Spread Accounts, and (iii) a reduction in the rate of Contract
purchases.
As the first step in the plan, the Company in November 1998 and April
1999, issued $25.0 million and $5.0 million, respectively, of subordinated
promissory notes (aggregately the "LLCP Notes"), to LLCP due 2004, and bearing
interest at the rate of 14.5% per annum. Net proceeds received from the
issuances were approximately $28.5 million. In conjunction with the LLCP Notes,
the Company issued warrants to purchase up to 4,450,000 shares of common stock
at $0.01 per share, 3,115,000 of which were exercised in April 1999. The
effective cost of this new capital represents a material increase in the cost of
capital to the Company. As part of the agreements of the LLCP Notes, are
agreements by Stanwich Financial Services Corp. ("SFSC") to purchase an
additional $15.0 million of notes, and of the Company to sell such notes. The
chairman and the president of the Company are the principal shareholders of
SFSC, and the Company's chairman is the chief executive officer of SFSC. The
terms of such additional notes are to be not less favorable to the Company than
(i) those that would be available in a transaction with a non-affiliate, and
(ii) those applicable to the LLCP Notes. Sale of such additional notes would
likely therefore involve some degree of equity participation, which could be
dilutive to other holders of the Company's common stock. SFSC's commitment in
turn has been collateralized by certain assets pledged by the chairman of the
Company's board of directors and the president of the Company. Additionally,
$5.0 million of the LLCP Notes have been personally guaranteed by the chairman
of the Company's board of directors and the president of the Company.
16
CONSUMER PORTFOLIO SERVICES, INC.
Also in November 1998, as the second step in its plan, the Company
reached an agreement with the Certificate Insurer regarding initial cash
deposits. In this agreement, the Certificate Insurer has committed to insure
asset-backed securities issued by the Trusts with respect to at least $560.0
million of Contracts, while requiring an initial cash deposit of 3% of
principal. The commitment is subject to underwriting criteria and market
conditions. Of the $560.0 million committed, $310.0 million was used in the
Company's December 1998 securitization transaction. The Company expects to use
the balance of that commitment in its next securitization transaction. The
Company's agreement with the Certificate Insurer also required that the Company
issue to the Certificate Insurer or its designee warrants to purchase common
stock at $3.00 per share, exercisable through the fifth anniversary of the
warrant's issuance. Such warrants are exercisable with respect to 2,525,114 of
the Company's common shares, subject to standard anti-dilution adjustments.
As a third part of its plan, the Company reduced its planned level of
Contract purchases initially to not more than $200.0 million per quarter
beginning November 1998. In the first quarter of 1999, the Company purchased
$158.0 million of Contracts. During the second quarter of 1999, Contract
purchases have been further reduced and are expected not to exceed $100.0
million for the quarter. Such reductions in Contract purchases will reduce
materially the Company's capital requirements.
The inability to sell Contracts in a securitization transaction in the
first quarter of 1999 has made it necessary for the Company to seek other means
of selling the Contracts that it currently holds for sale. Alternatives being
considered by the Company include various securitization structures,
unsecuritized sale of Contracts, or perhaps, some combination of both
alternatives. The Company expects that if an unsecuritized sale of Contracts is
completed on a servicing-released basis, a loss on sale of such Contracts would
be incurred, which may result in the Company's reporting a loss for the second
quarter of 1999. The Company has entered into a letter of intent regarding a
proposed sale in the second quarter of up to $300.0 million of the Company's
Contracts on an unsecured basis, servicing-released. Such a sale would be at a
price in excess of the blended warehouse line advance rates applicable to the
Contracts to be sold, but slightly less than the Company's cost basis in such
Contracts. Accordingly, such a transaction (as to which there can be no
assurance) would result in the Company's (i) recording a loss on such sale, and
(ii) receiving net cash. Recording such a loss may result in the Company
reporting a loss for the second quarter. Cash received in such a transaction
would be applied to meet in part the Company's liquidity and capital
requirements identified herein. If the Company were to incur a loss for the
second quarter of 1999 it would be in default under its agreements regarding the
Residual Line. Unless waived by the lender, the default could result in
acceleration of the indebtedness under the Residual Line and a cross default on
the Warehouse Lines. The lender would receive any releases from Spread Accounts
to retire outstanding principal and interest. The Company believes that the
lender would waive such a default. In the event the lender does not waive the
default, the Company believes that cash flow from operations would be sufficient
to fund its obligations as they become due and payable. There can be no
assurance, however, that the lender would waive the default or that other cash
flows would be sufficient to fund the Company's operations.
