UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, DC 20549

Form 10-Q

(Mark One)

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

For the quarterly period ended March 31, 2009

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

Commission file number 033-19694

FirstCity Financial Corporation

(Exact name of registrant as specified in its charter)

Delaware		76-0243729
(State or other jurisdiction of		(I.R.S. Employer
incorporation or organization)		Identification No.)

6400 Imperial Drive,
Waco, TX		76712
(Address of principal executive offices)		(Zip Code)

(254) 761-2800

(Registrant’s telephone number, including area code)

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No o

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 during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes o No o

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 definition of “large accelerated filer,” “accelerated filer” and “smaller reporting company” in Rule 12b-2 of the Exchange Act.

Large accelerated filer o		Accelerated filer o

Non-accelerated filer o		Smaller reporting company x
(Do not check if a 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 o No x

The number of shares of common stock, par value $.01 per share, outstanding at May 4, 2009 was 9,831,937.

Table of Contents

PART I

FINANCIAL INFORMATION

Item 1. Financial Statements (Unaudited)

FIRSTCITY FINANCIAL CORPORATION AND SUBSIDIARIES

CONSOLIDATED BALANCE SHEETS

(Dollars in thousands, except per share data)

	March 31,			December 31,
	2009			2008
	(Unaudited)			(See Note 2)
ASSETS
Cash and cash equivalents	$	18,905		$	19,103
Restricted cash	1,277			1,217
Portfolio Assets:
Loan portfolios, net	171,473			121,137
Real estate held for sale	13,411			17,484
Real estate held for investment, net	9,523			9,592
Total Portfolio Assets	194,407			148,213
Loans receivable:
Loans receivable - affiliates	27,827			27,080
Loans receivable - SBA held for sale	9,720			4,901
Loans receivable - SBA held for investment, net	15,673			14,405
Loans receivable - other	13,411			13,533
Total loans receivable	66,631			59,919
Investment security available for sale, net	4,279			5,251
Equity investments	70,631			72,987
Service fees receivable ($831 and $553 from affiliates, respectively)	910			626
Servicing assets - SBA loans	695			722
Other assets, net	20,512			20,899
Total Assets	$	378,247		$	328,937

LIABILITIES AND EQUITY
Liabilities:
Notes payable to banks	$	284,852		$	242,889
Note payable to affiliate	8,658			8,658
Other liabilities	11,731			11,515
Total Liabilities	305,241			263,062
Commitments and contingencies (Note 15)
Equity:
Optional preferred stock (par value $.01 per share; 98,000,000 shares authorized; no shares issued or outstanding)	—			—
Common stock (par value $.01 per share; 100,000,000 shares authorized; 11,331,937 shares issued; 9,831,937 shares outstanding)	113			113
Treasury stock, at cost: 1,500,000 shares	(10,923		)	(10,923		)
Paid in capital	101,980			101,875
Accumulated deficit	(36,429		)	(37,073		)
Accumulated other comprehensive loss	(2,649		)	(3,726		)
FirstCity Stockholders’ Equity	52,092			50,266
Noncontrolling interests	20,914			15,609
Total Equity	73,006			65,875
Total Liabilities and Equity	$	378,247		$	328,937

See accompanying notes to consolidated financial statements.

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FIRSTCITY FINANCIAL CORPORATION AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF OPERATIONS

(Dollars in thousands, except per share data)

(Unaudited)

	Three Months Ended
	March 31,
	2009			2008
Revenues:
Servicing fees ($2,127 and $2,164 from affiliates, respectively)	$	2,392		$	2,200
Income from Portfolio Assets	9,043			4,935
Interest income from SBA loans	346			476
Interest income from loans receivable - affiliates	923			150
Interest income from loans receivable - other	429			275
Revenue from railroad operations	747			805
Other income	1,801			663
Total revenues	15,681			9,504
Expenses:
Interest and fees on notes payable to banks	3,044			3,683
Interest and fees on notes payable to affiliate	433			—
Salaries and benefits	5,054			5,030
Provision for loan and impairment losses	1,106			3,030
Asset-level expenses	1,237			1,561
Occupancy, data processing and other	3,406			2,455
Total expenses	14,280			15,759
Equity in net earnings (loss) of subsidiaries	(146		)	2,840
Earnings (loss) before income taxes	1,255			(3,415		)
Income tax expense	(263		)	(191		)
Net earnings (loss)	992			(3,606		)
Less: Net income (loss) attributable to noncontrolling interests (See Note 2)	348			(22		)
Net earnings (loss) attributable to FirstCity	$	644		$	(3,584	)

