1 UNITED STATES SECURITIES AND EXCHANGE COMMISSION Washington, D.C. 20549 FORM 10-Q [X] QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934 For the fiscal quarter ended: Commission file number: JULY 31, 2001 0-14939 CROWN GROUP, INC. (Exact name of registrant as specified in its charter) <Table> <S> <C> TEXAS 63-0851141 (State or other jurisdiction of incorporation or organization) (I.R.S. Employer Identification No.) </Table> 4040 N. MACARTHUR BLVD., SUITE 100, IRVING, TEXAS (Address of principal executive offices) 75038-6424 (Zip Code) (972) 717-3423 (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 [ ] Indicate the number of shares outstanding of each of the issuer's classes of common stock, as of the latest practicable date. <Table> <Caption> Outstanding at Title of Each Class September 11, 2001 ------------------- ------------------ <S> <C> Common stock, par value $.01 per share 6,735,367 </Table>
2 PART I ITEM 1. FINANCIAL STATEMENTS CROWN GROUP, INC. CONSOLIDATED BALANCE SHEETS <Table> <Caption> July 31, 2001 (unaudited) April 30, 2001 ------------- -------------- <S> <C> <C> Assets: Cash and cash equivalents $ 2,206,844 $ 2,193,342 Accounts and other receivables 4,841,853 6,642,760 Mortgage loans held for sale, net 17,595,346 16,200,439 Finance receivables, net 209,455,523 211,605,630 Inventory 12,604,528 10,993,585 Prepaid and other assets 1,071,132 1,043,233 Investments 6,790,367 6,670,265 Deferred tax assets, net 22,022,815 21,302,939 Property and equipment, net 16,722,809 17,016,321 Goodwill, net 8,851,602 8,851,602 ------------ ------------ $302,162,819 $302,520,116 ============ ============ Liabilities and stockholders' equity: Accounts payable $ 6,054,833 $ 6,441,606 Accrued liabilities 9,466,537 11,167,421 Income taxes payable 3,988,984 6,127,419 Revolving credit facilities 196,024,776 190,062,226 Other notes payable 16,643,932 19,325,376 Deferred sales tax 4,956,653 4,963,154 ------------ ------------ 237,135,715 238,087,202 ------------ ------------ Minority interests 5,825,075 5,500,661 Commitments and contingencies Stockholders' equity: Preferred stock, par value $.01 per share, 1,000,000 shares authorized; none issued or outstanding Common stock, par value $.01 per share, 50,000,000 shares authorized; 6,735,367 issued and outstanding (6,980,367 at April 30, 2001) 67,354 69,804 Additional paid-in capital 22,154,005 23,075,677 Retained earnings 36,980,670 35,786,772 ------------ ------------ Total stockholders' equity 59,202,029 58,932,253 ------------ ------------ $302,162,819 $302,520,116 ============ ============ </Table> The accompanying notes are an integral part of these consolidated financial statements. 2
3 CONSOLIDATED STATEMENTS OF OPERATIONS CROWN GROUP, INC. (UNAUDITED) <Table> <Caption> Three Months Ended July 31, 2001 2000 ------------ ------------ <S> <C> <C> Revenues: Sales $ 64,715,828 $ 66,904,528 Interest income 12,503,091 11,730,913 Gain on sale of mortgage loans 2,392,107 1,851,185 Other 510,380 1,964,303 ------------ ------------ 80,121,406 82,450,929 ------------ ------------ Costs and expenses: Cost of sales 38,189,494 38,879,279 Selling, general and administrative 17,817,721 17,201,481 Provision for credit losses 16,660,395 14,294,193 Interest expense 4,889,917 5,522,555 Depreciation and amortization 611,409 1,042,637 Write-down of equipment 400,000 ------------ ------------ 78,568,936 76,940,145 ------------ ------------ Other income: Equity in earnings of unconsolidated subsidiary 107,727 ------------ ------------ 107,727 ------------ ------------ Income before taxes and minority interests 1,660,197 5,510,784 Provision for income taxes 830,352 2,248,436 Minority interests (364,053) 495,206 ------------ ------------ Net income $ 1,193,898 $ 2,767,142 ============ ============ Earnings per share: Basic $ .17 $ .34 Diluted $ .17 $ .32 Weighted average number of shares outstanding: Basic 6,868,541 8,179,391 Diluted 7,038,749 8,582,006 </Table> The accompanying notes are an integral part of these consolidated financial statements. 3
4 CONSOLIDATED STATEMENTS OF CASH FLOWS CROWN GROUP, INC. (UNAUDITED) <Table> <Caption> Three Months Ended July 31, 2001 2000 ------------ ------------ <S> <C> <C> Operating activities: Net income $ 1,193,898 $ 2,767,142 Adjustments to reconcile net income to net cash used in operating activities: Depreciation and amortization 611,409 1,042,637 Accretion of purchase discount (150,778) (342,238) Deferred income taxes (719,876) (1,100,000) Provision for credit losses 16,660,395 14,294,193 Write-down of equipment 400,000 Minority interests (364,053) 495,206 Gain on sale of mortgage loans (2,392,107) (1,851,185) (Gain) loss on sale of assets 8,959 (86,446) Equity in earnings of unconsolidated subsidiary (107,727) Changes in operating assets and liabilities: Accounts and other receivables 1,800,908 990,016 Mortgage loans originated or acquired (62,268,742) (45,927,877) Mortgage loans sold and principal repayments 63,155,418 49,014,205 Finance receivable originations (60,051,544) (62,961,012) Finance receivable collections 38,880,259 32,870,913 Inventory acquired in repossession 6,922,299 7,551,798 Inventory (1,610,943) (975,478) Prepaids and other assets (27,900) (468,374) Accounts payable, accrued liabilities and deferred sales tax (1,405,692) (1,834,396) Income taxes payable (2,138,435) (4,589,946) ------------ ------------ Net cash used in operating activities (1,604,252) (11,110,842) ------------ ------------ Investing activities: Purchase of property and equipment (746,856) (1,664,579) Sale of assets 20,000 361,831 Purchase of investments (12,375) (601,475) ------------ ------------ Net cash used in investing activities (739,231) (1,904,223) ------------ ------------ Financing activities: Purchase of common stock (924,122) (835,456) Proceeds from revolving credit facilities, net 5,962,550 8,836,875 Repayments of other debt (2,681,443) (776,055) ------------ ------------ Net cash provided by financing activities 2,356,985 7,225,364 ------------ ------------ Increase (decrease) in cash and cash equivalents 13,502 (5,789,701) Cash and cash equivalents at: Beginning of period 2,193,342 9,843,310 ------------ ------------ End of period $ 2,206,844 $ 4,053,609 ============ ============ </Table> The accompanying notes are an integral part of these consolidated financial statements. 4
5 NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (UNAUDITED) CROWN GROUP, INC. A - DESCRIPTION OF BUSINESS Crown Group, Inc. ("Crown"), and collectively with its subsidiaries (the "Company"), is primarily in the business of selling and financing used automobiles and trucks principally to consumers with limited or damaged credit histories. In addition, Crown also has investments in other industries. As of July 31, 2001 Crown owned a 95% fully diluted ownership interest in America's Car-Mart, Inc. ("Car-Mart") and 70% of Smart Choice Automotive Group, Inc. ("Smart Choice"). Smart Choice owns 100% of Paaco Automotive Group, Inc. ("Paaco"). Each of Car-Mart, Smart Choice and Paaco sell and finance used vehicles. As of July 31, 2001 Crown also owned (i) 50% of Precision IBC, Inc. ("Precision"), a firm specializing in the sale and rental of intermediate bulk containers ("IBC's"), (ii) 80% of Concorde Acceptance Corporation ("Concorde"), a prime and sub-prime mortgage lender, and (iii) minority positions in certain other entities that operate in the high technology industry or focus on Internet commerce. The Company is presently focusing on (i) the development and expansion of its automobile businesses, and (ii) maximizing its return on its other businesses and investments. B - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES General The accompanying unaudited financial statements have been prepared in accordance with generally accepted accounting principles for interim financial information