The Company is also exploring additional financing possibilities,
focussing on issuance of additional secured debt. Although such explorations
have involved discussions with, and expressions of interest from, various
investment banks, there can be no assurance that any such transactions will take
place.
YEAR 2000
OVERVIEW. The Year 2000 issue is predicated on the concept that some
database files may contain date fields that will not support century functions
and that some programs may not support century functions even if the date fields
are present. With the change of millennium, the inability to properly process
century functions may create halts or sort/calculation errors within programs
that use century information in calculation and functions.
The Company predominantly uses accounting and installment loan
application processing software against defined relational database files. Most
financial software has long ago been forced to deal with a four byte date field
due to long term maturity dates, bond yield calculations and mortgage
amortization schedules. The Company has been cognizant of Year 2000
considerations since late 1994, when contracts with maturity dates in the year
2000 were first purchased.
17
CONSUMER PORTFOLIO SERVICES, INC.
PLAN. The Company's plan to assess the Year 2000 issue consists of a
three-phase process. The first phase of the process, which has been completed,
consisted of assessing all user programs of the Company's mainframe computer.
Those user programs that were not compliant were either corrected or the
necessary software patches have been identified and ordered. There were no
critical user programs identified that could not be modified to be compliant. In
addition, the Company's mainframe computer's operating system was also tested
and was deemed to be compliant as well.
The second phase of the Company's testing will consist of testing all
personal computers for compliance. The Company has engaged an outside specialist
to facilitate testing and administering corrective procedures where needed. The
Company estimates that phase two will be completed by June 30, 1999.
The third and final stage of testing consists of identifying key
vendors of the Company's operations and requesting that those vendors complete a
Year 2000 compliance questionnaire. Any vendors found to be non-compliant will
be continuously monitored for progress towards compliance. The Company estimates
this phase of testing will also be completed by June 30, 1999.
COSTS. As the majority of the testing was performed internally by the
Company's information systems department, the Company estimates the costs to
complete all phases of testing, including any necessary modifications, to be
insignificant to the results of operations.
At this time, the risks associated with the Company's Year 2000 issues,
both internally and as related to third party business partners and suppliers
are not completely known. Through the Company's plan of analysis and
identification, it expects to identify substantially all of its Year 2000
related risks. Although the risks have not been completely identified, the
Company believes that the most realistic worst case scenario would be that the
Company would suffer from full or intermittent power outages at some or all of
its locations. Depending upon the locations affected and estimated duration,
this would entail recovery of the main application server systems at other
locations and or move to manual processes. Manual processes have been developed
as part of the overall contingency plan. In relation to this, complete system
data dumps are scheduled to take place prior to the millennium date change to
ensure access to all Company mission critical data should any system not be
accessible for any reason.
FORWARD-LOOKING STATEMENTS
This report on Form 10-Q contains certain "forward-looking statements,"
including, without limitation, the statements to the effect that (i) the cap on
Spread Account levels is expected to provide cash flows to the Company in 1999,
(ii) the Company expects to use the balance of its Certificate Insurer's
commitment in the Company's next securitization transaction, (iii) the Company
may sell Contracts on a servicing-released basis in a transaction that would
yield cash, and (iv) the lenders under its Residuals Line may waive a default
occasioned by two consecutive quarterly losses. That the cap on Spread Account
levels would provide cash flows to the Company in 1999 is dependent on the
consent of certain holders of subordinated interest in the related
securitization trusts, and on the performance of the receivables included in
such trusts. Such holders may give or withhold such consent in their discretion,
and may or may not agree that is in their best interest to do so. The
performance of the receivables in the trusts is dependent on various factors,
including their inherent credit quality and the effectiveness of the Company's
collection efforts. The Company's liquidity shortage identified herein could
impair the effectiveness of its collection efforts. Although the Company expects
to use the balance of its Certificate Insurer's commitment in the Company's next
securitization transaction, there can be no assurance that the Company will have
the liquidity or capital resources to enable it to post the reserves required
for credit enhancement of such a transaction, or that the securitization markets
will be receptive at the time that the Company seeks to engage in such a
transaction. Although the Company expects to sell up to $300.0 million of
Contracts, servicing-released, in a transaction that would release cash to the
Company, no definitive agreements relating to such a transaction have been
executed. The prospective purchaser might decline to purchase any Contracts, in
its discretion, or the Company and the purchaser might be unable to reach
mutually acceptable terms. Although the lenders under the Company's Residuals
Line may agree to waive any default, including a default occasioned by two
consecutive quarterly losses, their decision whether or not to waive
acceleration of the entire balance will be determined by their evaluation of
their own interest, and there can be no assurance that any such waivers will be
granted.
