XNAS:FCFC Quarterly Report 10-Q Filing - 3/31/2012

Effective Date 3/31/2012

Table of Contents

 

 

 

UNITED STATES
SECURITIES AND EXCHANGE COMMISSION

Washington, DC 20549

 

Form 10-Q

 

(Mark One)

 

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

 

For the quarterly period ended March 31, 2012

 

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

 

Commission file number 033-19694

 

FirstCity Financial Corporation

(Exact name of registrant as specified in its charter)

 

Delaware

 

76-0243729

(State or other jurisdiction of

 

(I.R.S. Employer

incorporation or organization)

 

Identification No.)

 

6400 Imperial Drive,

 

 

Waco, TX

 

76712

(Address of principal executive offices)

 

(Zip Code)

 

(254) 761-2800

(Registrant’s telephone number, including area code)

 

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.  Yes x  No o

 

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).  Yes x  No o

 

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

 

Large accelerated filer £

 

Accelerated filer £

 

 

 

Non-accelerated filer £
(Do not check if a smaller reporting company)

 

Smaller reporting company x

 

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).  Yes o  No x

 

The number of shares of common stock, par value $.01 per share, outstanding at May 10, 2012 was 10,556,197.

 

 

 



Table of Contents

 

TABLE OF CONTENTS

 

PART I

 

 

 

 

Item 1.

Financial Statements

3

 

Consolidated Balance Sheets

3

 

Consolidated Statements of Earnings

5

 

Consolidated Statements of Comprehensive Income

6

 

Consolidated Statements of Stockholders’ Equity

7

 

Consolidated Statements of Cash Flows

8

 

Notes to Consolidated Financial Statements

9

Item 2.

Management’s Discussion and Analysis of Financial Condition and Results of Operations

45

Item 3.

Quantitative and Qualitative Disclosures About Market Risk

65

Item 4.

Controls and Procedures

65

 

 

 

PART II OTHER INFORMATION

66

 

 

 

Item 1.

Legal Proceedings

66

Item 1A.

Risk Factors

66

Item 2.

Unregistered Sales of Equity Securities and Use of Proceeds

66

Item 3.

Defaults Upon Senior Securities

66

Item 4.

Mine Safety Disclosures

66

Item 5.

Other Information

66

Item 6.

Exhibits

67

SIGNATURES

68

 

2



Table of Contents

 

PART I

 

FINANCIAL INFORMATION

 

Item 1.  Financial Statements

 

FIRSTCITY FINANCIAL CORPORATION AND SUBSIDIARIES

 

CONSOLIDATED BALANCE SHEETS

(Dollars in thousands, except share data)

 

 

 

March 31,

 

December 31,

 

 

 

2012

 

2011

 

 

 

(Unaudited)

 

 

 

ASSETS

 

 

 

 

 

Cash and cash equivalents

 

$

41,044

 

$

34,802

 

Restricted cash

 

1,385

 

1,229

 

Portfolio Assets:

 

 

 

 

 

Loan portfolios, net of allowance for loan losses of $753 and $781

 

83,050

 

97,090

 

Real estate held for sale, net

 

16,921

 

26,856

 

Total Portfolio Assets

 

99,971

 

123,946

 

Loans receivable:

 

 

 

 

 

Loans receivable - affiliates

 

6,677

 

6,719

 

Loans receivable - SBA held for sale

 

3,260

 

7,614

 

Loans receivable - SBA held for investment, net of allowance for loan losses of $441 and $333

 

19,389

 

19,151

 

Loans receivable - other, net of allowance for loan losses of $1,083

 

10,129

 

12,212

 

Total loans receivable, net

 

39,455

 

45,696

 

Investment securities available for sale

 

3,936

 

3,798

 

Investments in unconsolidated subsidiaries

 

116,008

 

109,393

 

Service fees receivable ($3,227 and $834 from affiliates)

 

3,302

 

913

 

Servicing assets - SBA loans

 

1,153

 

1,090

 

Assets held for sale

 

10,402

 

9,886

 

Other assets

 

24,729

 

25,593

 

Total Assets (1)

 

$

341,385

 

$

356,346

 

 

 

 

 

 

 

LIABILITIES AND EQUITY

 

 

 

 

 

Liabilities:

 

 

 

 

 

Notes payable to banks and other

 

$

165,304

 

$

189,936

 

Liabilities associated with assets held for sale

 

5,293

 

5,317

 

Other liabilities

 

23,830

 

23,690

 

Total Liabilities (2)

 

194,427

 

218,943

 

 

 

 

 

 

 

Commitments and contingencies (Note 18)

 

 

 

 

 

 

 

 

 

 

 

Stockholders’ equity:

 

 

 

 

 

Optional preferred stock (par value $.01 per share; 98,000,000 shares authorized; no shares issued or outstanding)

 

 

 

Common stock (par value $.01 per share; 100,000,000 shares authorized; shares issued: 12,056,197 and 11,890,590, respectively; shares outstanding: 10,556,197 and 10,390,590, respectively)

 

121

 

119

 

Treasury stock, at cost: 1,500,000 shares

 

(10,923

)

(10,923

)

Paid in capital

 

106,532

 

106,330

 

Retained earnings

 

26,756

 

18,391

 

Accumulated other comprehensive loss

 

(204

)

(1,941

)

FirstCity Stockholders’ Equity

 

122,282

 

111,976

 

Noncontrolling interests

 

24,676

 

25,427

 

Total Equity

 

146,958

 

137,403

 

Total Liabilities and Equity

 

$

341,385

 

$

356,346

 

 

3



Table of Contents

 


(1)         Our consolidated assets at March 31, 2012 and December 31, 2011 include the following assets of certain variable interest entities (“VIEs”) that can only be used to settle the liabilities of those VIEs: Cash and cash equivalents, $28.6 million and $20.4 million; Portfolio Assets, $78.6 million and $98.4 million; Loans receivable, $39.5 million and $45.7 million; Equity investments, $55.0 million and $51.7 million; various other assets, $35.8 million and $35.9 million; and Total assets, $237.5 million and $252.2 million, respectively.

 

(2)         Our consolidated liabilities at March 31, 2012 and December 31, 2011 include the following VIE liabilities for which the VIE creditors do not have recourse to FirstCity: Notes payable, $56.5 million and $70.2 million; Other liabilities, $18.5 million and $19.0 million; and Total liabilities, $75.0 million and $89.2 million, respectively.

 

See accompanying notes to consolidated financial statements.

 

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Table of Contents

 

FIRSTCITY FINANCIAL CORPORATION AND SUBSIDIARIES

 

CONSOLIDATED STATEMENTS OF EARNINGS (Unaudited)

(Dollars in thousands, except per share data)

 

 

 

Three Months Ended

 

 

 

March 31,

 

 

 

2012

 

2011

 

Revenues:

 

 

 

 

 

Servicing fees ($5,505 and $2,227 from affiliates)

 

$

5,744

 

$

2,425

 

Income from Portfolio Assets

 

8,505

 

12,840

 

Gain on sale of SBA loans held for sale, net

 

572

 

884

 

Interest income from SBA loans

 

355

 

349

 

Interest income from loans receivable - affiliates

 

280

 

738

 

Interest income from loans receivable - other

 

101

 

188

 

Revenue from railroad operations

 

1,685

 

1,430

 

Other income

 

2,545

 

1,923

 

Total revenues

 

19,787

 

20,777

 

Costs and expenses:

 

 

 

 

 

Interest and fees on notes payable to banks and other

 

1,738

 

3,583

 

Interest and fees on notes payable to affiliates

 

 

380

 

Salaries and benefits

 

6,128

 

5,149

 

Provision for loan and impairment losses

 

470

 

639

 

Asset-level expenses

 

1,063

 

1,414

 

Costs and expenses from railroad operations

 

1,228

 

885

 

Other costs and expenses

 

3,321

 

2,161

 

Total costs and expenses

 

13,948

 

14,211

 

Earnings before other revenue and income taxes

 

5,839

 

6,566

 

Equity income from unconsolidated subsidiaries

 

4,467

 

1,871

 

Gain on sale of subsidiaries

 

 

5

 

Earnings before income taxes

 

10,306

 

8,442

 

Income tax expense

 

833

 

602

 

Net earnings

 

9,473

 

7,840

 

Less: Net income attributable to noncontrolling interests

 

1,108

 

4,115

 

Net earnings attributable to FirstCity

 

$

8,365

 

$

3,725

 

 

 

 

 

 

 

Basic earnings per share of common stock

 

$

0.80

 

$

0.36

 

Diluted earnings per share of common stock

 

$

0.80

 

$

0.36

 

 

See accompanying notes to consolidated financial statements.

