UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, DC 20549
FORM 10-KSB
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES ACT OF
1934
FOR THE FISCAL YEAR ENDED MARCH 31, 2004
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM ________ TO _________.
COMMISSION FILE NUMBER: 0-26680
NICHOLAS FINANCIAL, INC.
(NAME OF SMALL BUSINESS ISSUER IN ITS CHARTER)
BRITISH COLUMBIA, CANADA 8736-3354
(State or Other Jurisdiction of (I.R.S. Employer
Incorporation or Organization) Identification No.)
NICHOLAS FINANCIAL, INC.
2454 MCMULLEN BOOTH ROAD, BUILDING C
CLEARWATER, FLORIDA 33759
(Address of Principal Executive Offices) (Zip Code)
ISSUER'S TELEPHONE NUMBER, INCLUDING AREA CODE:
(727) 726-0763
SECURITIES REGISTERED UNDER SECTION 12(b) OF THE EXCHANGE ACT: NONE
SECURITIES REGISTERED UNDER SECTION 12(g) OF THE EXCHANGE ACT:
COMMON STOCK, NO PAR VALUE
Check whether the issuer (1) filed all reports required to be filed by Section
13 or 15(d) of the Exchange Act during the past 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 [ ]
Check if disclosure of delinquent filers pursuant to Item 405 of Regulation S-B
is not contained in this form, and no disclosure will 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-KSB or any amendment to
this Form 10-KSB. [ ]
The issuer's revenues for its most recent fiscal year ended March 31, 2004 were
$25,500,485.
As of June 8, 2004, 6,487,288 shares of the issuer's Common Stock, no par value,
were outstanding, and the aggregate market value of the shares held by
non-affiliates was approximately $38,666,596
DOCUMENTS INCORPORATED BY REFERENCE:
Portions of the issuer's definitive Proxy Statement for the Annual Meeting of
Stockholders currently scheduled to be held on August 5, 2004, expected to be
filed with the Commission pursuant to Regulation 14A on or about July 8, 2004,
are incorporated by reference in Part III of this Annual Report on Form 10-KSB.
Transitional Small Business Disclosure Format (check one) : Yes [ ] No [X]
(This page intentionally left blank)
NICHOLAS FINANCIAL, INC.
FORM 10-KSB ANNUAL REPORT
TABLE OF CONTENTS
PAGE NO.
PART I
ITEM 1. Description of Business............................................................. 3
ITEM 2. Description of Property............................................................. 13
ITEM 3. Legal Proceedings................................................................... 13
ITEM 4. Submission of Matters to a Vote of Security Holders................................. 13
PART II
ITEM 5. Market for Common Equity, Related Stockholder Matters and Small Business
Issuer Purchases of Equity Securities.................................... 14
ITEM 6. Management's Discussion and Analysis of Financial Condition
and Results of Operations............................................... 16
ITEM 7. Financial Statements................................................................ 25
ITEM 8. Changes In and Disagreements With Accountants on Accounting
and Financial Disclosure................................................. 50
ITEM 8A. Controls and Procedures............................................................. 50
PART III
ITEM 9. Directors, Executive Officers, Promoters and Control Persons;
Compliance with Section 16 (a) of the Exchange Act....................... 50
ITEM 10. Executive Compensation.............................................................. 50
ITEM 11. Security Ownership of Certain Beneficial Owners, Management and
Related Stockholder Matters.............................................. 51
ITEM 12. Certain Relationships and Related Transactions...................................... 51
ITEM 13. Exhibits and Reports on Form 8-K.................................................... 52
ITEM 14. Principal Accountant Fees and Services.............................................. 53
1
FORWARD-LOOKING INFORMATION
THIS REPORT ON FORM 10-KSB CONTAINS VARIOUS FORWARD-LOOKING STATEMENTS
WITHIN THE MEANING OF SECTION 27A OF THE SECURITIES ACT OF 1933 AND SECTION 21E
OF THE SECURITIES EXCHANGE ACT OF 1934 AND INFORMATION THAT IS BASED ON
MANAGEMENT'S BELIEFS AND ASSUMPTIONS, AS WELL AS INFORMATION CURRENTLY AVAILABLE
TO MANAGEMENT. WHEN USED IN THIS DOCUMENT, THE WORDS "ANTICIPATE," "ESTIMATE,"
"EXPECT," AND SIMILAR EXPRESSIONS ARE INTENDED TO IDENTIFY FORWARD-LOOKING
STATEMENTS. ALTHOUGH NICHOLAS FINANCIAL, INC., INCLUDING ITS SUBSIDIARIES
("COLLECTIVELY THE COMPANY"), BELIEVES THAT THE EXPECTATIONS REFLECTED IN SUCH
FORWARD-LOOKING STATEMENTS ARE REASONABLE, IT CAN GIVE NO ASSURANCE THAT SUCH
EXPECTATIONS WILL PROVE TO BE CORRECT. SUCH STATEMENTS ARE SUBJECT TO CERTAIN
RISKS, UNCERTAINTIES AND ASSUMPTIONS. SHOULD ONE OR MORE OF THESE RISKS OR
UNCERTAINTIES MATERIALIZE, OR SHOULD UNDERLYING ASSUMPTIONS PROVE INCORRECT,
ACTUAL RESULTS MAY VARY MATERIALLY FROM THOSE ANTICIPATED, ESTIMATED OR
EXPECTED. AMONG THE KEY FACTORS THAT MAY CAUSE ACTUAL RESULTS TO DIFFER
MATERIALLY FROM THOSE PROJECTED IN FORWARD-LOOKING STATEMENTS INCLUDE
FLUCTUATIONS IN THE ECONOMY, THE DEGREE AND NATURE OF COMPETITION, FLUCTUATIONS
IN INTEREST RATES, DEMAND FOR CONSUMER FINANCING IN THE MARKETS SERVED BY THE
COMPANY, THE COMPANY'S PRODUCTS AND SERVICES, INCREASES IN THE DEFAULT RATES
EXPERIENCED ON RETAIL INSTALLMENT SALES CONTRACTS, REGULATORY CHANGES IN THE
COMPANY'S EXISTING AND FUTURE MARKETS, AND THE COMPANY'S ABILITY TO EXPAND ITS
BUSINESS, INCLUDING ITS ABILITY TO IDENTIFY AND COMPLETE ACQUISITIONS AND
INTEGRATE THE OPERATIONS OF ACQUIRED BUSINESSES, TO RECRUIT AND RETAIN QUALIFIED
EMPLOYEES, TO EXPAND INTO NEW MARKETS AND TO MAINTAIN PROFIT MARGINS IN THE FACE
OF INCREASED PRICING COMPETITION. ALL FORWARD-LOOKING STATEMENTS INCLUDED IN
THIS REPORT ARE BASED ON INFORMATION AVAILABLE TO THE COMPANY ON THE DATE
HEREOF, AND THE COMPANY ASSUMES NO OBLIGATION TO UPDATE ANY SUCH FORWARD-LOOKING
STATEMENT. PROSPECTIVE INVESTORS SHOULD ALSO CONSULT THE RISK FACTORS DESCRIBED
FROM TIME TO TIME IN THE COMPANY'S FILINGS MADE WITH THE SECURITIES AND EXCHANGE
COMMISSION, INCLUDING ITS REPORTS ON FORMS 10-QSB, 8-K AND 10-KSB AND ANNUAL
REPORTS TO SHAREHOLDERS.
2
PART I
ITEM 1. DESCRIPTION OF BUSINESS
GENERAL
Nicholas Financial, Inc. ("Nicholas Financial-Canada") is a Canadian
holding company incorporated under the laws of British Columbia in 1986. The
business activities of Nicholas Financial-Canada are conducted through its two
wholly-owned subsidiaries formed pursuant to the laws of the State of Florida,
Nicholas Financial, Inc. ("Nicholas Financial") and Nicholas Data Services,
Inc., ("NDS"). Nicholas Financial is a specialized consumer finance company
engaged primarily in acquiring and servicing retail installment sales Contracts
("Contracts") for purchases of new and used automobiles and light trucks. To a
lesser extent, Nicholas Financial also makes direct loans and sells
consumer-finance related products. NDS is engaged in supporting and updating
industry specific computer application software for small businesses located
primarily in the Southeast United States. Nicholas Financial's financing
activities accounted for approximately 99% of consolidated revenues for each of
the fiscal years ended March 31, 2004 and 2003. NDS's activities accounted for
approximately 1% of such revenues during the same periods.
Nicholas Financial-Canada, Nicholas Financial and NDS are hereafter
collectively referred to as the "Company". All financial information herein is
designated in United States currency.
The Company's principal executive offices are located at 2454 McMullen
Booth Road, Building C, Clearwater Florida 33759, and its telephone number is
(727) 726-0763.
GROWTH STRATEGY
The Company's principal goals are to increase its profitability and its
long-term shareholder value through greater penetration in its current markets
and controlled geographic expansion into new markets. The Company also intends
to continue its expansion through a proportionate increase in its origination of
direct consumer loans. The Company is currently expanding its automobile
financing program in the States of Georgia, Michigan, North Carolina, Ohio,
South Carolina and Virginia. The Company has targeted certain geographic
locations within these states where it believes there is a sufficient market for
its automobile financing program. The Company is currently purchasing Contracts
utilizing employees who reside in these states. These employees are developing
their respective markets, and the Company has created a Central Buying Office in
its Corporate Headquarters to purchase, process and service these Contracts. The
Company's strategy is to monitor these new markets and ultimately decide where
and when to open additional branch locations. The Company also continues to
analyze other markets in states in which it does not currently operate. Although
the Company has not made any bulk purchases of Contracts in the last five years,
if the opportunity arises, the Company may consider possible acquisitions of
portfolios of seasoned Contracts from dealers in bulk transactions as a means of
further penetrating its existing markets or expanding its presence in targeted
geographic locations. The Company cannot provide any assurances, however, that
it will be able to further expand in either its current markets or any targeted
new markets.
3
AUTOMOBILE FINANCE BUSINESS - CONTRACTS
The Company is engaged in the business of providing financing programs,
primarily on behalf of purchasers of new and used cars and light trucks who meet
the Company's credit standards, but who do not meet the credit standards of
traditional lenders, such as banks and credit unions, because of the age of the
vehicle being financed or the customer's job instability or credit history.
Unlike traditional lenders, which look primarily to the credit history of the
borrower in making lending decisions and typically finance new automobiles, the
Company is willing to purchase Contracts for purchases made by borrowers who do
not have a good credit history and for older model and high mileage automobiles.
In making decisions regarding the purchase of a particular Contract the Company
considers the following factors related to the borrower: place and length of
residence, current and prior job status, history in making installment payments
for automobiles, current income and credit history. In addition, the Company
examines its prior experience with Contracts purchased from the dealer from
which the Company is purchasing the Contract, and the value of the automobile in
relation to the purchase price and the term of the Contract.
The Company's automobile finance programs are currently conducted in seven
states through a total of 32 branch offices, consisting of 16 in Florida, five
in Ohio, four in North Carolina, three in Georgia, two in South Carolina, and
one in each of Michigan and Virginia. Each branch office is budgeted (size of
branch, number of employees and location) to handle up to 1,000 accounts and up
to $7.5 million in outstanding receivables. To date, none of our branches has
reached this capacity. As of March 31, 2004 the Company had non-exclusive
agreements with approximately 1,275 dealers, of which approximately 950 are
active, for the purchase of individual Contracts that meet the Company's
financing criteria. The Company considers a dealer agreement to be active if the
Company has purchased a Contract thereunder in the last six months. The dealer
agreements require the dealer to originate Contracts in accordance with the
Company's guidelines. Once a Contract is purchased by the Company the dealer is
no longer involved in the relationship between the Company and the borrower,
other than through the existence of limited representation and warranties of the
dealer.
Customers under the Contracts typically make down payments, in the form of
cash or trade-in, ranging from 5% to 20% of the sale price of the vehicle
financed. The balance of the purchase price of the vehicle plus taxes, title
fees and, if applicable, premiums for extended service Contracts, accident and
health insurance and/or credit life insurance, are generally financed over a
period of 12 to 66 months. Accident and health insurance coverage enables the
customer to make required payments under the Contract in the event the borrower
becomes unable to work because of illness or accident and credit life insurance
pays the customer's obligations under the Contract upon his or her death.
The Company purchases Contracts from automobile dealers at a negotiated
price that is less than the original principal amount being financed (the
discount) by the purchaser of the automobile. The amount of the discount depends
upon factors such as the age and value of the automobile and the
creditworthiness of the customer. The Company will pay more (i.e., purchase the
Contract at a smaller discount from the original principal amount) for Contracts
as the credit risk of the customer improves. In certain markets, competition
determines the discount that the Company can charge. Historically, the Contracts
purchased by the Company have been purchased at discounts that range from 1% to
15% of the original principal amount of the Contract. In addition to the
discount, the Company charges the dealer a processing fee of $75 per Contract
purchased. As of March 31, 2004, the Company's loan portfolio consists
exclusively of Contracts purchased without recourse to the dealer. Although all
the Contracts in the Company's loan portfolio were acquired without recourse,
the dealer remains liable to the Company for liabilities arising from certain
representations and warranties made by the dealer with respect to compliance
with applicable federal and state laws and valid title to the vehicle.
4
The Company's policy is to only purchase a Contract after the dealer has
provided the Company with the requisite proof that the Company has a first
priority lien on the financed vehicle (or the Company has, in fact perfected
such first priority lien) that the customer has obtained the required collision
insurance naming the Company as loss payee and that the Contract has been fully
and accurately completed and validly executed. Once the Company has received and
approved all required documents, it pays the dealer for the Contract and
commences servicing the Contract.
The Company requires the owner of the vehicle to obtain and maintain
collision insurance, naming the Company as the loss payee, with a deductible of
not more than $500. Both the Company and the dealers we do business with offer
purchasers of vehicles certain other "add on products." These products are
offered by the dealer on behalf of the Company or by the automobile dealer on
behalf of the dealership at the time of sale. They consist of a roadside
assistance plan, extended warranty protection, gap insurance, credit life
insurance, credit accident and health insurance and credit property insurance.
If the purchaser so desires, the cost of these products may be included in the
amount financed under the Contract.
