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TAXI > SEC Filings for TAXI > Form 10-Q on 8-May-2013All Recent SEC Filings

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Form 10-Q for MEDALLION FINANCIAL CORP


8-May-2013

Quarterly Report


ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

GENERAL

We are a specialty finance company that has a leading position in originating, acquiring, and servicing loans that finance taxicab medallions and various types of commercial businesses. A wholly-owned portfolio company of ours, Medallion Bank, also originates consumer loans for the purchase of recreational vehicles, boats, motorcycles, and trailers, and to finance small-scale home improvements. Since 1996, the year in which we became a public company, we have increased our taxicab medallion loan portfolio at a compound annual growth rate of 5%, and our commercial loan portfolio at a compound annual growth rate of 2% (10% and 7% on a managed basis when combined with Medallion Bank). Since Medallion Bank acquired a consumer loan portfolio and began originating consumer loans in 2004, it has increased its consumer loan portfolio at a compound annual growth rate of 13%. Total assets under our management and the management of our unconsolidated wholly-owned subsidiaries, which includes assets serviced for third party investors, were $1,212,404,000 as of March 31, 2013, and $1,219,224,000 and $1,134,348,000 as of December 31, 2012 and March 31, 2012, and have grown at a compound annual growth rate of 11% from $215,000,000 at the end of 1996.

Our loan-related earnings depend primarily on our level of net interest income. Net interest income is the difference between the total yield on our loan portfolio and the average cost of borrowed funds. We fund our operations through a wide variety of interest-bearing sources, such as revolving bank facilities, bank certificates of deposit issued to customers, debentures issued to and guaranteed by the SBA, and bank term debt. Net interest income fluctuates with changes in the yield on our loan portfolio and changes in the cost of borrowed funds, as well as changes in the amount of interest-bearing assets and interest-bearing liabilities held by us. Net interest income is also affected by economic, regulatory, and competitive factors that influence interest rates, loan demand, and the availability of funding to finance our lending activities. We, like other financial institutions, are subject to interest rate risk to the degree that our interest-earning assets reprice on a different basis than our interest-bearing liabilities.

We also provide debt, mezzanine, and equity investment capital to companies in a variety of industries, consistent with our investment objectives. These investments may be venture capital style investments which may not be fully collateralized. Medallion Capital's investments are typically in the form of secured debt instruments with fixed interest rates accompanied by warrants to purchase an equity interest for a nominal exercise price (such warrants are included in equity investments on the consolidated balance sheets). Interest income is earned on the debt instruments.

We are a closed-end, management investment company under the 1940 Act. We have elected to be treated as a BDC under the 1940 Act. We have also elected to be treated for federal income tax purposes as a RIC under Subchapter M of the Code. As a RIC, we generally do not have to pay corporate-level federal income taxes on any net ordinary income or capital gains that we distribute to our shareholders as dividends if we meet certain source-of-income and asset diversification requirements. Medallion Bank is not a RIC and must pay corporate-level US federal and state income taxes.

Our wholly-owned portfolio company, Medallion Bank, is a bank regulated by the FDIC and the Utah Department of Financial Institutions which originates taxicab medallion, commercial, and consumer loans, raises deposits, and conducts other banking activities. Medallion Bank generally provides us with our lowest cost of funds which it raises through bank certificates of deposit issued to its customers. To take advantage of this low cost of funds, we refer a portion of our taxicab medallion and commercial loans to Medallion Bank, which then originates these loans. However, the FDIC restricts the amount of taxicab medallion loans that Medallion Bank may finance to three times Tier 1 capital, or $353,235,000 as of March 31, 2013. We earn referral fees for these activities. In December 2010, all of these servicing activities were assigned to MSC. As a non-investment company, Medallion Bank is not consolidated with the Company.

Realized gains or losses on investments are recognized when the investments are sold or written off. The realized gains or losses represent the difference between the proceeds received from the disposition of portfolio assets, if any, and the cost of such portfolio assets. In addition, changes in unrealized appreciation or depreciation on investments are recorded and represent the net change in the estimated fair values of the portfolio assets at the end of the period as compared with their estimated fair values at the beginning of the period. Generally, realized gains (losses) on investments and changes in unrealized appreciation (depreciation) on investments are inversely related. When an appreciated asset is sold to realize a gain, a decrease in the previously recorded unrealized appreciation occurs. Conversely, when a loss previously recorded as unrealized depreciation is realized by the sale or other disposition of a depreciated portfolio asset, the reclassification of the loss from unrealized to realized causes a decrease in net unrealized depreciation and an increase in realized loss.