Basic earnings (loss) per share	$	0.07		$	(0.34	)
Diluted earnings (loss) per share	$	0.07		$	(0.34	)

See accompanying notes to consolidated financial statements.

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FIRSTCITY FINANCIAL CORPORATION AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF STOCKHOLDERS’ EQUITY

AND COMPREHENSIVE INCOME (LOSS)

(Dollars in thousands)

	FirstCity Stockholders
								Retained			Accumulated			Non-
								Earnings			Other			controlling
	Common		Treasury			Paid in		(Accumulated			Comprehensive			Interests			Total
	Stock		Stock			Capital		Deficit)			Income (Loss)			(See Note 2)			Equity

Balances, December 31, 2007	$	113	$	(5,978	)	$	101,240	$	9,602		$	1,846		$	3,209		$	110,032
Repurchase of common stock	—		(2,138		)	—		—			—			—			(2,138		)
Stock option compensation expense	—		—			225		—			—			—			225
Investment in majority-owned entities	—		—			—		—			—			3			3
Distributions to noncontrolling interests	—		—			—		—			—			(663		)	(663		)
Other activity	—		—			—		—			—			10			10
Comprehensive loss:
Net loss	—		—			—		(3,584		)	—			(22		)	(3,606		)
Foreign currency translation adjustments	—		—			—		—			(474		)	72			(402		)
Total comprehensive loss																	(4,008		)
Balances, March 31, 2008	$	113	$	(8,116	)	$	101,465	$	6,018		$	1,372		$	2,609		$	103,461

Balances, December 31, 2008	$	113	$	(10,923	)	$	101,875	$	(37,073	)	$	(3,726	)	$	15,609		$	65,875
Stock option compensation expense	—		—			105		—			—			—			105
Investment in majority-owned entities	—		—			—		—			—			5,743			5,743
Distributions to noncontrolling interests	—		—			—		—			—			(31		)	(31		)
Comprehensive income:
Net earnings	—		—			—		644			—			348			992
Change in net unrealized gain on security available for sale	—		—			—		—			(7		)	—			(7		)
Foreign currency translation adjustments	—		—			—		—			1,084			(755		)	329
Total comprehensive income																	1,314
Balances, March 31, 2009	$	113	$	(10,923	)	$	101,980	$	(36,429	)	$	(2,649	)	$	20,914		$	73,006

See accompanying notes to consolidated financial statements.

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FIRSTCITY FINANCIAL CORPORATION AND SUBSIDIARIES

CONSOLIDATED STATEMENTS OF CASH FLOWS

(Dollars in thousands)

(Unaudited)