 

5



Table of Contents

 

FIRSTCITY FINANCIAL CORPORATION AND SUBSIDIARIES

 

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME (Unaudited)

(Dollars in thousands)

 

 

 

Three Months Ended

 

 

 

March 31,

 

 

 

2012

 

2011

 

Net earnings

 

$

9,473

 

$

7,840

 

Other comprehensive income (loss), net of tax:

 

 

 

 

 

Net unrealized gain (loss) on securities available for sale

 

460

 

(57

)

Foreign currency translation adjustments

 

1,607

 

691

 

Total other comprehensive income, net of tax

 

2,067

 

634

 

Total comprehensive income

 

11,540

 

8,474

 

Less comprehensive income attributable to noncontrolling interests:

 

 

 

 

 

Net income

 

(1,108

)

(4,115

)

Net unrealized gain on securities available for sale, net of tax

 

(13

)

(20

)

Foreign currency translation adjustments

 

(317

)

(371

)

Comprehensive income attributable to FirstCity

 

$

10,102

 

$

3,968

 

 

See accompanying notes to consolidated financial statements.

 

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Table of Contents

 

FIRSTCITY FINANCIAL CORPORATION AND SUBSIDIARIES

 

CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY (Unaudited)

(Dollars in thousands)

 

 

 

FirstCity Stockholders

 

 

 

 

 

 

 

 

 

 

 

 

 

Retained

 

Accumulated

 

 

 

 

 

 

 

 

 

 

 

 

 

Earnings

 

Other

 

Non-

 

 

 

 

 

Common

 

Treasury

 

Paid in

 

(Accumulated

 

Comprehensive

 

controlling

 

Total

 

 

 

Stock

 

Stock

 

Capital

 

Deficit)

 

Income (Loss)

 

Interests

 

Equity

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balances, December 31, 2010

 

$

118

 

$

(10,923

)

$

105,038

 

$

(5,826

)

$

(65

)

$

36,398

 

$

124,740

 

Net earnings

 

 

 

 

3,725

 

 

4,115

 

7,840

 

Change in net unrealized gain on securities available for sale, net of tax

 

 

 

 

 

(77

)

20

 

(57

)

Foreign currency translation adjustments

 

 

 

 

 

320

 

371

 

691

 

Stock-based compensation expense

 

 

 

167

 

 

 

 

167

 

Sales of subsidiary shares in noncontrolling interests

 

 

 

484

 

 

 

207

 

691

 

Investments in majority-owned entities

 

 

 

 

 

 

523

 

523

 

Distributions to noncontrolling interests

 

 

 

 

 

 

(5,929

)

(5,929

)

Balances, March 2011 31, 2011

 

$

118

 

$

(10,923

)

$

105,689

 

$

(2,101

)

$

178

 

$

35,705

 

$

128,666

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Balances, December 31, 2011

 

$

119

 

$

(10,923

)

$

106,330

 

$

18,391

 

$

(1,941

)

$

25,427

 

$

137,403

 

Net earnings

 

 

 

 

8,365

 

 

1,108

 

9,473

 

Change in net unrealized gain on securities available for sale, net of tax

 

 

 

 

 

447

 

13

 

460

 

Foreign currency translation adjustments

 

 

 

 

 

1,290

 

317

 

1,607

 

Issuance of common stock under stock- based compensation plans

 

2

 

 

(2

)

 

 

 

 

Stock-based compensation expense

 

 

 

204

 

 

 

 

204

 

Distributions to noncontrolling interests

 

 

 

 

 

 

(2,189

)

(2,189

)

Balances, March 31, 2012

 

$

121

 

$

(10,923

)

$

106,532

 

$

26,756

 

$

(204

)

$

24,676

 

$

146,958

 

 

See accompanying notes to consolidated financial statements.

 

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Table of Contents

 

FIRSTCITY FINANCIAL CORPORATION AND SUBSIDIARIES

 

CONSOLIDATED STATEMENTS OF CASH FLOWS (Unaudited)

(Dollars in thousands)

 

 

 

Three Months Ended

 

 

 

March 31,

 

 

 

2012

 

2011

 

 

 

 

 

 

 

Cash flows from operating activities:

 

 

 

 

 

Net earnings

 

$

9,473

 

$

7,840

 

Adjustments to reconcile net earnings to net cash used in operating activities:

 

 

 

 

 

Net principal advances on SBA loans held for sale

 

(2,804

)

(5,912

)

Proceeds from sales of SBA loans held for sale, net

 

8,028

 

10,956

 

Proceeds applied to income from Portfolio Assets

 

347

 

1,594

 

Income from Portfolio Assets

 

(8,505

)

(12,840

)

Provision for loan and impairment losses

 

470

 

639

 

Foreign currency transaction gains, net

 

(161

)

(944

)

Equity income from unconsolidated subsidiaries

 

(4,467

)

(1,871

)

Gain on sale of SBA loans held for sale, net

 

(572

)

(884

)

Depreciation and amortization, net

 

935

 

689

 

Deferred income tax expense

 

566

 

443

 

Decrease (increase) in other assets

 

(3,383

)

86

 

Increase (decrease) in other liabilities

 

75

 

(3,564

)

Other, net

 

(493

)

(250

)

Net cash used in operating activities

 

(491

)

(4,018

)

Cash flows from investing activities:

 

 

 

 

 

Purchases of property and equipment, net

 

(429

)

(162

)

Net principal payments (advances) on loans receivable

 

2,211

 

(201

)

Net principal advances on SBA loans held for investment

 

(627

)

(373

)

Purchase of investment securities available for sale

 

 

(3,261

)

Net principal payments on investment securities available for sale

 

413

 

543

 

Purchases of Portfolio Assets

 

(30

)

(3,135

)

Proceeds applied to principal on Portfolio Assets

 

25,564

 

47,917

 

Contributions to unconsolidated subsidiaries

 

(9,305

)

(2,066

)

Distributions from unconsolidated subsidiaries

 

8,521

 

10,272

 

Net cash provided by investing activities

 

26,318

 

49,534

 

Cash flows from financing activities:

 

 

 

 

 

Borrowings under notes payable to banks and other

 

4,757

 

15,027

 

Principal payments of notes payable to affiliates

 

 

(2,122

)

Principal payments of notes payable to banks and other

 

(22,780

)

(42,635

)

Payments of debt issuance costs and loan fees

 

(54

)

(167

)

Proceeds from secured borrowings, net

 

 

(3,649

)

Distributions to noncontrolling interests

 

(2,189

)

(5,929

)

Net cash used in financing activities

 

(20,266

)

(39,475

)

Effect of exchange rate changes on cash and cash equivalents

 

681

 

301

 

Net increase in cash and cash equivalents

 

6,242

 

6,342

 

Cash and cash equivalents, beginning of period

 

34,802

 

46,597

 

Cash and cash equivalents, end of period

 

$

41,044

 

$

52,939

 

 

 

 

 

 

 

Supplemental disclosure of cash flow information:

 

 

 

 

 

Cash paid during the period for interest

 

$

956

 

$

2,937

 

Cash paid during the period for income taxes, net of refunds

 

328

 

187

 

 

See accompanying notes to consolidated financial statements.

 

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Table of Contents

 

FIRSTCITY FINANCIAL CORPORATION AND SUBSIDIARIES

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

 

(1)  Basis of Presentation and Summary of Significant Accounting Policies

 

Nature of Operations

 

FirstCity Financial Corporation, a Delaware corporation, is a multi-national specialty financial services company headquartered in Waco, Texas with offices throughout the United States and Mexico and a presence in Europe and South America. When we refer to “FirstCity,” “the Company,” “we,” “our” or “us” in this Quarterly Report on Form 10-Q, we mean FirstCity Financial Corporation and subsidiaries (consolidated).

