news-10q_20160930.htm

 

UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

 

FORM 10-Q

 

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

For the quarterly period ended September 30, 2016

OR

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

For the transition period from                  to

Commission File Number 001-33211

 

NewStar Financial, Inc.

(Exact name of registrant as specified in its charter)

 

 

Delaware

 

54-2157878

(State or other jurisdiction of
incorporation or organization)

 

(I.R.S. Employer
Identification No.)

 

500 Boylston Street, Suite 1250,

Boston, MA

 

02116

(Address of principal executive offices)

 

(Zip Code)

(617) 848-2500

(Registrant’s telephone number, including area code)

N/A

(Former name, former address and former fiscal year, if changed since last report)

 

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      No  

Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files).    Yes      No  

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

 

Large accelerated filer

 

 

Accelerated filer

 

 

 

 

 

Non-accelerated filer

 

 

Smaller reporting company

 

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

As of November 1, 2016, 44,207,504  shares of common stock, par value of $0.01 per share, were outstanding.

 

 

 

 

 


TABLE OF CONTENTS

 

 

 

Page

 

PART I

 

 

FINANCIAL INFORMATION

 

Item 1.

Financial Statements (Unaudited)

4

 

Condensed Consolidated Balance Sheets as of September 30, 2016 and December 31, 2015

4

 

Condensed Consolidated Statements of Operations for the Three and Nine Months Ended September 30, 2016 and 2015

5

 

Condensed Consolidated Statements of Comprehensive Income for the Three and Nine Months Ended September 30, 2016 and 2015

6

 

Condensed Consolidated Statements of Changes in Stockholders’ Equity for the Nine Months Ended September 30, 2016 and 2015

7

 

Condensed Consolidated Statements of Cash Flows for the Nine Months Ended September 30, 2016 and 2015

8

 

Notes to Condensed Consolidated Financial Statements

10

Item 2.

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

46

Item 3.

Quantitative and Qualitative Disclosures About Market Risk

70

Item 4.

Controls and Procedures

71

 

PART II

 

 

OTHER INFORMATION

 

Item 1.

Legal Proceedings

71

Item 1A.

Risk Factors

71

Item 2.

Unregistered Sales of Equity Securities and Use of Proceeds

72

Item 6.

Exhibits

73

SIGNATURES

75

 

 

2

 


Note Regarding Forward Looking Statements

This Quarterly Report on Form 10-Q of NewStar Financial, Inc., contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. These are statements that relate to future periods and include statements about:

 

our anticipated financial condition, including estimated loan losses;

 

our expected results of operation;

 

our growth and market opportunities;

 

trends and conditions in the financial markets in which we operate;

 

our future funding needs and sources and availability of funding;

 

our involvement in capital-raising transactions;

 

our ability to meet draw requests under commitments to borrowers under certain conditions;

 

our competitors;

 

our provision for credit losses;

 

our future development of our products and markets;

 

our ability to compete; and

 

our stock price.

Generally, the words “anticipates,” “believes,” “expects,” “intends,” “estimates,” “projects,” “plans” and similar expressions identify forward-looking statements. These forward-looking statements involve known and unknown risks, uncertainties and other important factors that could cause our actual results, performance, achievements or industry results to differ materially from any future results, performance or achievements expressed or implied by these forward-looking statements. These risks, uncertainties and other important factors include, among others:

 

risk of deterioration in credit quality that could result in levels of delinquent or non-accrual loans that would force us to realize credit losses exceeding our allowance for credit losses and deplete our cash position;

 

risks and uncertainties relating to the financial markets generally, including disruptions in the global financial markets;

 

uncertainties relating to the market price of our common stock prevailing from time to time;

 

risk and uncertainties related to our ability to obtain external financing;

 

risk and uncertainties relating to the regulation of the commercial lending industry by federal, state and local governments;

 

risks and uncertainties relating to our limited operating history;

 

our ability to minimize losses, achieve profitability, and realize our deferred tax asset; and

 

the competitive nature of the commercial lending industry and our ability to effectively compete.

For a further description of these and other risks and uncertainties, we encourage you to carefully read section Item 1A. “Risk Factors” of our Annual Report on Form 10-K, for the year ended December 31, 2015.

The forward-looking statements contained in this Quarterly Report on Form 10-Q speak only as of the date of this report. We expressly disclaim any obligation or undertaking to disseminate any updates or revisions to any forward-looking statement contained in this Quarterly Report to reflect any change in our expectations with regard thereto or any change in events, conditions or circumstances on which any forward-looking statement is based, except as may be required by law.

 

3

 


PART I. FINANCIAL INFORMATION

 

 

Item 1.  Financial Statements.

NEWSTAR FINANCIAL, INC.