	Three Months Ended
	March 31,
	2009			2008
	(See Note 2)
Cash flows from operating activities:
Net earnings (loss)	$	992		$	(3,606	)
Adjustments to reconcile net earnings (loss) to net cash used in operating activities:
Net principal advances on SBA loans held for sale	(4,738		)	(1,088		)
Proceeds from the sale of SBA loans held for sale, net	—			197
Purchases of Portfolio Assets	(70,324		)	(7,768		)
Proceeds applied to principal on Portfolio Assets	30,453			19,471
Income from Portfolio Assets	(9,043		)	(4,935		)
Capitalized interest and costs on Portfolio Assets and loans receivable	(191		)	(215		)
Provision for loan and impairment losses	1,106			3,030
Foreign currency transaction (gains) losses, net	566			(200		)
Equity in net loss (earnings) of subsidiaries	146			(2,840		)
Gain on sale of SBA loans held for sale, net	—			(9		)
Gain on sale of railroad property	(920		)	—
Depreciation and amortization	988			892
Net premium amortization of loans receivable	(48		)	(131		)
Stock option compensation expense	105			225
Decrease (increase) in restricted cash	(60		)	56
Increase in service fees receivable	(284		)	(102		)
Decrease (increase) in other assets	(582		)	657
Increase (decrease) in other liabilities	281			(1,311		)
Net cash provided by (used in) operating activities	(51,553		)	2,323
Cash flows from investing activities:
Purchases of property and equipment, net	(331		)	(346		)
Proceeds from sale of railroad property	1,350			—
Net principal collections (advances) on loans receivable	(881		)	498
Net principal collections (advances) on SBA loans held for investment	(1,242		)	1,249
Net principal paydowns on investment security available for sale	965			—
Contributions to Acquisition Partnerships	(450		)	(2,203		)
Distributions from Acquisition Partnerships	1,800			5,346
Net cash provided by investing activities	1,211			4,544
Cash flows from financing activities:
Borrowings under notes payable to banks	75,488			16,923
Principal payments of notes payable to banks, net	(30,263		)	(29,806		)
Payments of debt issuance costs and loan fees	(332		)	(330		)
Contributions from noncontrolling interests	5,743			3
Distributions to noncontrolling interests	(31		)	(663		)
Repurchase of common stock	—			(2,138		)
Net cash provided by (used in) financing activities	50,605			(16,011		)
Effect of exchange rate changes on cash and cash equivalents	(461		)	49
Net decrease in cash and cash equivalents	(198		)	(9,095		)
Cash and cash equivalents, beginning of period	19,103			23,037
Cash and cash equivalents, end of period	$	18,905		$	13,942
Supplemental disclosure of cash flow information:
Cash paid during the period for:
Interest	$	2,330		$	3,277
Income taxes, net of refunds received	45			14

See accompanying notes to consolidated financial statements.

Table of Contents

FIRSTCITY FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

March 31, 2009

(Unaudited)

(1) Basis of Presentation and Summary of Significant Accounting Policies

Nature of Operations

FirstCity Financial Corporation and subsidiaries (collectively, “FirstCity”, “Company”, “we”, “us” or “our”) is a financial services company with offices in the United States and Mexico, and a presence in Europe and South America. FirstCity engages in two major business segments — Portfolio Asset Acquisition and Resolution and Special Situations Platform. The Portfolio Asset Acquisition and Resolution business has been the Company’s core business operation since commencing operations in 1986. In the Portfolio Asset Acquisition and Resolution business, the Company acquires portfolios of performing and non-performing commercial and consumer loans and other assets (collectively, “Portfolio Assets” or “Portfolios”), generally at a discount to their legal principal balances or appraised values, and services and resolves such Portfolio Assets in an effort to maximize the present value of the ultimate cash recoveries. FirstCity acquires the Portfolio Assets for its own account or through investment entities formed with one or more other co-investors (each such entity, an “Acquisition Partnership”). The Company engages in its Special Situations Platform business through its majority ownership interest in FirstCity Denver Investment Corp. (“FirstCity Denver”) — which was formed in April 2007. Through its Special Situations Platform business, the Company provides investment capital to privately-held middle-market companies through flexible capital structuring arrangements to generate an attractive risk-adjusted return. These capital investments primarily take the form of senior and junior financing arrangements, but also include direct equity investments, common equity warrants, distressed debt transactions, and buyouts. Refer to Note 14 for additional information on the Company’s major business segments.

Basis of Presentation

The consolidated financial statements in this Quarterly Report on Form 10-Q include the accounts of FirstCity and all other entities in which FirstCity has a controlling financial interest. All significant intercompany balances and transactions have been eliminated in consolidation. The accounting and financial reporting policies the Company follows conform, in all material respects, to U.S. generally accepted accounting principles and to general practices within the financial services industry.

