ITEM 1. BUSINESS
GENERAL
Avco Financial Services, Inc., which was organized under the laws of Delaware on July 17, 1964, is the successor to the finance businesses of Seaboard Finance Company, originally established in 1927, and Delta Acceptance Corporation Limited, originally established in 1954. Unless the context otherwise requires, the term "Registrant" or "AFS" herein refers to Avco Financial Services, Inc. and its consolidated subsidiaries.
All of the Registrant's outstanding common stock is owned by Textron Inc.
The Registrant is principally engaged in consumer finance and insurance activities. The Registrant's finance operations mainly involve loans made by the Avco Financial Services Group. Such loans consist primarily of consumer loans which are unsecured or secured by personal property and are in relatively small amounts and for relatively short periods; real estate loans which are secured by real property in larger amounts and for considerably longer periods; and retail installment contracts, principally covering personal property. As of December 31, 1996, the Registrant operated 1,235 finance offices located in all states of the United States (except Arkansas, Kansas, Mississippi, Oklahoma and Vermont), the Commonwealth of Puerto Rico, the Virgin Islands, all Canadian provinces and the Yukon Territory, six Australian states and the Australian Capital Territory, Hong Kong, New Zealand, Spain and the United Kingdom. The Registrant's insurance business consists primarily of the sale of credit life, credit disability and casualty insurance offered by various subsidiaries (Avco Insurance Services Group), a significant part of which is directly related to the Registrant's finance activities.
For a summary of revenues, income before income taxes, and identifiable assets by industry segment, see Note 7 to the Consolidated Financial Statements of the Registrant.
At December 31, 1996, the Registrant employed approximately 7,600 persons.
AVCO FINANCIAL SERVICES GROUP
Finance Receivables
The Registrant's finance receivable portfolio consisted of the following:
The following table presents the Registrant's outstanding finance receivables by country:
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* Includes the operations of Hong Kong, New Zealand and Spain.
At December 31, 1996, finance receivables in the United States represented 57% of the Registrant's total finance receivables outstanding. At such date, receivables outstanding in no state exceeded 8% of the United States' portfolio, except California in which outstanding receivables represented 17% of the United States' portfolio and 9% of the consolidated portfolio.
Receivable growth in international operations is affected by fluctuations in foreign currency exchange rates. Increases (decreases) in receivable growth due to foreign currency translation for the five years ended December 31, 1996 were (in millions): $130.1 in 1996, $(1.1) in 1995, $47.5 in 1994, $(48.2) in 1993, and $(211.2) in 1992.
Consumer Loans and Real Estate Loans
The Registrant's consumer lending activities involve secured and unsecured installment loans to individuals. After repaying portions of their consumer loans, many customers take out new loans in amounts sufficient to pay off the balance of the existing loans and to supply additional needed money. Of the aggregate of 839,648 consumer and real estate loans written during the year ended December 31, 1996, approximately 48% included advances to refinance outstanding balances.
The Registrant's real estate loans consist primarily of loans made to individuals which are secured by first or second mortgages on single family homes.
A summary of the Registrant's consumer and real estate loan accounts written (excluding both refinanced balances and receivables acquired from other finance companies) and outstanding is as follows:
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* Except average amount.
Retail Installment Contracts
The Registrant's sales finance operations consist principally of the purchase, generally without recourse, of retail installment contracts from dealers in automobiles, furniture, television sets, household appliances and floor coverings. Retail installment operations provide a source of new customers for consumer loan business. In general, retail installment contracts carry a lower profit margin than consumer loans, and the volume of such business tends to be more volatile.
The following table summarizes retail installment contracts purchased (excluding contracts acquired from other finance companies) and outstanding:
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* Except average amount.
Other Receivables
At December 31, 1996, other receivables outstanding of $291.5 million consisted primarily of finance lease receivables generated by the Registrant's Australian, Canadian and Hong Kong operations. Such leases are generally written for periods not exceeding 4 years.
Lending Policies
In conducting lending activities, it is the policy of the Registrant to require a satisfactory credit history. Loans are made to individuals primarily on the basis of the borrower's income and are limited to amounts which the customer appears able to repay without hardship. Investigation of the creditworthiness of obligors is made either through credit agencies or by the Registrant's own agents. When security is taken in connection with a loan, the realizable value of the property on which liens are taken as security is in many cases less than the amount of the related receivable (except for real estate in which case the loan amount is limited to a maximum of 85% of the unencumbered appraised market value).
Subject to governmental restrictions, the Registrant makes loans secured by consumer goods for varying periods, with original contractual terms generally not exceeding 4 years. Loans secured by real estate generally do not exceed 15 years. During 1996, the weighted average maturity of real estate loans written was approximately 10 years. The Registrant purchases retail installment contracts with original contractual terms generally not exceeding 3 years.
Nonearning Assets
Accrual of interest income is suspended for accounts which are contractually delinquent by more than three payments. Once an account is suspended, subsequent interest income is recognized when collected.
Nonearning assets represent those finance receivables on which both the accrual of interest income has been suspended and for which no payment of principal or interest has been received for more than 30 days. Nonearning assets totaled approximately $140.7 million at December 31, 1996 and $115.0 million at December 31, 1995.
Loss Experience
Provisions for losses on receivables are charged to income in amounts sufficient to maintain the allowance at a level adequate to cover the losses of principal and interest in the existing receivable portfolio. The determination of an appropriate allowance for losses is based upon loss experience and payment history.
It is the Registrant's policy to write off accounts when they are deemed uncollectible, but in any event, all accounts for which an amount aggregating a full contractual payment has not been received for six consecutive months are written off.
Foreclosed real estate loans are transferred out of finance receivables into other assets at the lower of fair value (less estimated costs to sell) or the outstanding loan balance. The difference between the amount
transferred and the outstanding loan balance is written off. Subsequent gains and losses on the disposition of real estate owned are reflected in other operating expenses. At December 31, 1996 and 1995, real estate owned was $48.0 million and $43.9 million, respectively.
The allowance for losses at December 31, 1996 was $218.4 million or 3.01% of finance receivables then outstanding; such allowance at December 31, 1995 was $195.4 million or 2.82% of finance receivables outstanding. See Note 2 to the Consolidated Financial Statements of the Registrant for an analysis of the allowance for losses for the five years ended December 31, 1996. The following table shows gross and net write-offs, the percentages which these items bear to average finance receivables and the amount of the provision for losses charged to income (less recoveries):
The following table presents for the five years ended December 31, 1996 loans on which one or more installments were more than 60 days delinquent on a contractual basis (expressed as a percentage of the related gross receivables outstanding):
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* Includes consumer loans and retail installment contracts.
Sources of Funds
The Registrant's finance operations are financed from its common stock, additional paid-in capital, retained earnings, unsecured borrowings against bank lines of credit, unsecured commercial paper borrowings and unsecured medium- and long-term borrowings.
The cost of borrowing, which is generally affected by changes in interest rates, represents a material expense of the Registrant. Since the maximum rates which the Registrant may charge on certain consumer loans are limited by law in many jurisdictions in the United States (see "Regulation"), any rise in prevailing interest rates adversely affects the profitability of the Registrant's finance operations.
The Registrant's average annual cost of borrowed funds for each fiscal year 1996 through 1992 was as follows: 1996 -- 6.88%; 1995 -- 7.32%; 1994 -- 6.63%; 1993 -- 6.97%; and 1992 -- 8.11%.
AVCO INSURANCE SERVICES GROUP
The Registrant, through the Avco Insurance Services Group, is engaged in the credit life, credit disability and casualty insurance business in most states of the United States, all Canadian provinces, seven Australian jurisdictions and New Zealand. Where applicable laws permit, the Registrant makes available to customers credit life, credit disability and casualty insurance through the Avco Financial Services Group or independent
companies. During 1996, approximately 74% of the Group's credit life and credit disability insurance business and approximately 18% of its casualty insurance business was derived from the Registrant's finance customers. The Group's remaining credit life, credit disability and casualty insurance business is written with customers on a direct basis or through independent agents.
The Group's casualty business consists primarily of insurance covering collateral protection, involuntary unemployment, personal property and automobile physical damage.
The following table summarizes the results of operations of the Avco Insurance Services Group by major line of business included in the consolidated financial statements of the Registrant:
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(1) Investment income includes capital gains of $11.2 million, $3.2 million, $2.8 million, $4.3 million and $3.1 million for the years 1996 through 1992, respectively.
Included in the assets of the Avco Insurance Services Group at December 31, 1996 were investments in securities carried at $798.2 million for which the aggregate cost was $784.4 million. At December 31, 1996, the Avco Insurance Services Group carried a valuation adjustment for its investments totaling $9.0 million.
This valuation adjustment represents the excess of aggregate estimated fair value over aggregate cost of its securities (net of applicable taxes).
The composition of invested assets of the Avco Insurance Services Group at December 31, 1996 and 1995 and the returns on such investments for the years then ended were as follows:
- ------------ (1) Substantially all of the Registrant's bond portfolio is in investment grade securities.
(2) Includes capital gains and losses set forth in note (1) to the immediately preceding table.
OPERATIONS BY GEOGRAPHIC AREA
The Registrant's foreign operations are conducted primarily in Australia, Canada and the United Kingdom. At December 31, 1996, the Registrant operated 146 finance offices in Australia, 214 in Canada and 97 in the United Kingdom. In these countries, the Registrant engages primarily in consumer finance and related insurance activities similar to those conducted in the United States. At December 31, 1996, the percentage of finance receivables of the Australian, Canadian and United Kingdom finance operations in relation to the Registrant's total finance receivables was 15%, 14% and 9%, respectively. Operations in these countries are subject to regulation and competition comparable to that existing in the United States. See "Regulation" and "Competition". The Registrant commenced operations in Hong Kong, New Zealand and Spain in 1994, 1990 and 1992, respectively. Such operations are not individually material to the Registrant's consolidated financial position or results of operations. For a summary of revenues, income before income taxes and identifiable assets by geographic area, see Note 7 to the Consolidated Financial Statements of the Registrant.
REGULATION
The Registrant's loan business is regulated by laws which are in force in certain jurisdictions in which the Registrant operates and which, among other things, in many states limit maximum charges for loans, the maximum amount and terms thereof. In jurisdictions within Australia, the United Kingdom and the United States, laws also require that each office conducting a consumer loan business be separately licensed. Such licenses have limited terms, but are renewable, and are subject to revocation for cause. Laws
under which the Registrant operates also require disclosure to customers of the annual simple interest rate and other basic terms of most credit transactions and give customers a limited right to cancel certain loans and retail installment contracts without penalty.
In addition, in certain jurisdictions in which the Registrant operates, the retail installment business conducted by it is subject to regulatory legislation which, among other things, limits the rates which may be charged and requires disclosure to customers as to the terms of the financing transactions.
The insurance businesses have been subject for many years to licensing and detailed regulation by state authorities, and the rates charged on certain lines of insurance are subject to governmental limitation and change. In recent years, the rates which may be charged on credit life insurance generally have been reduced by the regulatory authorities. The state insurance regulations also include limitations on the amounts of dividends that can be paid by insurance companies.
The laws of many states in which the Registrant's insurance subsidiaries are admitted to do business require as a condition of admission that all insurance companies so admitted collectively guarantee to policyholders the benefits payable under policies issued by other insurance companies admitted in the particular state up to statutory levels. The Registrant's insurance subsidiaries have not been required to date to make any significant payments pursuant to such guarantees. While the amount of any assessments which may be made in the future cannot be predicted, the Registrant does not believe the total assessments, if any, will be material to its net income or financial condition.
COMPETITION
The consumer finance business is highly competitive. The Registrant's competitors include not only other companies operating under consumer loan laws, but also other types of lending institutions not so regulated and usually not limited in the size of their loans, such as companies which finance the sale of their own merchandise or the merchandise of others, industrial banks, the personal loan departments of commercial banks and credit unions. The most serious competition is offered by commercial banks and credit unions. The effective interest rates charged by these lenders are usually lower than the rates charged by the Registrant. The Registrant's insurance businesses, to the extent that they are not related to the Registrant's finance activities, compete with many other insurance companies offering similar products.
ITEM 2.