CONDENSED CONSOLIDATED BALANCE SHEETS

Unaudited

 

 

 

September 30, 2016

 

 

December 31, 2015

 

 

 

($ in thousands, except per share

and par value amounts)

 

Assets:

 

 

 

 

 

 

 

 

Cash and cash equivalents

 

$

36,266

 

 

$

35,933

 

Restricted cash

 

 

370,487

 

 

 

153,992

 

Cash collateral on deposit with custodians

 

 

7,564

 

 

 

61,081

 

Investments in debt securities, available-for-sale

 

 

90,814

 

 

 

94,177

 

Loans held-for-sale, net

 

 

429,718

 

 

 

478,785

 

Loans and leases, net (including loans at fair value of $389,260 and $0, respectively)

 

 

3,186,998

 

 

 

3,134,072

 

Interest receivable

 

 

14,829

 

 

 

13,932

 

Property and equipment, net

 

 

296

 

 

 

638

 

Deferred income taxes, net

 

 

29,881

 

 

 

33,133

 

Income tax receivable

 

 

1,381

 

 

 

5,342

 

Goodwill

 

 

17,884

 

 

 

17,884

 

Identified intangible asset, net

 

 

655

 

 

 

910

 

Other assets

 

 

53,786

 

 

 

21,504

 

Assets held-for-sale

 

 

162,801

 

 

 

 

Total assets

 

$

4,403,360

 

 

$

4,051,383

 

Liabilities:

 

 

 

 

 

 

 

 

Credit facilities, net

 

$

492,758

 

 

$

832,686

 

Term debt securitizations, net

 

 

2,327,717

 

 

 

1,821,519

 

Senior notes, net

 

 

373,462

 

 

 

372,153

 

Subordinated notes, net

 

 

239,543

 

 

 

209,509

 

Repurchase agreements, net

 

 

52,591

 

 

 

96,224

 

Accrued interest payable

 

 

31,021

 

 

 

18,073

 

Other liabilities

 

 

170,380

 

 

 

41,741

 

Liabilities held-for-sale

 

 

44,158

 

 

 

 

Total liabilities

 

 

3,731,630

 

 

 

3,391,905

 

Stockholders’ equity:

 

 

 

 

 

 

 

 

Preferred stock, par value $0.01 per share (5,000,000 shares authorized;

   no shares outstanding)

 

 

 

 

 

 

Common stock, par value $0.01 per share:

 

 

 

 

 

 

 

 

Shares authorized: 145,000,000 in 2016 and 2015;

 

 

 

 

 

 

 

 

Shares outstanding 46,706,004 in 2016 and 46,527,288 in 2015

 

 

467

 

 

 

465

 

Additional paid-in capital

 

 

745,443

 

 

 

742,970

 

Retained earnings

 

 

49,247

 

 

 

31,353

 

Common stock held in treasury, at cost; 10,454,359 in 2016 and 9,154,548 in 2015

 

 

(118,552

)

 

 

(109,245

)

Accumulated other comprehensive loss, net

 

 

(4,875

)

 

 

(6,065

)

Total stockholders’ equity

 

 

671,730

 

 

 

659,478

 

Total liabilities and stockholders’ equity

 

$

4,403,360

 

 

$

4,051,383

 

 

The accompanying notes are an integral part of these condensed consolidated financial statements.

4

 


NEWSTAR FINANCIAL, INC.

CONDENSED CONSOLIDATED STATEMENTS OF OPERATIONS

Unaudited

 

 

 

Three Months Ended September 30,

 

 

Nine Months Ended September 30,

 

 

 

2016

 

 

2015

 

 

2016

 

 

2015

 

 

 

($ in thousands, except per share amounts)

 

Net interest income:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Interest income

 

$

65,155

 

 

$

54,574

 

 

$

186,499

 

 

$

141,194

 

Interest expense

 

 

39,897

 

 

 

31,345

 

 

 

117,816

 

 

 

84,764

 

Net interest income

 

 

25,258

 

 

 

23,229

 

 

 

68,683

 

 

 

56,430

 

Provision for credit losses

 

 

3,570

 

 

 

4,534

 

 

 

24,906

 

 

 

14,720

 

Net interest income after provision for credit losses

 

 

21,688

 

 

 

18,695

 

 

 

43,777

 

 

 

41,710

 

Non-interest income (loss):

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Asset management income

 

 

3,353

 

 

 

1,019

 

 

 

10,337

 

 

 

2,954

 

Fee income

 

 

2,946

 

 

 

4,573

 

 

 

5,836

 

 

 

10,508

 

Realized loss on derivatives

 

 

(13

)

 

 

(5

)

 

 

(31

)

 

 

(24

)

Realized (loss) gain on sale of loans, net

 

 

(19

)

 

 

360

 

 

 

36

 

 

 

314

 

Other miscellaneous income, net

 

 

4,231

 

 

 

665

 

 

 

7,195

 

 

 

2,772

 

Loss on total return swap

 

 

 

 

 

(3,035

)

 

 

(6,062

)

 

 

(971

)

Gain (loss) on loans held-for-sale, net

 

 

468

 

 

 

(85

)

 

 

(5,345

)

 

 