and with the instructions to Form 10-Q and Article 10 of Regulation S-X. Accordingly, they do not include all of the information and footnotes required by accounting principles generally accepted in the United States of America for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. Operating results for the three month period ended July 31, 2001 are not necessarily indicative of the results that may be expected for the year ended April 30, 2002. For further information, refer to the consolidated financial statements and footnotes thereto included in the Company's annual report on Form 10-K for the year ended April 30, 2001. Recent Accounting Pronouncements In July 2001, the Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standards No. 141 ("SFAS 141"), "Business Combinations", which eliminates the pooling method of accounting for business combinations initiated after June 30, 2001. In addition, SFAS 141 addresses the accounting for intangible assets and goodwill acquired in a business combination. This portion of SFAS 141 is effective for business combinations completed after June 30, 2001. The Company does not expect SFAS 141 will have a material impact on the Company's financial position or results of operations. In July 2001, the FASB issued Statement of Financial Accounting Standards No. 142 ("SFAS 142"), "Goodwill and Intangible Assets", which revises the accounting for purchased goodwill and intangible assets. Under SFAS 142, goodwill and intangible assets with indefinite lives will no longer be amortized, but will be tested for impairment annually, and in the event of an impairment indicator. SFAS 142 is effective for fiscal years beginning after December 15, 2001, with earlier adoption permitted. The Company has adopted SFAS 142 effective May 1, 2001. Presented below is a reconciliation of reported net income and per share amounts to adjusted net income and per share amounts for the three months ended July 31, 2001 and 2000 to adjust for the amortization of intangible assets for periods prior to the adoption of SFAS 142 on May 1, 2001 (in thousands, except per share amounts). The reconciliation presents the Company's results of operations for periods prior to the adoption of SFAS 142 on a basis comparable with periods since the adoption of SFAS 142. <Table> <Caption> Net Income Basic Earnings Per Share Diluted Earnings Per Share ------------------------ ------------------------ -------------------------- Three Months Ended Three Months Ended Three Months Ended July 31, July 31, July 31, 2001 2000 2001 2000 2001 2000 -------- -------- -------- -------- --------- --------- <S> <C> <C> <C> <C> <C> <C> As reported $ 1,194 $ 2,767 $ .17 $ .34 $ .17 $ .32 Add back goodwill amort. -- 233 -- .03 -- .03 -------- -------- -------- -------- -------- -------- As adjusted $ 1,194 $ 3,000 $ .17 $ .37 $ .17 $ .35 ======== ======== ======== ======== ======== ======== </Table> Reclassifications Certain prior year amounts in the accompanying financial statements have been reclassified to conform to the fiscal 2002 presentation. 5
6 C - FINANCE RECEIVABLES The Company originates installment sale contracts from the sale of used vehicles at its dealerships. These installment sale contracts typically include interest rates ranging from 8% to 26% per annum and provide for payments over periods ranging from 12 to 42 months. The components of finance receivables as of July 31, 2001 and April 30, 2001 are as follows: <Table> <Caption> July 31, April 30, 2001 2001 ------------- ------------- <S> <C> <C> Finance receivables $ 292,312,101 $ 300,228,162 Unearned finance charges (32,088,475) (36,965,956) Allowance for credit losses (50,320,382) (51,058,077) Purchase discounts (447,721) (598,499) ------------- ------------- $ 209,455,523 $ 211,605,630 ============= ============= </Table> In accordance with APB Opinion No. 16, as of the dates the Company acquired interests in Paaco and Smart Choice, the Company valued Paaco's and Smart Choice's finance receivables portfolios at market value and determined that purchase discounts of $1,577,781 and $2,046,964, respectively, were appropriate. These discounts are being amortized into interest income over the life of the related finance receivables portfolios that existed on the dates of purchase using the interest method. Changes in the finance receivables allowance for credit losses for the three months ended July 31, 2001 and 2000 are as follows: <Table> <Caption> Three Months Ended July 31, 2001 2000 ------------ ------------ <S> <C> <C> Balance at beginning of period $ 51,058,077 $ 43,783,529 Provision for credit losses 16,549,871 14,161,193 Net charge offs (17,287,566) (11,250,424) ------------ ------------ Balance at end of period $ 50,320,382 $ 46,694,298 ============ ============ </Table> In addition to the finance receivables allowance for credit losses, the Company also has an allowance for credit losses on mortgage loans held for sale of $688,700 and $577,972 as of July 31, 2001 and April 30, 2001, respectively. D - INVESTMENTS A summary of investments as of July 31, 2001 and April 30, 2001 is as follows: <Table> <Caption> July 31, April 30, 2001 2001 ---------- ---------- <S> <C> <C> Precision IBC, Inc. $3,304,231 $3,196,505 Monarch Venture Partners' Fund I, L.P. 1,836,136 1,823,760 Mariah Vision 3, Inc. 1,650,000 1,650,000 ---------- ---------- $6,790,367 $6,670,265 ========== ========== </Table> 6
7 E - PROPERTY AND EQUIPMENT A summary of property and equipment as of July 31, 2001 and April 30, 2001 is as follows: <Table> <Caption> July 31, April 30, 2001 2001 ------------ ------------ <S> <C> <C> Land and buildings $ 7,814,283 $ 7,461,891 Furniture, fixtures and equipment 9,798,513 10,007,553 Leasehold improvements 4,059,390 3,914,807 Less accumulated depreciation and amortization (4,949,377) (4,367,930) ------------ ------------ $ 16,722,809 $ 17,016,321 ============ ============ </Table> For the three months ended July 31, 2001 and 2000 depreciation and amortization of property and equipment amounted to $611,409 and $783,647, respectively. F - DEBT A summary of debt as of July 31, 2001 and April 30, 2001 is as follows: <Table> <Caption> Revolving Credit Facilities ---------------------------------------------------------------------------------------------------------------------------- Facility Interest Balance at Borrower Lender Amount Rate Maturity July 31, 2001 April 30, 2001 ------------ ----------------- ------------- ------------- -------- ----------------- ---------------- <S> <C> <C> <C> <C> <C> <C> Smart Choice Finova $ 98 million Prime + 2.25% Nov 2004 $ 88,394,135 $ 88,394,135 Paaco Finova $ 62 million Prime + 2.00% Nov 2004 59,047,810 59,047,810 Car-Mart Bank of America $ 35 million Prime + .88% Jan 2002 34,328,178 29,767,688 Concorde Washington Mutual $ 25 million Libor + 2.00% Sep 2001 14,254,653 12,852,593 ----------------- ---------------- $ 196,024,776 $ 190,062,226 ================= ================ </Table> <Table> <Caption> Other Notes Payable ----------------------------------------------------------------------------------------------------------------------------- Facility Interest Balance at Borrower Lender Amount Rate Maturity July 31, 2001 April 30, 2001 -------------- ----------------- -------- ------------- -------- ----------------- ---------------- <S> <C> <C> <C> <C> <C> <C> Crown Car-Mart sellers N/A 8.50% Jan 2004 $ 7,500,000 $ 7,500,000 Crown Bank of America N/A 8.00% Sep 2001 2,016,000 2,316,000 Crown Regions Bank N/A Prime + .50% May 2001 2,000,000 Paaco Washington Mutual N/A 8.50% May 2003 772,512 792,815 Paaco Heller Financial N/A Prime + 2.25% Dec 2015 582,247 586,836 Smart Choice Huntington N/A Prime + .75% Oct 2001 1,903,563 1,932,373 Smart Choice High Capital N/A 10.0% Nov 2001 725,000 725,000 Various Various N/A Various Various 3,144,610 3,472,352 ----------------- ---------------- $ 16,643,932 $ 19,325,376 ================= ================ </Table> The Company's revolving credit facilities are primarily collateralized by finance receivables, inventory and mortgage loans. Other notes payable are primarily collateralized by equipment and real estate. Interest is payable monthly or quarterly on all of the Company's debt. The loan agreements relating to certain of the above described debt contain various reporting and performance covenants including (i) maintenance of certain financial ratios and tests, (ii) limitations on borrowings from other sources, (iii) restrictions on certain operating activities, and (iv) restrictions on the payment of dividends. At July 31, 2001 substantially all of the Company's $49.3 million equity investment in its consolidated subsidiaries was restricted due to covenants in each of such subsidiaries' revolving credit facilities which prohibit certain distributions from such subsidiary to Crown. The amount available to be drawn under each of the Company's revolving credit facilities is a function of the underlying collateral assets. Generally, the Company is able to borrow a specified percentage of the face value of eligible finance receivables in the case of Car-Mart, Smart Choice and Paaco, and eligible mortgage loans in the case of Concorde. 7
8 At April 30, 2001 Concorde was in violation of its $1.5 million minimum net worth covenant under its revolving credit facility. At July 31, 2001 Concorde's net worth exceeded the $1.5 million minimum threshold, however, the lender has not waived the prior default. Concorde expects to execute a new agreement with its lender to cure the violation when the current agreement expires in September 2001, or replace its credit facility with a different lender. In addition, at July 31, 2001 Smart Choice was in violation and, as a result of Smart Choice's violation, Paaco may be in violation, of certain terms of their revolving credit facilities with Finova Capital Corporation ("Finova") (see Note G). G - DEFAULT ON FINOVA CREDIT FACILITY Each of Paaco and Smart Choice have revolving credit facilities with Finova. Since December 2000 Smart Choice has been over-advanced on its revolving credit facility, which constitutes an event of default under the facility. As of July 31, 2001 Smart Choice was over-advanced by $20.9 million. Absent funding from an outside source, Smart Choice does not expect it will be able to come into compliance with the current advance rate provisions of the Finova revolving credit facility. There is uncertainty as to whether Smart Choice's event of default is the basis for an event of default under Paaco's revolving credit facility. In any event, Paaco is a wholly-owned subsidiary of Smart Choice, and ultimately Paaco could be affected by the default of Smart Choice under its Finova credit facility. As a result of the event of default, Smart Choice is currently not entitled to receive additional advances under its credit facility, and Paaco may not be entitled to receive additional advances under its credit facility. Since January 2001 Smart Choice has been in discussions with Finova with regard to possible solutions to the over-advanced position. There are several possible outcomes that may result from these negotiations, including: (i) a restructuring of the Smart Choice credit facility which brings Smart Choice back into compliance; (ii) a sale of substantially all of Smart Choice's assets with the proceeds being used to pay down a portion of its credit facility, and the unpaid portion being absorbed by Finova (forgiveness of debt) and Paaco as the parties may negotiate; (iii) an agreement among Smart Choice, Paaco and Finova whereby substantially all of the assets and liabilities of Smart Choice are liquidated with the proceeds being used to pay down a portion of its credit facility, and the unpaid portion being absorbed by Finova (forgiveness of debt) and Paaco as the parties may negotiate; or (iv) Finova's exercise of its rights under the credit facility and acceleration of the maturity of the loan seeking to liquidate or sell the collateral, which action may prompt Smart Choice to take actions to protect the interests of its shareholders, including the filing of a plan of reorganization under federal bankruptcy laws. Although management is exploring a number of alternatives, including those listed above, the Company cannot predict how or whether Smart Choice's default will be resolved. The accompanying financial statements have been prepared in conformity with accounting principles generally accepted in the United States of America, which contemplate continuation of Smart Choice as a going concern. Recoverability of a significant portion of the assets of Smart Choice may be materially impacted if Smart Choice ceases to continue as a going concern. The financial statements do not include any adjustments relating to the recoverability of recorded asset amounts that might be necessary should Smart Choice be unable to continue in existence. As of July 31, 2001 Crown's investment in Paaco/Smart Choice was $19.0 million ($16.4 million equity and $2.6 million debt). In addition, Crown guarantees the credit facilities of Smart Choice and Paaco to a maximum combined amount of $5 million. 8
9 H - EARNINGS PER SHARE A summary reconciliation of basic earnings per share to diluted earnings per share for the three months ended July 31, 2001 and 2000 is as follows: <Table> <Caption> Three Months Ended July 31, 2001 2000 ---------- ---------- <S> <C> <C> Net income $1,193,898 $2,767,142 ========== ========== Average shares outstanding-basic 6,868,541 8,179,391 Dilutive options 170,208 402,615 ---------- ---------- Average shares outstanding-diluted 7,038,749 8,582,006 ========== ========== Earnings per share: Basic $ .17 $ .34 Diluted $ .17 $ .32 Antidilutive securities not included: Options 627,500 432,500 ========== ========== </Table> I - COMMITMENTS AND CONTINGENCIES Mortgage Loan Sales In connection with the Company's sale of mortgage loans in the ordinary course of business, in certain circumstances such loan sales involve limited recourse to the Company for up to the first twelve months following the sale. Generally, the events which could give rise to these recourse provisions involve the prepayment or foreclosure of a loan and violations of customary representations and warranties. If the recourse provisions are triggered, the Company may be required to refund all or part of the premium received on the sale of such loan, and in some cases the Company may be required to repurchase the loan. Periodically, the Company estimates the potential exposure related to such recourse provisions and accrues losses where required. Severance Agreements The Company has entered into severance agreements with its three executive officers which provide for payments to the executives in the event of their termination after a change in control, as defined, of the Company. The agreements provide, among other things, for a compensation payment equal to 2.99 times the annual compensation paid to the executive, as well as accelerated vesting of any unvested options under the Company's stock option plans, in the event of such executive's termination in connection with a change in control. Car-Mart Stock Options In connection with the Company's acquisition of Car-Mart in January 1999, Car-Mart issued options to certain employees to purchase an aggregate 10% interest in Car-Mart. Such options become exercisable over a period of approximately five years and are subject to meeting certain annual earnings targets. The earnings targets are established each year by Car-Mart's Board of Directors. Pursuant to such option plan, as of July 31, 2001 Car-Mart employees had purchased, or had the right to purchase at a nominal cost, an aggregate 5% interest in