The consolidated financial statements in this Quarterly Report on Form 10-Q have not been audited by an independent registered public accounting firm, but in the opinion of management, reflect all adjustments necessary for a fair presentation of the Company’s financial position and results of operations. All such adjustments were of a normal and recurring nature. We have prepared the accompanying unaudited consolidated financial statements in accordance with the accounting policies described in our 2008 Annual Report on Form 10-K, as amended (“2008 Form 10-K”), and with the instructions to Form 10-Q. Accordingly, the accompanying unaudited consolidated financial statements do not include all of the information and note disclosures normally included in our annual financial statements prepared in accordance with U.S. generally accepted accounting principles, and should be read in conjunction with the Company’s consolidated financial statements, and notes thereto, included in our 2008 Form 10-K. Operating results for the interim periods disclosed herein are not necessarily indicative of the results that may be expected for a full year or any future period.

On January 1, 2009, the Company adopted SFAS No. 160, Noncontrolling Interests in Consolidated Financial Statements — an amendment of ARB No. 51 (“SFAS 160”), which changed the presentation requirements for noncontrolling (minority) interests. Refer to Note 2 for more information. In addition to the changes prescribed by SFAS 160, certain other amounts in prior period financial statements have been reclassified to conform to the current period presentation. These certain other reclassifications are not significant and have no impact on earnings, total assets or stockholders’ equity.

Table of Contents

FIRSTCITY FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (continued)

Use of Estimates

The preparation of financial statements in conformity with U.S. generally accepted accounting principles requires management to make estimates and assumptions that affect the reported amounts of assets and liabilities and disclosure of contingent assets and liabilities at the date of the consolidated financial statements and the reported amounts of revenues and expenses during the reporting period. Estimates that are particularly susceptible to significant change in the near-term relate to the estimation of future collections on Portfolio Assets used in the calculation of income from Portfolio Assets; valuation of deferred tax assets and assumptions used in the calculation of income taxes; valuation of servicing assets, investment securities, loans receivable (including loans receivable held in securitization trusts), and real estate; guarantee obligations; indemnifications; and legal contingencies. These estimates and assumptions are based on management’s best estimates and judgment. Management evaluates its estimates and assumptions on an ongoing basis using historical experience and other factors, including the current economic environment. We adjust such estimates and assumptions when facts and circumstances dictate. Illiquid credit markets, volatile financial, real estate and foreign currency markets, and declines in business and consumer spending have combined to increase the uncertainty inherent in such estimates and assumptions. As future events and their effects cannot be determined with precision, actual results could differ significantly from these estimates. Changes in these estimates resulting from continuing changes in the economic environment will be reflected in the financial statements in future periods.

Portfolio Assets

The Company invests in performing and non-performing commercial and consumer loans, real estate and certain other assets (“Portfolio Assets” or “Portfolios”), and services and resolves such Portfolio Assets in an effort to maximize the present value of the ultimate cash recoveries. The Portfolio Assets are generally non-homogeneous assets, including loans of varying qualities that are secured by diverse collateral types and real estate. Some Portfolio Assets are loans for which resolution is tied primarily to the real estate securing the loan, while others may be collateralized business loans, the resolution of which may be based on the cash flows of the business or the underlying collateral.

On January 1, 2005, FirstCity adopted and began accounting for its acquisitions of loan portfolios with credit deterioration in accordance with the provisions of AICPA Statement of Position 03-3, Accounting for Certain Loans or Debt Securities Acquired in a Transfer (“SOP 03-3”). SOP 03-3 addresses accounting differences between contractual cash flows and cash flows expected to be collected from an investor’s initial investment in acquired loans if those differences are attributable, at least in part, to credit quality. SOP 03-3 requires acquired loans with credit deterioration to be initially recorded at fair value and prohibits “carrying over” or the creation of valuation allowances in the initial accounting of acquired loans that are within the scope of SOP 03-3. Under SOP 03-3, the excess cash flows expected at acquisition over the loan portfolio’s purchase price is recorded as interest income over the life of the portfolio.