ITEM 2. PROPERTIES
Almost all of the offices of the Registrant are occupied under leases. Reference is made to Note 9 to the Consolidated Financial Statements of the Registrant for information concerning the Registrant's lease obligations. The Registrant does not own any substantial amount of physical property other than properties acquired by enforcing security interests and office furniture and fixtures. Of the 1,235 loan offices which the Registrant operated at December 31, 1996, 753 were located in the United States, the Virgin Islands and the Commonwealth of Puerto Rico, 214 in Canada, 146 in Australia and 97 in the United Kingdom.
ITEM 3.

ITEM 3. LEGAL PROCEEDINGS
Because the business of the Registrant involves the collection of numerous accounts, the validity of liens, accident and other damage or loss claims under many types of insurance, and compliance with state and federal consumer laws, the Registrant and its subsidiaries are plaintiffs and defendants in numerous legal proceedings, including individual and class action proceedings which seek compensatory, treble or punitive damages in substantial amounts. It is the opinion of the Registrant's management, based upon the advice of its counsel, that the aggregate liability from pending or threatened litigation will not have a material effect on the Registrant's net income or financial condition.
ITEM 4.

ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
Omitted in accordance with General Instruction J(2)(c).
PART II
ITEM 5.

ITEM 5. MARKET FOR THE REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
Textron Inc. owns all of the outstanding common stock of the Registrant.
Dividends of $94.9 million and $90.1 million were declared and paid in 1996 and 1995, respectively. See Note 8 to the Consolidated Financial Statements of the Registrant regarding restrictions as to dividend availability.
ITEM 6.

ITEM 6. SELECTED FINANCIAL DATA
The following selected financial information has been derived from the Consolidated Financial Statements for the five years ended December 31, 1996 and is reported upon in the "Report of Independent Auditors" included on page 12. The information should be read in conjunction with the "Management's Discussion and Analysis of Financial Condition and Results of Operations", and the Consolidated Financial Statements and accompanying notes, included elsewhere in this report.
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(1) Effective at the beginning of 1992, the Registrant adopted Statements of Financial Accounting Standards Nos. 106, "Employers' Accounting for Postretirement Benefits Other Than Pensions", and 109, "Accounting for Income Taxes".
(2) See Note 1 to the Consolidated Financial Statements of the Registrant for computation of "Ratio of Income to Fixed Charges".
ITEM 7.

ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS
1996 vs. 1995 -- Revenues increased $96 million (6%) and income before income taxes increased $11.1 million (4%), reflecting improved results in both the Financial Services and Related Insurance segment and the Nonrelated Insurance segment of the Registrant's operations.
Financial Services and Related Insurance
REVENUES of this segment increased $55 million (4%) due primarily to: (i) an increase in finance receivable yields (18.52% in 1996 vs. 18.20% in 1995), which had the effect of increasing revenues by approximately $25 million; (ii) an increase in premiums earned associated with an increase in premiums written; and (iii) an increase in investment and other income, attributable to an increase in capital gains resulting from a higher volume of sales in the bond investment portfolio and a gain on the sale of certain finance receivables.
INCOME BEFORE INCOME TAXES of this segment increased $7.5 million (3%) due primarily to: (i) the increase in revenues and (ii) a decrease in the cost of borrowed funds (6.88% in 1996 vs. 7.32% in 1995). These factors were partially offset by an increase in the provision for credit losses attributable to an increase in the ratio of net credit losses to average finance receivables (2.82% in 1996 vs. 2.10% in 1995) and the strengthening of the allowance for credit losses (3.01% of finance receivables outstanding at December 31, 1996 vs. 2.82% at December 31, 1995).
The general proliferation of credit cards and the resulting increase in the level of consumer debt in the United States and Canada have continued to burden the consumer finance customer, resulting in higher delinquencies and charge-offs, and such proliferation has provided the consumer an alternative source of funds, thereby reducing the Registrant's receivable growth.
Nonrelated Insurance
REVENUES of this segment increased $41 million (19%) due primarily to an increase in premiums earned associated with an increase in premiums written (resulting from growth in existing accounts as well as the addition of new accounts in the second half of 1995).
INCOME BEFORE INCOME TAXES of this segment increased $3.6 million (22%) due primarily to: (i) an increase in investment income attributable to a higher level of investments outstanding and higher capital gains and (ii) a decrease in underwriting expenses in relation to earned premiums. These favorable factors were partially offset by higher losses in all lines of business.
1995 vs. 1994
REVENUES for the year ended December 31, 1995 were $1.664 billion compared to $1.388 billion for the year ended December 31, 1994, an increase of $276 million (19.9%). The increase resulted primarily from an increase in the level of receivables outstanding, earned premium, and investment income, partially offset by a slight decrease in yields on finance receivables.
INCOME BEFORE INCOME TAXES for the year ended December 31, 1995 was $287.5 million compared to $259.1 million for the year ended December 31, 1994, an increase of $28.4 million (11%). This increase resulted primarily from: (i) an increase in the level of receivables outstanding as average finance receivables were $6.867 billion for 1995 compared to $5.696 billion for 1994; (ii) a 21.7% increase in earned premiums; (iii) a decrease in the ratio of operating expenses to revenues in both the finance and insurance operations (32.3% in 1995 as compared to 33.7% in 1994); and (iv) a 25% increase in investment income due primarily to higher yields and a higher level of invested assets. This increase in income was partially offset by: (i) an increase in the cost of borrowed funds to 7.32% for 1995 from 6.63% for 1994; (ii) an increase in the ratio of net credit losses to average finance receivables to 2.10% in 1995 from 1.99% in 1994; and (iii) lower receivable yields due primarily to an increase in the level of retail installment contracts outstanding. Interest income as a percent of average finance receivables was 18.20% for 1995 compared to 18.39% for 1994.
Since the latter part of 1995 there has been an increase in delinquencies and net credit losses due to economic slowdowns in the countries in which the Registrant operates and the consumer debt load continued to increase faster than the consumers' ability to pay.
LIQUIDITY/CAPITAL RESOURCES
The Registrant consists of the Avco Financial Services Group and Avco Insurance Services Group. The insurance operations have historically generated positive cash flows sufficient to preclude the need for borrowings.
The Registrant utilizes a broad base of financial sources for its liquidity and capital requirements. Cash is provided from both operations and several different sources of borrowings, including unsecured borrowings under bank lines of credit, the issuance of commercial paper and sales of medium- and long-term debt in the U.S. and foreign financial markets.
Under interest rate exchange agreements, the Registrant makes periodic fixed payments in exchange for periodic variable payments. The Registrant has entered into such agreements to mitigate its exposure to increases in interest rates on a portion of its variable rate debt. The effect of the swaps is to fix the rate of interest on a portion of the Registrant's variable rate debt, thereby giving it the characteristics of long-term fixed rate debt. The agreements are designated against (i) specific long-term variable rate borrowings and (ii) existing short-term borrowings. The Registrant continuously monitors the level of short-term borrowings to ensure that there is a high degree of probability that its short-term borrowings will remain at a level in excess of the notional amount of the designated agreements.
At December 31, 1996, the Registrant had interest rate exchange agreements which had the effect of fixing the rate of interest at approximately 7.9% on $1.143 billion of variable rate borrowing. The agreements, which expire through 2000, had a weighted average remaining term of less than 2 years. By utilizing medium-and long-term fixed rate financing, as well as interest rate exchange agreements, the Registrant had a ratio of fixed rate debt to total debt of 56% at December 31, 1996.
During the three years ended December 31, 1996, short-term rates were lower than long-term rates. As a result, the amount the Registrant paid on swaps exceeded the amount it received. The spread between the variable rate the Registrant received and the fixed rate the Registrant paid increased the reported interest expense by $16.8 million in 1996, $10.9 million in 1995 and $17.2 million in 1994. Such spread had the effect of increasing the Registrant's cost of borrowing by .27% in 1996, .18% in 1995 and .34% in 1994. See Note 5 to the Consolidated Financial Statements of the Registrant for additional information regarding interest rate exchange agreements.
For liquidity purposes, the Registrant has a policy of maintaining sufficient unused bank lines of credit to support its outstanding commercial paper. The commercial paper coverage ratio at December 31, 1996, was 109.5%. For further information regarding commercial paper and bank lines of credit, see Note 5 to the Consolidated Financial Statements of the Registrant.
At December 31, 1996, $2.55 billion (35.1%) of the Registrant's finance receivables were represented by residential real estate loans, secured primarily by first and second mortgages on single family homes, which averaged $30 thousand in outstanding principal balance per loan. Such loans are geographically dispersed among many customers, and the loan amounts are limited to a maximum of 85% of the unencumbered appraised market value at the date of the loans, although most loans are made at significantly lower loan to value ratios. The Registrant believes that substantially all such loans remain fully secured.
Foreclosed real estate loans are transferred out of finance receivables into other assets at the lower of fair value (less estimated costs to sell) or the outstanding loan balance. The carrying value of real estate owned is periodically reevaluated and, where appropriate, adjustments are made to reflect subsequent decreases in fair value. At December 31, 1996, real estate classified in other assets aggregated $48.0 million.
At December 31, 1996, the Registrant had an investment portfolio of $927.6 million, primarily represented by high quality, investment grade debt securities. Such portfolio included $179.5 million ($179.7 million market value) of mortgage-backed securities, including $53.8 million guaranteed by the U.S. Government or agencies thereof.
The amount of net assets of the Registrant available for cash dividends and other payments to its parent, Textron Inc., is restricted by the terms of lending agreements and insurance statutory requirements. The Registrant paid dividends of $94.9 million, $90.1 million and $81.0 million to Textron Inc. in 1996, 1995 and 1994, respectively. See Note 8 to the Consolidated Financial Statements of the Registrant for restrictions.
ITEM 8.

ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
REPORT OF INDEPENDENT AUDITORS
The Board of Directors Avco Financial Services, Inc.
We have audited the accompanying consolidated balance sheet of Avco Financial Services, Inc. as of December 31, 1996 and 1995 and the related consolidated statements of income, cash flows and changes in stockholder's equity for each of the three years in the period ended December 31, 1996. Our audits also included the financial statement schedules listed in the accompanying index to financial statements at Item 14(a). These financial statements and schedules are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements and schedules based on our audits.
We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in all material respects, the consolidated financial position of Avco Financial Services, Inc. at December 31, 1996 and 1995, and the consolidated results of its operations and its cash flows for each of the three years in the period ended December 31, 1996, in conformity with generally accepted accounting principles. Also, in our opinion, the related financial statement schedules, when considered in relation to the basic financial statements taken as a whole, present fairly in all material respects the information set forth therein.
We have also previously audited, in accordance with generally accepted auditing standards, the consolidated balance sheet at December 31, 1994, 1993 and 1992, and the related consolidated statements of income, cash flows, and changes in stockholder's equity for the years ended December 31, 1993 and 1992 (none of which are presented separately herein), and we expressed unqualified opinions on those consolidated financial statements. In our opinion, the information set forth in the selected financial data for each of the five years in the period ended December 31, 1996, appearing on page 8, is fairly stated in all material respects in relation to the consolidated financial statements from which it has been derived.
ERNST & YOUNG LLP
Orange County, California January 23, 1997
AVCO FINANCIAL SERVICES, INC.
CONSOLIDATED BALANCE SHEET
See accompanying notes to consolidated financial statements.
AVCO FINANCIAL SERVICES, INC.
CONSOLIDATED STATEMENT OF INCOME
See accompanying notes to consolidated financial statements.
AVCO FINANCIAL SERVICES, INC.
CONSOLIDATED STATEMENT OF CASH FLOWS
See accompanying notes to consolidated financial statements.
AVCO FINANCIAL SERVICES, INC.
CONSOLIDATED STATEMENT OF CHANGES IN STOCKHOLDER'S EQUITY
See accompanying notes to consolidated financial statements.
AVCO FINANCIAL SERVICES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
PRINCIPLES OF CONSOLIDATION
Avco Financial Services, Inc. is a wholly-owned subsidiary of Textron Inc. The consolidated financial statements include the accounts of Avco Financial Services, Inc. and its subsidiaries (AFS). All significant intercompany transactions are eliminated. Certain reclassifications have been made to prior year amounts to conform with current year presentation.
USE OF ESTIMATES
The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the amounts reported in those statements and accompanying notes. Actual results may differ from such estimates.
FINANCE RECEIVABLES
Revenue and Acquisition Cost Recognition
For finance receivables, interest income is recognized in revenues using the interest method so as to produce a constant rate of return over the terms of the receivables. Accrual of interest income is suspended for accounts which are contractually delinquent by more than three payments. Once an account is suspended, subsequent interest income is recognized when collected. Fees received and direct loan origination costs are deferred and recognized in income over the contractual lives of the respective loans. Unamortized amounts are recognized in income when loans are sold or paid in full.
Credit Losses
Provisions for losses on receivables are charged to income in amounts sufficient to maintain the allowance at a level considered adequate to cover the losses of principal and interest in the existing receivable portfolio. The determination of an appropriate allowance for losses is based upon loss experience and payment history.
Finance receivables are written off when they are deemed uncollectible, but in any event, all accounts for which an amount aggregating a full contractual payment has not been received for six consecutive months are written off.
Foreclosed real estate loans are transferred out of finance receivables into other assets at the lower of fair value (less estimated costs to sell) or the outstanding loan balance. The difference between the amount transferred and the outstanding loan balance is written off. The carrying value of real estate owned is periodically reevaluated and, where appropriate, adjustments are made to reflect subsequent decreases in fair value. Subsequent gains and losses on the disposition of real estate owned are reflected in other operating expenses.
INSURANCE OPERATIONS
Recognition of Revenues and Expenses
Unearned insurance premiums are deferred and subsequently recognized in revenues over the lives of the policies (a) on the interest method for decreasing term credit life insurance coverage and on the pro rata method for level term credit life coverage, (b) in relation to anticipated claims for credit disability insurance and (c) on the pro rata method for casualty insurance.
Deferred Policy Acquisition Costs
Costs, which vary with, and are primarily related to, the production of new business, have been deferred to the extent such costs are deemed recoverable from future profits. Such costs primarily include commissions and premium taxes. These costs are amortized in proportion to premiums over the estimated lives of the
AVCO FINANCIAL SERVICES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
policies. Anticipated investment income is considered in determining if a premium deficiency relating to short-term contracts exists.
Insurance Reserves and Claims
Insurance reserves and claims represent the estimated ultimate cost of settling claims incurred as of the balance sheet date. The reserves for casualty losses are based upon estimates for losses and loss adjustment expenses reported prior to the close of the accounting period and estimates of incurred but not reported losses and adjustment expenses based upon past experience and adjusted for current conditions, net of reinsurance recoverable and salvage and subrogation. The reserves for credit life and credit disability losses represent estimates of those claims due and unpaid, in the course of settlement, and incurred but not reported, computed using historical liquidation patterns adjusted for changes in portfolio composition, net of reinsurance recoverable. Due to the short-term nature of AFS' loss development and the effect of reinsurance agreements, casualty insurance losses and adjustment expenses in 1996, 1995 and 1994 relating to insured events occurring prior to each of those years, is immaterial.
Reinsurance
Prepaid reinsurance premiums and amounts recoverable from reinsurers are estimated and recognized in a manner consistent with the reinsured policy.
See Note 6 for further information about reinsurance.
INVESTMENTS
AFS' securities portfolio is classified as available for sale and reported at estimated fair value. Unrealized gains and losses, net of applicable income taxes, are reported as a separate component of stockholder's equity.
Net realized gains or losses resulting from sales or calls of investments and losses resulting from declines in fair values of investments that are other than temporary declines are included in revenues. The cost of securities sold was based primarily upon the specific identification method. See Note 3 for further information about investments.
INTEREST RATE EXCHANGE AGREEMENTS
As part of its interest rate management strategies, AFS is a party to various interest rate exchange agreements. While AFS is exposed to credit loss for the periodic settlement of amounts due under such agreements in the event of nonperformance by the counterparties, AFS does not anticipate nonperformance by any of those parties. The risk of loss in the event of nonperformance by the counterparties was not material at December 31, 1996.