Car-Mart. Options to purchase the remaining 5% interest become exercisable upon meeting the earnings targets for the fiscal years ending April 30, 2002 and 2003. Smart Choice Class Action Lawsuit In March 1999, prior to Crown's ownership interest in Smart Choice, certain shareholders of Smart Choice filed two putative class action lawsuits against Smart Choice and certain of Smart Choice's officers and directors in the United States District Court for the Middle District of Florida (collectively, the "Securities Actions"). The Securities Actions purport to be brought by plaintiffs in their individual capacity and on behalf of the class of persons who purchased or otherwise acquired Smart Choice publicly traded securities between April 15, 1998 and February 26, 1999. These lawsuits were filed following Smart Choice's announcement on February 26, 1999 that a preliminary determination had been reached that the net income it had announced on February 10, 1999 for the fiscal year ended December 31, 1998 was likely overstated in a material, undetermined amount. Each of the complaints assert claims for violations of Section 10(b) of the Securities Exchange Act of 1934 and Rule 10b-5 of the Securities and Exchange Commission as well as a claim for the violation of Section 20(a) of the Exchange Act. The plaintiffs allege that the defendants prepared and issued deceptive and materially false and misleading statements to the public, which caused the plaintiffs to purchase Smart Choice securities at artificially inflated prices. In April 2001 Smart Choice and the plaintiffs' representatives executed an agreement whereby Smart Choice will pay $2.5 million in full settlement of the above described actions. All of the $2.5 million settlement amount has been funded by Smart Choice's insurance carrier. The agreement is subject to final approval of the court. 9
10 Other Litigation In the ordinary course of business, the Company has become a defendant in various other types of legal proceedings. Although the Company cannot determine at this time the amount of the ultimate exposure from these ordinary course of business lawsuits, if any, management, based on the advice of counsel, does not expect the final outcome of any of these actions, individually or in the aggregate, to have a material adverse effect on the Company's financial position, results of operations or cash flows. J - SUPPLEMENTAL CASH FLOW INFORMATION Supplemental cash flow disclosures for the three months ended July 31, 2001 and 2000 are as follows: <Table> <Caption> Three Months Ended July 31, 2001 2000 ---------- ---------- <S> <C> <C> Interest paid $4,798,889 $6,045,402 Income taxes paid, net of refund 3,688,661 7,938,382 </Table> K - BUSINESS SEGMENTS Operating results and other financial data are presented for the principal business segments of the Company for the three months ended July 31, 2001 and 2000. These segments are categorized principally by legal entity, which is how management organizes the segments for making operating decisions and assessing performance. The segments include (i) Car-Mart, (ii) Paaco, (iii) Smart Choice, and (iv) other. Each of Car-Mart, Paaco and Smart Choice sell and finance used vehicles. For the three months ended July 31, 2001 "Other" includes corporate operations, Concorde (mortgage loans), and the Company's equity investment in Precision (IBC rentals and sales). For the three months ended July 31, 2000 "Other" includes corporate operations, Concorde, Precision and Crown El Salvador. The Company's business segment data for the three months ended July 31, 2001 and 2000 is as follows (in thousands): <Table> <Caption> Three Months Ended July 31, 2001 --------------------------------------------------------------------------------- Car-Mart Paaco S. Choice Other Eliminations Consolidated -------- -------- --------- -------- ------------ ------------ <S> <C> <C> <C> <C> <C> <C> Revenues: Sales and other $ 28,124 $ 25,367 $ 11,506 $ 2,621 $ 67,618 Interest income 2,233 4,748 4,899 866 $ (243) 12,503 -------- -------- -------- -------- ----------- -------- Total 30,357 30,115 16,405 3,487 (243) 80,121 -------- -------- -------- -------- ----------- -------- Costs and expenses: Cost of sales 15,010 16,272 6,908 38,190 Selling, gen. and admin. 4,097 6,728 4,050 2,943 17,818 Prov. for credit losses 5,497 3,820 7,232 111 16,660 Interest expense 784 1,502 2,198 649 (243) 4,890 Depreciation and amort. 34 202 213 162 611 Write-down of equip. 400 400 -------- -------- -------- -------- ----------- -------- Total 25,422 28,524 20,601 4,265 (243) 78,569 -------- -------- -------- -------- ----------- -------- Other income 108 108 -------- -------- -------- -------- ----------- -------- Income (loss) before taxes and minority interests $ 4,935 $ 1,591 $ (4,196) $ (670) $ -- $ 1,660 ======== ======== ======== ======== =========== ======== Capital expenditures $ 384 $ 109 $ 161 $ 93 $ -- $ 747 ======== ======== ======== ======== =========== ======== Total assets $ 76,787 $ 91,081 $ 95,343 $ 91,551 $ (52,599) $302,163 ======== ======== ======== ======== =========== ======== </Table> 10
11 <Table> <Caption> Three Months Ended July 31, 2000 ------------------------------------------------------------------------------------- Car-Mart Paaco S. Choice Other Eliminations Consolidated --------- --------- --------- --------- ------------ ------------ <S> <C> <C> <C> <C> <C> <C> Revenues: Sales and other $ 22,360 $ 25,096 $ 18,924 $ 4,340 $ 70,720 Interest income 1,768 3,827 5,546 947 $ (357) 11,731 --------- --------- --------- --------- ----------- --------- Total 24,128 28,923 24,470 5,287 (357) 82,451 --------- --------- --------- --------- ----------- --------- Costs and expenses: Cost of sales 12,107 15,437 10,751 584 38,879 Selling, gen. and admin. 3,597 5,275 4,529 3,800 17,201 Prov. for credit losses 3,569 4,748 5,844 133 14,294 Interest expense 938 1,735 2,463 744 (357) 5,523 Depreciation and amort. 39 126 253 625 1,043 --------- --------- --------- --------- ----------- --------- Total 20,250 27,321 23,840 5,886 (357) 76,940 --------- --------- --------- --------- ----------- --------- Other income --------- --------- --------- --------- ----------- --------- Income (loss) before taxes and minority interests $ 3,878 $ 1,602 $ 630 $ (599) $ -- $ 5,511 ========= ========= ========= ========= =========== ========= Capital expenditures $ 118 $ 525 $ 329 $ 693 $ -- $ 1,665 ========= ========= ========= ========= =========== ========= Total assets $ 62,025 $ 84,622 $ 101,357 $ 106,812 $ (59,845) $ 294,971 ========= ========= ========= ========= =========== ========= </Table> ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS The following discussion should be read in conjunction with the Company's consolidated financial statements and notes thereto appearing elsewhere in this report. FORWARD-LOOKING INFORMATION The Private Securities Litigation Reform Act of 1995 provides a "safe harbor" for certain forward-looking statements. Certain information included in this Quarterly Report on Form 10-Q contains, and other materials filed or to be filed by the Company with the Securities and Exchange Commission (as well as information included in oral statements or other written statements made or to be made by the Company or its management) contain or will contain, forward-looking statements within the meaning of Section 21E of the Securities Exchange Act of 1934, as amended, and Section 27A of the Securities Act of 1933, as amended. The words "believe," "expect," "anticipate," "estimate," "project" and similar expressions identify forward-looking statements, which speak only as of the date the statement was made. The Company undertakes no obligation to publicly update or revise any forward-looking statements. Such forward-looking statements address, among other things, the Company's current focus