(506

)

Gain on sale of Business Credit, net

 

 

 

 

 

 

 

 

22,511

 

 

 

 

Total non-interest income

 

 

10,966

 

 

 

3,492

 

 

 

34,477

 

 

 

15,047

 

Operating expenses:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Compensation and benefits

 

 

13,175

 

 

 

9,561

 

 

 

32,640

 

 

 

24,004

 

General and administrative expenses

 

 

4,894

 

 

 

3,819

 

 

 

15,337

 

 

 

11,052

 

Total operating expenses

 

 

18,069

 

 

 

13,380

 

 

 

47,977

 

 

 

35,056

 

Income before income taxes

 

 

14,585

 

 

 

8,807

 

 

 

30,277

 

 

 

21,701

 

Income tax expense

 

 

5,941

 

 

 

3,665

 

 

 

12,383

 

 

 

9,020

 

Net income

 

$

8,644

 

 

$

5,142

 

 

$

17,894

 

 

$

12,681

 

Basic Earnings per share

 

$

0.19

 

 

$

0.11

 

 

$

0.38

 

 

$

0.27

 

Diluted Earnings per share

 

$

0.19

 

 

$

0.11

 

 

$

0.38

 

 

$

0.26

 

 

The accompanying notes are an integral part of these condensed consolidated financial statements.

5

 


NEWSTAR FINANCIAL, INC.

CONDENSED CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

Unaudited

 

 

 

Three Months Ended September 30,

 

 

Nine Months Ended September 30,

 

 

 

2016

 

 

2015

 

 

2016

 

 

2015

 

 

 

($ in thousands, except per share amounts)

 

Net income

 

$

8,644

 

 

$

5,142

 

 

$

17,894

 

 

$

12,681

 

Other comprehensive income gain (loss), net of tax:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Net unrealized securities (losses) gains, net of tax (benefit) expense of $2,044, $(1,782), $789 and $(2,120), respectively

 

 

3,028

 

 

 

(2,583

)

 

 

1,193

 

 

 

(3,078

)

Net unrealized derivative (losses) gains, net of tax (benefit) expense of $5, $(14), $2 and $(38), respectively

 

 

8

 

 

 

(21

)

 

 

(3

)

 

 

(48

)

Other comprehensive income (loss)

 

 

3,036

 

 

 

(2,604

)

 

 

1,190

 

 

 

(3,126

)

Comprehensive income

 

$

11,680

 

 

$

2,538

 

 

$

19,084

 

 

$

9,555

 

 

The accompanying notes are an integral part of these condensed consolidated financial statements.

6

 


NEWSTAR FINANCIAL, INC.

CONDENSED CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS’ EQUITY

Unaudited

 

 

 

NewStar Financial, Inc. Stockholders’ Equity

For the Nine Months Ended September 30, 2016

 

 

 

Common

Stock

 

 

Additional

Paid-in

Capital

 

 

Retained

Earnings

 

 

Treasury

Stock

 

 

Accumulated

Other

Comprehensive

Loss, net

 

 

Common

Stockholders’

Equity

 

 

 

($ in thousands)

 

Balance at January 1, 2016

 

$

465

 

 

$

742,970

 

 

$

31,353

 

 

$

(109,245

)

 

$

(6,065

)

 

$

659,478

 

Net income

 

 

 

 

 

 

 

 

17,894

 

 

 

 

 

 

 

 

 

17,894

 

Other comprehensive income

 

 

 

 

 

 

 

 

 

 

 

 

 

 

1,190

 

 

 

1,190

 

Issuance of restricted stock

 

 

6

 

 

 

(6

)

 

 

 

 

 

 

 

 

 

 

 

 

Shares reacquired from employee transactions

 

 

(1

)

 

 

1

 

 

 

 

 

 

(445

)

 

 

 

 

 

(445

)

Tax benefit (expense) from vesting of restricted stock

 

 

 

 

 

(473

)

 

 

 

 

 

 

 

 

 

 

 

(473

)

Repurchase of common stock

 

 

(12

)

 

 

12

 

 

 

 

 

 

(8,862

)

 

 

 

 

 

(8,862

)

Exercise of common stock options, net

 

 

9

 

 

 

(1,108

)

 

 

 

 

 

 

 

 

 

 

 

(1,099

)

Tax benefit from exercise of stock options

 

 

 

 

 

1,225

 

 

 

 

 

 

 

 

 

 

 

 

1,225

 

Amortization of restricted common stock awards

 

 

 

 

 

2,822

 

 

 

 

 

 

 

 

 

 

 

 

2,822

 

Balance at September 30, 2016

 

$

467

 

 

$

745,443

 

 

$

49,247

 

 

$

(118,552

)

 

$

(4,875

)

 

$

671,730

 

 

 

 

NewStar Financial, Inc. Stockholders’ Equity

For the Nine Months Ended September 30, 2015

 

 

 

Common

Stock

 

 

Additional

Paid-in

Capital

 