AFS' interest rate exchange agreements are accounted for on the accrual basis. The agreements are designated against (i) specific long-term variable rate borrowings and (ii) existing short-term borrowings. AFS continuously monitors the level of short-term borrowings to ensure that there is a high degree of probability that its short-term borrowings will remain at a level in excess of the notional amount of the designated agreements. If AFS were to determine it probable that the level of anticipated short-term borrowings will at any time be less than the notional amount of designated agreements, any excess would be marked to market and the associated gain or loss recorded in income.
AVCO FINANCIAL SERVICES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE 1: SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES (CONTINUED)
POSTRETIREMENT BENEFITS OTHER THAN PENSIONS
See Note 11 for information about AFS' accounting policies for postretirement benefits other than pensions.
INCOME TAXES
Deferred income taxes are recognized for temporary differences between the financial reporting basis and income tax basis of assets and liabilities based on enacted tax rates expected to be in effect when such amounts are expected to be realized or settled. See Note 4 for further information about income taxes.
FAIR VALUE OF FINANCIAL INSTRUMENTS
The fair values presented in Note 14 are estimates of the fair values of the financial instruments at a specific point in time using available market information and appropriate valuation methodologies. These estimates are subjective in nature and involve uncertainties and significant judgment in the interpretation of current market data. Therefore, the fair values presented are not necessarily indicative of amounts AFS could realize or settle currently. AFS does not necessarily intend to dispose of or liquidate such instruments prior to maturity.
FOREIGN OPERATIONS
AFS' foreign entities' financial statements are measured in their functional currency. Balance sheet accounts at December 31, 1996 and 1995 have been translated at the closing rates on those dates. Income and expense accounts have been translated at the average rates prevailing during the respective periods. Adjustments resulting from the translation of the financial statements of AFS' foreign operations are excluded from the determination of its consolidated income and are accumulated as a separate component of consolidated stockholder's equity until the entity is sold or substantially liquidated. Foreign exchange gains and losses included in consolidated income (which relate principally to transactions denominated in foreign currencies) in 1996, 1995 and 1994 were not material.
RATIO OF INCOME TO FIXED CHARGES
The ratio of income to fixed charges represents the number of times fixed charges (interest and debt expense [without adjustments for discounts or premiums resulting from the repurchase of debt securities] and one-third of all rent and related costs, considered to represent an appropriate interest factor, charged to income) are covered by income before income taxes, cumulative effect of changes in accounting principles and fixed charges.
AVCO FINANCIAL SERVICES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE 2: FINANCE RECEIVABLES AND ALLOWANCE FOR CREDIT LOSSES
Contractual maturities of finance receivables outstanding at December 31, 1996 and total finance receivables outstanding at that date and at December 31, 1995 were as follows:
The maximum term over which consumer loans and retail installment contracts are written is 10 years, but approximately 90% of these loans are written with terms of 4 years or less. Real estate loans are written with a maximum term of 15 years. Consumer loans are unsecured or secured by personal property and are in relatively small amounts. Retail installment contracts are secured by personal property. Real estate loans are secured by real property and are limited to a maximum of 85% of the property's unencumbered appraised market value at the date of the loans.
Accounts are often repaid or refinanced prior to contractual maturity. Accordingly, the foregoing tabulation should not be regarded as a forecast of future cash collections. During 1996 and 1995, cash collections of receivables (excluding finance charges) were $4.2 billion and $3.9 billion, respectively. The ratio of cash collections to average finance receivables was approximately 61% and 57%, respectively.
Nonearning assets represent those finance receivables on which both the accrual of interest income has been suspended and for which no payment of principal or interest has been received for more than 30 days. Nonearning assets totaled approximately $140.7 million at December 31, 1996 and $115.0 million at December 31, 1995.
AFS has commitments to extend additional credit to customers under revolving secured and unsecured loan agreements. Interest rates charged are variable. The agreements provide for suspension or termination of the credit line for default and other factors adverse to the interests of AFS. At December 31, 1996, committed lines totaled approximately $1.022 billion of which approximately $430 million remained unused.
AVCO FINANCIAL SERVICES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE 2: FINANCE RECEIVABLES AND ALLOWANCE FOR CREDIT LOSSES (CONTINUED)
Changes in the allowance for credit losses were as follows:
- ------------
(a) The above data for the two years ended 1993 is not reported upon herein by independent auditors.
AVCO FINANCIAL SERVICES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE 3: INVESTMENTS
The amortized cost and estimated fair value of debt securities and marketable equity securities at December 31, 1996 and 1995 were as follows:
AVCO FINANCIAL SERVICES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE 3: INVESTMENTS (CONTINUED)
The amortized cost and estimated fair value of debt securities at December 31, 1996, by contractual maturity, are presented below. Expected maturities will differ from contractual maturities because borrowers may have the right to call or prepay obligations with or without call or prepayment penalties.
Gross realized gains and (losses) on sales of securities were (in millions), $9.8 and ($.4) in 1996, $6.7 and ($3.5) in 1995, and $4.5 and ($1.7) in 1994.
NOTE 4: INCOME TAXES
AFS' provision for income tax is based upon including all eligible U.S. subsidiaries in the consolidated U.S. federal income tax return filed by its parent, Textron Inc. Such provision does not differ materially from the amount which AFS would have provided if it and its eligible subsidiaries were filing their own consolidated federal income tax return. The provision for income tax also includes amounts for AFS' foreign subsidiaries which file their own separate income tax returns. AFS recognizes deferred income taxes for temporary differences between the financial reporting basis and income tax basis of assets and liabilities based on enacted tax rates expected to be in effect when amounts are likely to be realized or settled.
For years beginning after December 31, 1995, the Puerto Rican government decreased its corporate tax rate from 42% to 39%. In accordance with FAS 109, the change in the tax rate resulted in a revaluation of AFS' net deferred tax assets that were in existence at the beginning of 1996. The effect of this revaluation was not material.
Deferred income taxes have not been provided for the undistributed earnings of foreign subsidiaries which aggregated approximately $405 million at the end of 1996. Management intends to reinvest those earnings for an indefinite period, except for distributions upon which incremental taxes would not be material. If such earnings were distributed, taxes (net of foreign tax credits) would have increased by approximately $28 million, principally due to foreign withholding taxes.
At December 31, 1996, consolidated stockholder's equity included $17 million of U.S. life insurance subsidiary policyholders' surplus on which no income taxes have been provided. The amount of taxes which would become due if the surplus were distributed is approximately $6 million. Under present circumstances, it is not anticipated that any of these earnings will become taxable.
AVCO FINANCIAL SERVICES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE 4: INCOME TAXES (CONTINUED)
Income taxes (benefit) are summarized as follows:
The following reconciles the federal statutory income tax rate to the effective income tax rate applicable to pretax income, as reflected in the consolidated statement of income:
AFS' net deferred tax asset consisted of gross deferred tax assets and gross deferred tax liabilities of $120.9 million and $63.5 million, respectively, at December 31, 1996 and $106.8 million and $46.4 million, respectively, at December 31, 1995.
The components of AFS' net deferred tax asset as of December 31, 1996 and 1995 were as follows:
AVCO FINANCIAL SERVICES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE 5: DEBT AND CREDIT FACILITIES
At December 31, 1996 and 1995, consolidated debt consisted of the following:
- ------------
(a) Interest rates on certain notes are adjusted periodically.
Bank borrowings are arranged under revolving lines of credit. These borrowings are either on a demand basis or provide for maturities ranging up to one year. Commercial paper is issued with maturities up to one year with interest at prevailing market rates. The weighted average interest rates on bank borrowings and commercial paper outstanding at December 31, 1996, 1995 and 1994, without giving effect to the costs of maintaining the lines of credit, were 6.5%, 7.5% and 6.3%, respectively, for bank borrowings (primarily consisting of borrowings in foreign operations) and 5.4%, 6.2% and 6.1%, respectively, for commercial paper. The weighted average interest rate on bank borrowings and commercial paper outstanding during the three years ended December 31, 1996 was 5.9%, 6.6% and 4.8%, respectively. The weighted average interest rate is determined primarily by reference to daily outstanding principal amounts and excludes the cost of maintaining the lines of credit.
At December 31, 1996 and 1995, AFS had lines of credit with various banks amounting to $3.50 billion and $3.28 billion, respectively, of which the unused portion of these lines amounted to $2.90 billion and $2.64 billion, respectively. AFS generally pays fees in support of these lines.
During the years ended December 31, 1996 and 1995, AFS issued the following notes:
Under interest rate exchange agreements, AFS makes periodic fixed payments in exchange for periodic variable payments. AFS has entered into such agreements to mitigate its exposure to increases in interest rates on a portion of its variable rate debt. These agreements had weighted average remaining terms of less than 2 years and had the effect of fixing the rate of interest at 7.9% and 8.2% on $1.143 billion and $1.063 billion
AVCO FINANCIAL SERVICES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE 5: DEBT AND CREDIT FACILITIES (CONTINUED)
of variable rate borrowing at December 31, 1996 and 1995, respectively. The spread between the variable rate AFS received and the fixed rate AFS paid increased the reported interest expense by $16.8 million in 1996, $10.9 million in 1995, and $17.2 million in 1994. Such spread had the effect of increasing AFS' cost of borrowing by .27% in 1996, .18% in 1995, and .34% in 1994.
The following details AFS' "fixed-pay" interest rate exchange agreement activity for the years 1996 and 1995:
The notional amount of fixed-pay interest rate swap agreements at December 31, 1996 categorized by annual maturity, along with the related weighted average interest rates paid are as follows: $377.9 million (8.4%) in 1997; $402.9 million (8.1%) in 1998; $336.7 million (7.0%) in 1999; and $25.9 million (6.8%) in 2000.
In 1996, AFS entered into additional fixed-pay interest rate exchange agreements which become effective in 1997. These agreements expire through 2000 and will fix the rate of interest at 7.3% on $12 million of variable rate borrowing. The agreements will mitigate AFS' exposure to increases in interest rates primarily by replacing maturing fixed-pay swap agreements and fixed-rate notes.
AFS' exposure to credit risk associated with counterparty nonperformance on interest rate exchange agreements is limited to the amounts reflected in AFS' consolidated balance sheet. At December 31, 1996, such amounts were not material.
The aggregate maturities, required prepayments, redemptions and sinking fund requirements with respect to the consolidated debt outstanding (excluding commercial paper, bank notes and savings deposits) at December 31, 1996, for the five years ending December 31, 2001, were (in millions): $853.0 in 1997; $744.2 in 1998; $875.2 in 1999; $758.5 in 2000; and $200.0 in 2001.
The senior subordinated notes are subordinate and junior in right of payment, in all respects, to all indebtedness of AFS for money borrowed.
NOTE 6: REINSURANCE
In the normal course of business, AFS seeks to reduce the loss that may arise through AFS' insurance subsidiaries from catastrophes or other events that may cause unfavorable underwriting results by reinsuring certain levels of risk in various areas of exposure with other insurance enterprises, or reinsurers.
While reinsurance contracts do not relieve AFS from its obligations to policyholders, AFS evaluates the financial condition of its reinsurers and monitors concentration of credit risk arising from similar geographic regions, activities or economic characteristics of the reinsurers to minimize its exposure to significant losses from reinsurer insolvencies. Additionally, AFS holds collateral under certain reinsurance agreements in the form of letters of credit and trust accounts at December 31, 1996. Reinsurance receivables with a carrying value of $2.4 million and prepaid reinsurance premiums of $36.6 million relating to a quota share agreement were associated with a single reinsurer. AFS holds collateral under this reinsurance agreement in the form of a trust account totalling $42.5 million at December 31, 1996. Additionally, AFS holds collateral under certain
AVCO FINANCIAL SERVICES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE 6: REINSURANCE (CONTINUED)
other reinsurance agreements in the forms of letters of credit and trust accounts. Reinsurance receivables and prepaid reinsurance premiums were $7.2 million and $38.1 million respectively at December 31, 1996 and $6.8 million and $24.2 million respectively at December 31, 1995.
The effect of reinsurance on premiums written, premiums earned and losses incurred for the three years ended December 31, 1996 were as follows:
AVCO FINANCIAL SERVICES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE 7: OPERATIONS BY INDUSTRY SEGMENT AND GEOGRAPHIC AREA
AFS is principally engaged in consumer finance and insurance activities. AFS' finance operations mainly involve loans made by the Avco Financial Services Group. Such loans consist primarily of consumer loans which are unsecured or secured by personal property and are in relatively small amounts and for relatively short periods; real estate loans which are secured by real property in larger amounts and for considerably longer periods; and retail installment contracts, principally covering personal property. As of December 31, 1996, AFS operated 1,235 finance offices located in all states of the United States (except Arkansas, Kansas, Mississippi, Oklahoma and Vermont), the Commonwealth of Puerto Rico, the Virgin Islands, all Canadian provinces and the Yukon Territory, six Australian states and the Australian Capital Territory, Hong Kong, New Zealand, Spain and the United Kingdom. AFS' insurance business consists primarily of the sale of credit life, credit disability and casualty insurance offered by various subsidiaries (Avco Insurance Services Group), a significant part of which is directly related to the AFS' finance activities.
Industry Segment
The following is a summary of revenues, income before income taxes and identifiable assets by industry segment:
- --------------- * The above data for the two years ended 1993 is not reported upon herein by independent auditors.
AVCO FINANCIAL SERVICES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE 7: OPERATIONS BY INDUSTRY SEGMENT AND GEOGRAPHIC AREA (CONTINUED) Geographic Area
The following is a summary of revenues, income before income taxes and identifiable assets by geographic area:
- ------------ * The above data for the two years ended 1993 is not reported upon herein by independent auditors.
** Includes the operations of Hong Kong, New Zealand and Spain.
At December 31, 1996, finance receivables in the United States represented 57% of AFS' total finance receivables outstanding. At such date, receivables outstanding in no state exceeded 8% of the United States' portfolio, except California in which outstanding receivables represented 17% of the United States' portfolio and 9% of the consolidated portfolio.