CONTRACT PROCUREMENT
The Company purchases Contracts in the states listed below. The Contracts
purchased by the Company are predominately for used vehicles; for the periods
shown below, less than 3% were new. The average model year collateralizing the
portfolio as of March 31, 2004 and 2003 was a 2000 and 1999 vehicle,
respectively. The amounts shown in the table represent the Company's finance
receivables, net of unearned interest on Contracts purchased:
MAXIMUM FISCAL YEAR ENDED
ALLOWABLE MARCH 31,
STATE INTEREST RATE (1) 2004 2003
----- ----------------- ----------- -----------
FL 18-30% (2) $38,887,398 $37,230,822
GA 18-30% (2) 8,682,016 7,880,717
NC 18-29% (2) 7,428,824 7,618,287
SC (3) 3,252,211 2,788,167
OH 25% 11,489,914 8,484,637
VA (3) 1,536,667 134,636
MI 25% 2,143,231 291,994
----------------- ----------- -----------
Total $73,420,261 $64,429,260
=========== ===========
5
(1) The allowable maximum interest rates by state is subject to
change and are governed by the individual states the Company
conducts business in.
(2) The maximum allowable interest rate in each of these states
varies depending upon the model year of the vehicle being
financed. In addition, Georgia does not currently impose a
maximum allowable interest rate with respect to Contracts over
$5,000.
(3) Neither of these states currently impose a maximum allowable
interest rate with respect to the types and sizes of Contracts
the Company purchases. The maximum rate which the Company will
currently charge any customer in each of these states is 29% per
annum.
The following table represents information on Contracts purchased by the
Company, net of unearned interest:
FISCAL YEAR ENDED
MARCH 31,
CONTRACTS 2004 2003
--------------------- ----------- -----------
Purchases $73,420,261 $64,429,260
Weighted APR 24.04% 24.22%
Average Discount 8.95% 8.91%
Average Term (months) 44 43
Average Loan $ 8,121 $ 8,102
Number of Contracts 9,041 7,952
=========== ===========
DIRECT LOANS
The Company currently originates direct loans in Florida, Georgia and
North Carolina. Direct loans are loans originated directly between the Company
and the consumer. These loans are typically for amounts ranging from $1,000 to
$6,000 and are generally secured by a lien on an automobile, water craft or
other permissible tangible personal property. The average loan made to date by
the Company had an initial principal balance of approximately $3,000. The
Company does not expect the average loan size to increase significantly within
the foreseeable future. The majority of direct loans are originated with current
or former customers under the Company's automobile financing program. The
typical direct loan has significantly better credit risk due to the customer's
historical payment history with the Company. The Company does not have a direct
loan license in Ohio, South Carolina, Michigan or Virginia, and none is
presently required in Georgia (as the Company currently does not make direct
loans under $3,000 in that state). Typically, the Company allows for a seasoning
process to occur in a new market prior to determining whether to pursue a direct
loan license there. The Company expects to make a decision in the current fiscal
year on whether or not to pursue a direct loan license for Ohio. The Company
does not expect to pursue a direct loan license in any other states during the
current fiscal year. The size of the loan and maximum interest rate that can be
charged varies from state to state. In deciding whether or not to make a loan,
the Company considers the individual's credit history, job stability, income and
impressions created during a personal interview with a Company loan officer.
Additionally, because most of the direct consumer loans made by the Company to
date have been made to borrowers under Contracts previously purchased by the
Company, the payment history of the borrower under the Contract is a significant
factor in making the loan decision. The Company's direct loan program was
implemented in April 1995 and currently accounts for approximately 4% of total
annual revenue for the Company. As of March 31, 2004, loans made by the Company
pursuant to its direct loan program constituted approximately 3% of the
aggregate principal amount of the Company's loan portfolio.
6
In connection with its direct loan program, the Company also offers health
and accident insurance coverage and credit life insurance to customers.
Customers in approximately 71% of the 1,452 direct loan transactions outstanding
as of March 31, 2004 had elected to purchase insurance coverage offered by the
Company. The cost of this insurance is included in the amount financed by the
customer.
The following table represents information on direct loans originated by
the Company, net of unearned interest:
FISCAL YEAR ENDED
MARCH 31,
DIRECT LOAN ORIGINATIONS 2004 2003
------------------------ ---------- ----------
Originations $3,925,537 $3,647,074
Weighted APR 26.27% 26.29%
Average Term (months) 27 27
Average Loan $ 2,967 $ 2,965
Number of Contracts 1,323 1,230
========== ==========
UNDERWRITING GUIDELINES
The Company's typical customer has a credit history that fails to meet the
lending standards of most banks and credit unions. Among the credit problems
experienced by the Company's customers that resulted in a poor credit history
are: unpaid revolving credit card obligations; unpaid medical bills; unpaid
student loans; prior bankruptcy; and evictions for nonpayment of rent. The
Company believes that its customer profile is similar to that of its direct
competitors.
Prior to its approval of the purchase of a Contract, the Company is
provided with a standardized credit application completed by the consumer which
contains information relating to the consumer's background, employment, and
credit history. The Company also obtains credit reports from Equifax, TRW or
TransUnion, which are independent reporting services. The Company verifies the
consumer's employment history, income and residence. In most cases, consumers
are interviewed by telephone by a Company application processor.
The Company has established internal buying guidelines to be used by its
Branch Managers and underwriters when purchasing Contracts. Any Contract that
does not meet these guidelines must be approved by the senior management of the
Company. The Company currently has District Managers charged with managing the
specific branches in a defined geographic area. In addition to a variety of
administrative duties, the District Managers are responsible for monitoring
their assigned branch's compliance with the Company's underwriting standards.
The Company uses essentially the same criteria in analyzing a direct loan
as it does in analyzing the purchase of a Contract. Lending decisions regarding
direct loans are made based upon a review of the customer's loan application,
credit history, job stability, income, in-person interviews with a Company loan
officer and the value of the collateral offered by the borrower to secure the
loan. To date, since approximately 90% of the Company's direct loans have been
made to individuals whose automobiles have been financed by the Company, the
customer's payment history under his or her existing or past Contract is a
significant factor in the lending decision. The decision process with respect to
the purchase of Contracts is similar, although the customer's prior payment
history with automobile loans is weighted more heavily in the decision making
process and the collateral value of the automobile being financed is considered.
7
After reviewing the information included in the Contract or direct loan
application and taking the other factors into account, Company representatives
categorize the customer using internally developed credit classifications of
"1", indicating higher creditworthiness, through "5", indicating lower
creditworthiness. In the absence of other factors, such as a favorable payment
history on a Contract held by the Company, the Company generally makes direct
loans only to individuals rated in categories "3" or higher. Contracts are
financed for individuals who fall within all five acceptable rating categories
utilized, "1" through "5".
Usually customers who fall within the two highest categories are
purchasing a two- to four-year old, low mileage used automobile from the
inventory of a new car or franchise dealer while customers in the two lowest
categories are purchasing an older, high mileage automobile from an independent
used automobile dealer.
The Company continues to utilize its Loss Recovery Department ("LRD") to
perform on-site audits of branch compliance with Company buying guidelines. LRD
audits Company branches on a schedule that is variable depending on the size of
the branch, length of time a branch has been open, current tenure of the branch
manager, previous branch audit score and current and historical branch
profitability. LRD reports directly to the Accounting and Administrative
Management of the Company. The Company believes that an independent review and
audit of its branches that is not tied to the sales function of the Company is
imperative in order to assure the information obtained is impartial.
MONITORING AND ENFORCEMENT OF CONTRACTS
The Company requires all customers to obtain and maintain collision
insurance covering damage to the vehicle. Failure to maintain insurance
constitutes a default under the Contract and the Company may at its discretion,
repossess the vehicle. To reduce potential loss due to insurance lapse, the
Company has the Contractual right to force place its own collateral protection
insurance policy, which covers loss due to physical damage to vehicles not
covered by collision insurance.
The Company's Management Information Services personnel maintain a number
of reports to monitor compliance by customers with their obligations under
Contracts and direct loans made by the Company. These reports may be accessed on
a real-time basis throughout the Company by management personnel, including
Branch Managers and staff, at computer terminals located in the main office and
each branch office. The reports include: delinquency aging reports, insurance
due reports, customer promises reports, vehicle information reports, purchase
reports, dealer analysis reports, static pool reports, and repossession reports.
A delinquency report is an aging report that provides basic information
regarding each account and indicates accounts that are past due. The report
includes information such as the account number, address of the customer, home
and work phone numbers of the customer, original term of the Contract, number of
remaining payments, outstanding balance, due dates, date of last payment, number
of days past due, scheduled payment amount, amount of last payment, total past
due, and special payment arrangements or agreements.
8
Accounts that are less than 120 days matured are included on the
delinquency report on the first day that the Contract is contractually past due.
After an account has matured more than 120 days, it is not included on the
delinquency report until it is 11 days past due. Once an account becomes 30 days
past due, repossession proceedings are implemented unless the customer provides
the Company with an acceptable explanation for the delinquency and displays a
willingness, and the ability to make the payment, and commits to a plan to
return the account to current status. When an account is 60 days past due, the
Company ceases recognition of income on the Contract and repossession
proceedings are initiated. At 120 days delinquent, if the vehicle has not yet
been repossessed, the account is written off. Once a vehicle has been
repossessed, the related loan balance no longer appears on the delinquency
report. It instead appears on the Company's repossession report and is sold,
either at auction or to an automobile dealer.
When an account becomes delinquent, the Company immediately contacts the
customer to determine the reason for the delinquency and to determine if
arrangements for payment can appropriately be made. Once payment arrangements
acceptable to the Company have been made, the information is entered in its
database and is used to generate a "Promises Report", which is utilized by the
Company's collection staff for account follow up.
The Company generates an insurance report to monitor compliance with the
insurance obligations imposed upon customers. This report includes the account
number, name and address of the customer, and information regarding the
insurance carrier, as well as summarizes the insurance coverage, identifies the
expiration date of the policy, and provides basic information regarding payment
dates and the term of the Contract. This report assists the Company in
identifying customers whose insurance policies are up for renewal or are in
jeopardy of being canceled. The Company sends written notices to, and makes
direct contact with, customers whose insurance policies are about to lapse or be
canceled. If a customer fails to provide proof of coverage within 30 days of
notice, the Company has the option of purchasing insurance and adding the cost
and applicable finance charges to the balance of the Contract.
The Company prepares a repossession report that provides information
regarding repossessed vehicles and aids the Company in disposing of repossessed
vehicles. In addition to information regarding the customer, this report
provides information regarding the date of repossession, date the vehicle was
sold, number of days it was held in inventory prior to sale, year and make and
model of the vehicle, mileage, payoff amount on the Contract, NADA book value,
Black Book value, suggested sale price, location of the vehicle, original
dealer, condition of the vehicle, and notes other information that may be
helpful to the Company.
The Company also prepares a dealer analysis report that provides
information regarding each dealer from which it purchases Contracts. This report
allows the Company to analyze the volume of business done with each dealer and
the terms on which it purchased Contracts from the dealer.
The Company's policy is to aggressively pursue legal remedies to collect
deficiencies from customers. Delinquency notices are sent to customers and
verbal requests for payment are made beginning when an account becomes 11 days
delinquent. When an account becomes 30 days delinquent and the customer has not
made payment arrangements acceptable to the Company or has failed to respond to
the requests for payment, a repossession request form is prepared by the
responsible branch office employee for approval by the Branch Manager for the
vicinity in which the borrower lives. Once the repossession request has been
approved, first by the Branch Manager and secondly by their District Manager, it
must then be approved by a corporate officer. The repossessor delivers the
vehicle to a secure location specified by the Company where it is held. The
Company maintains relationships with several licensed repossession firms that
repossess vehicles for fees that range from $175 to $350 for each vehicle
repossessed. As required by Florida, Georgia, North Carolina, South Carolina,
Ohio, Michigan and Virginia law, the customer is notified by certified letter
that the vehicle has been repossessed and that to regain the vehicle, he or she
must make arrangements satisfactory to the Company and pay the amount owed under
the Contract within ten days after delivery of the letter.
9
The minimum requirement for return of the vehicle is payment of all past
due amounts under the Contract and all expenses associated with the repossession
incurred by the Company. If satisfactory arrangements for return of the vehicle
are not made within the statutory period, the Company then sends title to the
vehicle to the applicable state title transfer department, which then registers
the vehicle in the name of the Company. The Company then either sells the
vehicle to a dealer or has it transported to an automobile auction for sale. On
average, approximately 30 days lapse between the time the Company takes
possession of a vehicle and the time it is sold by a dealer or at auction. When
the Company determines that there is a reasonable likelihood of recovering part
or all of any deficiency against the customer under the Contract, it pursues
legal remedies available to it, including lawsuits, judgement liens and wage
garnishments. Historically, the Company has recovered approximately 10-15% of
deficiencies from such customers. Proceeds from the disposition of the vehicles
are not included in calculating the foregoing percentage range.
MARKETING AND ADVERTISING
The Company's Contract marketing efforts are directed toward automobile
dealers. The Company attempts to meet dealers' needs by offering
highly-responsive, cost-competitive and service-oriented financing programs. The
Company relies on its District and Branch Managers to solicit agreements for the
purchase of Contracts with automobile dealers located within a 25-mile radius of
each branch office. The Branch Manager provides dealers with information
regarding the Company and the general terms upon which the Company is willing to
purchase Contracts. The Company presently has no plans to implement any other
forms of advertising for the purchase of Contracts such as radio or newspaper
advertisements.
The Company solicits customers under its direct loan program primarily
through direct mailings, followed by telephone calls, to individuals who have a
good credit history with the Company in connection with Contracts purchased by
the Company. To some extent the Company also uses direct mail marketing to those
customers who meet the criteria for a direct loan.
COMPUTERIZED INFORMATION SYSTEM
The Company utilizes integrated computer systems developed by NDS to
enhance its ability to respond to customer inquiries and to monitor the
performance of its Contract and direct loan portfolio and the performance of
individual customers under Contracts. All Company personnel are provided with
instant, simultaneous access to information from a single shared database. The
Company has created specialized programs to automate the tracking of Contracts
and direct loans from inception. The capacity of the networking system includes
the Company's branch office locations. See " Monitoring and Enforcement of
Contracts" for a summary of the different reports prepared by the Company.