on the development and expansion of its automobile businesses, and its goal of maximizing its return on its other businesses and investments. Such forward-looking statements are based upon management's current plans or expectations and are subject to a number of uncertainties and risks that could significantly affect current plans, anticipated actions and the Company's future financial condition and results. As a consequence, actual results may differ materially from those expressed in any forward-looking statements made by or on behalf of the Company as a result of various factors. Uncertainties and risks related to such forward-looking statements include, but are not limited to, those relating to the development of the Company's businesses, continued availability of lines of credit for the Company's businesses, changes in interest rates, competition, dependence on existing management, economic conditions (particularly in the states of Texas, Arkansas and Florida), changes in tax laws or the administration of such laws and changes in lending laws or regulations. Any forward-looking statements are made pursuant to the Private Securities Litigation Reform Act of 1995 and, as such, speak only as of the date made. OVERVIEW Crown Group, Inc. ("Crown"), and collectively with its subsidiaries (the "Company"), is primarily in the business of selling and financing used automobiles and trucks principally to consumers with limited or damaged credit histories. In addition, Crown also has investments in other industries. As of July 31, 2001 Crown owned a 95% fully diluted ownership interest in America's Car-Mart, Inc. ("Car-Mart") and 70% of Smart Choice Automotive Group, Inc. ("Smart Choice"). Smart Choice owns 100% of Paaco Automotive Group, Inc. ("Paaco"). Each of Car-Mart, Smart Choice and Paaco sell and finance used vehicles. As of July 31, 2001 Crown also owned (i) 50% of Precision IBC, Inc. ("Precision"), a firm specializing in the sale and rental of intermediate bulk containers ("IBC's"), (ii) 80% of Concorde Acceptance Corporation ("Concorde"), a prime and sub-prime mortgage lender, and (iii) minority positions in certain other entities that operate in the high technology industry or focus on Internet commerce. The Company is presently focusing on (i) the development and expansion of its automobile businesses, and (ii) maximizing its return on its other businesses and investments. 11
12 RESULTS OF OPERATIONS The Company sold a 50% interest in Precision in November 2000 and 100% of Crown El Salvador in April 2001. Accordingly, the operating results for the three months ended July 31, 2001 and 2000 are not entirely comparable. Below is a summary of the number of months of operation each subsidiary's operating results are included in the Company's consolidated results of operations for the three months ended July 31, 2001 and 2000: <Table> <Caption> Number of Months Subsidiary Included In Three Months Ended Month Crown Month Crown July 31, Acquired Disposed ------------------------- Entity or Formed or Sold 2001 2000 - ----------------- ----------- ---------------- -------- -------- <S> <C> <C> <C> <C> Car-Mart 1-99 3 months 3 months Paaco 2-98 3 months 3 months Smart Choice 12-99 3 months 3 months Concorde 6-97 3 months 3 months Precision 2-98 11-00 (50% sold) - 3 months Crown El Salvador 2-99 4-01 - 3 months </Table> The Company's business segments are categorized principally by legal entity, which is how management organizes the segments for making operating decisions and assessing performance. The segments include (i) Car-Mart, (ii) Paaco, (iii) Smart Choice, and (iv) other. Each of Car-Mart, Paaco and Smart Choice sell and finance used vehicles. For the three months ended July 31, 2001 "Other" includes corporate operations, Concorde (mortgage loans) and the Company's equity investment in Precision (IBC rentals and sales). For the three months ended July 31, 2000 "Other" includes corporate operations, Concorde, Precision and Crown El Salvador. Below is a summary of revenue and pretax income by business segment, and a more detailed operating statement by segment, for the three months ended July 31, 2001 and 2000: CONSOLIDATED (In Thousands) <Table> <Caption> Revenues Pretax Income (Loss) --------------------------- --------------------------- Three Months Ended July 31, Three Months Ended July 31, 2001 2000 2001 2000 -------- -------- -------- -------- <S> <C> <C> <C> <C> Car-Mart $ 30,357 $ 24,128 $ 4,935 $ 3,878 Paaco 30,115 28,923 1,591 1,602 Smart Choice 16,405 24,470 (4,196) 630 Other 3,487 5,287 (670) (599) Eliminations (243) (357) -- -- -------- -------- -------- -------- Consolidated $ 80,121 $ 82,451 $ 1,660 $ 5,511 ======== ======== ======== ======== </Table> THREE MONTHS ENDED JULY 31, 2001 VS. THREE MONTHS ENDED JULY 31, 2000 Revenues decreased $2.3 million, or 2.8%, for the three months ended July 31, 2001 compared to the same period in the prior fiscal year. The decrease was principally the result of (i) a decrease in revenues at Smart Choice ($8.1 million) resulting from a 25% decrease in the number of vehicles sold and a 20% decrease in the average retail sales price per unit, partially offset by (ii) higher revenues at Car-Mart ($6.2 million) resulting from (a) an increase in the average number of regular and satellite stores in operation, (b) a 2.7% increase in the average sales price per retail vehicle sold, and (c) an increase in the average number of retail vehicles sold per dealership by 1.5%. Pretax income decreased $3.9 million, or 69.9%, for the three months ended July 31, 2001 compared to the same period in the prior fiscal year. The decrease was principally the result of (i) Smart Choice reporting a $4.2 million pretax loss in the current fiscal period as compared to $.6 million pretax income in the same period of the prior fiscal year, partially offset by (ii) a $1.1 million increase in Car-Mart's pretax income. The $4.8 million decrease in Smart Choice's pretax income was principally the result of (i) a higher provision for credit losses, and (ii) a significant decrease in revenues without a corresponding decrease in costs and expenses. 12
13 CAR-MART (Dollars in Thousands) <Table> <Caption> % Change As a % of Sales and Other -------- ------------------------- Three Months Ended 2001 Three Months Ended July 31, vs July 31, 2001 2000 2000 2001 2000 ------- ------- -------- -------- -------- <S> <C> <C> <C> <C> <C> Revenues: Sales and other $28,124 $22,360 25.8% 100.0% 100.0% Interest income 2,233 1,768 26.3 7.9 7.9 ------- ------- ------ ------ ------ Total 30,357 24,128 25.8 107.9 107.9 ------- ------- ------ ------ ------ Costs and expenses: Cost of sales 15,010 12,107 24.0 53.4 54.1 Selling, gen and admin 4,097 3,597 13.9 14.6 16.1 Prov for credit losses 5,497 3,569 54.0 19.5 16.0 Interest expense 784 938 (16.4) 2.8 4.2 Depreciation and amort 34 39 (12.8) .1 .2 ------- ------- ------ ------ ------ Total 25,422 20,250 25.5 90.4 90.6 ------- ------- ------ ------ ------ Pretax income $ 4,935 $ 3,878 27.3 17.5 17.3 ======= ======= ====== ====== ====== </Table> THREE MONTHS ENDED JULY 31, 2001 VS. THREE MONTHS ENDED JULY 31, 2000 Revenues increased $6.2 million, or 25.8%, for the three months ended July 31, 2001 as compared to the same period in the prior fiscal year. The increase was principally the result of (i) increasing the average number of regular and satellite stores in operation to 50.3 in the current fiscal period from 42.0 in the prior fiscal period, (ii) increasing the average sales price per retail vehicle by approximately 2.7%, and (iii) increasing the average number of retail vehicles sold per dealership by 1.5%. Pretax income increased $1.1 million, or 27.3%, for the three months ended July 31, 2001 as compared to the same period in the prior fiscal year. The increase was principally the result of (i) increased revenues (25.8%), and (ii) slightly lower costs and expenses (.2%) as a percentage of sales and other. PAACO (Dollars in Thousands) <Table> <Caption> % Change As a % of Sales and Other -------- ------------------------- Three Months Ended 2001 Three Months Ended July 31, vs July 31, 2001 2000 2000 2001 2000 ------- ------- -------- -------- -------- <S> <C> <C> <C> <C> <C> Revenues: Sales and other $25,367 $25,096 1.1% 100.0% 100.0% Interest income 4,748 3,827 24.1 18.7 15.2 ------- ------- ------- ------- ------- Total 30,115 28,923 4.1 118.7 115.2 ------- ------- ------- ------- ------- Costs and expenses: Cost of sales 16,272 15,437 5.4 64.1 61.5 Selling, gen and admin 6,728 5,275 27.5 26.5 21.0 Prov for credit losses 3,820 4,748 (19.5) 15.1 18.9 Interest expense 1,502 1,735 (13.4) 5.9 6.9 Depreciation and amort 202 126 60.3 .8 .5 ------- ------- ------- ------- ------- Total 28,524 27,321 4.4 112.4 108.8 ------- ------- ------- ------- ------- Pretax income $ 1,591 $ 1,602 (.7) 6.3 6.4 ======= ======= ======= ======= ======= </Table> 13