Loans Acquired Prior to 2005

For Portfolio Assets acquired before January 1, 2005, the Company initially recorded the purchased assets at cost, and acquisition-date purchase discounts and loan loss allowances of the underlying assets were included as components of the cost and carrying value of the Portfolio Assets, as applicable. Income recognition for loans acquired prior to 2005 is based on management’s initial designation of the purchased Portfolio Assets as non-performing or performing. Such designations were made on the acquisition date and do not subsequently change even though the actual performance of the Portfolio Assets may subsequently change.

Income on non-performing Portfolio Assets acquired prior to 2005 is recognized only to the extent that collections exceed a pro-rata portion of allocated cost from the pool. Cost allocation is based on a proration of actual collections divided by total estimated collections of the pool. Interest income is not recognized separately on non-performing Portfolio Assets. All collection proceeds, of whatever type, are included in the determination of income recognition for these Portfolio Assets. The Company accounts for these non-performing Portfolio Assets on a pool basis.

Income on performing Portfolio Assets acquired prior to 2005 is recognized using the interest method, based on the Portfolio’s internal rate of return (“IRR”), and acquisition discounts for the Portfolios as a whole are accreted as an adjustment to yield over the estimated life of the respective Portfolios. Income on performing Portfolio Assets is accrued monthly based on each loan pool’s effective IRR. Significant increases in expected future cash flows may be recognized prospectively through an upward adjustment of the IRR over a portfolio’s remaining life. Any increase to the IRR then becomes the new benchmark for impairment testing. Cash flows greater than the interest accrual will reduce the carrying value of the pool. Likewise, cash flows that are less than the accrual

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FIRSTCITY FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (continued)

will increase the carrying balance. The IRR is estimated based on the timing and amount of anticipated cash flows using the Company’s proprietary collection model. Gains are recognized on performing Portfolio Assets when sufficient funds are received to fully satisfy the obligation on loans included in the pool, either from collections received from the borrower or proceeds received from the sale of the loan. The gain recognized represents the difference between the proceeds received and the allocated carrying value of the individual loan in the pool. The Company accounts for these performing Portfolio Assets on a pool basis.

Loans With Credit Deterioration Acquired After 2004

A substantial portion of the Company’s loans acquired after 2004 have experienced deterioration of credit quality between origination and the Company’s acquisition of the accounts. The amounts paid for the loans reflect the Company’s determination that the loans have experienced deterioration in credit quality since origination and that it is probable the Company will be unable to collect all amounts due according to the contractual terms of the underlying loans.

Commencing January 1, 2005, FirstCity adopted and began accounting for its acquisitions of loan portfolios with credit deterioration in accordance with the provisions of SOP 03-3. As permitted by SOP 03-3, the Company generally establishes static pools for purchased loan accounts that have common risk characteristics (primarily loan type and collateral). Each static pool is accounted for as a single unit for the recognition of income, principal payments and loss provision. Once a static pool is established, individual accounts are generally not added to or removed from the pool (unless the Company sells, forecloses or writes-off the loan). At acquisition, FirstCity determines the excess of the loan pool’s scheduled contractual payments over all cash flows expected to be collected as an amount that should not be accreted (“nonaccretable difference”). The excess of the portfolio’s cash flows expected to be collected at acquisition over the initial investment in the portfolio (“accretable yield”) is generally accreted into interest income over the remaining life of the portfolio. The discount (i.e. the difference between the cost of each static pool and the related aggregate contractual receivable balance) is not recorded because the Company does not expect to fully collect each static pool’s contractual receivable balance. As a result, loan portfolios are generally recorded at cost (which approximates fair value) at the time of acquisition.

In accordance with SOP 03-3, the Company accounts for its investments in SOP 03-3 loan portfolios using either the interest method or the cost-recovery method. Application of the interest method is dependent on management’s ability to develop a reasonable expectation as to both the timing and amount of cash flows expected to be collected. In the event the Company cannot develop or establish a reasonable expectation as to both the timing and amount of cash flows expected to be collected, SOP 03-3 permits the use of the cost-recovery method.