 

Retained

Earnings

 

 

Treasury

Stock

 

 

Accumulated

Other

Comprehensive

Income, net

 

 

Common

Stockholders’

Equity

 

 

 

($ in thousands)

 

Balance at January 1, 2015

 

$

466

 

 

$

718,825

 

 

$

14,463

 

 

$

(92,724

)

 

$

(33

)

 

$

640,997

 

Net income

 

 

 

 

 

 

 

 

12,681

 

 

 

 

 

 

 

 

 

12,681

 

Other comprehensive loss

 

 

 

 

 

 

 

 

 

 

 

 

 

 

(3,126

)

 

 

(3,126

)

Issuance of restricted stock

 

 

4

 

 

 

(4

)

 

 

 

 

 

 

 

 

 

 

 

 

Net Shares reacquired from employee transactions

 

 

(1

)

 

 

1

 

 

 

 

 

 

(597

)

 

 

 

 

 

(597

)

Tax benefit (expense) from vesting of restricted stock

 

 

 

 

 

(163

)

 

 

 

 

 

 

 

 

 

 

 

(163

)

Repurchase of common stock

 

 

(12

)

 

 

12

 

 

 

 

 

 

(15,854

)

 

 

 

 

 

(15,854

)

Issuance of warrants

 

 

 

 

 

21,766

 

 

 

 

 

 

 

 

 

 

 

 

21,766

 

Exercise of common stock options

 

 

1

 

 

 

1,574

 

 

 

 

 

 

 

 

 

 

 

 

1,575

 

Tax benefit from exercise of stock options

 

 

 

 

 

551

 

 

 

 

 

 

 

 

 

 

 

 

551

 

Amortization of restricted common stock awards

 

 

 

 

 

2,450

 

 

 

 

 

 

 

 

 

 

 

 

2,450

 

Balance at September 30, 2015

 

$

458

 

 

$

745,012

 

 

$

27,144

 

 

$

(109,175

)

 

$

(3,159

)

 

$

660,280

 

 

The accompanying notes are an integral part of these condensed consolidated financial statements.

7

 


NEWSTAR FINANCIAL, INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS

Unaudited

 

 

 

Nine Months Ended September 30,

 

 

 

 

2016

 

 

 

2015

 

 

 

($ in thousands)

 

Cash flows from operating activities:

 

 

 

 

 

 

 

 

Net income

 

$

17,894

 

 

$

12,681

 

Adjustments to reconcile net income to net cash used for operations:

 

 

 

 

 

 

 

 

Provision for credit losses

 

 

24,906

 

 

 

14,720

 

Depreciation, amortization and accretion

 

 

(9,159

)

 

 

(6,977

)

Amortization of debt issuance costs

 

 

13,720

 

 

 

14,944

 

Equity compensation expense

 

 

2,822

 

 

 

2,450

 

Gain on sale of Business Credit

 

 

(22,511

)

 

 

 

(Gain) loss on sale of loans, net

 

 

(36

)

 

 

(314

)

Loss (gain) on total return swap

 

 

6,062

 

 

 

971

 

Gain on sale of equipment, net

 

 

(724

)

 

 

(471

)

Loss on other real estate owned

 

 

 

 

 

82

 

Net change in deferred income taxes

 

 

2,466

 

 

 

(5,394

)

Loans held-for-sale originated

 

 

(217,132

)

 

 

(490,601

)

Proceeds from sale of loans held-for-sale

 

 

313,287

 

 

 

263,231

 

Loss on loans held-for-sale, net

 

 

5,345

 

 

 

506

 

Net change in interest receivable

 

 

(2,340

)

 

 

(2,191

)

Net change in other assets

 

 

(15,090

)

 

 

6,587

 

Net change in accrued interest payable

 

 

13,086

 

 

 

21,685

 

Net change in other liabilities

 

 

(11,165

)

 

 

6,304

 

Net cash provided by operating activities

 

 

121,431

 

 

 

(161,787

)

Cash flows from investing activities:

 

 

 

 

 

 

 

 

Net change in restricted cash

 

 

(240,397

)

 

 

(45,443

)

Net change in loans

 

 

(92,685

)

 

 

(692,212

)

Purchase of equity investments

 

 

(4,052

)

 

 

 

Purchase of debt securities, available-for-sale

 

 

 

 

 

(85,020

)

Proceeds from debt securities, available-for-sale

 

 

6,000

 

 

 

33,000

 

Proceeds from sale of other real estate owned

 

 

 

 

 

3,211

 

Acquisition of property and equipment

 

 

(9

)

 

 

(129

)

Net cash provided by (used in) investing activities

 

 

(331,143

)

 

 

(786,593

)

Cash flows from financing activities:

 

 

 

 

 

 

 

 

Proceeds from exercise of stock options, net

 

 

(1,099

)

 

 

1,575

 

Tax benefit from exercise of stock options

 

 

1,225

 

 

 

551

 