COMPETITION
The consumer finance industry is highly fragmented and highly competitive.
There are numerous financial service companies that provide consumer credit in
the markets served by the Company, including banks, other consumer finance
companies, and captive finance companies owned by automobile manufacturers and
retailers. Many of these companies have significantly greater resources than the
Company. The Company does not believe that increased competition for the
purchase of Contracts will cause a material reduction in the interest rate
payable by the purchaser of the automobile. However, increased competition for
the purchase of Contracts will enable automobile dealers to shop for the best
price, thereby giving rise to an erosion in the discount from the initial
principal amount at which the Company would be willing to purchase Contracts.
10
The Company's target market consists of persons who are generally unable
to obtain traditional used car financing because of their credit history or the
vehicle's mileage or age. The Company has been able to expand its automobile
finance business in the non-prime credit market by offering to purchase
Contracts on terms that are competitive with those of other companies which
purchase automobile receivables in that market segment. Because of the daily
contact that many of its employees have with automobile dealers located
throughout the market areas served by it, the Company is generally aware of the
terms upon which its competitors are offering to purchase Contracts. The
Company's policy is to modify its terms, if necessary, to remain competitive.
However, the Company will not sacrifice credit quality, its purchasing criteria
or prudent business practices in order to meet the competition.
The Company's ability to compete effectively with other companies offering
similar financing arrangements depends upon maintaining close business
relationships with dealers of new and used vehicles. No single dealer out of the
approximately 950 dealers that the Company currently has active Contractual
relationships with accounted for over 3% of its business volume for either of
the fiscal years ended March 31, 2004 or 2003.
REGULATION
The Company's financing operations are subject to regulation, supervision
and licensing under various federal, state and local statutes and ordinances.
Additionally, the procedures that the Company must follow in connection with the
repossession of vehicles securing Contracts are regulated by each of the states
in which the Company does business. To date, the Company's operations have been
conducted exclusively in the states of Florida, Georgia, Michigan, North
Carolina, Ohio, South Carolina and Virginia. Accordingly, the laws of such
states, as well as applicable federal law, govern the Company's operations.
Compliance with existing laws and regulations has not had a material adverse
effect on the Company's operations to date. The Company's management believes
that the Company maintains all requisite licenses and permits and is in material
compliance with all applicable local, state and federal laws and regulations.
The Company periodically reviews its branch office practices in an effort to
ensure such compliance. The following constitute certain of the federal, state
and local statutes and ordinances with which the Company must comply:
- State consumer regulatory agency requirements. Pursuant to
regulations of the state of Florida governing the Company's
financing business activities, the Department of Banking and
Finance periodically conducts an on-site audit of each of the
Company's Florida branches to monitor compliance with
applicable regulations. These regulations govern, among other
matters, licensure requirements, requirements for maintenance
of proper records, payment of required fees, maximum interest
rates that may be charged on loans to finance used vehicles
and proper disclosure to customers regarding financing terms.
Pursuant to North Carolina law, the Company's direct loan
activities in that state are subject to similar periodic
on-site audits by the North Carolina Office of the
Commissioner of Banks.
- State licensing requirements. The Company maintains a Sales
Finance Company License with the Florida Department of Banking
and Finance, as well as consumer loan licenses in Florida and
North Carolina. The dealers that the Company does business
with are required to maintain a Retail Installment Seller's
License with the state or states in which they operate.
- Fair Debt Collection Act. The Fair Debt Collection Act and
applicable state law counterparts prohibit the Company from
contacting customers during certain times and at certain
places, from using certain threatening practices and from
making false implications when attempting to collect a debt.
11
REGULATION (CONTINUED)
- Truth in Lending Act. The Truth in Lending Act requires the
Company and the dealers it does business with to make certain
disclosures to customers, including the terms of repayment,
the total finance charge and the annual percentage rate
charged on each Contract or direct loan.
- Equal Credit Opportunity Act. The Equal Credit Opportunity Act
prohibits creditors from discriminating against loan
applicants on the basis of race, color, sex, age or marital
status. Pursuant to Regulation B promulgated under the Equal
Credit Opportunity Act, creditors are required to make certain
disclosures regarding consumer rights and advise consumers
whose credit applications are not approved of the reasons for
the rejection.
- Fair Credit Reporting Act. The Fair Credit Reporting Act
requires the Company to provide certain information to
consumers whose credit applications are not approved on the
basis of a report obtained from a consumer reporting agency.
- Gramm-Leach-Bliley Act. The Gramm-Leach-Bliley Act requires
the Company to maintain privacy with respect to certain
consumer data in its possession and to periodically
communicate with consumers on privacy matters.
- Soldiers' and Sailors' Civil Relief Act. The Soldiers' and
Sailors' Civil Relief Act requires the Company to reduce the
interest rate charged on each loan to customers who have
subsequently joined, enlisted, been inducted or called to
active military duty.
- Electronic Funds Transfer Act. The Electronic Funds Transfer
Act prohibits the Company from requiring its customers to
repay a loan or other credit by electronic funds transfer
("EFT"), except in limited situations which do not apply to
the Company. The Company is also required to provide certain
documentation to its customers when an EFT is initiated and to
provide certain notifications to its customers with regard to
preauthorized payments.
- Telephone Consumer Protection Act. The Telephone Consumer
Protection Act prohibits telephone solicitation calls to a
customer's home before 8 a.m. or after 9 p.m. In addition, if
the Company makes a telephone solicitation call to a
customer's home, the representative making the call must
provide his or her name, the Company's name, and a telephone
number or address at which the Company's representative may be
contacted. The Telephone Consumer Protection Act also requires
that the Company maintain a record of any requests by
customers not to receive future telephone solicitations, which
must be maintained for five years.
- Bankruptcy. Federal bankruptcy and related state laws may
interfere with or affect the Company's ability to recover
collateral or enforce a deficiency judgment.
EMPLOYEES
The Company's executive management and various support functions are
centralized at the Company's Corporate Headquarters in Clearwater, Florida. As
of March 31, 2004 the Company employed a total of 155 persons, three of whom
work for NDS and 152 of whom work for Nicholas Financial. None of the Company's
employees is subject to a collective bargaining agreement, and the Company
considers its relations with its employees generally to be good.
12
ITEM 2. DESCRIPTION OF PROPERTY
The Company leases its Headquarters and branch office facilities. The
Company's Headquarters, located at 2454 McMullen Booth Road, Building C, in
Clearwater, Florida, consist of approximately 10,000 square feet of office
space. The current lease relating to this space expires in January 2008.
Each of the Company's 32 branch offices located in Florida, Georgia, North
Carolina, South Carolina, Michigan, Virginia and Ohio consists of approximately
1,200 square feet. These offices are located in office parks, shopping centers
or strip malls and are occupied pursuant to leases with an initial term of from
two to five years at annual rates ranging from approximately $8.00 to $16.00 per
square foot. The Company believes that these facilities and additional or
alternate space available to it are adequate to meet its needs for the
foreseeable future.
ITEM 3. LEGAL PROCEEDINGS
On April 8, 2004, the defendant in a deficiency action brought by the
Company under the Ohio Uniform Commercial Code, filed a counterclaim in
Cleveland Municipal Court, Cuyahoga County, Ohio, on behalf of a putative class
of all persons who purchased motor vehicles pursuant to retail installment sales
agreements later assigned to the Company, which motor vehicles were subsequently
repossessed in Ohio by the Company or its agents (Nicholas Financial, Inc. v.
Sanborn, Case No. 2004 CVI 6969). The defendant counter-plaintiff's counterclaim
alleges, among other things; that the Company violated the Ohio Retail
Installment Sales Act, the Ohio Uniform Commercial Code and the Ohio Consumer
Sales Practices Act by: failing to provide members of the putative class with
accurate disclosures of their statutory rights upon repossession; unilaterally
abrogating those rights in the Company's repossession procedures; and improperly
collecting deficiencies from members of the putative class. The counterclaim
seeks compensatory, statutory and punitive damages (including compensatory
damages of at least $500,000 pursuant to one alleged cause of action),
prejudgment interest and attorneys' fees and expenses, as well as injunctive and
other equitable relief, including a restitution remedy.
The Company's believes the material allegations of the counterclaim are
substantially without merit and intends to vigorously defend the counterclaim.
No assurances can be given, however, with respect to the outcome of the
counterclaim, and an adverse result could have a material adverse effect on the
Company's financial condition.
Except as described above, the Company currently is not a party to any
pending legal proceedings other than ordinary routine litigation incidental to
its business, none of which, if decided adversely to the Company, would, in the
opinion of management, have a material adverse affect on the Company's financial
position.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
No matters were submitted to a vote of security holders during the quarter
ended March 31, 2004.
13
PART II
ITEM 5. MARKET FOR COMMON EQUITY, RELATED STOCKHOLDER MATTERS AND SMALL BUSINESS
ISSUER PURCHASES OF EQUITY SECURITIES
On April 7, 2004, the Company's common stock began trading on the NASDAQ
National Market under the symbol "NICK." The Company's common stock was traded
on the NASDAQ SmallCap System under the symbol "NICK" through April 6, 2004.
As of June 5, 2004, there were approximately 1,537 holders of record of
the Company's common stock.
The following table reflects the high and low bid prices for the Company's
common stock for each of the periods indicated as reported by the NASDAQ Stock
Market. The over-the-counter market quotations reflect inter-dealer prices and
do not include retail mark-up, mark-down or commission, and may not necessarily
represent actual transactions.
HIGH LOW
---- -----
FISCAL YEAR ENDED MARCH 31, 2004
First Quarter .............. $5.22 $3.40
Second Quarter.............. 7.57 4.77
Third Quarter............... 8.80 5.60
Fourth Quarter.............. 9.46 7.61
HIGH LOW
---- -----
FISCAL YEAR ENDED MARCH 31, 2003
First Quarter .............. $6.15 $3.80
Second Quarter.............. 5.30 4.00
Third Quarter............... 4.28 3.50
Fourth Quarter.............. 4.06 3.62
In August, 2003, the Company's Board of Directors announced an annual cash
dividend of $0.10 per share of common stock, payable semi-annually. The Company
paid its first cash dividend of $0.05 per share in September 2003, and its
second cash dividend of $0.05 per share in March 2004. The Company intends to
continue to pay cash dividends for the foreseeable future, provided its future
earnings meet expectations. Any payment of future cash dividends and the amounts
thereof will be dependent upon the Company's earnings, financial requirements,
requirements of its lenders and other factors deemed relevant by the Company's
Board of Directors. The Company's Line of credit facility prohibits the payment
of dividends without the written approval of the Company's consortium of
lenders. The Company's ability to receive the necessary approvals is largely
dependent upon its portfolio performance, and no assurances can be given that
the Company will be able to obtain the necessary approvals in the future.
14
There are no Canadian foreign exchange controls or laws that would affect
the remittance of dividends or other payments to the Company's non-Canadian
resident shareholders. There are no Canadian laws that restrict the export or
import of capital, other than the Investment Canada Act (Canada), which requires
the notification or review of certain investments by non-Canadians to establish
or acquire control of a Canadian business. The Company is not a Canadian
business as defined under the Investment Canada Act because it has no place of
business in Canada, has no individuals employed in Canada in connection with its
business, and has no assets in Canada used in carrying on its business.
Canada and the United States of America are signatories to the
Canada-United States Tax Convention Act, 1984 (the "Tax Treaty"). The Tax Treaty
contains provisions governing the tax treatment of interest, dividends, gains
and royalties paid to or received by a person residing in the United States. The
Tax Treaty also contains provisions to prevent the occurrence of double
taxation, essentially by permitting the taxpayer to claim a tax credit for taxes
paid in the foreign jurisdiction.
Dividends paid to the Company from its U.S. subsidiaries current and
accumulated earnings and profits will be subject to a U.S. withholding tax of
5%. The gross dividends (i.e., before payment of the withholding tax) must be
included in the Company's net income. However, under certain circumstances, the
Company may be allowed to deduct the dividends in the calculation of its
Canadian taxable income. If the Company has no other foreign (i.e.,
non-Canadian) non-business income, no relief is available in that case to
recover the withholding taxes previously paid.
A 15% Canadian withholding tax applies to dividends paid by the Company to
a U.S. shareholder that is an individual. The U.S. shareholder must include the
gross amount of the dividends in his net income to be taxed at the regular
rates. A foreign tax credit will be available to the extent of the lesser of:
(i) withholding taxes paid (up to a maximum of 15% of certain foreign
income from property); and
(ii) the U.S. taxes payable in respect to that foreign income.
Alternatively, an individual can claim the foreign withholding taxes paid
as a deduction in the computation of income for tax purposes. If the withholding
taxes paid exceed 15% of the foreign income from property, such excess must be
deducted in computing net income.
Dividends paid to a corporate U.S. shareholder that owns less than 10% of
the Company's voting shares are also subject to a Canadian withholding tax of
15%.
The information set forth in the second paragraph (and accompanying table) under
the caption "Item 11. Security Ownership of Certain Beneficial Owners and
Management and Related Stockholder Matters" of this Annual Report on Form 10-KSB
is incorporated herein by reference.
15
ITEM 6. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
OVERVIEW
The Company is a Canadian holding company incorporated under the laws of
British Columbia in 1986. The Company conducts its business activities through
two wholly-owned Florida corporations: Nicholas Financial, which purchases and
services Contracts, makes direct loans and sells consumer-finance related
products; and NDS, which supports and updates certain computer application
software. Nicholas Financial accounted for approximately 99% of the Company's
consolidated revenue for the fiscal years ended March 31, 2004 and 2003,
respectively.
The Company's consolidated revenues increased for the fiscal year ended
March 31, 2004 to $25.5 million as compared to $22.4 million for the fiscal year
ended March 31, 2003. The Company's consolidated net income increased for the
fiscal year ended March 31, 2004 to $5.2 million compared to $4.3 million for
the fiscal year ended March 31, 2003. The Company's earnings were favorable
impacted by the following: average finance receivables, net of unearned
interest, increased 14% in the fiscal year ended March 31, 2004 as compared to
the fiscal year ended March 31, 2003; average cost of borrowed funds decreased
from 6.86% for the fiscal year ended March 31, 2003 as compared to 5.93% for the
fiscal year ended March 31, 2004; and the Company's net charge-off rate
decreased from 8.13% for the fiscal year ended March 31, 2003 as compared to
7.26% for the fiscal year ended March 31, 2004.