Under the interest method, an effective interest rate, or IRR, is applied to the cost basis of the pool. SOP 03-3 requires that the excess of the contractual cash flows over expected cash flows not be recognized as an adjustment of income or expense or on the balance sheet. SOP 03-3 requires the IRR that is estimated when the loan accounts are purchased to remain constant as the basis for subsequent impairment testing (performed at least quarterly). Significant increases in actual, or expected future cash flows, is used first to reverse any existing valuation allowance for that loan pool; and any remaining increase may be recognized prospectively through an upward adjustment of the IRR over the portfolio’s remaining life. Any increase to the IRR then becomes the new benchmark for impairment testing and income recognition. Under SOP 03-3, subsequent decreases in projected cash flows do not change the IRR, but are recognized as an impairment of the cost basis of the pool (to maintain the then-current IRR), and are reflected in the consolidated statements of operations through provisions charged to operations, with a corresponding valuation allowance off-setting the loan portfolio in the consolidated balance sheets. FirstCity establishes valuation allowances for loan portfolios acquired with credit deterioration to reflect only those losses incurred after acquisition — that is, the cash flows expected at acquisition that are not expected to be collected. Income from loan portfolios accounted for under the interest method is accrued based on each pool’s IRR applied to each pool’s adjusted cost basis. Gross collections in excess of the interest accrual and impairments will reduce the carrying value of the static pool, while gross collections less than the interest accrual will increase the carrying value. The IRR is estimated based on the timing and amount of anticipated cash flows using the Company’s proprietary collection models. A pool can become fully amortized (zero-basis carrying balance on the balance sheet) while still generating cash collections. In this case, cash collections are recognized as income when received.

If the amount and timing of future cash collections on a loan pool are not reasonably estimable, the Company accounts for such portfolios on the cost-recovery method. Under the cost-recovery method, no income is recognized until the Company has fully collected the cost of the portfolio, or until such time the Company considers the timing and amount of collections to be reasonably estimable and begins to recognize income based on the interest method as described above. At least quarterly, the Company performs an evaluation to determine if the remaining amount that is probable of collection is less than the portfolio’s carrying value, and if so,

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FIRSTCITY FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (continued)

recognizes impairment through provisions charged to operations. At March 31, 2009 and December 31, 2008, the carrying value of SOP 03-3 loan pools accounted for under the cost-recovery method approximated $34.1 million and $20.7 million, respectively.

Real Estate

Real estate Portfolio Assets consist of real estate properties purchased from a variety of sellers or acquired through loan foreclosure. Rental income, net of expenses, is generally recognized when received. The Company accounts for its real estate properties on an individual-asset basis as opposed to a pool basis. The following is a description of the classifications and related accounting policies for the Company’s various classes of real estate Portfolio Assets:

Classification and Impairment Evaluation

Real estate held for sale primarily includes real estate acquired through loan foreclosure. The Company classifies a property as held for sale if (1) management commits to a plan to sell the property; (2) the Company actively markets the property in its current condition for a price that is reasonable in comparison to its fair value; and (3) management considers the sale of such property within one year of the balance sheet date to be probable. Real estate held for sale is stated at the lower of cost or fair value less estimated disposition costs. Real estate is not depreciated while it is classified as held for sale. Impairment losses are recorded if a property’s fair value less estimated disposition costs is less than its carrying amount, and charged to operations in the period the impairment is identified.

Real estate held for investment generally includes acquired properties and is carried at cost less depreciation and amortization, as applicable. The Company classifies a property as held for investment if the property is still under development and/or management does not expect the property to be sold within one year of the balance sheet date. The Company periodically reviews its property held for investment for impairment whenever events or changes in circumstances indicate the carrying amount of the asset may not be recoverable. Recoverability of property held for investment is measured by comparison of the carrying amount of the asset to future net undiscounted cash flows expected to be generated by the property. If the property is considered impaired, the impairment to be recognized is measured by the amount by which the carrying amount of the property exceeds the fair value of the property. Fair value is determined by discounted cash flows or market comparisons.

Cost Capitalization and Allocation

Real estate properties acquired through, or in lieu of, loan foreclosure are initially recorded at the lower of cost (i.e. the underlying loan’s carrying value) or estimated fair value less disposition costs at the date of foreclosure — establishing a new cost basis. The amount, if any, by which the carrying value of the underlying loan exceeds the property’s fair value less estimated disposition costs at the foreclosure date is charged as a loss against operations. Expenditures for repairs, maintenance, and other holding costs are charged to operations as incurred.