Tax benefit (expense) from vesting of restricted stock

 

 

(473

)

 

 

(163

)

Advances on credit facilities

 

 

1,282,522

 

 

 

1,934,949

 

Repayment of borrowings on credit facilities

 

 

(1,602,978

)

 

 

(1,797,122

)

Issuance of term debt

 

 

623,197

 

 

 

824,167

 

Borrowings on term debt

 

 

37,600

 

 

 

43,500

 

Repayment of borrowings on term debt

 

 

(142,155

)

 

 

(170,089

)

Issuance of senior notes

 

 

 

 

 

300,000

 

Borrowing on subordinated notes

 

 

24,500

 

 

 

50,000

 

Borrowings on repurchase agreements

 

 

3,496

 

 

 

125,012

 

Repayment of borrowings on repurchase agreements

 

 

(47,694

)

 

 

(44,599

)

Repayment of corporate debt

 

 

 

 

 

(238,500

)

Release (posting) of cash collateral

 

 

53,517

 

 

 

(14,763

)

Payment of deferred financing costs

 

 

(10,240

)

 

 

(25,248

)

Purchase of treasury stock

 

 

(9,307

)

 

 

(16,451

)

Net cash (used in) provided by financing activities

 

 

212,111

 

 

 

972,819

 

Net increase (decrease) in cash during the period

 

 

2,399

 

 

 

24,439

 

Cash and cash equivalents at beginning of period

 

 

35,933

 

 

 

33,033

 

Less cash of Equipment Finance held-for-sale

 

 

(2,066

)

 

 

 

Cash and cash equivalents at end of period

 

 

36,266

 

 

 

57,472

 

8

 


NEWSTAR FINANCIAL, INC.

CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS, continued

Unaudited

 

 

 

Nine Months Ended September 30,

 

 

 

 

2016

 

 

 

2015

 

 

 

($ in thousands)

 

Supplemental cash flows information:

 

 

 

 

 

 

 

 

Interest paid

 

$

104,731

 

 

$

63,079

 

Taxes paid, net of refund

 

 

5,201

 

 

 

7,285

 

Transfer of loans, net to other real estate owned

 

 

15,781

 

 

 

 

Transfer of loans, net to loans-held-for-sale

 

 

67,704

 

 

 

 

Transfer of Equipment Finance assets to held-for-sale

 

 

160,735

 

 

 

 

Transfer of Equipment Finance liabilities to held-for-sale

 

 

44,158

 

 

 

 

Issuance of warrants

 

 

 

 

 

21,766

 

Unsettled trades payable

 

 

138,639

 

 

 

 

 

The accompanying notes are an integral part of these condensed consolidated financial statements.

 

9

 


NEWSTAR FINANCIAL, INC.

NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS

Unaudited

 

 

Note 1. Organization

NewStar Financial, Inc. (the “Company”) is an internally-managed, commercial finance company with specialized lending platforms focused on meeting the complex financing needs of companies and private investors in the middle market. The Company and its wholly owned investment management subsidiary, NewStar Capital LLC, are registered investment advisers and provide asset management services to institutional investors. The Company manages several private credit funds that co-invest loans originated through its leveraged finance lending platform.  Through NewStar Capital, the Company also manages a series of funds structured as CLOs that invest primarily in broadly syndicated loans, as well as other sponsored funds and managed accounts that invest across various asset classes, including broadly syndicated loans and high yield bonds. Through its specialized lending platforms, the Company provides a range of senior secured debt financing options to mid-sized companies to fund working capital, growth strategies, acquisitions and recapitalizations, as well as purchases of equipment and other capital assets.

These lending activities require specialized skills and transaction experience, as well as a significant investment in personnel and operating infrastructure.  Our loans and leases are originated directly by teams of credit-trained bankers and experienced marketing officers organized around key industry and market segments. These teams represent specialized lending groups that are supported by centralized credit management and operating platforms. This structure enables us to leverage common standards and systems, as well as industry and professional expertise across multiple businesses.

The Company targets its marketing and origination efforts at private equity firms, mid-sized companies, corporate executives, banks, and a variety of other referral sources and financial intermediaries to develop new customer relationships and source lending opportunities. The Company's origination network is national in scope and it targets companies with business operations across a broad range of industry sectors. The Company employs highly experienced bankers, marketing officers and credit professionals to identify and structure new lending opportunities and manage customer relationships. The Company believes that the quality of its professionals, the breadth of their relationships and referral networks, and their ability to develop creative solutions for customers position it to be a valued partner and preferred lender for mid-sized companies and private equity funds with middle market investment strategies.

The Company's emphasis on direct origination is an important aspect of its marketing and credit strategy. The Company's national network is designed around specialized origination channels intended to generate a large set of potential lending opportunities. That allows the Company to be highly selective in its credit process and to allocate capital to market segments that we believe represent the most attractive opportunities. The Company's direct origination network also generates proprietary lending opportunities with yield characteristics that we believe would not otherwise be available through intermediaries. In addition, direct origination provides the Company with direct access to management teams and enhances its ability to conduct detailed due diligence and credit analysis of prospective borrowers. It also allows the Company to negotiate transaction terms directly with borrowers and, as a result, advise its customers on financial strategies and capital structures, which it believes benefits its credit performance.