Our investment in Medallion Bank, as a wholly owned portfolio investment, is also subject to quarterly assessments of fair value. We conduct a thorough valuation analysis as described previously, and determine whether any factors give rise to a valuation different than recorded book value, including various regulatory restrictions that were established at Medallion Bank's inception, by the FDIC and State of Utah, and also by additional marketplace restrictions, such as the ability to transfer industrial bank charters. As a result of this valuation process, we used Medallion Bank's actual results of operations as the best estimate of changes in fair value, and recorded the results as a component of unrealized appreciation (depreciation) on investments, although changes in these restrictions and other applicable factors could change these conclusions in the future.

The credit markets have recently experienced a crisis which has disrupted a wide range of traditional financing sources. The crisis has made it increasingly difficult and significantly more expensive through higher credit spreads for finance companies to obtain and renew financing. Continued turmoil in the credit markets could limit our access to funds and restrict us from continuing our current operating strategy or implementing new operating strategies. If funds are available to us, we anticipate that our cost of funds will increase as we obtain new financing.

The credit crisis has also caused many financial institutions to record significant write-downs, mostly on their residential mortgage related assets and structured investment vehicles, due to unsound lending practices. We are not involved in these types of transactions and always understand the importance of proper underwriting. Nonetheless, the judgments used by management in applying the critical accounting policies discussed herein may be affected by a further and prolonged deterioration in the economic environment, which may result in changes to future financial results. Subsequent evaluations of our loan portfolio and other investments, in light of the factors then prevailing, may result in changes to the fair value of the investments, including a decrease in the fair value. In addition, the fair value of investments in our portfolio may be negatively impacted by illiquidity or dislocation in marketplaces resulting in depressed market prices.

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Trends in Investment Portfolio

Our investment income is driven by the principal amount of and yields on our
investment portfolio. To identify trends in the balances and yields, the
following table illustrates our investments at fair value, grouped by medallion
loans, commercial loans, equity investments, and investment securities, and also
presents the portfolio information for Medallion Bank, at the dates indicated.



                                                    March 31, 2013                  December 31, 2012                   March 31, 2012
                                              Interest        Investment        Interest        Investment        Interest        Investment
(Dollars in thousands)                        Rate (1)         Balances         Rate (1)         Balances         Rate (1)         Balances
Medallion loans
New York                                           3.68 %    $    199,509            3.96 %    $    208,564            4.52 %    $    214,858
Chicago                                            5.26            40,780            5.28            40,405            5.51            33,217
Newark                                             6.32            17,934            6.70            17,342            7.20            16,848
Boston                                             5.22            22,140            5.47            19,713            6.49            15,097
Cambridge                                          5.46             5,458            5.74             5,260            6.57             6,433
Other                                              6.72             3,058            6.70             2,899            6.46             4,186

Total medallion loans                              4.25           288,879            4.46           294,183            4.97           290,639

Deferred loan acquisition costs                                        (6 )                             205                               386
Unrealized depreciation on loans                                       -                                 -                                 -

Net medallion loans                                          $    288,873                      $    294,388                      $    291,025

Commercial loans
Secured mezzanine                                 12.79 %    $     51,939           13.04 %    $     49,456           13.61 %    $     53,577
Asset based                                        5.66             7,183            5.79             7,631            5.65             9,024
Other secured commercial                           9.31            10,948            8.01             7,754            8.25             8,156

Total commercial loans                            11.52            70,070           11.59            64,841           11.98            70,757

Deferred loan acquisition income                                      (80 )                             (78 )                            (113 )
Unrealized depreciation on loans                                   (7,894 )                          (7,844 )                         (14,533 )

Net commercial loans                                         $     62,096                      $     56,919                      $     56,111

Investment in Medallion Bank and other
controlled subsidiaries, net                      11.62 %    $     98,973           10.60 %    $     99,083            7.37 %    $     88,207

Equity investments                                 1.48 %    $      4,576            1.66 %    $      4,576            1.46 %    $      4,581