 

The Company engages in two major business segments — Portfolio Asset Acquisition and Resolution and Special Situations Platform. The Portfolio Asset Acquisition and Resolution business has been the Company’s core business segment since it commenced operations in 1986. In the Portfolio Asset Acquisition and Resolution business, the Company acquires portfolios of under-performing and non-performing loans, and to a lesser extent, performing loans and other assets (collectively, “Portfolio Assets” or “Portfolios”), generally at a discount to their legal principal balances or appraised values, and services and resolves such Portfolio Assets in an effort to maximize the present value of the ultimate cash recoveries. FirstCity acquires the Portfolio Assets for its own account or through investment entities formed with one or more other co-investors (each such entity, an “Acquisition Partnership”). The Company engages in its Special Situations Platform business through its majority ownership in a subsidiary that was formed in April 2007. Through its Special Situations Platform, the Company provides investment capital to privately-held middle-market companies through flexible capital structuring arrangements to generate an attractive risk-adjusted return. These capital investments primarily take the form of senior and junior financing arrangements, but also include direct equity investments and common equity warrants. In addition, our Special Situations Platform business engages in distressed debt transactions and leveraged buyouts. Refer to Note 17 for additional information on the Company’s major business segments.

 

Basis of Presentation

 

The accompanying unaudited consolidated financial statements in this Form 10-Q were prepared in accordance with U.S. generally accepted accounting principles (“GAAP”) for interim information and with instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, the consolidated financial statements do not include all of the information and footnote disclosures required by GAAP for complete consolidated financial statements. In the opinion of management, the accompanying consolidated financial statements include all adjustments, consisting only of normal recurring adjustments, necessary for a fair presentation of the Company’s financial position and results of operations. The interim results of operations disclosed herein are not necessarily indicative of the results that may be expected for a full year or any future period. These interim consolidated financial statements should be read in conjunction with the Company’s consolidated financial statements and footnotes thereto included in our annual report on Form 10-K for the year ended December 31, 2011, as amended (“2011 Form 10-K”).

 

The accompanying consolidated financial statements in this Form 10-Q include the accounts of FirstCity, its wholly-owned and majority-owned subsidiaries, and certain variable interest entities where we are the primary beneficiary as prescribed by the Financial Accounting Standards Board’s (the “FASB”) accounting guidance on variable interest entities (see discussion below). All significant intercompany transactions and balances have been eliminated in consolidation. Certain amounts in the consolidated financial statements and disclosures for prior periods were reclassified to conform to the current period presentation. These reclassifications were not significant and have no impact on FirstCity’s net earnings, total assets or stockholders’ equity.

 

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FIRSTCITY FINANCIAL CORPORATION AND SUBSIDIARIES

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

 

Consolidated Subsidiaries

 

If we determine that we have a controlling financial interest in an entity, then we must consolidate the assets, liabilities and noncontrolling interests of the entity in our consolidated financial statements. A controlling financial interest typically arises as a result of ownership of a majority of the voting interests of an entity. However, we may also have a controlling financial interest in an entity through an arrangement that does not involve voting interests, such as a variable interest entity (“VIE”). We consolidate all VIEs where we are the primary beneficiary as prescribed by the FASB’s accounting guidance on the consolidation of VIEs. The primary beneficiary of a VIE is the party that has the power to direct the activities that most-significantly impact the economic performance of the entity and the obligation to absorb losses or the right to receive benefits that could potentially be significant to the entity. Refer to Note 15 for more information regarding the Company’s involvement with VIEs.

 

Unconsolidated Subsidiaries

 

The Company does not consolidate investments in entities that are not VIEs where the Company does not have an effective controlling interest, or investments in entities that are VIEs where the Company is not the primary beneficiary. Rather, such investments, which represent equity investments in non-publicly-traded entities, are accounted for under the equity method of accounting since the Company has the ability to exercise significant influence (but not control) over operating and financial policies of such subsidiaries (including certain entities where we have less than 20% ownership). FirstCity has the ability to exercise significant influence over the operating and financial policies of its less-than-20%-owned entities, despite its comparatively smaller ownership percentage, due primarily to its active participation in the policy-making process as well as its involvement in the daily management activities of the entities.

 

Under the equity method of accounting, the Company’s investments in these unconsolidated entities are carried at the cost of acquisition, plus the Company’s share of equity in undistributed earnings or losses since acquisition. We eliminate transactions with our equity-method subsidiaries to the extent of our ownership in such subsidiaries. Accordingly, our share of the income or losses of these equity-method subsidiaries is included in our consolidated net income.

 

Use of Estimates

 

The preparation of financial statements in conformity with U.S. generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the reporting period. Estimates that are particularly susceptible to significant change in the near-term relate to (1) the estimation of future collections on Portfolio Assets used in the calculation of income from Portfolio Assets; (2) valuation of deferred tax assets and assumptions used in the calculation of income taxes; (3) valuation of servicing assets, investment securities, loans receivable (including loans receivable held in securitization entities) and related allowances for loan losses, real estate, and investments in unconsolidated subsidiaries; (4) guarantee obligations and indemnifications; and (5) legal contingencies. In addition, management has made significant estimates with respect to the valuation of assets, liabilities, non-controlling interests and contingencies attributable to business combinations. These estimates and assumptions are based on management’s best estimates and judgment. Management evaluates its estimates and assumptions on an ongoing basis using historical experience and other factors, including the current economic environment. We adjust such estimates and assumptions when facts and circumstances dictate. The continuance of challenging economic conditions and disruptions in the financial, capital, real estate and foreign currency markets, have combined to increase the uncertainty inherent in such estimates and assumptions. As future events and their effects cannot be determined with precision, actual results could differ significantly from these estimates. Changes in these estimates resulting from continuing changes in the economic environment will be reflected in the financial statements in future periods.

 

Portfolio Assets

 

The Company invests in Portfolio Assets and services and resolves such Portfolio Assets in an effort to maximize the present value of the ultimate cash recoveries. The Portfolio Assets are generally non-homogeneous assets, including loans of varying qualities that are secured by diverse collateral types and real estate. Some Portfolio Assets are loans for which resolution is tied primarily to the real estate securing the loan, while others may be collateralized business loans, the resolution of which may be based on the cash flows of the business or the underlying collateral.

 

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FIRSTCITY FINANCIAL CORPORATION AND SUBSIDIARIES

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

 

The following is a description of the classifications and related accounting policies for the Company’s significant classes of Portfolio Assets:

 

Purchased Credit-Impaired Loans

 

The Company accounts for acquired loans and loan portfolios with evidence of credit deterioration since origination (“Purchased Credit-Impaired Loans”) at fair value on the acquisition date. The amounts paid for Purchased Credit-Impaired Loans reflect the Company’s determination that the loans have experienced deterioration in credit quality since origination and that it is probable the Company will be unable to collect all amounts due according to the contractual terms of the underlying loans. At acquisition, the Company reviews each individual loan to determine whether there is evidence of deterioration of credit quality since origination and if it is probable that the Company will be unable to collect all amounts due according to the loan’s contractual terms. If both conditions exist, the Company determines whether each such loan is to be accounted for individually or whether such loans will be assembled into static pools based on common risk characteristics (primarily loan type and collateral). Static pools of individual loan accounts may be established and accounted for as a single economic unit for the recognition of income, principal payments and loss provision. Once a static loan pool is established, individual accounts are generally not added to or removed from the pool (unless the Company sells, forecloses or writes-off the loan). At acquisition, the Company determines the excess of the scheduled contractual payments over all cash flows expected to be collected for the loan or loan pool as an amount that should not be accreted (“nonaccretable difference”). The excess of the cash flows from the loan or loan pool expected to be collected at acquisition over the initial investment (“accretable difference”) is recognized as interest income over the remaining life of the loan or loan pool on a level-yield basis (“accretable yield”). The discount (i.e. the difference between the cost of each loan or loan pool and the related aggregate contractual receivable balance) is not recorded because the Company does not expect to fully collect each contractual receivable balance. As a result, these loans and loan pools are recorded at cost (which approximates fair value) at the time of acquisition.

 

The Company accounts for Purchased Credit-Impaired Loans using either the interest method or a non-accrual method (through application of the cost-recovery or cash basis method of accounting). Application of the interest method is dependent on management’s ability to develop a reasonable expectation as to both the timing and amount of cash flows expected to be collected. In the event the Company cannot develop or establish a reasonable expectation as to both the timing and amount of cash flows expected to be collected, the Company uses the cost-recovery or cash basis method of accounting.