The Company typically provides financing commitments to companies in amounts that range in size from $10 million to $50 million. The size of financing commitments depends on various factors, including the type of loan, the credit characteristics of the borrower, the economic characteristics of the loan, and the Company's role in the transaction. The Company also selectively arranges larger transactions that it may retain on its balance sheet or syndicate to other lenders, which may include funds that it manages for third party institutional investors. By syndicating loans to other lenders and the Company's managed funds, it is able to provide larger financing commitments to its customers and generate fee income, while limiting its risk exposure to single borrowers. From time to time, however, the Company's balance sheet exposure to a single borrower exceeds $35 million.

Beginning in January 2016, the Company’s operations were divided into two reportable segments that represent its core businesses, Commercial Lending and Asset Management.

The Commercial Lending segment represents our direct lending activities which are focused on providing a range of flexible senior secured debt options to mid-sized companies with annual cash flow (EBITDA) typically between $10 million and $50 million owned by private equity investment funds and managed by established professional alternative asset managers.

The Asset Management segment represents our investment advisory activities which are focused on providing opportunities for qualified investors to invest in a range of credit funds managed by the Company that employ credit-oriented strategies focused on middle market loans and liquid, tradeable credit.  

 

10

 


 

Note 2. Summary of Significant Accounting Policies

Basis of Presentation

These interim condensed consolidated financial statements include the accounts of the Company and its subsidiaries (collectively, “NewStar”) and have been prepared in accordance with U.S. generally accepted accounting principles (“GAAP”). All significant intercompany transactions have been eliminated in consolidation. These interim condensed financial statements include adjustments of a normal and recurring nature considered necessary by management to fairly present NewStar’s financial position, results of operations and cash flows. These interim condensed financial statements may not be indicative of financial results for the full year. The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect certain reported amounts and disclosure of contingent assets and liabilities. Actual results could differ from those estimates. The estimates most susceptible to change in the near-term are the Company’s estimates of its (i) allowance for credit losses, (ii) recorded amounts of deferred income taxes, (iii) fair value measurements used to record fair value adjustments to certain financial instruments, (iv) valuation of investments, (v) determination of other than temporary impairments and temporary impairments and (vi) impairment of goodwill and identified intangible assets. The interim condensed consolidated financial statements and notes thereto should be read in conjunction with the Company’s Annual Report on Form 10-K for the year ended December 31, 2015.

Prior Period Reclassification

Prior period amounts are reclassified wherever necessary to confirm with current period presentation.  

Segment Reporting

Due to the continued expansion of our asset management activities, through new fund formation and the acquisition of NewStar Capital, the Company reassessed its classification of reporting as a single segment under ASC 280, Segment Reporting.  Based on this evaluation, the Company determined that reporting the results of its Commercial Lending and Asset Management as two segments would better reflect how the Company is now managed and how information is internally reviewed.  For complete segment information, see Note 15.

Recently Adopted Accounting Standards

In April 2015, the FASB issued ASU 2015-03, Interest - Imputation of Interest (Subtopic 835-30): Simplifying the Presentation of Debt Issuance Costs. ASU 2015-03 requires that debt issuance costs related to a recognized debt liability be presented in the balance sheet as a direct deduction from the carrying amount of the debt liability, consistent with debt discounts. ASU 2015-03 is effective for the interim or annual period beginning after December 15, 2015. The Company adopted ASU 2015-03 on January 1, 2016 and applied the standard retrospectively. The balance sheet presented has been adjusted to reflect the period specific effects of the adoption of the guidance.  The adoption of ASU 2015-03 had the following impact on the Condensed Consolidated Balance Sheet as of December 31, 2015.

(in thousands)

 

December 31, 2015

 

As previously reported under GAAP applicable at the time

 

 

 

 

Deferred financing costs, net

 

 

40,733

 

Credit facilities

 

 

843,896

 

Term debt securitizations, net

 

 

1,837,889

 

Senior notes, net

 

 

379,232

 

Subordinated notes, net

 

 

215,018

 

Repurchase agreements

 

 

96,789

 

 

 

 

 

 

As currently reported under ASU 2015-03

 

 

 

 

Deferred financing costs, net

 

 

 

Credit facilities, net

 

 

832,686

 

Term debt securitizations, net

 

 

1,821,519

 

Senior notes, net

 

 

372,153

 

Subordinated notes, net

 

 

209,509

 

Repurchase agreements, net

 

 

96,224

 

 

In September 2015, the FASB issued ASU 2015-16, Simplifying the Accounting for Measurement-Period Adjustments in Business Combinations (Topic 805).  ASU 2015-16 eliminated the requirement to retrospectively adjust the financial statements for measurement-period adjustments that occur in periods after a business combination is consummated.  ASU 2015-16 is effective for annual periods and interim periods within that period beginning after December 15, 2015.  The Company adopted ASU 2015-16 on January 1, 2016.  The adoption of ASU 2015-16 did not have a material impact on our results from operations or financial position.