FISCAL YEAR ENDED MARCH 31
PORTFOLIO SUMMARY 2004 2003
------------------------------------------------------------------ ------------ -----------
Average finance receivables, net of unearned interest (1) $111,685,661 $97,806,772
============ ===========
Average indebtedness (2) 64,922,080 57,335,767
============ ===========
Finance revenue (3) 25,236,638 22,048,535
Interest expense 3,851,924 3,936,042
------------ -----------
Net finance revenue 21,384,714 18,112,493
============ ===========
Weighted average contractual rate (4) 24.04% 24.22%
============ ===========
Average cost of borrowed funds (2) 5.93% 6.86%
============ ===========
Gross portfolio yield (5) 22.60% 22.54%
Interest expense as a percentage of average finance receivables,
net of unearned interest 3.45% 4.02%
Provision for credit losses as a percentage of average finance
receivables, net of unearned interest 1.97% 2.26%
------------ -----------
Net portfolio yield (5) 17.18% 16.26%
Operating expenses as a percentage of average finance receivables,
net of unearned interest (6) 9.63% 9.16%
------------ -----------
Pre-tax yield as a percentage of average finance receivables, net
of unearned interest(7) 7.55% 7.10%
============ ===========
Write-off to liquidation (8) 8.41% 9.32%
Net charge-off percentage (9) 7.26% 8.13%
16
(1) Average finance receivables, net of unearned interest, represents the
average of gross finance receivables, less unearned interest throughout
the period.
(2) Average indebtedness represents the average outstanding borrowings under
the Line and notes payable-related party. Average cost of borrowed funds
represents interest expense as a percentage of average indebtedness.
(3) Finance revenue does not include revenue generated by NDS.
(4) Weighted average contractual rate represents the weighted average annual
percentage rate (APR) of all Contracts purchased and direct loans
originated during the fiscal years ended March 31, 2004 and 2003,
respectively.
(5) Gross portfolio yield represents finance revenues as a percentage of
average finance receivables, net of unearned interest. Net portfolio yield
represents finance revenue minus (a) interest expense and (b) the
provision for credit losses as a percentage of average finance
receivables, net of unearned interest.
(6) Operating expenses represent total expenses, less interest expense, the
provision for credit losses and operating costs associated with NDS.
(7) Pre-tax yield represents net portfolio yield minus operating expenses as a
percentage of average finance receivables, net of unearned interest.
(8) Write-off to liquidation percentage is defined as net charge-offs divided
by liquidation. Liquidation is defined as beginning receivable balance
pluc current period purchases minus voids and refinances minus ending
receivable balance.
(9) Net charge-off percentage represents net charge-offs divided by average
finance receivables, net of unearned interest, outstanding during the
period.
17
CRITICAL ACCOUNTING POLICY
The Company's critical accounting policy relates to the allowance for
losses on loans. It is based on management's opinion of an amount that is
adequate to absorb losses in the existing portfolio. The allowance for credit
losses is established through allocations of dealer discount and unearned income
and a provision for loss based on management's evaluation of the risk inherent
in the loan portfolio, the composition of the portfolio, specific impaired loans
and current economic conditions. Such evaluation, which includes a review of all
loans on which full collectibility may not be reasonably assured, considers
among other matters, the estimated net realizable value or the fair value of the
underlying collateral, economic conditions, historical loan loss experience,
management's estimate of probable credit losses and other factors that warrant
recognition in providing for an adequate credit loss allowance.
FISCAL 2004 COMPARED TO FISCAL 2003
INTEREST INCOME AND LOAN PORTFOLIO
Interest income on finance receivables, predominantly finance charge
income, increased 14% to $25.2 million in fiscal 2004 from $22.0 million in
fiscal 2003. The average finance receivables, net of unearned interest, totaled
$111.6 million at March 31, 2004, an increase of 14% from $97.8 million at March
31, 2003. The primary reason average finance receivables, net of unearned
interest increased was the increase in the receivable base of several existing
branches and the opening of two additional branch locations. The gross finance
receivable balance increased 14% to $151.1 million at March 31, 2004 from $132.3
million at March 31, 2003. The primary reason interest income increased was the
increase in the outstanding loan portfolio. The gross portfolio yield increased
from 22.54% for the fiscal year ended March 31, 2003 to 22.60% for the fiscal
year ended March 31, 2004. The net portfolio yield increased from 16.26% for the
fiscal year ended March 31, 2003 to 17.18% for the fiscal year ended March 31,
2004. The primary reasons for the increase in the net portfolio yield were a
decrease in charge-offs and a reduction in the cost of borrowed funds for the
fiscal year ended March 31, 2004. The net charge-off percentage for the fiscal
year ended March 31, 2004 was 7.26% as compared to 8.13% for the fiscal year
ended March 31, 2003.
COMPUTER SOFTWARE BUSINESS
Sales for the fiscal year ended March 31, 2004 were $263,847 as compared
to $328,340 for the fiscal year ended March 31, 2003, a decrease of 20%. This
decrease was primarily due to lower revenue from the existing customer base
during the fiscal year ended March 31, 2004. Cost of sales and operating
expenses decreased from $426,349 for the fiscal year ended March 31, 2003 to
$303,402 for the fiscal year ended March 31, 2004.
OPERATING EXPENSES
Total expenses, less the provision for credit losses, interest expense and
costs associated with NDS, increased to $10.8 million for the fiscal year ended
March 31, 2004 from $9.0 million for the fiscal year ended March 31, 2003. This
increase of 20% was primarily attributable to the additional staffing of several
existing branches, increased general operating expenses and the opening of two
additional branch offices. Operating expenses as a percentage of average finance
receivables, net of unearned interest, increased from 9.16% for the fiscal year
ended March 31, 2003 to 9.63% for the fiscal year ended March 31, 2004.
18
INTEREST EXPENSE
Interest expense decreased to $3,851,924 for the fiscal year ended March
31, 2004 as compared to $3,936,042 for the fiscal year ended March 31, 2003. The
average indebtedness for the fiscal year ended March 31, 2004 increased to $64.9
million as compared to $57.4 million for the fiscal year ended March 31, 2003.
The cost associated with this increase was offset by a decrease in the average
cost of borrowed funds from 6.86% during the fiscal year ended March 31, 2003 to
5.93% during the fiscal year ended March 31, 2004.
ANALYSIS OF CREDIT LOSSES
Because of the nature of the customers under the Company's Contracts and
its direct loan program, the Company considers the establishment of adequate
reserves for credit losses to be imperative. The Company segregates its
Contracts into static pools for purposes of establishing reserves for losses.
All Contracts purchased by a branch during a fiscal quarter comprise a static
pool. The Company pools Contracts according to branch location because the
branches purchase Contracts in different geographic markets. This method of
pooling by branch and quarter allows the Company to evaluate the different
markets where the branches operate. The pools also allow the Company to evaluate
the different levels of customer income, stability, credit history, and the
types of vehicles purchased in each market. Each such static pool consists of
the Contracts purchased by a Company branch office during fiscal quarter. The
average pool consists of 66 Contracts with aggregate finance receivables, net of
unearned interest, of approximately $570,000. As of March 31, 2004, the Company
had 488 active static pools.
Contracts are purchased from many different dealers and are all purchased
on an individual Contract by Contract basis. Individual Contract pricing is
determined by the automobile dealerships and is generally the lesser of state
maximum interest rates or the maximum interest rate at which the customer will
accept. In certain markets, competitive forces will drive down Contract rates
from the maximum rate to a level where an individual competitor is willing to
buy an individual Contract. The Company only buys Contracts on an individual
basis and never purchases Contracts in batches, although the Company does
consider portfolio acquisitions as part of its growth strategy.
A dealer discount represents the difference between the finance
receivable, net of unearned interest, of a Contract, and the amount of money the
Company actually pays for the Contract. The discount negotiated by the Company
is a function of the credit quality of the customer and the wholesale value of
the vehicle. The automotive dealer accepts these terms by executing a dealer
agreement with the Company. The entire amount of discount is related to credit
quality and is considered to be part of the credit loss reserve. The Company
utilizes a static pool approach to track portfolio performance. A static pool
retains an amount equal to 100% of the discount as a reserve for credit losses.
In situations where, at the date of purchase, the discount is determined to be
insufficient to absorb all potential losses associated with the static pool, a
portion of future unearned income associated with that specific static pool will
be added to the reserves for credit losses until total reserves have reached the
appropriate level. Subsequent to the purchase, if the reserve for credit losses
is determined to be inadequate for a static pool which is not fully liquidated,
then a charge to income through the provision is used to reestablish adequate
reserves. If a static pool is fully liquidated and has any remaining reserves,
the excess reserves are immediately recognized into income. For static pools not
fully liquidated, that are determined to have excess reserves, such excess
amounts are accreted into income over the remaining life of the static pool.
Reserves accreted into income for the year ended March 31, 2004 were
approximately $2.5 million as compared to $2.2 million for the year ended March
31, 2003. The primary reason for this increase in fiscal year 2004 as compared
to fiscal year 2003 was a decrease in the net charge-off rate from 8.13% to
7.26%.
19
The Company has detailed underwriting guidelines it utilizes to determine
which Contracts to purchase. These guidelines are specific and are designed to
cause all of the Contracts that the Company purchases to have common risk
characteristics. The Company utilizes its District Managers to evaluate their
respective branch locations for adherence to these underwriting guidelines. The
Company also utilizes an internal audit department to assure adherence to its
underwriting guidelines. The Company utilizes the branch model, which allows for
Contract purchasing to be done on the branch level. Each Branch Manager may
interpret the guidelines differently and as a result the common risk
characteristics will be the same on an individual branch level but not
necessarily compared to another branch.
In analyzing a static pool, the Company considers the performance of prior
static pools originated by the branch office, the performance of prior Contracts
purchased from the dealers whose Contracts are included in the current static
pool, the credit rating of the customers under the Contracts in the static pool,
and current market and economic conditions. Each static pool is analyzed monthly
to determine if the loss reserves are adequate and adjustments are made if they
are determined to be necessary.
The Company experienced lower losses during the fiscal year ended March
31, 2004 as compared to the fiscal year ended March 31, 2003. This resulted in
static pools having reserves in excess of estimates currently needed to
liquidate these static pools. The Company is in the process of accreting these
excess reserves from these more mature static pools over their remaining life.
Static pools originated during the fiscal year ended March 31, 2004 have seen
losses lower than their most recent predecessors, however, there can be no
assurances that this trend will continue. The Company's overall reserve
percentage has increased from 13.17% of gross finance receivables as of March
31, 2003 to 13.72% of gross finance receivables as of March 31, 2004.
The following table sets forth a reconciliation of the changes in dealer
discounts on Contracts.
FISCAL YEAR ENDED MARCH 31,
2004 2003
----------- -----------
Balance at beginning of year $12,394,089 $11,259,898
Discounts acquired on new volume 12,019,745 10,534,472
Losses absorbed (7,867,889) (8,401,071)
Recoveries 1,153,505 1,068,556
Discounts accreted (2,321,868) (2,067,766)
----------- -----------
Balance at end of year $15,377,582 $12,394,089
=========== ===========
Dealer discounts as a percent of gross
indirect contracts 10.18% 9.37%
=========== ===========
The following table sets forth a reconciliation of the changes in the allowance
for credit losses on Contracts.
FISCAL YEAR ENDED MARCH 31,
2004 2003
----------- -----------
Balance at beginning of year $ 5,428,681 $ 4,105,174
Current period provision 1,805,038 1,911,855
Losses absorbed (1,445,955) (588,348)
----------- -----------
Balance at end of year $ 5,787,764 $ 5,428,681
=========== ===========
Allowance as a percent of gross
indirect contracts 3.83% 4.10%
=========== ===========
20
The following table sets forth a reconciliation of the changes in the allowance
for credit losses on direct loans.
FISCAL YEAR ENDED MARCH 31,
2004 2003
----------- -----------
Balance at beginning of year $ 176,126 $ 200,612
Current period provision 298,649 302,004
Losses absorbed (176,367) (208,802)
Recoveries 29,714 29,372
Reserves accreted (143,788) (147,060)
----------- -----------
Balance at end of year $ 184,334 $ 176,126
=========== ===========
Allowance as a percent of gross
direct loan receivables 4.03% 4.04%
=========== ===========
The following table summarizes the total amounts of Discounts and Allowances for
both Contracts and direct loans.
FISCAL YEAR ENDED MARCH 31,
2004 2003
----------- -----------
Total Discounts and Allowances at end of
year $21,349,680 $17,998,896
=========== ===========
Discounts and Allowances as a percent of
gross receivables 13.72% 13.17%
=========== ===========
21
The average dealer discount associated with new volume for the years ended
March 31, 2004 and 2003 were 8.95% and 8.91%, respectively. The Company does not
consider this change to be material and such changes was not the result of any
change in buying philosophy or competition.
The provision for credit losses remained virtually unchanged at $2.2
million for each of the fiscal years ended March 31, 2004 and 2003,
respectively. The Company's losses as a percentage of liquidation decreased from
9.32% for the fiscal year ended March 31, 2003 to 8.41% for the fiscal year
ended March 31, 2004. The Company anticipates losses as a percentage of
liquidation will continue to be in the 8-10% range in the current fiscal year.
The longer term outlook for portfolio performance will depend on the overall
economic conditions, the unemployment rate and the Company's ability to monitor,
manage and implement its underwriting philosophy in additional geographic areas
as it strives to continue its expansion. The Company does not believe there have
been any significant changes in loan concentrations, terms or quality of
Contracts purchased during fiscal 2004 that would have contributed to the
decrease in losses.
Recoveries as a percentage of charge-offs were 12.5% and 11.9% for the
fiscal years ended March 31, 2004 and 2003, respectively. The Company believes
that as it continues to expand its operations, it will become more difficult to
implement its loss recovery model in geographic areas further away from its
Corporate headquarters, and as a result the Company will likely experience
declining recovery rates over the long term.