Unrealized appreciation on equities                                    47                                44                               943

Net equity investments                                       $      4,623                      $      4,620                      $      5,524

Investments securities                               -  %    $         -               -  %    $         -               -  %    $         -

Investments at cost (2)                            6.90 %    $    462,498            6.75 %    $    462,683            6.49 %    $    454,184

Deferred loan acquisition costs                                       (86 )                             127                               273
Unrealized appreciation on equities                                    47                                44                               943
Unrealized depreciation on loans                                   (7,894 )                          (7,844 )                         (14,533 )

Net investments                                              $    454,565                      $    455,010                      $    440,867

Medallion Bank investments
Medallion loans                                    3.93 %    $    351,227            4.17 %    $    337,108            4.65 %    $    297,421
Consumer loans                                    16.56           273,849           16.81           264,691           17.68           204,393
Commercial loans                                   4.92            67,371            4.94            70,103            5.81            79,749
Investment securities                              1.90            20,439            2.37            20,951            2.58            24,044

Medallion Bank investments at cost (2)             8.82           712,886            9.02           692,853            9.12           605,607

Deferred loan acquisition costs                                     7,168                             7,019                             5,749
Unrealized appreciation on investment
securities                                                            745                               835                               769
Premiums paid on purchased securities                                 296                               336                               356
Unrealized depreciation on loans                                  (14,192 )                         (14,636 )                         (14,480 )

Medallion Bank net investments                               $    706,903                      $    686,407                      $    598,001

(1) Represents the weighted average interest or dividend rate of the respective portfolio as of the date indicated.

(2) The weighted average interest rate for the entire managed loan portfolio (medallion, commercial, and consumer loans) was 7.88%, 8.02%, and 8.22% at March 31, 2013, December 31, 2012, and March 31, 2012.

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Investment Activity

The following table sets forth the components of investment activity in the
investment portfolio for the periods indicated.



                                                          Three Months Ended March 31,
(Dollars in thousands)                                     2013                  2012
Net investments at beginning of period                $      455,010        $      451,835
Investments originated (1)                                    62,025                34,155
Repayments of investments (1)                                (63,392 )             (46,507 )
Net realized gains (losses) on investments (2)                    77                   (58 )
Net increase in unrealized appreciation (3)                      920                 1,503
Amortization of origination (costs) fees                         (75 )                 (61 )

Net decrease in investments                                     (445 )             (10,968 )

Net investments at end of period                      $      454,565        $      440,867

(1) Includes refinancings.

(2) Excludes net realized losses of $74 for the quarter ended March 31, 2012, related to foreclosed properties, which are carried in other assets on the consolidated balance sheet.

(3) Excludes net unrealized appreciation of $3,012 and $2,410 for the quarter ended March 31, 2013 and 2012, related to foreclosed properties, which are carried in other assets on the consolidated balance sheet.

PORTFOLIO SUMMARY

Total Portfolio Yield

The weighted average yield of the total portfolio at March 31, 2013 was 6.90% (5.67% for the loan portfolio), an increase of 15 basis points from 6.75% at December 31, 2012, and an increase of 41 basis points from 6.49% at March 31, 2012. The weighted average yield of the total managed portfolio at March 31, 2013 was 7.70% (7.88% for the loan portfolio), a decrease of 13 basis points from 7.83% at December 31, 2012, and a decrease of 26 basis points from 7.96% at March 31, 2012. The slight changes in 2013 reflected changes in the portfolio mix.

Medallion Loan Portfolio

Our medallion loans comprised 63% of the net portfolio of $454,565,000 at March 31, 2013, compared to 65% of the net portfolio of $455,010,000 at December 31, 2012, and 66% of $440,867,000 at March 31, 2012. Our managed medallion loans of $639,345,000 comprised 60% of the net managed portfolio of $1,067,371,000 at March 31, 2013, compared to 60% of the net managed portfolio of $1,048,635,000 at December 31, 2012, and 62% of $953,297,000 at March 31, 2012. The medallion loan portfolio decreased by $5,515,000 or 2% in 2013 (an increase of $8,742,000 or 1% on a managed basis), primarily reflecting loan participations sold and the movement of loans to Medallion Bank. Total medallion loans serviced for third parties were $45,677,000, $57,676,000, and $86,221,000 at March 31, 2013, December 31, 2012, and March 31, 2012.