 

Interest method of accounting.  Under the interest method, an effective interest rate, or IRR, is applied to the cost basis of the loan or loan pool. The excess of the contractual cash flows over expected cash flows cannot be recognized as an adjustment of income or expense or on the balance sheet. The IRR that is calculated when the loan is purchased remains constant as the basis for subsequent impairment testing (performed at least quarterly) and income recognition. Significant increases in actual, or expected future cash flows, are used first to reverse any existing valuation allowance for that loan or loan pool; and any remaining increase may be recognized prospectively through an upward adjustment of the IRR over the remaining life of the loan or loan pool. Any increase to the IRR then becomes the new benchmark for impairment testing and income recognition. Subsequent decreases in projected cash flows do not change the IRR, but are recognized as an impairment of the cost basis of the loan or loan pool (to maintain the then-current IRR), and are reflected in the consolidated statements of earnings through provisions charged to operations, with a corresponding valuation allowance offsetting the loan or loan pool in the consolidated balance sheets. FirstCity establishes valuation allowances for loans and loan pools acquired with credit deterioration to reflect only those losses incurred after acquisition — that is, the cash flows expected at acquisition that are no longer expected to be collected. Income from loans and loan pools accounted for under the interest method is accrued based on the IRR of each loan or loan pool applied to their respective adjusted cost basis. Gross collections in excess of the interest accrual and impairments will reduce the carrying value of the loan or loan pool, while gross collections less than the interest accrual will increase the carrying value. The IRR is calculated based on the timing and amount of anticipated cash flows using the Company’s proprietary collection models.

 

Cost-recovery method of accounting.  If the amount and timing of future cash collections on a loan are not reasonably estimable, the Company accounts for such asset on the cost-recovery method. Under the cost-recovery method, no income is recognized until the Company has fully collected the cost of the loan, or until such time as the Company considers the timing and amount of collections to be reasonably estimable and begins to recognize income based on the interest method as described above. At least quarterly, the Company performs an evaluation to determine if the remaining amount that is probable of collection is less than the carrying value of the loan or loan pool, and if so, recognizes impairment through provisions charged to operations, with a corresponding valuation allowance offsetting the loan or loan pool in the consolidated balance sheets. The carrying value of Purchased Credit-Impaired Loans accounted for under the cost-recovery method approximated $26.8 million at March 31, 2012 and $27.9 million at December 31, 2011.

 

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

 

Cash basis method of accounting.  If only the amount of future cash collections on a loan is reasonably estimable, the Company accounts for such asset on an individual loan basis under the cash basis method of accounting. Under the cash basis method, no income is recognized unless collections are received during the period, or until such time as the Company considers the timing of collections to be reasonably estimable and begins to recognize income based on the interest method as described above. Income is recognized for the difference between the collections and a pro-rata portion of cost on a loan. Cost allocation is based on a proration of actual collections divided by total projected collections on the loan. Significant increases in future cash flows may be recognized prospectively as income over the remaining life of the loan through increased amounts allocated to income when collections are subsequently received. Subsequent decreases in projected cash flows are recognized as impairment of the loan’s cost basis to maintain a constant cost allocation based on initial projections. The Company evaluates the projected cash flows for these loans and loan pools at least quarterly to determine if impairment exists, and if so, recognizes the impairment through provisions charged to operations, with a corresponding valuation allowance offsetting the loan or loan pool in the consolidated balance sheets. Management uses the cash basis method of accounting for such eligible loans primarily due to the increased uncertainty in the timing of future collections (attributable primarily to the borrowers’ inability to obtain financing to refinance the loans). The carrying value of Purchased Credit-Impaired Loans accounted for under the cash basis method approximated $41.6 million and $53.8 million at March 31, 2012 and December 31, 2011, respectively.

 

Troubled debt restructurings (TDRs):  Modified Purchased Credit-Impaired Loans are not removed from a loan pool even if those loans would otherwise be deemed TDRs. Modified Purchased Credit-Impaired Loans that are accounted for on an individual basis are considered TDRs if there has been a concession granted to the borrower and the Company does not expect to recover its recorded investment in the loan. Purchased Credit-Impaired Loans that are classified as TDRs are measured for impairment. See Troubled debt restructurings (TDRs) below for accounting guidance on loan modifications that result in classification as TDRs.

 

Real Estate

 

Real estate Portfolio Assets consist of real estate properties purchased from a variety of sellers or acquired through loan foreclosure. Rental income, net of expenses, is generally recognized when received. The Company accounts for its real estate properties on an individual-asset basis as opposed to a pool basis. The Company classifies a property as held for sale if (1) management commits to a plan to sell the property; (2) the Company actively markets the property in its current condition for a price that is reasonable in comparison to its fair value; and (3) management considers the sale of such property within one year of the balance sheet date to be probable. Real estate held for sale is stated at the lower of cost or fair value less estimated disposition costs. Real estate is not depreciated while it is classified as held for sale. Impairment losses are recorded if a property’s fair value less estimated disposition costs is less than its carrying amount, and charged to operations in the period the impairment is identified.

 

Real estate properties acquired through loan foreclosure are initially recorded at the lower of cost (i.e. the underlying loan’s carrying value) or estimated fair value less disposition costs at the date of foreclosure — establishing a new cost basis. The amount, if any, by which the carrying value of the underlying loan exceeds the property’s fair value less estimated disposition costs at the foreclosure date is charged as a loss against operations. Expenditures for repairs, maintenance, and other holding costs are charged to operations as incurred.

 

Gains on disposition of real estate are recognized upon the sale of the underlying property if the transaction qualifies for gain recognition under the full accrual method, as prescribed by the FASB’s accounting guidance on real estate sales transactions. If the transaction does not meet the criteria for the full accrual method of profit recognition based on our assessment, we account for the sale based on an appropriate deferral method determined by the nature and extent of the buyer’s investment and our continuing involvement.

 

Loans Receivable

 

Loans Held for Sale

 

The portions of U.S. Small Business Administration (“SBA”) loans that are guaranteed by the SBA are classified by management as loans held for sale. These loans are recorded at the lower of aggregate cost or estimated fair value. The fair value of SBA loans held for sale is based primarily on prices that secondary markets are currently offering for loans with similar characteristics. Net unrealized losses, if any, are recognized through a valuation allowance through a charge to income. The carrying value of SBA loans held for sale is net of premiums as well as deferred origination fees and costs. Premiums and net origination fees and costs are deferred and

 

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

 

included in the basis of the loans in calculating gains and losses upon sale. SBA loans are generally secured by the borrowing entities’ assets such as accounts receivable, property and equipment, and other business assets. The Company generally sells the guaranteed portion of each loan to a third-party investor and retains the servicing rights. The Company recognizes gains or losses on these loan sales based on the difference between the sales proceeds received and the allocated carrying value of the loans sold (which included deferred premiums and net origination fees and costs). The non-guaranteed portion of SBA loans is classified as held for investment (discussed below).

 

Loans Held for Investment

 

Loans receivable consisting of loans made to affiliated entities (including Acquisition Partnerships and other equity-method investees) and non-affiliated entities, and the non-guaranteed portions of SBA loans, are classified by management as held for investment. These loans are reported at their outstanding principal balances net of any unearned income, charge-offs, unamortized deferred fees and costs on originated loans, and unamortized premiums or discounts on purchased loans. Loan origination fees and costs, as well as purchase premiums and discounts, are amortized as level-yield adjustments over the respective loan terms. Unamortized net fees, costs, premiums or discounts are recognized upon early repayment or sale of the loan. Repayment of the loans is generally dependent upon future cash flows of the borrowers, future cash flows of the underlying collateral, and distributions made from affiliated entities. Interest is accrued when earned in accordance with the contractual terms of the loans, except for loans on non-accrual status. Interest is recognized on an accrual basis at the applicable interest rate on the principal amount outstanding.

 

The Company has established an allowance for loan losses to absorb probable, estimable losses inherent in its portfolio of loans receivable held for investment. This allowance for loan losses includes specific allowances, based on individual evaluations of certain loans and loan relationships, and allowances for pools of loans with similar risk characteristics. Management’s determination of the adequacy of the allowance is a quarterly process and is based on evaluating the collectibility of the loans in light of various factors, as applicable, such as quality and composition of the loan portfolio segments, estimated future cash receipts of the borrower’s operations or underlying collateral, historical experience, estimated value of underlying collateral, prevailing economic conditions, industry concentrations and conditions, and other relevant factors. This evaluation is inherently subjective as it requires estimates that are susceptible to significant revision as more information becomes available. Actual losses experienced in the future may vary from management’s estimates. Management attributes portions of the allowance to loans that it evaluates and determines to be impaired and to groups of loans that it evaluates collectively.