Capital expenditures and depreciation expense for each of the five years ended 1996 were not material to the operations of the industry segments.
NOTE 8: CERTAIN PROVISIONS CONTAINED IN NOTES, LOAN AGREEMENTS AND CERTIFICATE OF INCORPORATION AND OTHER RESTRICTIONS
The notes, loan agreements and certificate of incorporation of AFS contain restrictions on the declaration or payment of cash dividends and on redemptions, purchases or other acquisitions of stock. Under the most restrictive provision at December 31, 1996, approximately $364.4 million of retained earnings was available for dividends on common stock or for redemptions, purchases or other acquisitions of stock. The notes and loan agreements also contain various restrictive provisions regarding debt, the creation of liens or guarantees and the making of investments.
AVCO FINANCIAL SERVICES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE 8: CERTAIN PROVISIONS CONTAINED IN NOTES, LOAN AGREEMENTS AND CERTIFICATE OF INCORPORATION AND OTHER RESTRICTIONS (CONTINUED)
Maximum dividend limitations imposed by U.S. and foreign insurance regulatory agencies and minimum capital requirements of various U.S. and foreign regulatory agencies imposed on certain of AFS' finance operations restrict the amount of certain subsidiaries' net assets which can be transferred to AFS. Such restricted net assets totaled approximately $270 million at December 31, 1996.
NOTE 9: LEASE COMMITMENTS
AFS' headquarters and regional executive offices are occupied under noncancelable operating leases expiring on various dates through 2017. The loan office locations through which operations are conducted are occupied under noncancelable operating leases having terms generally not exceeding five years with renewal options for an additional five years. Rental expense for such leases and for leased equipment was approximately $51 million, $51 million and $47 million in 1996, 1995 and 1994, respectively. Future minimum rental commitments for all noncancelable operating leases in effect at December 31, 1996 approximate $36 million in 1997, $30 million in 1998, $25 million in 1999, $20 million in 2000, $17 million in 2001 and $81 million thereafter.
NOTE 10: CONTINGENCIES
There is pending or threatened litigation against AFS and its subsidiaries. Among these lawsuits and proceedings are individual and class action proceedings which seek compensatory, treble or punitive damages in substantial amounts. These suits and proceedings are being defended or contested on behalf of AFS. On the basis of information presently available, AFS believes that any such liability from pending or threatened litigation will not have a material effect on AFS' net income or financial condition.
The laws of many states in which AFS' insurance subsidiaries are admitted to do business require as a condition of admission that all insurance companies so admitted collectively guarantee to policyholders the benefits payable under policies issued by other insurance companies admitted in the particular state up to statutory levels. AFS' insurance subsidiaries have not been required to date to make any significant payments pursuant to such guarantees. While the amount of any assessments which may be made in the future cannot be predicted, AFS does not believe the total assessments, if any, will be material to its net income or financial condition.
NOTE 11: POSTRETIREMENT BENEFITS OTHER THAN PENSIONS
AFS has retirement plans, principally non-contributory (defined contribution) which cover substantially all employees. Costs relating to these plans, which are generally funded as accrued, amounted to approximately $17 million, $16 million and $15 million for 1996, 1995 and 1994, respectively.
AFS provides certain health care and life insurance benefits for its employees and for certain retired employees. Such benefits are administered by insurance companies or other carriers who determine premiums for insured plans and expected costs to be paid during the year under self-insured plans. In 1989, AFS began phasing out postretirement benefits for future retirees.
AFS recognizes the cost of postretirement benefits using the accrual method of accounting over the employees' years of service. Such costs for 1996, 1995 and 1994 were not material.
AVCO FINANCIAL SERVICES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE 11: POSTRETIREMENT BENEFITS OTHER THAN PENSIONS (CONTINUED)
AFS' postretirement benefit plans other than pensions currently are not funded. The following table sets forth the status of AFS' retiree health care and life insurance plans at December 31, 1996 and 1995:
An assumed discount rate of 7.5% for 1996, 8.25% for 1995 and 7.25% for 1994 was used to determine postretirement benefit costs other than pensions. An assumed discount rate of 7.5% and 7.25% was used to determine the status of AFS' plans at December 31, 1996 and December 31, 1995, respectively. The weighted average annual assumed rate of increase in the per capita cost of covered benefits (that is, health care cost trend rate) is 7% for retirees age 65 and over and 11% for retirees under age 65 in 1997, and both rates are assumed to decrease gradually to 5.5% until 2001 and 2003, respectively, and remain at that rate thereafter. Increasing these rates by one percentage point in each year would have increased the accumulated postretirement benefit obligation as of December 31, 1996 by $2.2 million and increased the aggregate of the service and interest cost components of postretirement benefit costs for 1996 by $200,000.
NOTE 12: QUARTERLY RESULTS OF OPERATIONS (UNAUDITED)
Quarterly results of operations for the years ended December 31, 1996 and 1995 were as follows:
NOTE 13: RELATED PARTY TRANSACTIONS
During 1990, AFS purchased $25.0 million of Textron Inc. common stock on the open market. The investment is being carried in marketable equity securities.
AVCO FINANCIAL SERVICES, INC.
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS (CONTINUED)
NOTE 14: FAIR VALUE OF FINANCIAL INSTRUMENTS
The following methods and assumptions were used in estimating the fair value of AFS' financial instruments.
Investments
The estimated fair values of investment securities were based on quoted market prices where available. If quoted market prices were not available, the estimated fair values were based on independent appraisals, prices from independent brokers or discounted cash flow analyses. Independent appraisals and discounted cash flow analyses, using interest rates currently being offered for similar loans to borrowers of similar credit quality, were generally used to estimate the fair value of certain privately placed investments.
Finance Receivables
The estimated fair values of fixed rate consumer loans and real estate loans were estimated based on discounted cash flow analyses using interest rates currently being offered for similar loans to borrowers of similar credit quality. Estimated future cash flows were adjusted for AFS' estimates of prepayments, refinances, and loan losses based on internal historical data. The estimated fair value of all variable rate receivables and fixed rate retail installment contracts approximated the net carrying value of such receivables. The fair values of AFS' leasing receivables and finance-related insurance reserves and claims ($291.5 million and $272.8 million, net carrying value, respectively, at December 31, 1996 and $263.9 million and $261.5 million, respectively, at December 31, 1995) are not required to be disclosed under generally accepted accounting principles.
Debt and Interest Rate Exchange Agreements
The estimated fair value of fixed rate debt was determined by independent investment bankers. The fair values of variable rate debt and borrowings under or supported by credit facilities approximated their carrying values. The estimated fair values of interest rate exchange agreements were determined by independent investment bankers as the estimated amounts that AFS would be required to pay to a third party to assume AFS' obligations under the agreements.
The carrying values and estimated fair values of AFS' financial instruments for which it is practicable to calculate a fair value are as follows:
ITEM 9.

ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND FINANCIAL DISCLOSURE
Not applicable.
PART III
ITEM 10.

ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
Omitted in accordance with General Instruction J(2)(c).
ITEM 11.

ITEM 11. EXECUTIVE COMPENSATION
Omitted in accordance with General Instruction J(2)(c).
ITEM 12.

ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
Omitted in accordance with General Instruction J(2)(c).
ITEM 13.

ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Omitted in accordance with General Instruction J(2)(c).
PART IV
ITEM 14.

ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
- ------------
* Filed herewith.
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned, thereunto duly authorized.
AVCO FINANCIAL SERVICES, INC.
Dated: March 27, 1997 By WARREN R. LYONS ------------------------------- Warren R. Lyons Chairman (Principal Executive Officer)
Pursuant to the requirements of the Securities Exchange Act of 1934, this report has been signed below by the following persons on behalf of the Registrant and in the capacities indicated on March 27, 1997.
AVCO FINANCIAL SERVICES, INC.
SCHEDULE I
CONDENSED FINANCIAL INFORMATION OF THE REGISTRANT
See accompanying note.
S-1
AVCO FINANCIAL SERVICES, INC.
SCHEDULE I
CONDENSED FINANCIAL INFORMATION OF THE REGISTRANT (CONTINUED)
NOTE TO CONDENSED FINANCIAL INFORMATION
The parent company is the primary financing entity for the U.S. Avco Financial Services Group.
See Note 1 to the Consolidated Financial Statements for significant accounting policies.
The aggregate maturities, required prepayments, redemptions and sinking fund requirements with respect to the Registrant's debt outstanding (excluding commercial paper, bank notes and savings deposits) at December 31, 1996 for the five years ending December 31, 2001 were (in millions): $600.0 in 1997; $333.7 in 1998; $434.9 in 1999; $525.0 in 2000; and $200.0 in 2001.
At December 31, 1996 and 1995, the parent company was guarantor for payment of all its foreign subsidiaries' commercial paper and bank line borrowings of $1.261 billion and $1.223 billion, respectively, and senior notes of $1.337 billion and $1.148 billion, respectively.
The Registrant received cash dividends from its subsidiaries aggregating $187.6 million in 1996, $194.6 million in 1995, and $45.5 million in 1994.
S-2


Item 1 - Business The Big River Productions Limited Partnership owns the rights to the play Big River. As of December 31, 1996 the play was being performed on tour.
Item 2

Item 2 - Properties Partnership maintains through its general partners offices at 1501 Broadway, New York, New York.
Item 3

Item 4 - Submission of matters to a vote of Security Holders Not Applicable
Item 5

Item 5 - Market for Registrants Common Equity & Stockholder Matters Not Applicable
Item 6

Item 6 - Selected Financial Data The following table sets forth selected financial information regarding the Company's financial position and operating results. This information should be read in conjunction with the financial statements and notes thereto and Managements discussion and analysis of financial condition and results of operations, appearing elsewhere in this report.
Income from continuing operation $41,838 Total Assets $65,094 Non-Current Obligations -0-
Item 7

Item 7 - Managements Discussion and Analysis of financial condition and results of operations The Partnership was capitalized by $2,500,000 of partners contributions during 1985 for the purpose of producing on Broadway a dramatic - musical play entitled "Big River". The Company's primary revenue source is from royalties from licensing agreem ents. The Company's royalty income was $47,565 during 1996.
Item 8

Item 8 - Financial Statement and Supplementary Data The financial statements and supplementary data listed on he accompanying Index to financial statements and Index to financial schedule are hereby incorporated herein by this reference and filed as part of this report.
Item 9

Item 9 - Disagreements on Accounting and Financial Disclosures NONE
Item 10

Item 10 - 13 Not Applicable
BIG RIVER PRODUCTIONS LIMITED PARTNERSHIP BALANCE SHEET DECEMBER 31, 1996
ASSETS
1996 1995
Current Assets
Cash in Bank $65,094 $22,056 ---------- ------- Total Assets $65,094 $22,056 ======= =======
LIABILITY & PARTNERS CAPITAL
Current Liabilities
Accrued Expenses $5,700 $4,500 ------ ------ Total Liabilities 5,700 4,500
Partners Capital
Partners Capital 59,394 17,556 ------ ----- Total Partners Capital 59,394 17,556
Total Liabilities & Partners Capital $65,094 $22,056 ======= =======
See accountants compilation report. BIG RIVER PRODUCTIONS LIMITED PARTNERSHIP STATEMENT OF INCOME AND PARTNERS' CAPITAL FOR THE TWELVE MONTHS ENDED DECEMBER 31,
1996 1995
Income: Royalty $47,565 $64,941 ------- ------- Total income 47,565 64,941
Less: Expenses Royalty Expense 150 9,967 General Manager Fee 1,200 2,400 Professional 4,950 4,500 Administration Expense 0 950 ------ ------ Total Expenses 6,300 17,817
Net Income Before Taxes 41,625 47,124
Provision for NYC Unincorporated Business Tax 1,500 1,560 ------ ----- Net Income Before Interest Income 39,765 45,564
Interest Income 2,073 433 ----- ------ Net Income 41,838 45,997
Partners' Capital - Beginning of year 17,556 46,559
Less: Distribution to Partner's 0 (75,000) ------- -------- Partners' Capital - End of year $59,394 $17,556 ======= ========
See notes attached
BIG RIVER PRODUCTIONS LIMITED PARTNERSHIP STATEMENT OF CASH FLOWS FOR THE YEAR ENDED DECEMBER 31,
1996 1995
CASH FLOWS FROM OPERATING ACTIVITIES Net Income $41,838 $45,997 Adjustments to reconcile net income to net cash provided by operating activities Increase/(Decrease)in accrued expenses 1,200 705 ----- ----- Total Adjustments 1,200 705 ---- ----- Net Cash Provided by Operating Activities 43,038 46,702
CASH FLOWS FROM FINANCING ACTIVITIES Capital Distributions 0 (75,000) ------ --------- Net cash used for financing activities 0 (75,000) ------ ------- Net cash increas/(decrease)for year 43,038 (28,298)
Cash and Cash equivalents at beginning of year 22,056 50,354 ------- -------- Cash and cash equivalents at end of year $65,094 $22,056 ======= =======
See notes attached
BIG RIVER PRODUCTIONS LIMITED PARTNERSHIP NOTES TO FINANCIAL STATEMENTS DECEMBER 31, 1996 AND 1995
Note 1 - General
The Big River Productions Limited Partnership (the "Company") owns shares in subsidiary rights of the property Big River, including all live stock and amateur performances.
Note 2 - Accounting Policies
A) The Company uses the accrual method of accounting for royalty income and related expenses.
B) The Company reports the statement of cash flows in accordance with the Financial Accounting Standards Board statement No. 95. For purposes of this statement, all highly liquid securities with a maturity of three months or less are considered to be cash equivalents.
Note 3 - Commitments & Contingencies
The Company has no long term leases.
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the Registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
BIG RIVER PRODUCTIONS LIMITED PARTNERSHIP (Registrant)
Date: ________________________ /s/Edward Strong _____________________________ By: Edward Strong (Officer) David, Strong, Warner, General Partner
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
ANNUAL REPORT UNDER SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE ACT OF 1934
FOR THE FOR THE YEAR ENDED DECEMBER 31, 1996 COMMISSION FILE# 294790-NY ---------- BIG RIVER PRODUCTIONS LIMITED PARTNERSHIP ------------------------------------------
NEW YORK 13-3243107 - ---------------------------------------------------------------- (State of other jurisdiction of (I.R.S. Employer incorporation or organization) Identification No.)
1501 BROADWAY NEW YORK, NEW YORK 10036 - ------------------------------------------------------------------- (Address of principal executive offices) (Zip Code)
Registrants telephone number, including Area Code (212) 575-9710 --------------- Indicate by check mark whether the Registrant (1) has filed all reports required to be filed under Section 13 or 15(d) of the Securities Exchange Act of 1934 during the proceeding 12 months and (2) has been subject to such filing requirements for the past 90 days.
YES X NO -- ---