The Company's home warranty subsidiary owns 1.7 acres of land in Van Nuys, California, which contains a 20,000-square-foot office building, a 7,000- square-foot warehouse and a parking lot.
The selected consolidated financial data for the Company for the five-year period ended December 31, 2000, has been derived from the audited Consolidated Financial Statements. The selected consolidated financial data should be read in conjunction with the Consolidated Financial Statements and Notes thereto, "Item 1 - -Business--Acquisitions," and "
Certain statements made in this document, including those relating to cost savings derived from a reorganization in the Company's title insurance operations, margins in certain of the Company's businesses, the benefits and results from certain acquisitions and joint ventures, the impact of the restructuring of the Company's pension plan, the Company's ability to meet its cash obligations, the sufficiency of the Company's resources to meet its cash needs, pursue future opportunities and certain prospective statements, not of a historical nature, are forward looking. Risks and uncertainties exist that may cause results to differ materially from those set forth in these forward- looking statements. Factors that could cause the anticipated results to differ from those described in the forward-looking statements include: interest rate fluctuations; changes in the performance of the real estate markets; general volatility in the capital markets; changes in the performance of the real estate markets; general volatility in the capital markets; changes in applicable government regulations; consolidation among the Company's significant customers and competitors; legal proceedings commenced by the California attorney general and related litigation; the Company's continued ability to identify businesses to be acquired; and changes in the Company's ability to integrate businesses which it acquires. The forward-looking statements speak only as of the date they are made. The Company does not undertake to update forward-looking statements to reflect circumstances or events that occur after the date the forward-looking statements are made.
Overview--The majority of the revenues for the Company's title insurance and real estate information segments depend, in large part, upon the level of real estate activity and the cost and availability of mortgage funds. Revenues for these segments result primarily from resales and refinancings of residential real estate and, to a lesser extent, from commercial transactions and the construction and sale of new housing. The majority of the revenues for the Company's consumer information segment are isolated from the volatility of real estate transactions. Traditionally, the greatest volume of real estate activity, particularly residential resale, has occurred in the spring and summer months. However, changes in interest rates, as well as other economic factors, can cause fluctuations in the traditional pattern of real estate activity.
The favorable conditions present throughout 1998 continued into 1999, resulting in record-setting revenues for the first half of the year. However, commencing in the second quarter of 1999, new orders began to soften as rising interest rates led to a significant decline in refinance transactions, although residential resale and commercial activity remained relatively strong. During the second half of 1999, the trend of higher interest rates continued. New orders, including residential resale orders, continued to decline. This, coupled with fourth quarter seasonal factors, led to a decrease in operating revenues for the fourth quarter of 1999 and resulted in a low inventory of open orders going into the first quarter of 2000. The Company instituted personnel reductions and other cost-containment programs during the latter part of 1999; however, because of separation costs, the benefits of these programs were not fully realized in 1999.
Consumer information operating revenues increased 22.1% in 2000 over 1999 and 19.2% in 1999 over 1998. These increases were primarily attributable to an increased awareness and acceptance of this business segment's products, increased market share and acquisition activity. Operating revenues of $15.0 million and $8.1 million were contributed by new acquisitions in 2000 and 1999, respectively.
Real estate information personnel expenses stayed constant in 2000 when compared with 1999 primarily as a result of staff reductions and the restructuring of the Company's principal pension plan, offset by $15.1 million of personnel costs associated with new acquisitions. The restructuring of the Company's pension plan reduced personnel expenses in 2000 by $3.0 million when compared with 1999. Real estate information personnel expenses increased 4.7% in 1999 over 1998. This increase was primarily attributable to $7.6 million of personnel costs associated with new acquisitions and costs incurred in connection with Y2K. Impacting personnel expenses for both 2000 and 1999 were higher overhead costs attributable to the integration of new acquisitions and costs associated with in-house development of new electronic communication delivery systems for information-based products to interface with customer needs.