 

In determining the appropriate level of allowance, management uses information to stratify its portfolio of loans receivable held for investment into loan pools with common risk characteristics. Classes in the affiliated and non-affiliated portfolio asset and commercial loan portfolio segments are generally disaggregated by accrual status (which is generally based on management’s assessment on the probability of default). Classes in the non-guaranteed SBA commercial loan portfolio segment are disaggregated based upon underlying credit quality. Certain portions of the allowance are attributed to loan pools based on various factors and analyses, including but not limited to, current and historical loss experience trends, collateral, region, current economic conditions, and industry concentrations and conditions. Loans deemed to be impaired, including loans with an increased probability of default as determined by management, are evaluated individually rather than on a pool basis as described above. We consider a loan to be impaired when, based on current information and events, we determine it is probable that we will not be able to collect all amounts due according to the loan’s contractual terms (including scheduled interest payments). When management identifies a loan as impaired, we measure the impairment based on discounted future cash flows, except when foreclosure is probable or the source of repayment is the operation or liquidation of the collateral. In these cases, we use the current fair value of the collateral, less estimated selling costs, instead of discounted cash flows. When a loan is determined to be impaired, we cease to accrue interest on the note and interest previously accrued but not collected becomes part of our recorded investment in the loan and is collectively reviewed for impairment. When ultimate collectibility of the impaired note is in doubt, all collections are applied to reduce the principal amount of such notes until the principal has been recovered, and collections thereafter are recognized as interest income. We return a loan to accrual status when we determine that the collectibility of principal and interest is reasonably assured. Impairment losses are charged against an allowance account through provisions charged to operations in the period impairment is identified. Loans are written-off against the allowance when all possible means of collection have been exhausted and the potential for recovery is considered remote.

 

Troubled debt restructurings (TDRs):  In situations where, for economic or legal reasons related to a borrower’s financial difficulties, the Company grants a concession for other than an insignificant period of time to the borrower that would not otherwise be considered, the related loan is classified as a TDR. Modification of loan terms that may be considered a concession to the borrower may include rate reductions, principal forgiveness, term extensions, payment forbearance and other actions intended to minimize our

 

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

 

economic loss and to avoid foreclosure or repossession of the collateral. For modifications where we may forgive loan principal, the entire amount of such principal forgiveness is immediately charged-off. Loans classified as TDRs are considered impaired loans.

 

Accounting for Transfers and Servicing of Financial Assets

 

The Company accounts for transfers of financial assets as sales when control over the transferred assets is surrendered. Control is generally considered to have been surrendered when (1) the transferred assets are legally isolated from the Company or its consolidated affiliates; (2) the transferee has the right to pledge or exchange the assets with no conditions that constrain the transferee and provide more than a trivial benefit to the Company; and (3) the Company does not maintain the obligation or unilateral ability to reclaim or repurchase the assets. If these sale criteria are met, the transferred assets are removed from the Company’s balance sheet and a gain or loss on sale is recognized. If not met, the transfer is recorded as a secured borrowing, and the assets remain on the Company’s balance sheet, the proceeds from the transaction are recognized as a liability, and gain or loss on sale is deferred until the sale criterion are achieved.

 

The Company generally services Portfolio Assets acquired through its investments in Acquisition Partnerships. The Company does not recognize capitalized servicing rights related to its Portfolio Assets owned by the Acquisition Partnerships because (1) servicing is not contractually separated from the underlying assets by sale or securitization of the assets with servicing retained or separate purchase or assumption of the servicing; (2) consideration is not exchanged between the Company and the Acquisition Partnerships for the servicing rights of the acquired Portfolio Assets; (3) the Company has ownership interests in the Acquisition Partnerships that own the Portfolio Assets it services; and (4) the Company does not have the risks and rewards of ownership of servicing rights. The Company services, in all material respects, the Portfolio Assets owned for its own account, the Portfolio Assets owned by the Acquisition Partnerships and, to a very limited extent, certain Portfolio Assets owned by third parties. In connection with the Acquisition Partnerships in the United States, the Company generally earns a servicing fee, which is based on a percentage of gross cash collections generated from the Portfolio Assets. The rate of servicing fee charged is generally a function of the average face value of the assets within each pool being serviced (the larger the average face value of the assets in a Portfolio, the lower the fee percentage within the prescribed range), the type of assets and the level of servicing required for each asset. For the Mexican Acquisition Partnerships, the Company earns a servicing fee based on costs of servicing plus a profit margin. The Acquisition Partnerships in Europe and South America are serviced by various entities in which the Company maintains non-controlling equity interests. In all cases, service fees are recognized when they are earned in accordance with the servicing agreements.

 

The Company has servicing contracts with certain of its Acquisition Partnerships that entitle the Company to receive additional compensation for servicing after a specified return to the investors has been achieved. The Company recognizes revenue related to these contracts when the investors receive the required level of returns specified in the contracts and the Acquisition Partnerships receive cash in an amount greater than the required returns. There is no guarantee that the required level of returns to the investors will be achieved or that any additional compensation to the Company related to the contracts will be realized. The Acquisition Partnerships accrue a liability for these contingent fees provided that payment of the fees is probable and reasonably estimable.

 

In connection with the Company’s SBA lending activities, the Company recognizes servicing assets through the sale of originated or purchased loans when servicing rights are retained. The Company initially recognizes and measures at fair value servicing rights obtained from SBA loan sales and purchased servicing rights. The Company subsequently measures these servicing assets by using the amortization method, which amortizes servicing assets in proportion to, and over the period of, estimated net servicing income. The amortization of the servicing assets is analyzed periodically and is adjusted to reflect changes in prepayment rates and other estimates.

 

(2)  Recently Adopted Accounting Guidance

 

Comprehensive Income Presentation

 

In June 2011, the FASB issued guidance on the presentation of other comprehensive income. This guidance requires entities to present net income and other comprehensive income in either a single continuous statement or in two separate, but consecutive, statements of net income and other comprehensive income. The option to present items of other comprehensive income in the statement of changes in equity was eliminated. In December 2011, the FASB issued updated guidance that defers indefinitely certain requirements from its June 2011 guidance that relate to the presentation of reclassification adjustments out of accumulated other comprehensive income. We adopted this guidance for the quarterly period ended March 31, 2012. The adoption of this guidance did not have a material impact on our consolidated financial statements.

 

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

 

Fair Value Measurements Disclosures

 

In May 2011, the FASB issued guidance clarifying how to measure and disclose fair value. This guidance amends the application of the “highest and best use” concept to be used only in the measurement of fair value of nonfinancial assets, clarifies that the measurement of the fair value of equity-classified financial instruments should be performed from the perspective of a market participant who holds the instrument as an asset, clarifies that an entity that manages a group of financial assets and liabilities on the basis of its net risk exposure can measure those financial instruments on the basis of its net exposure to those risks, and clarifies when premiums and discounts should be taken into account when measuring fair value. This guidance also requires new and enhanced disclosures on the quantification and valuation processes for significant unobservable inputs, transfers between Levels 1 and 2, and the categorization of all fair value measurements into the fair value hierarchy, even where those measurements are only for disclosure purposes. We adopted this guidance for the quarterly period ended March 31, 2012. Since this guidance was disclosure-only in nature, and since the Company’s Level 3 fair value measurements were not significant for the quarterly period ended March 31, 2012, the adoption of this updated guidance did not have a material impact on our financial condition and results of operations. Refer to Note 14 for additional information.

 

(3)  Disposal Groups Held for Sale

 

In the fourth quarter of 2011, the Company determined that it expected to sell or otherwise dispose of its three consolidated Mexican Acquisition Partnerships over the next twelve months. The Company wholly-owns two of these subsidiaries, and holds a majority ownership interest in the other subsidiary. In connection with the Company’s disposal plan and expectations, each subsidiary was determined to be a separate disposal group, and the assets and liabilities of each subsidiary are measured at the lower of their respective carrying amount or estimated fair value (less costs to sell) and classified as “held for sale” on the Company’s consolidated balance sheet.