The weighted average yield of the medallion loan portfolio at March 31, 2013 was 4.25%, a decrease of 21 basis points from 4.46% at December 31, 2012, and a decrease of 72 basis points from 4.97% at March 31, 2012. The weighted average yield of the managed medallion loan portfolio at March 31, 2013 was 4.08%, a decrease of 23 basis points from 4.31% at December 31, 2012, and a decrease of 73 basis points from 4.81% at March 31, 2012. The decrease in yield primarily reflected the impact of falling interest rates in the economy and the effects of borrower refinancings. At March 31, 2013, 31% of the medallion loan portfolio represented loans outside New York, compared to 29% and 26% at December 31, 2012 and March 31, 2012. At March 31, 2013, 23% of the managed medallion loan portfolio represented loans outside New York, compared to 22% at December 31, 2012 and 21% at March 31, 2012. We continue to focus our efforts on originating higher yielding medallion loans outside the New York market.

Commercial Loan Portfolio

Our commercial loans represented 14%, 12%, and 13% of the net investment portfolio as of March 31, 2013, December 31, 2012, and March 31, 2012, and were 12%, 12%, and 14% on a managed basis. Commercial loans increased by $5,177,000 or 9% during the quarter ended March 31, 2013 (increased $2,463,000 or 2% on a managed basis), primarily reflecting increases in the other secured commercial and secured mezzanine portfolio, and on a managed basis also by decreases in the asset-based portfolio. Net commercial loans serviced by third parties were $12,098,000 at March 31, 2013, $12,575,000 at December 31, 2012, and $14,799,000 at March 31, 2012.

The weighted average yield of the commercial loan portfolio at March 31, 2013 was 11.52%, a decrease of 7 basis points from 11.59% at December 31, 2012, and a decrease of 46 basis points from 11.98% at March 31, 2012. The weighted average yield of the managed commercial loan portfolio at March 31, 2013 was 8.28%, an increase of 15 basis points from 8.13% at December 31, 2012, and an increase of 1 basis points from 8.27% at March 31, 2012. The decreases primarily reflect changes in the portfolio mix and changes in the rates earned. We continue to originate adjustable-rate and floating-rate loans tied to the prime rate to help mitigate our interest rate risk in a rising interest rate environment. At March 31, 2013, variable-rate loans represented approximately 12% of the commercial portfolio, compared to 13% and 13% at December 31, 2012 and March 31, 2012, and were 52%, 56%, and 57% on a managed basis. Although this strategy initially produces a lower yield, we believe that this strategy mitigates interest rate risk by better matching our earning assets to their adjustable-rate funding sources.

Consumer Loan Portfolio

Our managed consumer loans, all of which are held in the portfolio managed by Medallion Bank, represented 25%, 25%, and 21% of the managed net investment portfolio as of March 31, 2013, December 31, 2012, and March 31, 2012. Medallion Bank originates adjustable rate consumer loans secured by recreational vehicles, boats, motorcycles, and trailers located in all 50 states. The portfolio is serviced by a third party subsidiary of a major commercial bank.

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The weighted average gross yield of the managed consumer loan portfolio was 16.56% at March 31, 2013, compared to 16.81% and 17.68% at December 31, 2012 and March 31, 2012. Adjustable rate loans represented 73% of the managed consumer portfolio at March 31, 2013, compared to 76% and 81% at December 31, 2012 and March 31, 2012.

Delinquency and Loan Loss Experience

We generally follow a practice of discontinuing the accrual of interest income on our loans that are in arrears as to payments for a period of 90 days or more. We deliver a default notice and begin foreclosure and liquidation proceedings when management determines that pursuit of these remedies is the most appropriate course of action under the circumstances. A loan is considered to be delinquent if the borrower fails to make a payment on time; however, during the course of discussion on delinquent status, we may agree to modify the payment terms of the loan with a borrower that cannot make payments in accordance with the original loan agreement. For loan modifications, the loan will only be returned to accrual status if all past due interest payments are brought fully current. For credit that is collateral based, we evaluate the anticipated net residual value we would receive upon foreclosure of such loans, if necessary. There can be no assurance, however, that the collateral securing these loans will be adequate in the event of foreclosure. For credit that is cash flow-based, we assess our collateral position, and evaluate most of these relationships as ongoing businesses, expecting to locate and install a new operator to run the business and reduce the debt.