Real estate properties acquired through a purchase transaction are initially recorded at the cost of the acquisition. The cost of acquired property includes the purchase price of the property, legal fees, and certain other acquisition costs. Subsequent to acquisition, the Company capitalizes capital improvements and expenditures related to significant betterments and replacements, including costs related to the development and improvement of the property for its intended use. Expenditures for repairs, maintenance, and other holding costs are charged to operations as incurred.

(2) Recently Adopted Accounting Standards

Business Combinations and Noncontrolling Interests

In December 2007, the FASB issued SFAS No. 141(R), Business Combinations (“SFAS 141R”). SFAS 141R establishes principle requirements for how the acquirer of a business recognizes and measures in its financial statements the identifiable assets acquired, the liabilities assumed, and any non-controlling interest in the acquiree. SFAS 141R also provides guidance for recognizing and measuring the goodwill acquired in the business combination, recognizing assets acquired and liabilities assumed arising from contingencies, and determining what information to disclose to enable users of the financial statements to evaluate the nature and financial impact of the business combination. We adopted SFAS 141R effective January 1, 2009 and it applies to all business combinations prospectively from that date. The impact of SFAS 141R on our consolidated financial statements will depend upon the nature, terms and size of the acquisitions that the Company consummates in the future.

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FIRSTCITY FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (continued)

In April 2009, the FASB issued Staff Position No. FSP FAS 141(R)-1, Accounting for Assets Acquired and Liabilities Assumed in a Business Combination That Arise from Contingencies (“FSP FAS 141R-1”). This FSP amends the accounting in SFAS 141R for assets and liabilities arising from contingencies in a business combination. FSP FAS 141R-1 requires that pre-acquisition contingencies be recognized at fair value, if fair value can be reasonably determined. If fair value cannot be reasonably determined, FSP FAS 141R-1 requires measurement based on the best estimate in accordance with SFAS No. 5, Accounting for Contingencies. FSP FAS 141R-1 is effective as of January 1, 2009 in connection with the adoption of SFAS 141R.

In December 2007, the FASB issued SFAS 160, which defines noncontrolling interest as the portion of equity in a subsidiary not attributable, directly or indirectly, to the parent. SFAS 160 requires the ownership interests in subsidiaries held by parties other than the parent (previously referred to as minority interest) to be clearly presented in the consolidated balance sheet within equity, but separate from the parent’s equity. The amount of consolidated net income attributable to the parent and to any noncontrolling interest must be clearly presented on the face of the consolidated statement of operations. Changes in the parent’s ownership interest while the parent retains its controlling financial interest (greater than 50 percent ownership) are to be accounted for as equity transactions with no remeasurement to fair value. Upon a loss of control, any gain or loss on the interest sold will be recognized in earnings. Additionally, any ownership interest retained will be re-measured at fair value on the date control is lost, with any gain or loss recognized in earnings. SFAS 160 also requires companies to report a consolidated net income (loss) measure that includes the amount attributable to such noncontrolling interests. We adopted SFAS 160 effective January 1, 2009, and it applies to noncontrolling interests prospectively from that date. However, the presentation and disclosure requirements of SFAS 160 were applied retrospectively for all periods presented. As a result of this adoption, we reclassified noncontrolling interests in the amount of $15.6 million from total liabilities to equity in the December 31, 2008 consolidated balance sheet; and net distributions to noncontrolling interests of $0.7 million from operating activities to financing activities in the consolidated statement of cash flows for the three-month period ended March 31, 2008.