Reserves accreted into income for the fiscal years ended March 31, 2004
and 2003 were $2.5 million and $2.2 million respectively. The amount and timing
of reserves accreted into income is a function of individual static pool
performance. The Company has seen improvement in the performance of the
portfolio, more specifically, newer static pools have seen a slight decrease in
the default rate when compared to prior year pool performance during their same
liquidation cycle. The Company attributes this decrease to an improvement in
overall general economic conditions.
The U.S. unemployment rate has dropped slightly over the past year. The
Company believes there is a correlation between the unemployment rate and future
portfolio performance. The Company does not expect the U.S. unemployment rate to
rise or fall significantly in the foreseeable future. Therefore the Company does
not plan on increasing or decreasing reserves based on the current U.S.
unemployment rate. The number of voluntary repossessions decreased slightly for
the fiscal year ended March 31, 2004 as compared to the fiscal year ended March
31, 2003. The Company believes its percentage of voluntary repossessions will
stabilize in the current fiscal year, and as a result, management believes that
the Company's current reserve levels are adequate for the foreseeable future.
The number of bankruptcy filings decreased slightly during the fiscal year ended
March 31, 2004 as compared to the fiscal year ended March 31, 2003. The Company
believes the percentage of bankruptcy filings as a percentage of active
receivables will stabilize in the current fiscal year, and as a result,
management believes that the Company's current reserve levels are adequate for
the foreseeable future.
The amount of future unearned income represents the amount of finance
charges the Company expects to fully earn over the life of its current Contract
portfolio, and is computed as the product of the Contract rate, the Contract
term, and the Contract amount. After the analysis of purchase date accounting
with respect to static pools is complete, any uncollectable amounts would be
contemplated in the allowance for credit losses.
22
The following tables present certain information regarding the delinquency
rates experienced by the Company with respect to Contracts and under its direct
loan program:
AT MARCH 31, 2004 AT MARCH 31, 2003
----------------- -----------------
CONTRACTS
Gross Balance Outstanding $ 151,082,036 $ 132,316,816
Dollar Dollar
Amount Percent Amount Percent
----------- ------- ---------- -------
Delinquencies
30 to 59 days $ 1,848,735 1.22% $2,166,719 1.64%
60 to 89 days 388,309 0.26% 551,838 0.42%
90 + days 91,172 0.06% 180,499 0.14%
----------- ------- ---------- -------
Total Delinquencies $ 2,328,216 1.54% $2,899,056 2.20%
DIRECT LOANS
Gross Balance Outstanding $ 4,572,030 $4,357,032
Delinquencies
30 to 59 days 44,296 0.97% 50,199 1.15%
60 to 89 days 10,371 0.22% 5,724 0.13%
90 + days 30,451 0.67% 40,987 0.94%
----------- ------- ---------- -------
Total Delinquencies $ 85,118 1.86% $ 96,910 2.22%
The delinquency percentage for Contracts more than thirty days past due as
of March 31, 2004 decreased to 1.54% from 2.20% as of March 31, 2003. The
delinquency percentage for direct loans more than thirty days past due as of
March 31, 2004 decreased to 1.86% from 2.22% as of March 31, 2003. The Company
does not give significant consideration to short-term trends in delinquency when
evaluating reserve levels. Delinquency percentages tend to be volatile and often
are not necessarily an indication of future losses. The Company utilizes a
static pool approach to analyzing portfolio performance and looks at specific
static pool performance and recent trends as leading indicators to future
performance of the portfolio.
INCOME TAXES
The provision for income taxes increased 24% to approximately $3.2 million
in fiscal year 2004 from approximately $2.6 million in fiscal year 2003
primarily as a result of higher pretax income. The Company's effective tax rate
increased from 37.38% in fiscal 2003 to 37.87% in fiscal 2004.
23
LIQUIDITY AND CAPITAL RESOURCES
The Company's cash flows for fiscal 2004 and 2003 are summarized as
follows:
FISCAL FISCAL
2004 2003
------------ ------------
Cash provided by (used in):
Operations $ 6,900,644 $ 5,644,421
Investing activities -
(primarily purchase of Contracts) (13,564,996) (12,611,588)
Financing activities 7,140,825 7,397,139
------------ ------------
Net increase in cash $ 476,473 $ 429,972
============ ============
The Company's primary use of working capital during fiscal year ended
March 31, 2004 was the funding of the purchase of Contracts. The Contracts were
financed substantially through borrowings under the Company's $75.0 million
Line. The Line is secured by all of the assets of Nicholas Financial. The
Company may borrow the lesser of $75.0 million or amounts based upon formulas
principally related to a percentage of eligible finance receivables, as defined.
Borrowings under the Line may be under various LIBOR pricing options or at the
prime rate plus twenty-five basis points. Prime rate based borrowings are
generally less than $5.0 million. As of March 31, 2004, the amount outstanding
under the Line was approximately $67.5 million and the amount available under
the Line was approximately $7.5 million. As of March 31, 2004, the Company was
in full compliance with all debt covenants thereunder.
The Company has entered into interest rate swap agreements, each of which
effectively converts a portion of the Company's floating-rate debt to a
fixed-rate, thus reducing the impact of interest rate change on the Company's
interest expense. At March 31, 2004, approximately 75% of the Company's
borrowings under the Line were subject to interest rate swap agreements. These
swap agreements have maturities ranging from October 5, 2004 through May 19,
2008.
The self-liquidating nature of Contracts and other loans enables the
Company to assume a higher debt-to-equity ratio than in most businesses. The
amount of debt the Company incurs from time to time under these financing
mechanisms depends on the Company's need for cash and ability to borrow under
the terms of the Line. The Company believes that borrowings available under the
Line as well as cash flow from operations will be sufficient to meet its short
term funding needs.
The Company is currently negotiating amendments to the Line. The
amendments would increase the amount of the Line from $75.0 million to $85.0
million and extend the maturity date from November 30, 2004 to November 30,
2006. We currently anticipate completing such amendments on or before June 30,
2004.
24
In late May and early June 2004, the Company closed the sale of an
aggregate of 1,400,000 shares of its common stock at a public offering price of
$8.00 per share. The net proceeds of the offering, approximately $9.8 million,
was used to pay down the Company's Line. In addition, approximately 900,000
shares of common stock were sold in the offering by a group of selling
shareholders. Ferris, Baker Watts, Incorporated served as the underwriter for
the offering.
In August, 2003, the Company's Board of Directors announced an annual cash
dividend of $0.10 per share of common stock, payable semi-annually. The Company
paid its first cash dividend of $0.05 per share in September 2003, and its
second cash dividend of $0.05 per share in March 2004. The Company intends to
continue to pay cash dividends for the foreseeable future, provided its future
earnings meet expectations. Any payment of future cash dividends and the amounts
thereof will be dependent upon the Company's earnings, financial requirements,
requirements of its lenders and other factors deemed relevant by the Company's
Board of Directors. The Company's Line prohibits the payment of dividends
without the written approval of the Company's consortium of lenders. The
Company's ability to receive the necessary approvals is largely dependent upon
its portfolio performance, and no assurances can be given that the Company will
be able to obtain the necessary approvals in the future.
IMPACT OF INFLATION
The Company is affected by inflation primarily through increased operating
costs and expenses including increases in interest rates. Inflationary pressures
on operating costs and expenses have been offset by the Company's continued
emphasis on stringent operating and cost controls. Management believes that the
Company's financial condition has enabled it to negotiate favorable interest
rates under its existing Line. No assurances can be given that the Company will
be able to continue to do so in the future.
ITEM 7. FINANCIAL STATEMENTS
The following financial statements are filed as part of this report (see pages
26-49)
Reports of Independent Registered Public Accounting Firms................. 26-27
Audited Consolidated Financial Statements
Consolidated Balance Sheets............................................... 28
Consolidated Statements of Income ........................................ 29
Consolidated Statements of Shareholders' Equity .......................... 30
Consolidated Statements of Cash Flows..................................... 31
Notes to Consolidated Financial Statements................................ 32
25
Report of Independent Registered Public Accounting Firm
To the Board of Directors of
Nicholas Financial, Inc.
We have audited the accompanying consolidated balance sheet of Nicholas
Financial, Inc. and subsidiaries as of March 31, 2004 and the related
consolidated statements of income, shareholders' equity and cash flows for the
year then ended. These financial statements are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
financial statements based on our audit.
We conducted our audit in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether 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 audit provides a
reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of Nicholas Financial,
Inc. and subsidiaries as of March 31, 2004 and the results of their operations
and their cash flows for the year then ended in conformity with accounting
principles generally accepted in the United States.
/s/ Dixon Hughes PLLC
May 21, 2004, except for Note 13 as to which the date is June 8, 2004.
Atlanta, Georgia
26
Report of Independent Registered Public Accounting Firm
To the Board of Directors of Nicholas Financial, Inc.
We have audited the accompanying consolidated balance sheet of Nicholas
Financial, Inc. and subsidiaries as of March 31, 2003, and the related
consolidated statements of income, shareholders' equity and cash flows for the
year then ended. These financial statements are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
financial statements based on our audit.
We conducted our audit in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether 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 audit provides a
reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the consolidated financial position of Nicholas
Financial, Inc. and subsidiaries at March 31, 2003, and the consolidated results
of their operations and their cash flows for the year then ended in conformity
with U.S. generally accepted accounting principles..
June 9, 2003 /s/ ERNST & YOUNG LLP
Tampa, Florida
27
Nicholas Financial, Inc. and Subsidiaries
Consolidated Balance Sheets
MARCH 31,
2004 2003
------------- -------------
ASSETS
Cash $ 957,684 $ 481,211
Finance receivables, net 97,236,516 86,178,112
Accounts receivable 11,923 16,228
Assets held for resale 492,889 319,788
Prepaid stock offering costs 134,200 -
Prepaid expenses and other assets 470,476 317,485
Property and equipment, net 565,562 467,596
Deferred income taxes 3,354,202 2,256,508
------------- -------------
Total assets $ 103,223,452 $ 90,036,928
============= =============
LIABILITIES AND SHAREHOLDERS' EQUITY
Line of credit $ 67,510,290 $ 60,160,238
Drafts payable 911,101 664,520
Notes payable -- related party 681,530 808,610
Accounts payable 3,765,044 3,070,876
Derivatives 1,711,393 2,219,480
Income taxes payable 125,618 105,875
Deferred revenues 1,072,883 916,889
------------- -------------
Total liabilities 75,777,859 67,946,488
Shareholders' equity:
Preferred stock, no par: 5,000,000 shares authorized;
none issued and outstanding - -
Common stock, no par: 50,000,000 shares authorized; 5,085,288 and
5,006,021 shares issued and outstanding, respectively 4,766,150 4,452,693
Accumulated other comprehensive loss (1,065,342) (1,402,345)
Retained earnings 23,744,785 19,040,092
------------- -------------
Total shareholders' equity 27,445,593 22,090,440
------------- -------------
Total liabilities and shareholders' equity $ 103,223,452 $ 90,036,928
============= =============
See accompanying notes.
28
Nicholas Financial, Inc. and Subsidiaries
Consolidated Statements of Income
YEAR ENDED MARCH 31,
2004 2003
----------- -----------
Revenue:
Interest income on finance receivables $25,236,638 $22,048,535
Sales 263,847 328,340
----------- -----------
25,500,485 22,376,875
Expenses:
Cost of sales 66,193 83,904
Marketing 865,930 654,569
Administrative 9,918,151 8,460,662
Provision for credit losses 2,198,501 2,213,859
Depreciation 210,125 190,257
Interest expense 3,851,924 3,936,042
----------- -----------
17,110,824 15,539,293
----------- -----------
Operating income before income taxes 8,389,661 6,837,582
Income tax expense:
Current 4,445,761 3,473,823
Deferred (1,268,778) (917,635)
----------- -----------
3,176,983 2,556,188
----------- -----------
Net income $ 5,212,678 $ 4,281,394
=========== ===========
Earnings per share:
Basic $ 1.03 $ 0.86
=========== ===========
Diluted $ 0.96 $ 0.81
=========== ===========
Dividends declared per share $ 0.10 -
=========== ===========
See accompanying notes.
29
Nicholas Financial, Inc. and Subsidiaries
Consolidated Statements of Shareholders' Equity
ACCUMULATED
COMMON STOCK OTHER TOTAL
------------------------- COMPREHENSIVE RETAINED SHAREHOLDERS'
SHARES AMOUNT LOSS EARNINGS EQUITY
--------- ---------- ------------- ------------ ------------
Balance at April 1, 2002 4,993,764 $4,402,960 $ (725,325) $ 14,758,698 $ 18,436,333
Issuance of common stock under
stock options 21,667 47,717 - - 47,717
Issued in connection with
services rendered 90 405 - - 405
Repurchase and retirement of
common stock (9,500) (38,012) - - (38,012)
Income tax benefit on exercise
of non-qualified stock options - 39,623 - - 39,623
Net Income - - - 4,281,394 4,281,394
Mark to market - interest rate
swaps - - (677,020) - (677,020)
--------- ---------- ------------- ------------ ------------
Balance at March 31, 2003 5,006,021 4,452,693 (1,402,345) 19,040,092 22,090,440
--------- ---------- ------------- ------------ ------------
Issuance of common stock under
stock options 79,267 175,698 - - 175,698
Dividends paid (507,985) (507,985)
Income tax benefit on exercise
of non-qualified stock options - 137,759 - - 137,759
Net income - - - 5,212,678 5,212,678
Mark to market - interest rate
swaps - - 337,003 - 337,003
--------- ---------- ------------- ------------ ------------
Balance at March 31, 2004 5,085,288 $4,766,150 $ (1,065,342) $ 23,744,785 $ 27,445,593
========= ========== ============= ============ ============
See accompanying notes.