14 THREE MONTHS ENDED JULY 31, 2001 VS. THREE MONTHS ENDED JULY 31, 2000 Revenues increased $1.2 million, or 4.1%, for the three months ended July 31, 2001 as compared to the same period in the prior fiscal year. The increase was principally the result of higher interest income resulting from (i) a 14.4% increase in the average finance receivables balances outstanding, and (ii) a slight increase in the average interest rate charged on Paaco's installment loans. Pretax income was virtually unchanged during the two periods as costs and expenses increased substantially the same amount ($1.2 million) as the increase in revenues. SMART CHOICE (Dollars in Thousands) <Table> <Caption> % Change As a % of Sales and Other -------- -------------------------- Three Months Ended 2001 Three Months Ended July 31, vs July 31, 2001 2000 2000 2001 2000 -------- -------- -------- -------- -------- <S> <C> <C> <C> <C> <C> Revenues: Sales and other $ 11,506 $ 18,924 (39.2)% 100.0% 100.0% Interest income 4,899 5,546 (11.7) 42.6 29.3 -------- -------- -------- -------- -------- Total 16,405 24,470 (33.0) 142.6 129.3 -------- -------- -------- -------- -------- Costs and expenses: Cost of sales 6,908 10,751 (35.7) 60.0 56.8 Selling, gen and admin 4,050 4,529 (10.6) 35.2 23.9 Prov for credit losses 7,232 5,844 (23.8) 62.9 30.9 Interest expense 2,198 2,463 (10.8) 19.1 13.0 Depreciation and amort 213 253 (15.8) 1.9 1.3 -------- -------- -------- -------- -------- Total 20,601 23,840 (13.6) 179.1 125.9 -------- -------- -------- -------- -------- Pretax income $ (4,196) $ 630 NM (36.5) 3.4 ======== ======== ======== ======== ======== </Table> NM - Not meaningful THREE MONTHS ENDED JULY 31, 2001 VS. THREE MONTHS ENDED JULY 31, 2000 Revenues decreased $8.1 million, or 33.0%, for the three months ended July 31, 2001 as compared to the same period in the prior fiscal year. The decrease was principally the result of (i) a 25% decrease in the number of vehicles sold, and (ii) a 20% decrease in the average sales price per retail vehicle sold. Beginning in March 2001 Smart Choice changed its underwriting practices in an effort to reduce credit losses. The changes in its underwriting practices resulted in fewer individuals being approved for credit, which resulted in a lower number of vehicles sold. In addition, Smart Choice also reduced the average retail sales price per unit by 20% during the current fiscal period. Smart Choice believes that by selling a lower priced vehicle and financing it over a shorter term, its credit losses will decline. Smart Choice reported a pretax loss of $4.2 million for the three months ended July 31, 2001 as compared to $.6 million pretax income for the same period in the prior fiscal year. The $4.8 million decrease is principally the result of (i) the provision for credit losses increasing to $7.2 million in the current fiscal period from $5.8 million in the same period in the prior fiscal year ($1.4 million), (ii) cost of sales increasing to 60.0% of sales and other in the current fiscal period from 56.8% in the same period in the prior fiscal year ($.4 million), and (iii) a 33% decrease in revenues without a corresponding decrease in costs and expenses. Smart Choice believes that changes in the structure of its installment sales contracts and inventory mix beginning in May 2000 and continuing into February 2001 may have contributed to the increase in credit losses during the three months ended July 31, 2001. In particular, during this period Smart Choice sold a higher priced vehicle and shortened the term of its installment sales contracts. These actions increased the average monthly payment on its contracts to a level which may have made it difficult for certain customers to remain current in their payments. Many of the accounts charged-off and vehicles repossessed during the three months ended July 31, 2001 pertain to loans originated between May 2000 and February 2001. In March 2001 Smart Choice began selling lower priced vehicles and reduced the average interest rate charged on its loans which has decreased the average monthly payment required on its contracts. Smart Choice believes that by making its monthly payments more affordable, its credit losses will decline. 14
15 OTHER (Dollars in Thousands) <Table> <Caption> % Change -------- Three Months Ended 2001 July 31, vs 2001 2000 2000 ------- ------- ------- <S> <C> <C> <C> Revenues: Sales and other $ 2,621 $ 4,340 (39.6)% Interest income 866 947 (8.6) ------- ------- ------ Total 3,487 5,287 (34.0) ------- ------- ------ Costs and expenses: Cost of sales 584 NM Selling, gen and admin 2,943 3,800 (22.6) Prov for credit losses 111 133 (16.5) Interest expense 649 744 (12.8) Depreciation and amort 162 625 (74.1) Write-down of equip 400 NM ------- ------- ------ Total 4,265 5,886 (27.5) ------- ------- ------ Other income 108 NM ------- ------- ------ Pretax income $ (670) $ (599) 11.9 ======= ======= ====== </Table> THREE MONTHS ENDED JULY 31, 2001 VS. THREE MONTHS ENDED JULY 31, 2000 Revenues decreased $1.8 million, or 34.0%, for the three months ended July 31, 2001 as compared to the same period in the prior fiscal year. The decrease was principally the result of (i) excluding Precision ($1.7 million) and Crown El Salvador ($.6 million) from the Company's consolidated operating results in the current fiscal period as a result of the sale of 50% of Precision and all of Crown El Salvador in the prior year, partially offset by (ii) an increase in Concorde's revenues ($.8 million) as a result of greater mortgage loan originations and sales. Other pretax loss remained relatively unchanged during the three months ended July 31, 2001 as compared to the same period in the prior fiscal period. The increase in Concorde's pretax income ($.3 million) was more than offset by a write-down of certain equipment at Crown ($.4 million) that after review and evaluation was determined to be impaired. LIQUIDITY AND CAPITAL RESOURCES Net cash used in operating activities was $1.6 million for the three months ended July 31, 2001 as compared to $11.1 million for the same period in the prior fiscal year. The $9.5 million decrease was principally the result of the net finance receivables portfolio increasing by $8.7 million in the prior fiscal period as compared to a decrease of $2.2 million in the current fiscal period. During the current fiscal period, net cash was used in operating activities to reduce certain payables and accrued liabilities, and increase inventories. Net cash used in investing activities was $.7 million for the three months ended July 31, 2001 as compared to $1.9 million in the same period in the prior fiscal year. The $1.2 million decrease was principally the result of a decrease in the purchase of property and equipment ($.9 million). Net cash provided by financing activities was $2.4 million for the three months ended July 31, 2001 as compared to $7.2 million in the same period in the prior fiscal year. The $4.9 million decrease was principally the result of (i) a smaller increase in borrowings from revolving credit facilities ($2.9 million), and (ii) higher repayments of other debt ($1.9 million) in the current fiscal period as compared to the same period in the prior fiscal year. CROWN As of July 31, 2001 Crown's (parent company only) sources of liquidity included (i) $.8 million of cash on hand, (ii) $10.0 million of receivables from its subsidiaries, of which approximately $8.7 million was restricted due to the terms of the credit facilities of its subsidiaries, (iii) $1.5 million of other receivables, and (iv) the potential issuance of additional debt and/or equity, although Crown had no specific commitments or arrangements to issue such additional debt and/or equity. Crown expects that it will have adequate liquidity to satisfy its capital needs for the foreseeable future. 15