11

 


 

Recently Issued Accounting Standards

In May 2014, the FASB issued ASU 2014-09, Revenue from Contracts with Customers (Topic 606). ASU 2014-09 provides a framework that replaces existing revenue recognition guidance. ASU 2014-09 is effective for annual periods and interim periods within that reporting period beginning after December 15, 2017. Early adoption is not permitted. The Company is currently evaluating the impact that the adoption of ASU 2014-09 will have on results from operations or financial position.

 

In January 2016, the FASB issued ASU 2016-01, Financial Instruments – Recognition and Measurement of Financial Assets and Financial Liabilities (Topic 825-10).  ASU 2016-01 amends existing guidance related to the accounting for certain financial assets and liabilities. These amendments, among other things, require equity investments (except those accounted for under the equity method of accounting, or those that result in consolidation of the investee) to be measured at fair value with changes in fair value recognized in net income, require public business entities to use the exit price notion when measuring the fair value of financial instruments for disclosure purposes, require separate presentation of financial assets and financial liabilities by measurement category and form of financial asset and eliminate the requirement for public business entities to disclose the method(s) and significant assumptions used to estimate the fair value that is required to be disclosed for financial instruments measured at amortized cost. ASU 2016-01 is effective for annual periods and interim periods within that reporting period beginning after December 15, 2017, with early adoption permitted. The Company is currently evaluating the impact that the adoption of ASU 2016-01 will have on results from operations and financial position.

 

In February 2016, the FASB issued ASU 2016-02, Leases (Topic 842).  ASU 2016-02 amends existing guidance related to the accounting for leases. These amendments, among other things, require lessees to account for most leases on the balance sheet while recognizing expense on the income statement in a manner similar to existing guidance.  For lessors the guidance modifies the classification criteria and the accounting for sales-type and direct finance leases. ASU 2016-02 is effective for annual periods and interim periods within that reporting period beginning after December 15, 2018, with early adoption permitted. The Company is currently evaluating the impact that the adoption of ASU 2016-02 will have on results from operations and financial position.

 

In March 2016, the FASB issued ASU 2016-07, Simplifying the Transition to the Equity Method of Accounting (Topic 323).  ASU 2016-07 eliminates the requirement for an investor to retroactively apply the equity method when its increase in ownership interest (or degree of influence) in an investee triggers equity method accounting. ASU 2016-07 is effective for interim and annual periods in fiscal years beginning after December 15, 2016, with early adoption permitted. The Company is currently evaluating the impact that the adoption of ASU 2016-07 will have on results from operations and financial position.

 

In March 2016, the FASB issued ASU 2016-09, Improvements to Employee Share-Based Payment Accounting (Topic 718).  ASU 2016-09 simplifies several aspects of the accounting for employee share-based payment transactions including the accounting for income taxes, forfeitures, and statutory tax withholding requirements, as well as classification of related amounts within the statement of cash flows. ASU 2016-09 is effective for annual periods and interim periods within that reporting period beginning after December 15, 2017, with early adoption permitted. The Company is currently evaluating the impact that the adoption of ASU 2016-09 will have on results from operations and financial position.

 

In June 2016, the FASB issued ASU No. 2016-13, Financial Instruments-Credit Losses (Topic 326). ASU 2016-13 sets forth a “current expected credit loss” (CECL) model which requires the Company to measure all expected credit losses for financial instruments held at the reporting date based on historical experience, current conditions and reasonable supportable forecasts. This replaces the existing incurred loss model and is applicable to the measurement of credit losses on financial assets measured at amortized cost and applies to some off-balance sheet credit exposures. ASU 2016-13 is effective for annual periods and interim periods within that reporting period beginning after December 15, 2019, with early adoption permitted after annual and interim periods within that reporting period beginning after December 31, 2018. The Company is currently evaluating the impact that the adoption of ASU 2016-13 will have on results from operations or financial position.

 

In August 2016, the FASB issued ASU 2016-15, Statement of Cash Flows (Topic 230). ASU 2016-15 provides guidance on the classification of certain cash receipts and cash payments for presentation in the statement of cash flows. ASU 2016-15 is effective for annual periods and interim periods within that reporting period beginning after December 15, 2017, with early adoption permitted. The Company is currently evaluating the impact that the adoption of ASU 2016-15 will have on results from operations or financial position.

12

 


Note 3. Acquisition and Disposition Activities

Acquisition

As previously disclosed, the Company acquired 100% of the outstanding limited liability company interests of Boston-based Feingold O’Keeffe Capital, LLC (“FOC Partners”), a boutique credit manager, in October 2015. The Company now operates FOC Partners as NewStar Capital, a wholly owned subsidiary of the Company.  