Other operating expenses--A summary by segment of the Company's other operating expenses is as follows:
Title insurance other operating expenses (principally direct operations) increased 11.2% in 2000 over 1999 and 6.6% in 1999 over 1998. The increase in 2000 over 1999 was primarily due to $19.7 million of costs associated with new acquisitions and $15.2 million of lease expense related to a sale-leaseback agreement entered into in December 1999. The increase in 1999 over 1998 was primarily due to $9.7 million of costs associated with new acquisitions, Y2K expenses of $5.8 million, a $2.5 million charge resulting from a previously announced fine imposed by the California insurance commissioner and approximately $2.0 million in impaired asset write-offs. Contributing to the increases for both years were general price-level increases, offset in part by the results of the Company's cost-containment programs.
Consumer information other operating expenses increased 12.3% in 2000 over 1999 and 41.7% in 1999 over 1998. These increases were primarily attributable to costs incurred servicing the increased business volume, as well as acquisition activity. Other operating expenses associated with new acquisitions were $4.1 million in 2000 and $3.3 million in 1999.
Depreciation and amortization--Depreciation and amortization, as well as capital expenditures, are summarized in Note 19 to the consolidated financial statements.
Premium taxes--A summary by pertinent segment of the Company's premium taxes is as follows:
Insurers are generally not subject to state income or franchise taxes. However, in lieu thereof, a "premium" tax is imposed on certain operating revenues, as defined by statute. Tax rates and bases vary from state to state; accordingly, the total premium tax burden is dependent upon the geographical mix of operating revenues. The Company's underwritten title company (noninsurance) subsidiaries are subject to state income tax and do not pay premium tax. Accordingly, the Company's total tax burden at the state level is composed of a combination of premium taxes and state income taxes. Premium taxes attributable to title insurance operations, as a percentage of title insurance operating revenues, were approximately 1.0% for the three-year period ended December 31, 2000.
Interest--Interest expense increased 46.4% in 2000 over 1999 and decreased 8.9% in 1999 over 1998. The increase in 2000 over 1999 was primarily due to interest expense associated with debt incurred in connection with company acquisitions. The decrease in 1999 from 1998 was primarily due to $2.5 million of capitalized interest expense related to the development of internal-use software and the construction of the Company's new corporate headquarters, offset in part by increased interest expense associated with debt incurred in connection with company acquisitions.
The Company's title insurance profit margins vary according to a number of factors, including the volume, composition (residential or commercial) and type (resale, refinancing or new construction) of real estate activity. For example, commercial transactions tend to generate higher revenues and greater profit margins than residential transactions. Further, profit margins from refinancing activities are lower than those from resale activities because in many states there are premium discounts on, and cancellation rates are higher for, refinancing transactions. Cancellations of title orders adversely affect profits because costs are incurred in opening and processing such orders but revenues are not generated. Also, the Company's direct title insurance business has significant fixed costs in addition to its variable costs. Accordingly, profit margins from the Company's direct title insurance business improve as the volume of title orders closed increases. Title insurance profit margins are also affected by the percentage of operating revenues generated by agency operations. Profit margins from direct operations are generally higher than from agency operations due primarily to the large portion of the premium that is retained by the agent. Real estate information profits are generally unaffected by the type of real estate activity but increase as the volume of residential real estate loan transactions increases. Consumer information profits increase as the volume of transactions increases and are not affected by volatility of real estate transactions. In general, the title insurance business is a lower-margin business when compared with the Company's other segments. The lower margins reflect the high fixed cost of producing title evidence, whereas the corresponding revenues are subject to regulatory and competitive pricing constraints.
The First American Corporation (the Company), through its subsidiaries, is engaged in the business of providing business information and related products and services. The Company's three primary business segments are title insurance and services, real estate information and services and consumer information and services. The title insurance segment issues residential and commercial title insurance policies, provides escrow services, equity loan services, tax-deferred exchanges and other related products. The real estate information segment provides tax monitoring, mortgage credit reporting, property data services, flood certification, database services, default management services, field inspection services, appraisal services, mortgage loan servicing systems, mortgage document preparation and other real-estate related services. The consumer information segment provides home warranties, property and casualty insurance, resident screening, pre-employment screening, specialized credit reporting, automotive insurance tracking, investment advisory and trust and thrift services.