16 CAR-MART Car-Mart's sources of liquidity include cash from operations and its $35 million revolving credit facility with a group of banks, of which $34.3 million was outstanding at July 31, 2001. Based upon the collateral on hand at July 31, 2001, Car-Mart could have drawn an additional $.7 million on its revolving credit facility at such date. Car-Mart's revolving credit facility matures in January 2002. Car-Mart expects that it will be able to renew or refinance its revolving credit facility on or before the scheduled maturity date. Car-Mart believes it will have adequate liquidity to satisfy its capital needs for the foreseeable future. PAACO Paaco's sources of liquidity principally include cash on hand ($.7 million at July 31, 2001) and cash generated from operations. In addition, Paaco has a $62 million revolving credit facility with Finova, of which $59.0 million was outstanding at July 31, 2001. However, as of July 31, 2001, Smart Choice's revolving credit facility with Finova was in default, and there is a question as to whether such default is a basis for an event of default under Paaco's revolving credit facility (see Smart Choice discussion below). Accordingly, there is uncertainty as to whether Paaco is eligible to draw any additional monies under its revolving credit facility. Paaco's revolving credit facility matures in November 2004. It is unlikely that Finova will increase the size of Paaco's credit facility, or that Paaco could refinance such facility with a new lender since Paaco's advance rate (ie. 70% of eligible receivables and inventory) is believed to be above market. Accordingly, for the foreseeable future, Paaco's ability to expand its operations may be limited as a result of a shortage of additional capital. Consequently, Paaco anticipates operating its business at sales and asset levels consistent with its recent past, and not substantially expanding its operations. SMART CHOICE For the three months ended July 31, 2001 Smart Choice (excluding Paaco) reported a net loss of $2.7 million. Smart Choice has a $98 million revolving credit facility with Finova, of which $88.4 million was outstanding as of July 31, 2001. Since December 2000 Smart Choice has been over-advanced on its revolving credit facility, which constitutes an event of default under the facility. As of July 31, 2001 Smart Choice was over-advanced by $20.9 million. Absent funding from an outside source, Smart Choice does not expect it will be able to come into compliance with the current advance rate provisions of its credit facility. As a result of the event of default, Smart Choice is currently not entitled to receive additional advances under its credit facility. Smart Choice is presently operating its business from the cash generated from the collection of its finance receivables and down payments received in connection with the sale of vehicles. Since January 2001 Smart Choice has been in discussions with Finova with regard to possible solutions to the over-advanced position. There are several possible outcomes that may result from these negotiations, including: (i) a restructuring of the Smart Choice credit facility which brings Smart Choice back into compliance; (ii) a sale of substantially all of Smart Choice's assets with the proceeds being used to pay down a portion of its credit facility, and the unpaid portion being absorbed by Finova (forgiveness of debt) and Paaco as the parties may negotiate; (iii) an agreement among Smart Choice, Paaco and Finova whereby substantially all of the assets and liabilities of Smart Choice are liquidated with the proceeds being used to pay down a portion of its credit facility, and the unpaid portion being absorbed by Finova (forgiveness of debt) and Paaco as the parties may negotiate; or (iv) Finova's exercise of its rights under the credit facility and acceleration of the maturity of the loan seeking to liquidate or sell the collateral, which action may prompt Smart Choice to take actions to protect the interests of its shareholders, including the filing of a plan of reorganization under federal bankruptcy laws. Although management is exploring a number of alternatives, including those listed above, the Company cannot predict how or whether Smart Choice's default will be resolved. The accompanying financial statements have been prepared in conformity with accounting principles generally accepted in the United States of America, which contemplate continuation of Smart Choice as a going concern. Recoverability of a significant portion of the assets of Smart Choice may be materially impacted if Smart Choice ceases to continue as a going concern. The financial statements do not include any adjustments relating to the recoverability of recorded asset amounts that might be necessary should Smart Choice be unable to continue in existence. As of July 31, 2001 Crown's investment in Paaco/Smart Choice was $19.0 million ($16.4 million equity and $2.6 million debt). In addition, Crown guarantees the credit facilities of Smart Choice and Paaco to a maximum combined amount of $5 million. 16
17 OTHER Concorde's sources of liquidity include cash on hand ($.9 million at July 31, 2001) and its $25 million revolving credit facility with a bank, of which $14.3 million was outstanding at July 31, 2001. Concorde is able to borrow a specified percentage of eligible mortgage loans under the facility. Based upon eligible mortgage loans on hand at July 31, 2001, Concorde was fully advanced under its revolving credit facility. Concorde's revolving credit facility matures in September 2001. At April 30, 2001 Concorde was in violation of the $1.5 million minimum net worth covenant under its revolving credit facility. At July 31, 2001 Concorde's net worth exceeded the $1.5 million minimum threshold, however, the lender has not waived the prior default. Concorde expects to execute a new agreement with its lender to cure the violation when the current agreement expires in September 2001, or replace its credit facility with a different lender. In March 1996 the Company's Board of Directors approved a program, as amended, to repurchase up to 6,000,000 shares of the Company's common stock from time to time in the open market or in private transactions. As of July 31, 2001 the Company had repurchased 5,424,642 shares pursuant to this program. The timing and amount of future share repurchases, if any, will depend on various factors including market conditions, available alternative investments and the Company's financial position. RECENT ACCOUNTING PRONOUNCEMENTS In July 2001, the Financial Accounting Standards Board ("FASB") issued Statement of Financial Accounting Standards No. 141 ("SFAS 141"), "Business Combinations", which eliminates the pooling method of accounting for business combinations initiated after June 30, 2001. In