 

The consolidated assets and liabilities for these Mexican subsidiaries, as measured at the lower of their respective carrying amount or estimated fair value (less costs to sell), have been respectively classified as “Assets held for sale” and “Liabilities associated with assets held for sale” on our consolidated balance sheets. At March 31, 2012 and December 31, 2011, the assets included primarily Portfolio Assets ($5.2 million and $4.8 million, respectively) and an affiliated loan receivable ($5.1 million), and the liabilities included primarily an affiliated note payable ($5.1 million). See Note 16 for additional information related to the affiliated loan receivable and affiliated note payable.

 

(4)  Portfolio Assets

 

Portfolio Assets are summarized as follows:

 

 

 

March 31, 2012

 

 

 

(Dollars in thousands)

 

 

 

Carrying

 

Allowance for

 

Carrying

 

 

 

Value

 

Loan Losses

 

Value, net

 

Loan Portfolios:

 

 

 

 

 

 

 

Purchased Credit-Impaired Loans

 

 

 

 

 

 

 

Domestic:

 

 

 

 

 

 

 

Commercial real estate

 

$

60,484

 

$

510

 

$

59,974

 

Business assets

 

10,004

 

200

 

9,804

 

Other

 

3,540

 

38

 

3,502

 

Latin America - commercial real estate

 

54

 

 

54

 

Europe - commercial real estate

 

4,451

 

 

4,451

 

Other

 

5,270

 

5

 

5,265

 

Total Loan Portfolios

 

$

83,803

 

$

753

 

83,050

 

 

 

 

 

 

 

 

 

Real estate held for sale, net

 

 

 

 

 

16,921

 

 

 

 

 

 

 

 

 

Total Portfolio Assets

 

 

 

 

 

$

99,971

 

 

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

 

 

 

December 31, 2011

 

 

 

(Dollars in thousands)

 

 

 

Carrying

 

Allowance for

 

Carrying

 

 

 

Value

 

Loan Losses

 

Value, net

 

Loan Portfolios:

 

 

 

 

 

 

 

Purchased Credit-Impaired Loans

 

 

 

 

 

 

 

Domestic:

 

 

 

 

 

 

 

Commercial real estate

 

$

73,154

 

$

553

 

$

72,601

 

Business assets

 

10,742

 

185

 

10,557

 

Other

 

3,754

 

38

 

3,716

 

Latin America - commercial real estate

 

50

 

 

50

 

Europe - commercial real estate

 

4,267

 

 

4,267

 

Other

 

5,904

 

5

 

5,899

 

Total Loan Portfolios

 

$

97,871

 

$

781

 

97,090

 

 

 

 

 

 

 

 

 

Real estate held for sale, net

 

 

 

 

 

26,856

 

 

 

 

 

 

 

 

 

Total Portfolio Assets

 

 

 

 

 

$

123,946

 

 

Certain Portfolio Assets are pledged to secure a loan facility with Bank of Scotland and Bank of America (see Note 8). In addition, certain Portfolio Assets are pledged to secure notes payable of certain consolidated affiliates of FirstCity that are generally non-recourse to FirstCity or any affiliate other than the entity that incurred the debt.

 

In March 2012, a real estate property with a carrying value of $6.9 million (owned by a subsidiary under the Company’s Special Situations Platform business segment) was acquired by the creditor holding the mortgage secured by this property in a foreclosure transaction. The Company had the legal right to bring the account into good standing by paying all past due payments; however, the Company believed it would be unable to facilitate a positive cash flow on the property for an extended period of time based on local economic conditions. Management further believed that the property’s liquidation value was less than the debt obligation securing the property. Upon acquisition of the real estate property by the creditor and legal release from the obligation, the Company de-recognized the related non-recourse debt obligation from its consolidated balance sheet (see Note 8). This non-cash activity did not have a material impact on the Company’s results of operations for the three-month period ended March 31, 2012.

 

Income from Portfolio Assets is summarized as follows:

 

 

 

Three Months Ended

 

 

 

March 31,

 

 

 

2012

 

2011

 

 

 

(Dollars in thousands)

 

Loan Portfolios:

 

 

 

 

 

Purchased Credit-Impaired Loans

 

$

7,575

 

$

12,327

 

Purchased performing loans

 

71

 

92

 

UBN

 

 

87

 

Other

 

35

 

54

 

Real Estate Portfolios

 

824

 

280

 

Income from Portfolio Assets

 

$

8,505

 

$

12,840

 

 

Accretable yield represents the amount of income the Company can expect to generate over the remaining life of its existing income-accruing Purchased Credit-Impaired Loans based on estimated future cash flows as of March 31, 2012 and 2011, respectively. Reclassifications from nonaccretable difference to accretable yield primarily result from the Company’s increase in its estimates of future cash flows on Purchased Credit-Impaired Loans, whereas reclassifications to nonaccretable difference from accretable yield primarily result from the Company’s decrease in its estimates of future cash flows on these loans. Transfers from (to) non-accrual primarily result from adjustments to the income-recognition method applied to Purchased Credit-Impaired Loans based on management’s ability to reasonably estimate both the timing and amount of future cash flows (see Note 1). Changes in accretable yield related to the Company’s Purchased Credit-Impaired Loans for the three-month periods ended March 31, 2012 and 2011 are as follows:

 

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

 

 

 

Three Months Ended

 

 

 

March 31,

 

 

 

2012

 

2011

 

 

 

(Dollars in thousands)

 

Beginning Balance

 

$

4,732

 

$

1,380

 

Accretion

 

(347

)

(1,531

)

Reclassification from nonaccretable difference

 

18

 

226

 

Disposals

 

(25

)

(1,382

)

Transfer from non-accrual

 

 

21,273

 

Translation adjustments

 

 

14

 

Ending Balance

 

$

4,378

 

$

19,980

 

 

Acquisitions of Purchased Credit-Impaired Loans for the three-month periods ended March 31, 2012 and 2011, respectively, are summarized in the table below:

 

 

 

Three Months Ended

 

 

 

March 31,

 

 

 

2012

 

2011

 

 

 

(Dollars in thousands)

 

Face value at acquisition

 

$

5,205

 

$

4,137

 

Cash flows expected to be collected at acquisition, net of adjustments

 

1,699

 

4,210

 

Basis in acquired loans at acquisition

 

382

 

3,104

 

 

During the three-month period ended March 31, 2012, the Company sold loan Portfolio Assets with an aggregate carrying value of $8.4 million. The Company sold loan Portfolio Assets with an aggregate carrying value of $24.5 million during the three-month period ended March 31, 2011 — which included $21.9 million of loans (plus real estate and certain other assets) that were sold to a European securitization entity (formed by an affiliate of Värde) in February 2011. FirstCity has a non-controlling beneficial interest in this securitization entity, and accounts for this investment as an available-for-sale security.

 

For the three-month period ended March 31, 2012, the Company recorded provisions for loan and impairment losses, net of recoveries, through a charge to income of $0.2 million — which was comprised of a $0.1 million provision for loan losses, net of recoveries, and a $0.1 million impairment charge on real estate portfolios. For the three-month period ended March 31, 2011, the Company recorded provisions for loan and impairment losses, net of recoveries, by a charge to income of $0.5 million — which was comprised of a $0.4 million provision for loan losses, net of recoveries, and a $0.1 million impairment charge on real estate portfolios.

 

Changes in the allowance for loan losses related to our loan Portfolio Assets for the three-month period ended March 31, 2012, are as follows:

 

 

 

Purchased Credit-Impaired Loans

 

Other

 

 

 

 

 

Domestic

 

Latin America

 

Europe

 

 

 

 

 

 

 

 

 

Commercial

 

Business

 

 

 

Commercial

 

Commercial

 

 

 

 

 

(dollars in thousands)

 

Real Estate

 

Assets

 

Other

 

Real Estate

 

Real Estate

 

UBN (1)

 

Other

 

Total

 

Beginning balance, January 1, 2012

 

$

553

 

$

185

 

$

38

 

$

 

$

 

$

 

$

5

 

$

781

 

Provisions

 

128

 

62

 

5

 

 

 

 

 

195

 

Recoveries

 

 

(44

)

 

 

 

 

 

(44

)

Charge offs

 

(171

)

(3

)

(5

)

 

 

 

 

(179

)

Translation adjustments

 

 

 

 

 

 

 

 

 

Ending balance, March 31, 2012

 

$

510

 

$

200

 

$

38

 

$

 

$

 

$

 

$

5

 

$

753

 

 


(1)  The Company sold the underlying UBN loan portfolio in November 2011.