The consolidated financial statements include the accounts of The First American Corporation and all majority-owned subsidiaries. All significant intercompany transactions and balances have been eliminated. Certain 1999 amounts have been reclassified to conform with the 2000 presentation.
Equity securities are carried at fair value and consist primarily of investments in marketable common stocks of corporate entities in which the Company's ownership does not exceed 20.0%.
Furniture and equipment includes computer software acquired and developed for internal use and for use with the Company's products. Software development costs are capitalized from the time technological feasibility is established until the software is ready for use.
In connection with settlement of title insurance and other claims, the Company sometimes purchases mortgages, deeds of trust, real property or judgment liens. These assets, sometimes referred to as "salvage assets," are carried at the lower of cost or fair value less costs to sell.
To the extent that the undiscounted cash flows related to the businesses underlying the goodwill are less than the carrying value of the related goodwill, such goodwill will be reduced to the amount of the undiscounted cash flows.
Consumer Information -- Revenues from home warranty contracts are recognized ratably over the 12-month duration of the contracts. Revenues from property and casualty insurance policies are recognized ratably over the 12- month duration of the policies. Interest on loans with the Company's thrift subsidiary is recognized on the outstanding principal balance on the accrual basis. Loan origination fees and related direct loan origination costs are deferred and recognized over the life of the loan. Revenues earned by the other products in the consumer information segment are recognized at the time of delivery, as the Company has no significant ongoing obligation after delivery.
The Company's potential dilutive common shares are stock options and convertible debt (see Notes 12 and 8, respectively, to the consolidated financial statements). Stock options are reflected in diluted earnings per share by application of the treasury-stock method and convertible debt is reflected in diluted earnings per share by application of the if-converted method. Certain of the stock options and all of the convertible debt are antidilutive and have been excluded when calculating diluted earnings per share. The dilutive effect of stock options was 2,370,000, 1,682,000 and 2,526,000 for the three years ended December 31, 2000, 1999 and 1998, respectively.
Investments carried at $16.1 million were on deposit with state treasurers in accordance with statutory requirements for the protection of policyholders at December 31, 2000.
The Company's title insurance subsidiary, First American Title Insurance Company, maintained statutory capital and surplus of $406.8 million and $394.2 million at December 31, 2000 and 1999, respectively. Statutory
The National Association of Insurance Commissioners (NAIC) has established some new statutory accounting practices, which became effective January 1, 2001. Adoption of the new practices will not have a material impact on the Company's statutory financial condition or results of operations.
The fair value of loans receivable was $94.6 million and $87.7 million at December 31, 2000 and 1999, respectively, and was estimated based on the discounted value of the future cash flows using the current rates being offered for loans with similar terms to borrowers of similar credit quality.
The aggregate annual maturities for loans receivable in each of the five years after December 31, 2000, are as follows:
The above amounts are net of valuation reserves of $1.0 million and $4.9 million at December 31, 2000 and 1999, respectively.
The fair value of notes receivable was $12.3 million and $11.1 million at December 31, 2000 and 1999, respectively, and was estimated based on the discounted value of future cash flows using the current rates at which similar loans would be made to borrowers of similar credit quality.
The aggregate annual maturities for notes and contracts payable in each of the five years after December 31, 2000, are as follows:
For the year 2000, foreign and domestic pretax (loss) income from continuing operation was $(0.3) million and $136.6 million, respectively.
The exercise of stock options represents a tax benefit and has been reflected as a reduction of taxes payable and an increase to the additional paid-in capital account. The benefits recorded were $1.0 million, $0.7 million and zero for the years ended December 31, 2000, 1999 and 1998, respectively.