addition, SFAS 141 addresses the accounting for intangible assets and goodwill acquired in a business combination. This portion of SFAS 141 is effective for business combinations completed after June 30, 2001. The Company does not expect SFAS 141 will have a material impact on the Company's financial position or results of operations. In July 2001, the FASB issued Statement of Financial Accounting Standards No. 142 ("SFAS 142"), "Goodwill and Intangible Assets", which revises the accounting for purchased goodwill and intangible assets. Under SFAS 142, goodwill and intangible assets with indefinite lives will no longer be amortized, but will be tested for impairment annually, and in the event of an impairment indicator. SFAS 142 is effective for fiscal years beginning after December 15, 2001, with earlier adoption permitted. The Company has adopted SFAS 142 effective May 1, 2001. SEASONALITY The Company's automobile sales and finance business is seasonal in nature. In such business, the Company's third fiscal quarter (November through January) is historically the slowest period for car and truck sales. Many of the Company's operating expenses such as administrative personnel, rent and insurance are fixed and cannot be reduced during periods of decreased sales. Conversely, the Company's fourth fiscal quarter (February through April) is historically the busiest time for car and truck sales as many of the Company's customers use income tax refunds as a down payment on the purchase of a vehicle. None of the Company's other businesses experience significant seasonal fluctuations. ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK The Company is exposed to market risk on its financial instruments from changes in interest rates. The Company does not use financial instruments for trading purposes or to manage interest rate risk. The Company's earnings are impacted by its net interest income, which is the difference between the income earned on interest-bearing assets and the interest paid on interest bearing notes payable. Increases in market interest rates could have an adverse effect on profitability. Financial instruments consist of fixed rate finance receivables and fixed and variable rate notes payable. The Company's finance receivables generally bear interest at fixed rates ranging from 8% to 26%. These finance receivables have remaining maturities from one to 42 months. Financial instruments also include mortgage loans held for sale. The Company does not experience significant market risk with such mortgage loans as they are generally sold within 45 days of origination or purchase. At July 31, 2001 the majority of the Company's notes payable contained variable interest rates that fluctuate with market rates. Therefore, an increase in market interest rates would decrease the Company's net interest income and profitability. 17
18 The table below illustrates the impact which hypothetical changes in market interest rates could have on the Company's pretax earnings. The calculations assume (i) the increase or decrease in market interest rates remain in effect for twelve months, (ii) the amount of variable rate notes payable outstanding during the period decreases in direct proportion to decreases in finance receivables as a result of scheduled payments and anticipated charge-offs, and (iii) there is no change in prepayment rates as a result of the interest rate changes. <Table> <Caption> Change in Change in Interest Rates Pretax Earnings -------------- --------------- (in thousands) <S> <C> +2% $(2,427) +1% (1,213) -1% 1,213 -2% 2,427 </Table> 18
19 PART II ITEM 3. DEFAULTS UPON SENIOR SECURITIES Each of Paaco and Smart Choice have revolving credit facilities with Finova. Since December 2000 Smart Choice has been over-advanced on its revolving credit facility, which constitutes an event of default under the facility. As of July 31, 2001 Smart Choice was over-advanced by $20.9 million. Absent funding from an outside source, Smart Choice does not expect it will be able to come into compliance with the current advance rate provisions of its credit facility. There is uncertainty as to whether Smart Choice's event of default is the basis for an event of default under Paaco's revolving credit facility. In any event, Paaco is a wholly-owned subsidiary of Smart Choice, and ultimately Paaco could be affected by the default of Smart Choice under its Finova credit facility. As a result of the event of default, Smart Choice is currently not entitled to receive additional advances under its credit facility, and Paaco may not be entitled to receive additional advances under its credit facility. Since January 2001 Smart Choice has been in discussions with Finova with regard to possible solutions to the over-advanced position. There are several possible outcomes that may result from these negotiations, including: (i) a restructuring of the Smart Choice credit facility which brings Smart Choice back into compliance; (ii) a sale of substantially all of Smart Choice's assets with the proceeds being used to pay down a portion of its credit facility, and the unpaid portion being absorbed by Finova (forgiveness of debt) and Paaco as the parties may negotiate; (iii) an agreement among Smart Choice, Paaco and Finova whereby substantially all of the assets and liabilities of Smart Choice are liquidated with the proceeds being used to pay down a portion of its credit facility, and the unpaid portion being absorbed by Finova (forgiveness of debt) and Paaco as the parties may negotiate; or (iv) Finova's exercise of its rights under the credit facility and acceleration of the maturity of the loan seeking to liquidate or sell the collateral, which action may prompt Smart Choice to take actions to protect the interests of its shareholders, including the filing of a plan of reorganization under federal bankruptcy laws. Although management is exploring a number of alternatives, including those listed above, the Company cannot predict how or whether Smart Choice's default will be resolved. The accompanying financial statements have been prepared in conformity with accounting principles generally accepted in the United States of America, which contemplate continuation of Smart Choice as a going concern. Recoverability of a significant portion of the assets of Smart Choice may be materially impacted if Smart Choice ceases to continue as a going concern. The financial statements do not include any adjustments relating to the recoverability of recorded asset amounts that might be necessary should Smart Choice be unable to continue in existence. As of July 31, 2001 Crown's investment in Paaco/Smart Choice was $19.0 million ($16.4 million equity and $2.6 million debt). In addition, Crown guarantees the credit facilities of Smart Choice and Paaco to a maximum combined amount of $5 million. At April 30, 2001 Concorde was in violation of the $1.5 million minimum net worth covenant under its revolving credit facility. At July 31, 2001 Concorde's net worth exceeded the $1.5 million minimum threshold, however, the lender has not waived the prior default. Concorde expects to execute an agreement with its lender to cure the violation when the current agreement expires in September 2001, or replace its credit facility with a different lender. ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K (a) Exhibits: None. (b) Reports on Form 8-K: During the fiscal quarter ended July 31, 2001 no reports on Form 8-K were filed. 19
20 SIGNATURES Pursuant to the requirements of Section 13 or 15(d) of the Securities and Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized. CROWN GROUP, INC. By: /s/ Mark D. Slusser -------------------------------------------- Mark D. Slusser Chief Financial Officer, Vice President Finance and Secretary (Principal Financial and Accounting Officer) Dated: September 13, 2001 20