In addition to the statements identified above, descriptions of the
Company's business and activities set forth in this report and in other past and
future reports and announcements by the Company may contain forward-looking
statements and assumptions regarding the future activities and results of
operations of the Company. Actual results may be adversely affected by various
factors including the following: increases in unemployment or other changes in
domestic economic conditions which adversely affect the sales of new and used
automobiles and may result in increased delinquencies, foreclosures and losses
on Contracts; adverse economic conditions in geographic areas in which the
Company's business is concentrated; changes in interest rates, adverse changes
in the market for securitized receivables pools, or a substantial lengthening of
the Company's warehousing period, each of which could restrict the Company's
ability to obtain cash for new Contract originations and purchases; increases in
the amounts required to be set aside in Spread Accounts or to be expended for
other forms of credit enhancement to support future securitizations; the
reduction or unavailability of warehouse lines of credit which the Company uses
to accumulate Contracts for securitization transactions; increased competition
from other automobile finance sources; reduction in the number and amount of
acceptable Contracts submitted to the Company by its automobile Dealer network;
changes in government regulations affecting consumer credit; and other economic,
financial and regulatory factors beyond the Company's control.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURE ABOUT MARKET RISK
INTEREST RATE RISK
The Company's funding strategy is largely dependent upon issuing
interest bearing asset-backed securities and incurring debt. Therefore, upward
fluctuations in interest rates may adversely impact the Company's profitability,
while downward fluctuations may improve the Company's profitability. The Company
uses several strategies to minimize the risk of interest rate fluctuations,
including offering only fixed rate contracts to obligors, regular sales of auto
Contracts to the Trusts, and pre-funding securitizations, whereby the amount of
asset-backed securities issued in a securitization exceeds the amount of
Contracts initially sold to the Trusts. The proceeds from the pre-funded portion
are held in an escrow account until the Company sells the additional Contracts
to the Trust in amounts up to the balance of the pre-funded escrow account. In
pre-funded securitizations, the Company locks in the borrowing costs with
respect to the loans it subsequently delivers to the Trust. However, the Company
incurs an expense in pre-funded securitizations equal to the difference between
the money market yields earned on the proceeds held in escrow prior to
subsequent delivery of Contracts and the interest rate paid on the asset-backed
securities outstanding.
18
CONSUMER PORTFOLIO SERVICES, INC.
PART II - OTHER INFORMATION
ITEM 3. DEFAULTS UPON SENIOR SECURITIES
The Company has been in default of its First Union Warehouse Line, its
LLCP Debt, and its Residual Line. All of such defaults have been waived or
cured.
The Company went into default on its LLCP Debt on January 1, 1999, when
it failed to obtain, by December 31, 1998, repayment of approximately $2.1
million owed to it by Nab Asset Corp., by reason of cross-default provisions in
the Residual Line, GECC Warehouse Line and the First Union Warehouse Line, such
other indebtedness was also placed in default.
All of such defaults were waived concurrently with Company's issuance
of $5.0 million of new 14.50% Senior Subordinated Notes to LLCP on April 15,
1999.
The Company is also in default under the First Union Warehouse Line due
to its not having sold Contracts since December 1998. Among the terms of the
First Union Warehouse line is a requirement that any Contract pledged to secure
borrowings thereunder not have been pledged in excess of 180 days. Certain
Contracts that the Company acquired prior to its December 1998 securitization,
which were not included in that transaction, have been pledged in the First
Union Warehouse Line for in excess of 180 days, causing such Contracts to become
ineligible as collateral, and thus causing the amount outstanding under the line
to exceed the amount that is deemed properly secured. Such default has been
waived in consideration of payment of certain fees and modification of other
terms of the First Union Warehouse Line.
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) The following exhibits are filed as a part of this report.