30
Nicholas Financial, Inc. and Subsidiaries
Consolidated Statements of Cash Flows
YEAR ENDED MARCH 31,
2004 2003
------------ ------------
CASH FLOWS FROM OPERATING ACTIVITIES
Net income $ 5,212,678 $ 4,281,394
Adjustments to reconcile net income to net cash provided
by operating activities:
Depreciation 210,125 190,257
Provision for credit losses 2,198,501 2,213,859
Deferred income taxes (1,268,778) (917,635)
Changes in operating assets and liabilities:
Accounts receivable 4,305 (1,784)
Prepaid expenses, other assets and assets held for resale (326,092) (120,620)
Accounts payable 694,168 (298,406)
Income taxes payable 19,743 36,023
Deferred revenues 155,994 261,333
------------ ------------
Net cash provided by operating activities 6,900,644 5,644,421
INVESTING ACTIVITIES
Purchase and origination of finance contracts (68,920,330) (60,795,789)
Principal payments received 55,663,425 48,471,205
Purchase of property and equipment, net of disposals (308,091) (287,004)
------------ ------------
Net cash used in investing activities (13,564,996) (12,611,588)
FINANCING ACTIVITIES
(Repayment) issuance of notes payable -- related party (127,080) 215,595
Net proceeds from line of credit 7,350,052 6,886,812
Increase in drafts payable 246,581 245,404
Prepaid stock offering costs (134,200) -
Payment of dividend (507,985) -
Proceeds from exercise of stock options 313,457 49,328
------------ ------------
Net cash provided by financing activities 7,140,825 7,397,139
------------ ------------
Net increase in cash 476,473 429,972
Cash, beginning of year 481,211 51,239
------------ ------------
Cash, end of year $ 957,684 $ 481,211
============ ============
SUPPLEMENTAL DISCLOSURE OF NONCASH INVESTING AND FINANCING ACTIVITIES
Stock issued in connection with services rendered - $ 405
============ ============
Conversion of accrued interest to notes payable - related party - $ 50,733
============ ============
See accompanying notes.
31
Nicholas Financial, Inc. and Subsidiaries
Notes to Consolidated Financial Statements
March 31, 2004
1. ORGANIZATION
Nicholas Financial, Inc. "Nicholas Financial - Canada" is a Canadian holding
company incorporated under the laws of British Columbia with two wholly-owned
United States subsidiaries, Nicholas Data Services, Inc. (NDS) and Nicholas
Financial, Inc. (NFI). NDS is engaged principally in the development, marketing
and support of computer application software. NFI is engaged principally in
providing installment sales financing. Both NDS and NFI are based in Florida,
U.S.A. The accompanying financial statements are stated in U.S. dollars and are
presented in accordance with accounting principles generally accepted in the
United States.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
CONSOLIDATION
The consolidated financial statements include the accounts of "Nicholas
Financial - Canada" and its wholly-owned subsidiaries, NDS and NFI, collectively
referred to as the Company. All intercompany transactions and balances have been
eliminated.
FINANCE RECEIVABLES
Finance receivables purchased and originated are recorded at cost.
ASSETS HELD FOR RESALE
Assets held for resale are stated at net realizable value and consist primarily
of automobiles that have been repossessed by the Company and are awaiting final
disposition. Automobiles repossessed are charged-off in the month in which the
repossession occurred. Costs associated with repossession, transport and auction
preparation expenses are charges reported under operating expenses in the period
in which they were incurred. The Company maintains full responsibility for
repossessions.
PROPERTY AND EQUIPMENT
Property and equipment are recorded at cost. Expenditures for repairs and
maintenance are charged to expense as incurred. Depreciation of property and
equipment is computed using the straight-line method over the estimated useful
lives of the assets as follows:
Automobiles 3 years
Equipment 5 years
Furniture and fixtures 7 years
Leasehold improvements Lease term
32
Nicholas Financial, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (continued)
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
ALLOWANCE FOR LOAN LOSSES
The allowance for loan losses is increased by charges against earnings and
decreased by charge-offs (net of recoveries). In addition to the allowance for
loan losses, a reserve for credit losses has been established using unearned
interest and dealer discounts to absorb potential credit losses. To the extent
actual credit losses exceed these reserves, a bad debt provision is recorded;
and to the extent credit losses are less than the reserve, the reserve is
accreted into income over the remaining estimated life of the pool. Management's
periodic evaluation of the adequacy of the allowance is based on the Company's
past loan experience, known and inherent risks in the portfolio, adverse
situations that may affect the borrower's ability to repay, the estimated value
of any underlying collateral, and current economic conditions.
DRAFTS PAYABLE
Drafts payable represent checks disbursed for loan purchases which have not yet
been funded through the line of credit. Amounts cleared within one to two
business days of period end are then added to the line of credit.
INCOME TAXES
Income taxes are accounted for under the asset and liability method. Deferred
tax assets and liabilities are recognized for the future tax consequences
attributable to differences between the financial statement carrying amounts of
existing assets and liabilities and their respective tax bases and operating
loss and tax credit carryforwards. Deferred tax assets and liabilities are
measured using enacted tax rates expected to apply to taxable income in the
years in which those temporary differences are expected to be recovered or
settled. The effect on deferred tax assets and liabilities of a change in tax
rate is recognized in income in the period that includes the enactment date.
REVENUE RECOGNITION
Interest income on finance receivables is recognized using the interest method.
Accrual of interest income on finance receivables is suspended when a loan is
contractually delinquent for 60 days or more or the collateral is repossessed,
whichever is earlier. As of March 31, 2004 and 2003 the amount of gross finance
receivables not accruing interest was $520,303 and $575,554, respectively.
33
Nicholas Financial, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (continued)
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
Deferred revenues consist primarily of commissions received from the sale of
ancillary products. These products include automobile warranties, road-side
assistance programs, accident & health insurance, credit life insurance and
forced placed automobile insurance. These commissions are amortized over the
life of the contract using the effective annual interest method.
The Company attributes its entire dealer discount and a portion of unearned
income to a reserve for credit losses. Such amounts reduce the interest income
recognized over the life of the contract. The Company's net fees charged for
processing a loan are recognized as an adjustment to the yield and are amortized
over the life of the loan using the interest method.
The amount of future unearned income represents the amount of finance charges
the Company expects to fully earn over the life of the current portfolio, and is
computed as the product of the contract rate, the contract term, and the
contract amount. The Company aggregates the contracts purchased during a
three-month period for all of its branch locations. After the analysis of
purchase date accounting is complete, any uncollectable amounts would be
contemplated in estimating the allowance for credit losses.
Revenues resulting from the sale of hardware and software are recognized when
persuasive evidence of an agreement exists, delivery of the products has
occurred, no significant Company obligation with regard to implementation
remain, the fee is fixed or determinable and collectibility is probable. If the
fee due from the customer is not fixed or determinable, revenue is recognized as
payments become due from the customer. If collectibility is not considered
probable, revenue is recognized when the fee is collected. Arrangements that
included software services are evaluated to determine whether those services are
essential to the functionality of other elements of the arrangement. When
software services are considered essential, revenue under the arrangement is
recognized using contract accounting. When software services are not considered
essential, the revenue related to the software services is recognized as the
services are performed. The unamortized amounts are included in the caption
"deferred revenues."
34
Nicholas Financial, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (continued)
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
EARNINGS PER SHARE
Basic earnings per share excludes any dilutive effects of common stock
equivalents such as options, warrants, and convertible securities. Diluted
earnings per share includes the effects of dilutive options, warrants, and
convertible securities. Basic and diluted earnings per share have been computed
as follows:
YEAR ENDED MARCH 31,
2004 2003
---------- ----------
Numerator for earnings per share - net income $5,212,678 $4,281,394
========== ==========
Denominator:
Denominator for basic earnings per share - weighted average shares 5,047,094 5,004,055
Effect of dilutive securities:
Employee stock options 371,614 295,151
---------- ----------
Denominator for diluted earnings per share 5,418,708 5,299,206
========== ==========
Earnings per share - basic $ 1.03 $ 0.86
========== ==========
Earnings per share - diluted $ 0.96 $ 0.81
========== ==========
STOCK OPTION ACCOUNTING
As permitted under Statement of Financial Accounting Standards (SFAS) No. 148,
"Accounting for Stock-Based Compensation - Transaction and Disclosure" which
amended SFAS 123, "Accounting for Stock-Based Compensation," the Company has
elected to continue to follow the intrinsic value method in accounting for its
stock-based employee compensation arrangements as defined by Accounting
Principles Board Opinion (APB) No. 25, "Accounting for Stock Issued to
Employees," and related interpretations including FASB Interpretation No. 44,
"Accounting for Certain Transactions Involving Stock Compensation," an
interpretation of APB 25. No stock-based employee compensation cost is reflected
in operations, as all options granted under those plans have an exercise price
equal to or above the market value of the underlying common stock on the date of
grant.
35
Nicholas Financial, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (continued)
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
FINANCIAL INSTRUMENTS
The Company's financial instruments consist of finance receivables, accounts
receivable, line of credit, notes payable -- related party and accounts payable.
For each of these financial instruments, the carrying value approximates its
fair value.
The Company's financial instruments that are exposed to concentrations of credit
risk are primarily finance receivables. The Company operates in seven states
through its twenty-nine branch locations. Fifteen of these branch locations are
in the state of Florida, which represents 60% of the finance receivables total
as of March 31, 2004. Of the remaining six states, no one state represents more
than 9% of the total finance receivables. The Company provides credit during the
normal course of business and performs ongoing credit evaluations of it
customers. The Company maintains allowances for potential credit losses which,
when realized, have been within the range of management's expectations. The
Company perfects a primary security interest in all vehicles financed as a form
of collateral.
USE OF ESTIMATES
The preparation of the financial statements in conformity with accounting
principles generally accepted in the United States requires management to make
estimates and assumptions that affect the amounts reported in the financial
statements and accompanying notes. The most significant of these estimates
relates to the determination of the allowance for credit losses and related
reserves. Actual results could differ from those estimates.
ACCUMULATED OTHER COMPREHENSIVE INCOME
Accumulated other comprehensive loss is composed entirely of the fair value of
cash flow hedges, net of the related tax effect.
STATEMENT OF CASH FLOWS
Cash paid for income taxes for the years ended March 31, 2004 and 2003 was
$4,288,259 and $3,399,990, respectively. Cash paid for interest for the years
ended March 31, 2004 and 2003 was $3,804,440 and $3,743,113, respectively.
RECLASSIFICATION
Certain prior year amounts have been reclassified to conform to the 2004
presentation.
36
Nicholas Financial, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (continued)
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
DERIVATIVES
Derivatives are accounted for under SFAS 133, "Accounting for Derivative
Instruments and Hedging Activities". SFAS 133 requires the recognition of all
derivative instruments as either assets or liabilities in the consolidated
balance sheet at fair value. The accounting for changes in the fair value (i.e.,
gains or losses) of a derivative instrument depends on whether it has been
designated and qualifies as part of a hedging relationship and further, on the
type of hedging relationship. For those derivative instruments that are
designated and qualify as hedging instruments, a company must designate the
hedging instrument, based on the exposure being hedged, as either a fair value
hedge, cash flow hedge, or a hedge of a net investment in a foreign operation.
The Company does not use derivative instruments for speculative purposes.
RECENT ACCOUNTING PRONOUNCEMENTS
In January 2003, the Financial Accounts Standards Board ("FASB") issued FASB
Interpretation No. 46, "Consolidation of Variable Interest Entities" ("FIN 46"),
which is an interpretation of Accounting Research Bulletin No. 51, "Consolidated
Financial Statements." FIN 46 was amended in December 2003. FIN 46 requires
business enterprises to consolidate variable interest entities which certain
characteristics. FIN 46 excludes qualifying special purpose entities subject to
the reporting requirements of SFAS 140. FIN 46 applies upon formation to
variable interest entities created after January 31, 2003, and to all variable
interest entities in the first fiscal year or interim period beginning after
June 15, 2003. At March 31, 2004, the Company's corporate structure included
only companies whose accounts were consolidated into the Company's financial
statements. Therefore, the adoption of FIN 46 did not have an impact on the
Company's financial statements.
In April 2003, the FASB issued SFAS 149, "Amendment of Statement 133 on
Derivative Instruments and Hedging Activities." This Statement amends and
clarifies financial accounting and reporting for derivative instruments,
including certain derivative instruments embedded in other contracts
(collectively referred to as derivatives) and for hedging activities under SFAS
133, "Accounting for Derivative Instruments and Hedging Activities." The changes
in this Statement improve financial reporting by requiring that contracts with
comparable characteristics be accounted for similarly. This Statement is
generally effective for contracts entered into or modified after June 30, 2003.
The adoption of SFAS 149 did not have a material effect on the Company's
consolidated financial statements.
37
Nicholas Financial, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (continued)
RECENT ACCOUNTING PRONOUNCEMENTS (CONTINUED)
In May 2003, the FASB issued SFAS 150, "Accounting for Certain Financial
Instruments with Characteristics of both Liabilities and Equity." This Statement
establishes standards for the classification and measurement of certain
financial instruments with characteristics of both liabilities and equity. The
Statement also includes required disclosures for financial instruments within
its scope. The Company currently does not have any financial instruments that
are within the scope of this Statement.
In October 2003, the AICPA issued SOP 03-3, "Accounting for Loans or Certain
Debt Securities Acquired in a Transfer." SOP 03-3 applies to a loan with
evidence of deterioration in credit quality subsequent to its origination that
is acquired by completion of a transfer (as defined in SOP 03-3), for which it
is probable at acquisition of such loan, that the acquirer will be unable to
collect all contractually required payments receivable. SOP 03-3 requires that
the acquirer recognize the excess of all cash flows expected at acquisition over
the investor's initial investment in the loan as interest income on a
level-yield basis over the life of the loan as the accretable yield. The loan's
contractual required payments receivable in excess of the amount of its cash
flows expected at acquisition (nonaccretable difference) should not be
recognized as an adjustment to yield, a loss accrual or a valuation allowance
for credit risk. Subsequent increases in cash flows expected to be collected
generally would be recognized prospectively through adjustment of the loan's
yield over its remaining life. Decreases in cash flows expected to be collected
would be recognized as impairment. SOP 03-3 is effective for loans acquired in
fiscal years beginning after December 31, 2004. Management is currently
evaluating the provisions of SOP 03-3.
38
Nicholas Financial, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (continued)
3. FINANCE RECEIVABLES
The Company purchases individual installment loan contracts from new and used
automobile dealers in its markets. There is no relationship between the Company
and the dealer with respect to a given contract once the assignment of that
contract is complete. The dealer has no vested interest in the performance of
any installment contract the Company purchases.
The Company charges-off receivables when an individual account has become more
than 120 days contractually delinquent. In the event of a repossession the
charge-off will occur in the month in which the vehicle was repossessed.