During the first quarter of fiscal 2016, the Company completed its purchase price allocations and deemed the difference to be immaterial between the provisional and final purchase price allocations.  As the result of facts and circumstances related to the customer contracts and related customer relationships, the Company reassessed the expected economic useful life of these contracts to be approximately 33 months instead of 12 months as originally estimated.    

Sale of NewStar Business Credit LLC

On March 31, 2016, the Company sold its asset based lending business, NewStar Business Credit LLC (“Business Credit”) to a third party. The Company opted to sell Business Credit because it was faced with challenges from increasing competition with access to lower cost of funding.  The sale resulted in a gain of $22.5 million, before transaction related costs of $2.5 million.  The net gain is recorded in non-interest income on the accompanying consolidated statement of operations.

Assets and Liabilities Held for Sale

In September 2016, the Company commenced a process to sell the leasing line of business, NewStar Equipment Finance. As of that date certain assets and liabilities associated with Equipment Finance met the held-for-sale criteria. The potential disposal of Equipment Finance did not represent a strategic shift that will have a major effect on the Company’s operations and financial results and is, therefore, not classified as discontinued operations in accordance with ASU 2014-08, Presentation of Financial Statements (Topic 205) and Property and Equipment (Topic 360).

The Company measured the asset and liabilities classified as held-for-sale at the lower of its carrying value or fair value less any costs to sell. Any loss resulting from this measurement is recognized in the period in which the held for sale criteria are met. Conversely, gains are not recognized on the sale of a long-lived asset or disposal group until the date of sale. The Company will reassess the fair value of the assets and liabilities, less estimated costs to sell at each reporting period and until they are no longer classified as held for sale. The Company determined that the approximate fair value less costs to sell exceeded the carrying value of the net assets and no loss was recorded. Equipment Finance is included within our Commercial Lending segment. For the three and nine months ended September 30, 2016, Equipment Finance contributed $0.8 million and $2.1 million, respectively, in pretax earnings. For the three and nine months ended September 30, 2015, Equipment Finance contributed $0.9 million and $2.3 million, respectively, in pretax earnings.  

The following table reconciles the major classes of assets and liabilities classified as held for sale and recorded at the carrying value, less estimated costs to sell as part of continuing operations in the Condensed Consolidated Balance Sheets.

 

 

September 30, 2016

 

 

 

($ in thousands)

 

Assets held-for-sale

 

 

 

 

Cash

 

$

2,066

 

Restricted Cash

 

 

23,901

 

Loans and leases, net

 

 

136,545

 

Other assets

 

 

289

 

Assets held-for-sale

 

 

162,801

 

 

 

 

 

 

Liabilities held-for-sale

 

 

 

 

Credit facilities, net

 

$

16,661

 

Term debt securitization, net

 

 

21,480

 

Accrued interest payable

 

 

138

 

Other liabilities

 

 

5,879

 

Liabilities held-for-sale

 

 

44,158

 

13

 


 

Note 4. Loans Held-for-Sale, Loans, Leases and Allowance for Credit Losses

 

As of September 30, 2016 and December 31, 2015, loans held-for-sale consisted of the following:

 

 

 

September 30, 2016

 

 

December 31, 2015

 

 

 

($ in thousands)

 

Leveraged Finance

 

$

435,351

 

 

$

485,874

 

Gross loans held-for-sale

 

 

435,351

 

 

 

485,874

 

Deferred loan fees, net

 

 

(5,633

)

 

 

(7,089

)

Total loans held-for-sale, net

 

$

429,718

 

 

$

478,785

 

Loans classified as held-for-sale consist primarily of loans originated or purchased by the Company that are intended to be sold to third parties (including credit funds managed by the Company). During the three months ended September 30, 2016, the Company foreclosed on the previously held-for-sale impaired real estate loan, simultaneous with the foreclosure, the Company sold a portion of the property for $8.5 million and applied the proceeds to the principal loan balance.  The remaining $15.8 million was transferred to Other Real Estate Owned (“OREO”).  

Loans held-for-sale are carried at the lower of either market value or aggregate cost, net of any deferred origination costs or fees.

At September 30, 2016, loans held-for-sale include loans with an aggregate outstanding balance of $433.3 million that were intended to be sold to credit funds managed by the Company.  The Company sold loans with an aggregate outstanding balance of $105.0 million for a net loss of $0.04 million to entities other than credit funds managed by the Company during the nine months ended September 30, 2016. The Company sold loans with an outstanding balance of $37.8 million for a net gain of $0.3 million to entities other than credit funds managed by the Company during the nine months ended September 30, 2015.

As of September 30, 2016, and December 31, 2015, loans and leases consisted of the following:

 

 

 

September 30, 2016

 

 

December 31, 2015

 

 

 

($ in thousands)

 

Leveraged Finance

 

$

3,263,985

 

 

$

2,627,314

 

Business Credit