For the consumer loan portfolio, the process to repossess the collateral is started at 60 days past due. If the collateral is not located and the account reaches 120 days delinquent, the account is charged off to realized losses. If the collateral is repossessed, a realized loss is recorded to write the collateral down to 75% of its net realizable value, and the collateral is sent to auction. When the collateral is sold, the net auction proceeds are applied to the account, and any remaining balance is written off as a realized loss, and any excess proceeds are recorded as a realized gain. Proceeds collected on charged off accounts are recorded as realized gains. All collection, repossession, and recovery efforts are handled on behalf of Medallion Bank by the servicer.

The following table shows the trend in loans 90 days or more past due.

                                                  March 31, 2013            December 31, 2012            March 31, 2012
(Dollars in thousands)                          Amount       % (1)         Amount         % (1)        Amount       % (1)
Medallion loans                                $      -         0.0 %    $        -          0.0 %    $      47        0.0 %

Commercial loans
Secured mezzanine                                  2,380        0.7            2,380         0.7         12,457        3.5
Asset-based receivable                                -         0.0               -          0.0             -         0.0
Other secured commercial                              -         0.0               -          0.0             -         0.0

Total commercial loans                             2,380        0.7            2,380         0.7         12,457        3.5

Total loans 90 days or more past due           $   2,380        0.7 %    $     2,380         0.7 %    $  12,504        3.5 %

Total Medallion Bank loans                     $   1,007        0.2 %    $     1,252         0.2 %    $   1,254        0.2 %

Total managed loans 90 days or more past due   $   3,387        0.3 %    $     3,632         0.4 %    $  13,758        1.5 %

(1) Percentages are calculated against the total or managed loan portfolio, as appropriate.

In general, collection efforts since the establishment of our collection department have contributed to the reduction in overall delinquencies of medallion and other secured commercial loans. Medallion loan delinquencies have continued to decline compared to March 31, 2012 due to consistent collection efforts. Secured mezzanine delinquencies have declined compared to March 31, 2012 due to loan writeoffs to realized losses, and due to successful restructuring efforts on certain portfolio loans. Medallion Bank delinquencies remained steady due to strong consumer portfolio performance reflective of the improved economic environment. In addition to the delinquencies in the loan portfolio as described above, receivables from bonuses relating to certain investments of $6,468,000 were delinquent at March 31, 2013. We are actively working with each delinquent borrower/obligor to bring them current, and believe that any potential loss exposure is reflected in our mark-to-market estimates on each investment. Although there can be no assurances as to changes in the trend rate and further negative changes in the economy, management believes that any loss exposures are properly reflected in reported asset values. We monitor delinquent loans for possible exposure to loss by analyzing various factors, including the value of the collateral securing the loan and the borrower's prior payment history. Under the 1940 Act, our loan portfolio must be recorded at fair value or "marked-to-market." Unlike other lending institutions, we are not permitted to establish reserves for loan losses. Instead, the valuation of our portfolio is adjusted quarterly to reflect our estimate of the current realizable value of our loan portfolio. Since no ready market exists for this portfolio, fair value is subject to the good faith determination of our Board of Directors. Because of the subjectivity of these estimates, there can be no assurance that in the event of a foreclosure or the sale of portfolio loans we would be able to recover the amounts reflected on our balance sheet.

In determining the value of our portfolio, the Board of Directors may take into consideration various factors such as the financial condition of the borrower and the adequacy of the collateral. For example, in a period of sustained increases in market interest rates, the Board of Directors could decrease its valuation of the portfolio if the portfolio consists primarily of long-term, fixed-rate loans. Our valuation procedures are designed to generate values that approximate that which would have been established by market forces, and are therefore subject to uncertainties and variations from reported results. Based upon these factors, net unrealized appreciation or depreciation on investments is determined, based on the fluctuations of our estimate of the current realizable value of our portfolio from our cost basis.

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The following tables set forth the changes in our unrealized appreciation (depreciation) on investments, other than investments in controlled subsidiaries, for the 2013 and 2012 quarters shown below.

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