 

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FIRSTCITY FINANCIAL CORPORATION AND SUBSIDIARIES

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

 

Changes in the allowance for loan losses related to our loan Portfolio Assets for the three-month period ended March 31, 2011, are as follows:

 

 

 

Purchased Credit-Impaired Loans

 

Other

 

 

 

 

 

Domestic

 

Latin America

 

Europe

 

 

 

 

 

 

 

 

 

Commercial

 

Business

 

 

 

Commercial

 

Commercial

 

 

 

 

 

 

 

(dollars in thousands)

 

Real Estate

 

Assets

 

Other

 

Real Estate

 

Real Estate

 

UBN

 

Other

 

Total

 

Beginning balance, January 1, 2011

 

$

354

 

$

252

 

$

90

 

$

260

 

$

866

 

$

43,291

 

$

49

 

$

45,162

 

Provisions

 

236

 

147

 

 

17

 

 

 

 

400

 

Recoveries

 

(13

)

 

 

 

 

(34

)

 

(47

)

Charge offs

 

(155

)

(155

)

 

 

(856

)

 

 

(1,166

)

Translation adjustments

 

 

 

 

10

 

40

 

1,827

 

 

1,877

 

Ending balance, March 31, 2011

 

$

422

 

$

244

 

$

90

 

$

287

 

$

50

 

$

45,084

 

$

49

 

$

46,226

 

 

The following table presents our recorded investment in loan Portfolio Assets by credit quality indicator. Our loan Portfolio Assets, which are primarily comprised of Purchased Credit-Impaired Loans, are categorized by credit quality indicators based on the common risk characteristics that management generally uses for pooling purposes (when management elects to pool purchased loans).

 

 

 

March 31,

 

December 31,

 

 

 

2012

 

2011

 

 

 

(Dollars in thousands)

 

Commercial real estate

 

$

64,479

 

$

76,918

 

Business assets

 

9,804

 

10,557

 

Other commercial

 

8,767

 

9,615

 

 

 

$

83,050

 

$

97,090

 

 

(5)  Loans Receivable

 

The following is a composition of the Company’s loans receivable by loan type and region:  

 

 

 

March 31,

 

December 31,

 

 

 

2012

 

2011

 

 

 

(Dollars in thousands)

 

Domestic:

 

 

 

 

 

Commercial loans:

 

 

 

 

 

Affiliates

 

$

6,677

 

$

6,719

 

SBA, net of allowance for loan losses of $441 and $333, respectively

 

22,649

 

26,765

 

Other, net of allowance for loan losses of $1,083 and $1,083, respectively

 

10,129

 

12,212

 

 

 

 

 

 

 

Total loans, net

 

$

39,455

 

$

45,696

 

 

Loans receivable — SBA held for sale

 

Loans receivable — SBA held for sale are summarized as follows:

 

 

 

March 31,

 

December 31,

 

 

 

2012

 

2011

 

 

 

(Dollars in thousands)

 

Outstanding balance

 

$

3,212

 

$

7,483

 

Capitalized costs, net of fees

 

48

 

131

 

Carrying amount of loans, net

 

$

3,260

 

$

7,614

 

 

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FIRSTCITY FINANCIAL CORPORATION AND SUBSIDIARIES

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

 

Changes in loans receivable — SBA held for sale are as follows:

 

 

 

Three Months Ended

 

 

 

March 31,

 

 

 

2012

 

2011

 

 

 

(Dollars in thousands)

 

Beginning Balance

 

$

7,614

 

$

11,608

 

Originations and advances of loans

 

2,825

 

5,939

 

Payments received

 

(21

)

(27

)

Capitalized costs

 

(82

)

(49

)

Loans sold and transferred

 

(7,076

)

(9,702

)

Ending Balance

 

$

3,260

 

$

7,769

 

 

Loans receivable — SBA held for sale represent the portions of SBA loans originated or acquired by the Company that are guaranteed by the SBA. These loans are generally secured by assets such as accounts receivable, property and equipment, and other business assets. The Company did not record any write-downs of SBA loans held for sale below their cost for the three-month periods ended March 31, 2012 and 2011.

 

Loans receivable — affiliates

 

Loans receivable — affiliates, which are designated by management as held for investment, are summarized as follows:

 

 

 

March 31,

 

December 31,

 

 

 

2012

 

2011

 

 

 

(Dollars in thousands)

 

Outstanding balance

 

$

6,390

 

$

6,518

 

Discounts, net

 

(37

)

(59

)

Capitalized interest

 

324

 

260

 

Carrying amount of loans, net

 

$

6,677

 

$

6,719

 

 

A summary of activity in loans receivable — affiliates follows:

 

 

 

Three Months Ended

 

 

 

March 31,

 

 

 

2012

 

2011

 

 

 

(Dollars in thousands)

 

Beginning Balance

 

$

6,719

 

$

16,781

 

Advances

 

 

700

 

Payments received

 

(128

)

(430

)

Capitalized costs

 

64

 

(132

)

Discount accretion, net

 

22

 

22

 

Loan transfer (1)

 

 

(1,402

)

Foreign exchange gains

 

 

97

 

Ending Balance

 

$

6,677

 

$

15,636

 

 


(1)          Represents the sale and transfer of a loan to an affiliated entity as partial consideration for the repayment of a note payable to that affiliated entity.

 

Loans receivable — affiliates represent advances to Acquisition Partnerships and other affiliates to acquire portfolios of under-performing and non-performing commercial and consumer loans and other assets; and senior debt financing arrangements with equity-method investees to provide capital for business expansion and operations. Advances to affiliates to acquire loan portfolios are secured by the underlying collateral of the individual notes within the portfolios, which is generally real estate; whereas advances to affiliates

 

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FIRSTCITY FINANCIAL CORPORATION AND SUBSIDIARIES

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

 

for capital investments and working capital are generally secured by business assets (i.e. accounts receivable, inventory and equipment).

 

The Company did not record any provisions for impairment during the three-month periods ended March 31, 2012 and 2011. During the three-month period ended March 31, 2011, the Company sold an affiliated loan with a carrying value of $1.4 million. The Company did not sell any affiliated loans during the three-month period ended March 31, 2012. Information related to the credit quality and loan loss allowances related to loans receivable — affiliates is presented under the heading “Credit Quality and Allowance for Loan Losses — Loans Held for Investment” below.

 

Loans receivable — SBA held for investment, net

 

Loans receivable — SBA held for investment are summarized as follows:

 

 

 

March 31,

 

December 31,

 

 

 

2012

 

2011

 

 

 

(Dollars in thousands)

 

Outstanding balance

 

$

20,943

 

$

20,503

 

Allowance for loan losses

 

(441

)

(333

)

Discounts, net

 

(1,423

)

(1,292

)

Capitalized costs

 

310

 

273

 

Carrying amount of loans, net

 

$

19,389

 

$

19,151

 

 

Changes in loans receivable — SBA held for investment are as follows:

 

 

 

Three Months Ended

 

 

 

March 31,

 

 

 

2012

 

2011

 

 

 

(Dollars in thousands)

 

Beginning Balance

 

$

19,151

 

$

15,415

 

Originations and advances of loans

 

942

 

680

 

Payments received

 

(358

)

(333

)

Capitalized costs

 

37

 

24

 

Change in allowance for loan losses

 

(108

)

(58

)

Discount accretion, net

 

(138

)

(68

)

Charge-offs

 

(137

)

(86

)

Ending Balance

 

$

19,389

 

$

15,574

 

 

Loans receivable — SBA held for investment represent the non-guaranteed portion of SBA loans purchased or originated by the Company. These loans are secured by assets such as accounts receivable, property and equipment, and other business assets. The Company recorded net impairment provisions on SBA loans held for investment of $0.2 million for the three-month period ended March 31, 2012. The impairment provision recorded by the Company for the three-month period ended March 31, 2011 was $0.1 million. Information related to the credit quality and loan loss allowances related to SBA loans held for investment is presented under the heading “Credit Quality and Allowance for Loan Losses — Loans Held for Investment” below.