The primary components of temporary differences that give rise to the Company's net deferred tax asset are as follows:
The Company has pension and other retirement benefit plans covering substantially all employees. The Company's principal pension plan is a noncontributory, qualified, defined benefit plan with benefits based on the employee's years of service and the highest five consecutive years' compensation during the last ten years of employment. The Company's policy is to fund all accrued pension costs. Contributions are intended to provide not only for benefits attributable to past service, but also for those benefits expected to be earned in the future. The Company also has nonqualified, unfunded supplemental benefit plans covering certain key management personnel. Benefits under these plans are intended to be funded with proceeds from life insurance policies purchased by the Company on the lives of the executives. In December 2000, the Company amended its principal pension plan and certain other retirement plans. The primary impact of the amendment is to reduce future benefits accrued by employees by limiting credit for pay increases through December 31, 2001, and by limiting credit for years of service through December 31, 2005. As a result of amending the plans, the Company reduced its current-year pension expense by $5.0 million, recognized a one-time benefit of $34.3 million and will record reduced employee benefit expense in subsequent years.
A reconciliation of benefit obligations, plan assets and funded status of the plans is as follows:
2000 and 1999. The majority of pension plan assets are invested in U.S. government securities, time deposits and common stocks with a projected long- term rate of return of 10.0% at December 31, 2000 and 1999.
The Company also has a Stock Bonus Plan (the Plan) for key employees pursuant to which 21,000, 154,000 and 186,000 common shares were issued in 2000, 1999 and 1998, respectively, resulting in a charge to operations of $0.2 million, $3.4 million and $2.7 million, respectively. The Plan, as amended December 9, 1992, provides that a total of up to 1,350,000 common shares may be awarded in any one year.
On April 24, 1996, the Company implemented The First American Corporation 1996 Stock Option Plan (the Stock Option Plan). Under the Stock Option Plan, options are granted to certain employees to purchase the Company's common stock at a price no less than the market value of the shares on the date of the grant. The maximum number of shares that may be subject to options is 11,625,000. Currently outstanding options become exercisable one to five years, and expire ten years, from the grant date. On April 24, 1997, the Company implemented The First American Corporation 1997 Directors' Stock Plan (the Directors' Plan). The Directors' Plan is similar to the employees' Stock Option Plan, except that the maximum number of shares that may be subject to options is 1,800,000 and the maximum number of shares that may be purchased pursuant to options granted shall not exceed 6,750 shares during any twelve- consecutive-month period.
Stock options outstanding and exercisable at December 31, 2000, are summarized as follows:
lease. Under the agreements, the Company's subsidiary and the Company agreed to lease the equipment for three to five years with minimum annual lease payments of $5.0 million and $15.2 million, respectively. At the end of the term of the lease, the Company has the option to acquire the equipment or return it to the lessor.
Future minimum rental payments under operating leases that have initial or remaining noncancelable lease terms in excess of one year as of December 31, 2000, are as follows:
In December 1999, the Company announced plans to repurchase up to 5.0% of its then issued and outstanding shares. The amount of any share repurchases will depend on, among other factors, the market performance of the shares; the availability of, and alternate uses of, the Company's funds; and Securities and Exchange Commission regulations. Pursuant to the terms of the repurchase program, the Company had repurchased and retired 1,754,000 of its issued and outstanding shares as of December 31, 2000.
On October 23, 1997, the Company adopted a Shareholder Rights Plan (the Rights Plan). Under the Rights Plan, after the close of business on November 15, 1997, each holder of the Company's common shares received a dividend distribution of one Right for each common share held. Each Right entitles the holder thereof to buy a preferred share fraction equal to 1/100,000 of a share of Series A Junior Participating Preferred Shares of the Company at an exercise price of $265 per preferred share fraction. Each fraction is designed to be equivalent in voting and dividend rights to one common share.
In addition, if, after any person has become a 15%-or-more stockholder, the Company is involved in a merger or other business combination transaction with another person in which the Company's common shares are changed or converted, or if the Company sells 50.0% or more of its assets or earning power to another person, each Right will entitle its holder to purchase, at the Right's then-current exercise price, common stock of such other person (or its parent) having a value of twice the Right's exercise price.