Consumer automobile finance installment contracts are included in finance
receivables and are detailed as follows:
2004 2003
------------- ------------
Finance receivables, gross contract $ 151,082,036 $132,316,816
Less:
Unearned interest (36,135,832) (31,610,003)
------------- ------------
Finance receivables, net of unearned interest 114,946,204 100,706,813
Dealer discounts (15,377,582) (12,394,089)
Allowance for credit losses (5,787,764) (5,428,681)
------------- ------------
Finance receivables, net $ 93,780,858 $ 82,884,043
============= ============
The terms of the receivables range from 12 to 66 months and bear a weighted
average effective interest rate of 24% for both 2004 and 2003.
Direct consumer loans are also included in finance receivables and are detailed
as follows:
2004 2003
------------- ------------
Direct loans, gross contract $ 4,572,030 $ 4,357,032
Less:
Unearned interest (932,038) (886,837)
------------- ------------
Finance receivables, net of unearned interest 3,639,992 3,470,195
Allowance for credit losses (184,334) (176,126)
------------- ------------
Finance receivables, net $ 3,455,658 $ 3,294,069
============= ============
39
Nicholas Financial, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (continued)
3. FINANCE RECEIVABLES (CONTINUED)
The terms of the receivables range from 6 to 48 months and bear a weighted
average effective interest rate of 25% for both 2004 and 2003, respectively.
The following table sets forth a reconciliation of the changes in dealer
discount for the years ended March 31:
2004 2003
----------- -----------
Balance at beginning of year $12,394,089 $11,259,898
Discounts acquired on new volume 12,019,745 10,534,472
Losses absorbed (7,867,889) (8,401,071)
Recoveries 1,153,505 1,068,556
Dealer discounts accreted (2,321,868) (2,067,766)
----------- -----------
Balance at end of year $15,377,582 $12,394,089
=========== ===========
Dealer discounts as a percent of gross indirect
contracts 10.18% 9.37%
=========== ===========
The following table sets forth a reconciliation of the changes in the allowance
for credit losses on consumer automobile finance installment contracts for the
years ended March 31:
2004 2003
----------- -----------
Balance at beginning of year $ 5,428,681 $ 4,105,174
Current year provision 1,805,038 1,911,855
Losses absorbed (1,445,955) (588,348)
----------- -----------
Balance at end of year $ 5,787,764 $ 5,428,681
=========== ===========
Allowance as a percent of gross indirect contracts 3.83% 4.10%
=========== ===========
40
Nicholas Financial, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (continued)
3. FINANCE RECEIVABLES (CONTINUED)
The following table sets forth a reconciliation of the changes in the allowance
for credit losses on direct loans for the years ended March 31:
2004 2003
-------- ---------
Balance at beginning of year $176,126 $ 200,612
Current year provision 298,649 302,004
Losses absorbed (176,367) (208,802)
Recoveries 29,714 29,372
Accreted to income (143,788) (147,060)
-------- ---------
Balance at end of year $184,334 $ 176,126
======== =========
Allowance as a percent of gross direct loan
receivables 4.03% 4.04%
======== =========
4. PROPERTY AND EQUIPMENT
Property and equipment as of March 31, 2004 and 2003 is summarized as follows:
ACCUMULATED NET BOOK
COST DEPRECIATION VALUE
---------- ------------ ----------
2004
Automobiles $ 362,287 $ 157,317 $ 204,970
Equipment 572,915 426,064 146,851
Furniture and fixtures 289,062 157,496 131,566
Leasehold improvements 277,875 195,700 82,175
---------- ------------ ----------
$1,502,139 $ 936,577 $ 565,562
========== ============ ==========
2003
Automobiles $ 285,680 $ 146,312 $ 139,368
Equipment 515,210 373,457 141,753
Furniture and fixtures 234,828 130,672 104,156
Leasehold improvements 274,025 191,706 82,319
---------- ------------ ----------
$1,309,743 $ 842,147 $ 467,596
========== ============ ==========
41
Nicholas Financial, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (continued)
5. LINE OF CREDIT
The Company has a $75 million Line of Credit facility (the Line) which expires
on November 30, 2004. The Company may borrow the lesser of the $75 million or
amounts based upon formulas principally related to a percentage of eligible
finance receivables, as defined. Borrowings under the Line may be under various
LIBOR pricing options or at the prime rate plus twenty-five basis points. Prime
rate based borrowings are generally less than $5 million. Pledged as collateral
for this credit facility are all of the assets of Nicholas Financial, Inc. As of
March 31, 2004 the outstanding amount of the credit facility was approximately
$67.5 million and the amount available under the line of credit was
approximately $7.5 million. As of March 31, 2004, the Company was in full
compliance with all debt covenants.
6. NOTES PAYABLE -- RELATED PARTY
Notes payable to shareholders, directors and individuals related thereto at
March 31:
The Company has unsecured notes totaling $681,530 and $808,610 at March 31, 2004
and 2003, respectively. For fiscal year 2004, the notes bear a variable interest
rate equal to the average cost of borrowed funds for the Company plus
twenty-five basis points (5.98% at March 31, 2004). The interest rate is
recalculated every three months. For fiscal year 2003, the notes had a fixed
interest rate of 8.87%. The notes are due upon 30-day demand.
The company incurred interest expense on the above notes of approximately
$83,000 and $62,000 for the years ended March 31, 2004 and 2003, respectively.
42
Nicholas Financial, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (continued)
7. DERIVATIVES AND HEDGING
The Company is party to interest rate swap agreements which are derivative
instruments. For derivative instruments that are designated and qualify as a
cash flow hedge (i.e., hedging the exposure to variability in expected future
cash flows that is attributable to a particular risk, such as interest rate
risk), the effective portion of the gain or loss on the derivative instrument is
reported as a component of comprehensive income and reclassified into earnings
in the same period or periods during which the hedged transaction affects
earnings. The remaining gain or loss on the derivative instrument in excess of
the cumulative change in the present value of the future cash flows of the
hedged item, if any, is recognized in current earnings during the period of
change.
The Company has entered into interest rate swap agreements that effectively
convert a portion of its floating-rate debt to a fixed-rate basis, thus reducing
the impact of interest rate changes on future interest expense. At March 31,
2004, $50,000,000 of the Company's borrowings have been designated as the hedged
items to interest rate swap agreements. Under the swap agreements, the Company
received an average variable rate of 3.41% and paid an average fixed rate of
5.93% during the year ended March 31, 2004. A loss of $1,711,393 related to the
fair value of the swaps at March 31, 2004 has been recorded in the caption
derivatives on the balance sheet. Accumulated other comprehensive loss at March
31, 2004 in the amount of $1,065,342 represents the after-tax effect of the
derivative losses. Amounts of net losses on derivative instruments expected to
be reclassified from comprehensive income to earnings in the next 12 months are
not expected to be material. The Company has also entered into two forward
locking swaps disclosed in the table below.
Fixed
Rate
Notional Of
Date Entered Effective Date Amount Interest Maturity Date
----------------- --------------- ------------- -------- -------------
May 17, 2000 May 17, 2000 $ 10,000,000 6.87% May 17, 2004
October 5,
October 5, 2001 October 5, 2001 10,000,000 3.85% 2004
June 28, 2002 June 28, 2002 10,000,000 3.83% July 2, 2005
January 6, 2003 April 2, 2003 10,000,000 3.35% April 2, 2007
January 31, 2003 August 1, 2003 10,000,000 3.20% August 2, 2006
February 26, 2003 May 17, 2004 10,000,000 3.91% May 19, 2008
October 5,
March 11, 2004 October 5, 2004 10,000,000 3.64% 2009
43
Nicholas Financial, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (continued)
7. DERIVATIVES AND HEDGING (CONTINUED)
The Company has also entered into various interest rate option agreements with
maturities through May 17, 2004.
The Company utilizes the above noted interest rate swaps to manage its interest
rate exposure. The swaps effectively convert a portion of the Company's floating
rate debt to a fixed rate, more closely matching the interest rate
characteristics of the Company's finance receivables. There has historically
been no ineffectiveness associated with the Company's hedges.
The following table reconciles net income with comprehensive income for the
years ended March 31, 2004 and 2003.
2004 2003
---------- ----------
Net Income $5,212,678 $4,281,394
Mark to market - interest rate swaps (net of tax) 337,003 (677,020)
---------- ----------
Comprehensive income $5,549,681 $3,604,374
========== ==========
44
Nicholas Financial, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (continued)
8. INCOME TAXES
The provision for income taxes reflects an effective U.S tax rate, which differs
from the corporate tax rate (34%) for the following reasons:
2004 2003
---------- ----------
Provision for income taxes at federal statutory rate $2,852,485 $2,324,778
Increase resulting from:
State income taxes, net of federal benefit 343,373 258,686
Other (18,875) (27,276)
---------- ----------
$3,176,983 $2,556,188
========== ==========
The Company's deferred tax assets consist of the following as of March 31:
2004 2003
---------- ----------
Allowance for credit losses not currently deductible for tax purposes $2,685,501 $1,379,024
Derivatives 646,051 817,135
Other items 22,650 60,349
---------- ----------
$3,354,202 $2,256,508
========== ==========
Nicholas Financial - Canada has income tax loss carryforward balances of
approximately $302,000 (2003 -- $318,000) which are available to reduce future
taxable income. The related deferred tax asset, more likely than not, will not
be realized and is offset entirely by a valuation allowance. The tax loss
carryforwards are the result of the Company's annual Canadian operating expenses
not deductible for U.S tax purposes. The Company has no operations in Canada,
does not expect to have such operations and therefore does not create any
revenue to offset these income tax loss carryforwards.
45
Nicholas Financial, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (continued)
9. STOCK OPTIONS
The Company has an employee stock incentive plan (the SIP) for officers,
directors and key employees. The Company is authorized to grant options for up
to 940,000 common shares under the SIP, of which 374,534 shares are available
for future granting at March 31, 2004. Options currently granted by the Company
generally vest over a five-year period.
The fair value method uses the Black-Scholes option-pricing model to determine
compensation expense associated with the Company's options. The follow table
illustrates the effect on net income and net income per share if the Company had
applied the fair value recognition provisions of SFAS 123 to stock-based
employee compensation:
YEAR ENDED
MARCH 31,
2004 2003
---------- ----------
Net income as reported $5,212,678 $4,281,394
Basic earnings per share as reported $ 1.03 $ 0.86
Fully diluted earnings per share as reported $ 0.96 $ 0.81
Stock based employee compensation cost
under the Fair Value Method, net of tax $ 44,320 $ 69,932
Pro forma net income $5,168,358 $4,211,462
Pro forma basic earnings per share $ 1.02 $ 0.84
Pro forma fully diluted earnings per share $ 0.95 $ 0.79
The effects of applying SFAS 123 for pro-forma disclosures are not likely to be
representative of the effects on reported net income for future years.
The fair value of each option granted is estimated on the date of grant using
the Black-Scholes option-pricing model with the following weighted-average
assumptions used for grants in 2004 were: expected volatility of 32%, dividend
yield of 1.61%, risk free interest rate of 3.75% and expected life of 7 years.
46
Nicholas Financial, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (continued)
9. STOCK OPTIONS (CONTINUED)
2004 2003
---------------------- ---------------------
WEIGHTED WEIGHTED
OPTIONS AVERAGE OPTIONS AVERAGE
& EXERCISE & EXERCISE
WARRANTS PRICE WARRANTS PRICE
-------- -------- -------- --------
Outstanding -- beginning of year 590,266 $ 2.21 653,866 $ 2.26
Granted 62,000 7.99 - -
Exercised (79,267) 2.16 (21,667) 2.20
Canceled/expired (7,533) 3.36 (41,933) 2.90
-------- --------
Outstanding -- end of year 565,466 2.83 590,266 2.21
======== ========
Exercisable at end of year 447,067 $ 2.07 490,776 $ 2.03
======== ========
Weighted-average fair value of options
granted during the year $ 1.35 -
CURRENTLY EXERCISABLE
WEIGHTED ---------------------
WEIGHTED AVERAGE WEIGHTED
AVERAGE REMAINING AVERAGE
EXERCISE CONTRACTUAL EXERCISE
SHARES PRICE LIFE SHARES PRICE
------- -------- ----------- ------- --------
$1.00 TO 1.99 260,200 $ 1.70 4.19 years 260,200 $ 1.70
2.00 TO 2.99 170,466 2.45 5.71 years 154,066 2.42
3.00 TO 3.99 72,800 3.36 7.32 years 32,801 3.39
6.00 TO 6.99 28,000 6.64 9.35 years - -
9.00 TO 9.99 34,000 9.10 9.87 years - -
------- -------- ---------- ------- --------
TOTAL 565,466 $ 2.83 5.65 years 447,067 $ 2.07
======= =======
47
Nicholas Financial, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (continued)
10. EMPLOYEE BENEFIT PLANS
The Company has a 401(k) retirement plan under which all employees are eligible
to participate. Employee contributions are voluntary and subject to Internal
Revenue Service limitations. The Company matches, based on annually determined
factors, employee contributions provided the employee completes certain levels
of service annually. For the years ended March 31, 2004 and 2003, the Company
recorded expenses of approximately $126,000 and $68,000, respectively, related
to this plan. All employees who were eligible under the plan received a profit
sharing contribution based on their total compensation in relation to the total
compensation of all eligible employees. For the years ended March 31, 2004 and
2003, the Company recorded expenses of $0 and $139,000, respectively, related to
this plan.
11. COMMITMENTS AND CONTINGENCIES
The Company leases its corporate and branch offices under operating lease
agreements which provide for annual minimum rental payments as follows:
Year ending March 31:
---------------------
2005 $ 499,997
2006 326,996
2007 200,636
2008 22,517
----------
$1,050,146
==========
Rent expense for the years ended March 31, 2004 and 2003 was approximately
$661,000 and $503,000, respectively.
On April 8, 2004, the defendant in a deficiency action brought by the Company
under the Ohio Uniform Commercial Code, filed a counterclaim in Cleveland
Municipal Court, Cuyahoga County, Ohio, on behalf of a putative class of all
persons who purchased motor vehicles pursuant to retail installment sales
agreements later assigned to the Company, which motor vehicles were subsequently
repossessed in Ohio by the Company or its agents. The Company believes the
material allegations of the counterclaim are substantially without merit and
intends to vigorously defend the counterclaim. No assurances can be given,
however, with respect to the outcome of the counterclaim, and an adverse result
could have a material adverse effect on the Company's financial condition.