10.31 First Amendment dated as of April 15, 1999, to Securities Purchase
Agreement dated as of November 17, 1998, between the Company and
Levine Leichtman Capital Partners II, L.P. ("LLCP"). (said Securities
Purchase Agreement, as amended, is referred to below as the "Amended
SPA")*
10.32 Senior Subordinated Primary Note in the principal amount of
$25,000,000, as amended and restated pursuant to the Amended SPA.*
10.33 Primary Warrant to Purchase 3,115,000 Shares of Common Stock, as
amended and restated pursuant to the Amended SPA.*
10.34 Securities Purchase Agreement dated as of April 15, 1999, between the
Company and LLCP.*
10.35 Senior Subordinated Note in the principal amount of $5,000,000.*
10.36 Warrant to Purchase 1,335,000 Shares of Common Stock.*
10.37 First Amendment to Investors Rights Agreement, dated as of April 15,
1999, by and among LLCP, the Company, Charles E. Bradley, Sr., Charles
E. Bradley, Jr. and Jeffrey P. Fritz.*
10.38 First Amendment to Registration Rights Agreement, dated as of April
15, 1999, between LLCP and the Company.*
10.39 Investment Agreement and Continuing Guaranty, dated as of April 15,
1999, by and among LLCP, the Company, Charles E. Bradley, Sr., Charles
E. Bradley, Jr. and Stanwich Financial Services Corp., a Rhode Island
corporation.*
27 Financial Data Schedule
* Incorporated by reference to an exhibit filed with the amended
statement on Schedule 13D filed by LLCP and others on April 21, 1999.
(b) During the quarter for which this report is filed, the Company
filed three reports on Form 8-K. Such reports were dated January
15, February 15, and March 15, 1999. Each was filed solely to
include as an exhibit thereto, Item 7, the Company's monthly
Servicer Report with respect to certain securitization trusts.
The assets of such trusts consist of automotive receivables
serviced by the Company. No financial statements were filed with
any of such reports.
19
CONSUMER PORTFOLIO SERVICES, INC.
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant duly caused this report to be signed on its behalf by the undersigned
thereunto duly authorized.
Consumer Portfolio Services, Inc.
(Registrant)
Date: May 17, 1999 /s/ Charles E. Bradley, Jr.
--------------------------------------------
Charles E. Bradley, Jr.
Director, President, Chief Executive Officer
(Principal Executive Officer)
Date: May 17, 1999 /s/ Jeffrey P. Fritz
--------------------------------------------
Jeffrey P. Fritz
Chief Financial Officer
(Principal Financial Officer )
20
EXHIBIT INDEX
10.31 First Amendment dated as of April 15, 1999, to Securities Purchase
Agreement dated as of November 17, 1998, between the Company and
Levine Leichtman Capital Partners II, L.P. ("LLCP"). (said Securities
Purchase Agreement, as amended, is referred to below as the "Amended
SPA")*
10.32 Senior Subordinated Primary Note in the principal amount of
$25,000,000, as amended and restated pursuant to the Amended SPA.*
10.33 Primary Warrant to Purchase 3,115,000 Shares of Common Stock, as
amended and restated pursuant to the Amended SPA.*
10.34 Securities Purchase Agreement dated as of April 15, 1999, between the
Company and LLCP.*
10.35 Senior Subordinated Note in the principal amount of $5,000,000.*
10.36 Warrant to Purchase 1,335,000 Shares of Common Stock.*
10.37 First Amendment to Investors Rights Agreement, dated as of April 15,
1999, by and among LLCP, the Company, Charles E. Bradley, Sr., Charles
E. Bradley, Jr. and Jeffrey P. Fritz.*
10.38 First Amendment to Registration Rights Agreement, dated as of April
15, 1999, between LLCP and the Company.*
10.39 Investment Agreement and Continuing Guaranty, dated as of April 15,
1999, by and among LLCP, the Company, Charles E. Bradley, Sr., Charles
E. Bradley, Jr. and Stanwich Financial Services Corp., a Rhode Island
corporation.*
27 Financial Data Schedule
* Incorporated by reference to an exhibit filed with the amended
statement on Schedule 13D filed by LLCP and others on April 21, 1999.
21
5
1000
3-MOS 3-MOS
DEC-31-1999 DEC-31-1998
JAN-01-1999 JAN-31-1998
MAR-31-1999 MAR-31-1998
2,001 3,559
0 0
319,496 176,730
2,340 2,751
0 0
0 0
3,979 4,272
2,936 2,626
573,012 431,962
332,225 190,192
40,000 40,000
0 0
0 0
52,533 52,533
64,421 66,548
573,012 431,962
0 0
20,824 24,782
0 0
24,491 15,124
0 0
0 0
7,268 3,915
(3,667) 9,658
(1,540) 4,055
(2,127) 5,603
0 0
0 0
0 0
(2,127) 5,603
(0.14) 0.37
(0.14) 0.34