The change in unrealized gains on debt and equity securities includes reclassification adjustments of $(2.6) million, $3.7 million and $1.2 million of net realized (losses) gains for the years ended December 31, 2000, 1999 and 1998, respectively.
Subsequent to the filing of this lawsuit, First American Title Insurance Company, a subsidiary of the Company, was named and served as a defendant in two private class actions in California courts. The allegations in those actions include some, but not all, of the allegations contained in the lawsuit discussed above. The private class actions independently seek injunctive relief, attorneys' fees, damages and penalties in unspecified amounts. One of the private class actions has been dismissed. The remaining private class action has not progressed beyond limited document production.
information services segment and two in the consumer information segment. Their aggregate purchase price was $12.4 million in cash, $22.2 million in notes and 125,000 shares of the Company's common stock. The purchase price for each was allocated to the assets acquired and liabilities assumed based on estimated fair values and approximately $24.6 million in goodwill was recorded. Goodwill is being amortized on a straight-line basis over its estimated useful life ranging from 20 to 30 years. The operating results of these acquired companies were included in the Company's consolidated financial statements from their respective acquisition dates.
Assuming all of the current year acquisitions had occurred January 1, 1999, pro forma revenues, net income and net income per diluted share would have been $2.98 billion, $82.2 million and $1.24, respectively, for the year ended December 31, 2000; and $3.09 billion, $24.0 million and $0.36, respectively, for the year ended December 31, 1999. All pro forma results include amortization of goodwill and interest expense on acquisition debt. The pro forma results are not necessarily indicative of the operating results that would have been obtained had the acquisitions occurred at the beginning of the periods presented, nor are they necessarily indicative of future operating results.
Effective May 14, 1999, the Company completed its merger of National Information Group (NAIG). Under the terms of the definitive merger agreement, each of the NAIG shareholders received .67 of a share of the Company's common stock for each NAIG common share they owned. To complete the merger, the Company issued 3,004,800 shares, in exchange for 100% of the outstanding common stock of NAIG. The information services provided by NAIG include outsourcing services, flood zone determination services, real estate tax tracking, hazard and motor vehicle insurance tracking, lender-placed insurance and flood insurance. This merger was accounted for under the pooling-of- interests method of accounting and, as a result, the Company has restated all previously reported results to reflect this merger. Included in other operating expenses for the 12 months ended December 31, 1999, were merger- related charges of $10.8 million, $7.0 million after tax, or $0.10 per diluted share. These nonrecurring charges included severance payments, lease terminations and consulting services.
The title insurance and real estate information segments operate through networks of offices nationwide. The Company provides its title services through both direct operations and agents throughout the United States. It also offers title services in Australia, the Bahama Islands, Canada, England, Guam, Ireland, Mexico, Puerto Rico, Scotland, South Korea, the U.S. Virgin Islands and other countries abroad. To date, the international title operations have not been material to the Company's financial condition or results of operations. The consumer information segment provides home warranty services in 13 states throughout the United States. Trust, banking and thrift services are provided in Southern California. Investment advisory, automotive tracking, resident screening, pre-employment screening, property and casualty insurance and lender-placed flood and hazard insurances are offered nationwide.
Corporate consists primarily of unallocated interest expense, minority interests, equity in earnings of affiliated companies and personnel and other operating expenses associated with the Company's Home Office facilities.
In December, 1999, the Company adopted Staff Accounting Bulletin No. 101 (SAB), "Revenue Recognition in Financial Statements," which became effective January 1, 1999. In conformity with the SAB the Company has restated its results for the first three quarters of 1999. See Note 1 to the consolidated financial statements for further discussion.
Note B--Amount represents net $7,955,000 in purchase accounting adjustments, $11,251,000 related to the disposition of a subsidiary and $6,093,000 from the reserve for assets acquired in connection with claim settlements.