48
Nicholas Financial, Inc. and Subsidiaries
Notes to Consolidated Financial Statements (continued)
12. SEGMENT INFORMATION
The segments presented have been identified based on the difference in the
products and services of the Company's two wholly owned subsidiaries. Internal
financial results for each subsidiary are presented to and reviewed by the
senior management of the Company. Substantially all of the Company's operations
are in the United States. The industry segments are as follows:
COMPUTER
APPLICATION
GENERAL SOFTWARE AND
FINANCING SUPPORT CORPORATE TOTAL
------------ ------------ --------- ------------
2004
Interest income and sales $ 25,236,638 $ 263,847 - $ 25,500,485
Operating income (loss) before income
taxes 8,350,407 50,445 (11,191) 8,389,661
Interest expense 3,851,924 - - 3,851,924
Income tax expense 3,157,941 19,042 - 3,176,983
Identifiable assets 102,961,157 261,795 500 103,223,452
Net capital expenditures 308,091 - - 308,091
Depreciation 210,125 - - 210,125
2003
Interest income and sales $ 22,048,535 $ 328,340 - $ 22,376,875
Operating income (loss) before income
taxes 6,845,591 (8,009) - 6,837,582
Interest expense 3,936,042 - - 3,936,042
Income tax expense 2,559,212 (3,024) - 2,556,188
Identifiable assets 89,772,818 262,735 1,375 90,036,928
Net capital expenditures 287,004 - - 287,004
Depreciation 190,257 - - 190,257
13. SUBSEQUENT EVENTS
In late May and early June 2004, the Company closed the sale of 1,400,000 shares
of its common stock at a public offering price of $8.00 per share. The net
proceeds of the offerings, approximately $9.8 million, was used to pay down the
Company's Line. In addition, approximately 900,000 shares of common stock were
sold in the offering by a group of selling shareholders. Ferris, Baker Watts,
Incorporated served as the underwriter for the offering.
49
ITEM 8. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None.
ITEM 8A. CONTROLS AND PROCEDURES
Based on their evaluation, as of the end of the period covered by this
annual report of the effectiveness of the Company's disclosure controls and
procedures, the Chief Executive Officer and Chief Financial Officer have each
concluded that the Company's disclosure controls and procedures are effective
and sufficient to ensure that the Company records, processes, summarizes, and
reports information required to be disclosed by the Company in its periodic
reports filed under the Securities Exchange Act within the time periods
specified by the Securities and Exchange Commission's rules and forms.
Subsequent to the date of their evaluation, there have not been any
significant changes in the Company's internal controls or in other factors to
the Company's knowledge that could significantly affect these controls,
including any corrective action with regard to significant deficiencies and
material weaknesses. The design of any system of controls and procedures is
based in part upon certain assumptions about the likelihood of future events.
PART III
ITEM 9. DIRECTORS, EXECUTIVE OFFICERS, PROMOTERS AND CONTROL PERSONS; COMPLIANCE
WITH SECTION 16(a) OF THE EXCHANGE ACT
The information set forth under the caption "Proposal 1: Election of
Directors" in the Proxy Statement and Information Circular, dated on or about
July 8, 2004, for the 2004 Annual General Meeting of Members of the Company to
be held August 5, 2004 (the "Proxy Statement"), the information set forth under
the caption "Executive Officers and Compensation" in the Proxy Statement, and
the information set forth under the caption "Section 16 (a) Beneficial Ownership
Reporting Compliance" in the Proxy Statement are incorporated herein by
reference.
The Company has adopted a code of ethics applicable to our principal
executive officers, principal financial officer, principal accounting officer
and persons performing similar functions. The text of this code of ethics is
filed as Exhibit 14 to this annual report. We intend to post notice of any
waiver from, or amendment to, any provision of our code of ethics on our web
site.
ITEM 10. EXECUTIVE COMPENSATION
The information set forth under the caption "Executive Officers and
Compensation" in the Proxy Statement is incorporated herein by reference.
50
ITEM 11. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS, MANAGEMENT AND RELATED
STOCKHOLDER MATTERS
The information set forth under the caption "Voting Shares and Ownership
of Management and Principal Holders" in the Proxy Statement is incorporated
herein by reference.
SECURITIES AUTHORIZED FOR ISSUANCE UNDER EQUITY COMPENSATION PLANS
The following table sets forth certain information, as of March 31, 2004, with
respect to compensation plans under which equity securities of the Company are
authorized for issuance:
EQUITY COMPENSATION PLAN INFORMATION
NUMBER OF
SECURITIES TO BE WEIGHTED - NUMBER OF SECURITIES
ISSUED UPON AVERAGE EXERCISE REMAINING AVAILABLE FOR
EXERCISE OF PRICE OF FUTURE ISSUANCE UNDER
OUTSTANDING OUTSTANDING EQUITY COMPENSATION
OPTIONS, OPTIONS, PLANS (EXCLUDING
WARRANTS AND WARRANTS AND SECURITIES REFLECTED IN
PLAN CATEGORY RIGHTS RIGHTS COLUMN (a)
--------------------- ---------------- ---------------- ------------------------
(a) (b) (c)
---------------- ---------------- ------------------------
Equity
Compensation
Plans Approved by
Security Holders 565,466 $ 2.83 374,534
Equity Compensation
Plans Not Approved by
Security Holders None Not Applicable None
------- ---------------- -------
TOTAL 565,466 $ 2.83 374,534
======= ================ =======
ITEM 12. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information set forth under the caption "Certain Relationships and
Related Transactions" in the Proxy Statement is incorporated herein by
reference.
51
ITEM 13. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
EXHIBIT NO. EXHIBIT DESCRIPTION
----------- --------------------------------------------------------------
3 Memorandum and Articles, as amended, of Nicholas Financial,
Inc.
4 Form of Common Stock Certificate
10.1 Amended and Restated Loan and Security Agreement, dated August
1, 2000 (1)
10.2 Amendment No. 1 to Loan Agreement, dated March 16, 2001 (2)
10.3 Amendment No. 2 to Loan Agreement, dated July 31, 2001 (3)
10.4 Amendment No. 3 to Loan Agreement, dated June 27, 2002 (4)
10.5 Employee Stock Option Plan (5)
10.6 Non-Employee Director Stock Option Plan (6)
10.7 Employment Contract, dated November 22, 1999, between Nicholas
Financial, Inc. and Ralph Finkenbrink, Senior Vice President
of Finance (7)
10.8 Employment Contract, dated March 16, 2001, between Nicholas
Financial, Inc. and Peter L. Vosotas, President and Chief
Executive Officer (8)
10.9 Form of Dealer Agreement and Schedule thereto listing dealers
that are parties to such agreements (9)
10.10 ISDA Master Agreement, dated as of March 30, 1999, between
Bank of America National Trust and Savings Association and
Nicholas Financial, Inc. (including Schedule thereto) (10)
10.11 Form of Letter Agreement (confirming terms and conditions of
Swap Transaction under the Master Agreement referred to in
Exhibit 10.10 above) and Schedule thereto listing variable
terms of outstanding Swap Transactions (11)
14 Code of Ethics for CEO and Senior Financial Officers
21 Subsidiaries of Nicholas Financial, Inc.
23.1 Consent of Dixon Hughes PLLC
23.2 Consent of Ernst & Young LLP
24 Powers of Attorney (included on signature page hereto)
31.1 Certification of President and CEO
31.2 Certification of Chief Financial Officer
32.1 Written Statement of the Chief Executive Officer Pursuant to
18 U.S.C. Section 1350
32.2 Written Statement of the Chief Financial Officer Pursuant to
18 U.S.C. Section 1350
(1) Incorporated by reference to Exhibit 10.1 to the Company's
Registration Statement on Form S-2 (Reg. No. 333-113215) filed
with the SEC on March 2, 2004.
52
(2) Incorporated by reference to Exhibit 10.2 to the Company's
Registration Statement on Form S-2 (Reg. No. 333-113215) filed
with the SEC on March 2, 2004.
(3) Incorporated by reference to Exhibit 10.3 to the Company's
Registration Statement on Form S-2 (Reg. No. 333-113215) filed
with the SEC on March 2, 2004.
(4) Incorporated by reference to Exhibit 10.4 to the Company's
Registration Statement on Form S-2 (Reg. No. 333-113215) filed
with the SEC on March 2, 2004.
(5) Incorporated by reference to Exhibit 4 to the Company's Form
S-8 filed with the SEC on June 30, 1999 (SEC File. No.
333-81967).
(6) Incorporated by reference to Exhibit 4 to the Company's Form
S-8 filed with the SEC on June 30, 1999 (SEC File. No.
333-81961).
(7) Incorporated by reference to Exhibit 10.7 to the Company's
Registration Statement on Form S-2 (Reg. No. 333-113215) filed
with the SEC on March 2, 2004.
(8) Incorporated by reference to Exhibit 10.8 to the Company's
Registration Statement on Form S-2 (Reg. No. 333-113215) filed
with the SEC on March 2, 2004.
(9) Incorporated by reference to Exhibit 10.9 to the Company's
Registration Statement on Form S-2 (Reg. No. 333-113215) filed
with the SEC on March 2, 2004.
(10) Incorporated by reference to Exhibit 10.10 to Amendment No. 2
to the Company's Registration Statement on Form S-2 (Reg. No.
333-113215) filed with the SEC on April 7, 2004.
(11) Incorporated by reference to Exhibit 10.11 to Amendment No. 2
to the Company's Registration Statement on Form S-2 (Reg. No.
333-113215) filed with the SEC on April 7, 2004.
(b) Reports on Form 8-K
On March 4, 2004, the Company filed a current report on Form 8-K
announcing that at a meeting held on March 3, 2004, the audit committee of the
Board of Directors of the Company approved the engagement of Dixon Hughes PLLC,
the successor in the merger of the Company's current independent auditors, Crisp
Hughes Evans LLP, and the firm of Dixon Odom PLLC, as its independent auditors
effective with the successful merger of the two firms. On March 1, 2004, the
audit committee of the Board of Directors was notified that the merger of the
two firms was completed and that the firm of Crisp Hughes Evans LLP would no
longer be providing audit services. On the same Form 8-K the Company announced
that the Company has established March 8, 2004 as the record date for its
semi-annual cash dividend of $.05 cents per share with a payment date of March
22, 2004.
ITEM 14. PRINCIPAL ACCOUNTANT FEES AND SERVICES
The information set forth under the caption "Appointment of Auditors" in
the Proxy Statement is incorporated herein by reference.
53
SIGNATURES
In accordance with Section 13 or 15(d) of the Securities Exchange Act of
1934, the Registrant caused this Report to be signed on its behalf by the
undersigned, thereunto duly authorized.
NICHOLAS FINANCIAL, INC.
Dated: June 29, 2004
By: /s/ Peter L. Vosotas
Peter L. Vosotas
Chairman, Chief Executive Officer
and President
KNOW ALL MEN BY THESE PRESENTS that each person whose signature appears
below constitutes and appoints Peter L. Vosotas and Ralph T. Finkenbrink, and
each of them, his true and lawful attorneys-in-fact and agents, with full power
of substitution and resubstitution, for him and in his name, place and stead, in
any and all capacities, to sign any and all amendments to this report, and to
file the same, with all exhibits thereto, and any other documents in connection
therewith, with the Securities and Exchange Commission, granting unto said
attorneys-in-fact and agents, and each of them, full power and authority to
perform each and every act and thing requisite and necessary to be done in and
about the premises, as fully to all intents and purposes as he might or could do
in person, hereby ratifying and confirming all that said attorney-in-fact and
agents or either of them, or their substitutes, may lawfully do or cause to be
done by virtue hereof.
In accordance with 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
/s/ Peter L. Vosotas Chairman of the Board, Chief
Peter L. Vosotas Executive Officer, President and June 29, 2004
Director
/s/ Ralph T. Finkenbrink Sr. Vice President - Finance June 29, 2004
Ralph T. Finkenbrink Chief Financial Officer and Director
/s/ Stephen Bragin Director June 29, 2004
Stephen Bragin
/s/ Alton R. Neal Director June 29, 2004
Alton R. Neal
54
EXHIBIT INDEX
EXHIBIT NO. DESCRIPTION
----------- --------------------------------------------------------------
3 Memorandum and Articles, as amended, of Nicholas Financial,
Inc.
4 Form of Common Stock Certificate
10.1 Amended and Restated Loan and Security Agreement, dated August
1, 2000*
10.2 Amendment No. 1 to Loan Agreement, dated March 16, 2001*
10.3 Amendment No. 2 to Loan Agreement, dated July 31, 2001*
10.4 Amendment No. 3 to Loan Agreement, dated June 27, 2002*
10.5 Employee Stock Option Plan*
10.6 Non-Employee Director Stock Option Plan*
10.7 Employment Contract, dated November 22, 1999, between Nicholas
Financial, Inc. and Ralph Finkenbrink, Senior Vice President
of Finance*
10.8 Employment Contract, dated March 16, 2001, between Nicholas
Financial, Inc. and Peter L. Vosotas, President and Chief
Executive Officer*
10.9 Form of Dealer Agreement and Schedule thereto listing dealers
that are parties to such agreements*
10.10 ISDA Master Agreement, dated as of March 30, 1999, between
Bank of America National Trust and Savings Association and
Nicholas Financial, Inc. (including Schedule thereto)*
10.11 Form of Letter Agreement (confirming terms and conditions of
Swap Transaction under the Master Agreement referred to in
Exhibit 10.10 above) and Schedule thereto listing variable
terms of outstanding Swap Transactions*
14 Code of Ethics for CEO and Senior Financial Officers
21 Subsidiaries of Nicholas Financial, Inc.
23.1 Consent of Dixon Hughes PLLC
23.2 Consent of Ernst & Young LLP
24 Powers of Attorney (included on signature page hereto)
31.1 Certification of President and CEO
31.2 Certification of Chief Financial Officer
32.1 Written Statement of the Chief Executive Officer Pursuant to
18 U.S.C. Section 1350
32.2 Written Statement of the Chief Financial Officer Pursuant to
18 U.S.C. Section 1350
---------------------
* Incorporated by reference.
55