 

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

 

Loans receivable — other

 

Loans receivable — other, which are designated by management as held for investment, are summarized as follows:

 

 

 

March 31,

 

December 31,

 

 

 

2012

 

2011

 

 

 

(Dollars in thousands)

 

Outstanding balance

 

$

11,457

 

$

13,541

 

Allowance for loan losses

 

(1,083

)

(1,083

)

Capitalized interest and costs

 

(245

)

(246

)

Carrying amount of loans, net

 

$

10,129

 

$

12,212

 

 

Changes in loans receivable — other are as follows:

 

 

 

Three Months Ended

 

 

 

March 31,

 

 

 

2012

 

2011

 

 

 

(Dollars in thousands)

 

Beginning Balance

 

$

12,212

 

$

13,011

 

Advances

 

379

 

679

 

Payments received

 

(2,462

)

(748

)

Capitalized interest and costs

 

 

50

 

Discount accretion, net

 

 

11

 

Ending Balance

 

$

10,129

 

$

13,003

 

 

Loans receivable — other include loans made to non-affiliated entities and are secured by assets such as accounts receivable, inventory, property and equipment, real estate and various other assets. The Company did not record any provisions for impairment for the three-month periods ended March 31, 2012 and 2011. Information related to the credit quality and loan loss allowances related to loans receivable — other is presented under the heading “Credit Quality and Allowance for Loan Losses — Loans Held for Investment” below.

 

Credit Quality and Allowance for Loan Losses — Loans Held for Investment

 

The Company has established an allowance for loan losses to absorb probable, estimable losses inherent in its portfolio of loans receivable held for investment. This allowance for loan losses includes specific allowances, based on individual evaluations of certain loans and loan relationships, and allowances for pools of loans with similar risk characteristics. In determining the appropriate level of allowance, management uses information to stratify its portfolio of loans receivable held for investment into loan pools with common risk characteristics. Certain portions of the allowance are attributed to loan pools based on various factors and analyses. Loans deemed to be impaired, including loans with an increased probability of default as determined by management, are evaluated individually rather than on a pool basis. Management’s determination of the adequacy of the allowance is inherently subjective as it requires estimates that are susceptible to significant revision as more information becomes available. Actual losses experienced in the future may vary from management’s estimates. Management attributes portions of the allowance to loans that it evaluates and determines to be impaired and to groups of loans that it evaluates collectively.

 

The following tables summarizes the activity in the allowance for loan losses by our portfolio of loans held for investment for the three-month periods ended March 31, 2012 and 2011:

 

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FIRSTCITY FINANCIAL CORPORATION AND SUBSIDIARIES

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

 

 

 

Allowance for Loan Losses:

 

(Dollars in thousands)

 

SBA held for
investment

 

Affiliates

 

Other

 

Total

 

Balance, January 1, 2012

 

$

333

 

$

 

$

1,083

 

$

1,416

 

Provisions

 

251

 

 

 

251

 

Recoveries

 

(5

)

 

 

(5

)

Charge-offs

 

(138

)

 

 

(138

)

Balance, March 31, 2012

 

$

441

 

$

 

$

1,083

 

$

1,524

 

 

 

 

 

 

 

 

 

 

 

Balance, January 1, 2011

 

$

365

 

$

 

$

1,083

 

$

1,448

 

Provisions

 

153

 

 

 

153

 

Recoveries

 

(9

)

 

 

(9

)

Charge-offs

 

(86

)

 

 

(86

)

Balance, March 31, 2011

 

$

423

 

$

 

$

1,083

 

$

1,506

 

 

The following table presents an analysis of the allowance for loan losses and recorded investment in loans (excluding loans held for sale):

 

 

 

Commercial Loans:

 

 

 

(Dollars in thousands)

 

SBA

 

Affiliates

 

Other

 

Total

 

March 31, 2012:

 

 

 

 

 

 

 

 

 

Loans individually evaluated for impairment

 

$

703

 

$

6,677

 

$

11,212

 

$

18,592

 

Loans collectively evaluated for impairment

 

19,127

 

 

 

19,127

 

Total loans evaluated for impairment (excluding loans held for sale)

 

$

19,830

 

$

6,677

 

$

11,212

 

$

37,719

 

 

 

 

 

 

 

 

 

 

 

Allowance for loans individually evaluated for impairment

 

$

321

 

$

 

$

1,083

 

$

1,404

 

Allowance for loans collectively evaluated for impairment

 

120

 

 

 

120

 

Total allowance for loan losses

 

$

441

 

$

 

$

1,083

 

$

1,524

 

 

 

 

 

 

 

 

 

 

 

December 31, 2011:

 

 

 

 

 

 

 

 

 

Loans individually evaluated for impairment

 

$

404

 

$

6,719

 

$

13,295

 

$

20,418

 

Loans collectively evaluated for impairment

 

19,080

 

 

 

19,080

 

Total loans evaluated for impairment (excluding loans held for sale)

 

$

19,484

 

$

6,719

 

$

13,295

 

$

39,498

 

 

 

 

 

 

 

 

 

 

 

Allowance for loans individually evaluated for impairment

 

$

308

 

$

 

$

1,083

 

$

1,391

 

Allowance for loans collectively evaluated for impairment

 

25

 

 

 

25

 

Total allowance for loan losses

 

$

333

 

$

 

$

1,083

 

$

1,416

 

 

The following tables present our recorded investment in loans (excluding loans held for sale) by credit quality indicator as of March 31, 2012 and December 31, 2011. SBA commercial loans are detailed by categories related to underlying credit quality and are defined below:

 

·                  Pass — Includes all loans not included in categories of special mention, substandard or doubtful.

 

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NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

 

·                  Special Mention — Loans that have potential weaknesses which may, if not reversed or corrected, weaken the credit or inadequately protect the Company’s position at some future date. Loans in this category may also be subject to economic or market conditions which may, in the future, have an adverse effect on the borrower’s debt service ability.

·                  Substandard — Loans that exhibit a well-defined weakness, or weaknesses, which presently jeopardizes debt repayment, even though they may be currently performing. These loans are characterized by the distinct possibility that the Company may incur a loss in the future if these weaknesses are not corrected.

·                  Doubtful — Loans for which management has determined that full collection of principal or interest is in doubt.

 

Classes in the affiliated and non-affiliated portfolio asset and commercial loan portfolios are disaggregated by accrual status (which is generally based on management’s assessment on the probability of default).

 

 

 

 

 

Special

 

 

 

 

 

 

 

(Dollars in thousands)

 

Pass

 

Mention

 

Substandard

 

Doubtful

 

Total

 

March 31, 2012:

 

 

 

 

 

 

 

 

 

 

 

SBA - commercial loans

 

$

15,714

 

$

3,314

 

$

372

 

$

430

 

$

19,830

 

 

 

 

Accrual

 

 

 

Non-Accrual

 

 

 

Total

 

Affiliates - commercial loans

 

$

6,677

 

 

 

$

 

 

 

$

6,677

 

Other - commercial loans

 

2,529

 

 

 

8,683

 

 

 

11,212

 

 

 

$

9,206

 

 

 

$

8,683

 

 

 

$

17,889

 

 

 

 

 

 

 

 

 

 

 

 

 

Total loans (excluding loans held for sale)

 

 

 

 

 

 

 

 

 

$

37,719

 

 

 

 

 

 

Special

 

 

 

 

 

 

 

 

 

Pass

 

Mention

 

Substandard

 

Doubtful

 

Total

 

December 31, 2011:

 

 

 

 

 

 

 

 

 

 

 

SBA - commercial loans

 

$

15,325

 

$

3,648

 

$

107

 

$

404

 

$

19,484

 

 

 

 

Accrual

 

 

 

Non-Accrual

 

 

 

Total

 

Affiliates - commercial loans

 

$

6,719

 

 

 

$

 

 

 

$

6,719

 

Other - commercial loans

 

4,398

 

 

 

8,897

 

 

 

13,295

 

 

 

$

11,117

 

 

 

$

8,897

 

 

 

$

20,014

 

 

 

 

 

 

 

 

 

 

 

 

 

Total loans (excluding loans held for sale)

 

 

 

 

 

 

 

 

 

$

39,498

 

 

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Table of Contents

 

FIRSTCITY FINANCIAL CORPORATION AND SUBSIDIARIES

 

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (Unaudited)

 

The following tables include an aging analysis of our recorded investment in loans held for investment as of March 31, 2012 and December 31, 2011:

 

 

 

Loans Past Due and Still Accruing