Fair Value

In 2006, the FASB issued SFAS No. 157, Fair Value Measurements (“SFAS 157”). SFAS 157 defines fair value, establishes a market-based framework or hierarchy for measuring fair value and expands disclosures about fair value measurements. SFAS 157 is applicable whenever another accounting pronouncement requires or permits assets and liabilities to be measured at fair value. SFAS 157 does not expand or require any new fair value measures, however the application of SFAS 157 may change current practice. We adopted SFAS 157 for financial assets and liabilities effective January 1, 2008 and for non-financial assets and liabilities effective January 1, 2009. The adoption of SFAS 157 did not have a material effect on our financial condition or results of operations.

In April 2009, the FASB issued three FASB Staff Positions (“FSPs”) in order to provide additional application guidance and enhance disclosures regarding fair value measurements and impairments of securities.

· FSP FAS 157-4, Determining Fair Value When the Volume and Level of Activity for the Asset or Liability Have Significantly Decreased and Identifying Transactions That Are Not Orderly (“FSP FAS 157-4”). FSP FAS 157-4 relates to determining fair values when there is no active market or where the price inputs being used represent distressed sales. It reaffirms the need to use judgment to ascertain if a formerly active market has become inactive and in determining fair values when markets have become inactive.

· FSP FAS 115-2 and FAS 124-2, Recognition and Presentation of Other-Than-Temporary Impairments. This FSP is intended to bring consistency to the timing of impairment recognition, and provide improved disclosures about the credit and noncredit components of impaired debt securities that are not expected to be sold. The measure of impairment in comprehensive income remains fair value. The FSP also requires increased and more-timely disclosures regarding expected cash flows, credit losses, and an aging of securities with unrealized losses.

· FSP FAS 107-1 and APB 28-1, Interim Disclosures about Fair Value of Financial Instruments. This FSP relates to fair value disclosures for financial instruments that are not currently reflected on the balance sheet at fair value. Prior to issuing this FSP, fair values for these assets and liabilities were only disclosed once a year. The FSP now requires these disclosures on a quarterly basis, providing qualitative and quantitative information about fair value estimates for all those financial instruments not measured on the balance sheet at fair value.

The FSPs are effective for periods ending after June 15, 2009, with earlier adoption permitted. The Company is currently evaluating the impact of adopting the FSPs, but does not expect the adoption of the provisions of the FSPs to have a material effect on our financial condition or results of operations.

Table of Contents

FIRSTCITY FINANCIAL CORPORATION AND SUBSIDIARIES

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS — (continued)

Disclosures about Derivative Instruments and Hedging Activities

Effective January 1, 2009, the Company adopted SFAS No. 161, Disclosures about Derivative Instruments and Hedging Activities (“SFAS 161”), an amendment to SFAS No. 133, Accounting for Derivative Instruments and Hedging Activities. SFAS 161 applies to all entities and requires enhanced disclosures about derivative instruments and hedged items that are accounted for under SFAS No. 133 and related interpretations. The Company applied the requirements of SFAS 161 on a prospective basis. Accordingly, disclosures related to interim periods prior to the date of adoption have not been presented. Since SFAS 161 relates to disclosures only, it had no impact on the Company’s financial position or results of operations. See Note 16 for further detail.

Accounting for Equity-Method Investments

Effective January 1, 2009, the Company adopted EITF Issue No. 08-6, Equity-Method Investment Accounting (“EITF 08-6”). EITF 08-6 addresses a number of matters associated with the impact that SFAS 141R and SFAS 160 might have on the accounting for equity-method investments. EITF 08-6 clarifies the following: (1) the cost basis of a new equity-method investment should be determined using a cost-accumulation mode, which would continue the practice of including transaction costs in the cost of investment and would exclude the value of contingent consideration; and (2) equity-method investments should continue to be subject to other-than-temporary impairment analysis pursuant to APB Opinion No. 18. EITF 08-6 also provides guidance on gain recognition when a portion of the investor’s ownership is sold, how changes in classification from equity-method to cost-method should be treated, and certain other issues. The adoption of EITF 08-6 did not have a material effect on the Company’s results of operations or financial position.

(3) Portfolio Assets

Portfolio Assets are summarized as follows:

	March 31,			December 31,
	2009			2008
	(Dollars in thousands)
Loan Portfolios
Loans Acquired Prior to 2005
Non-performing Portfolio Assets	$	3,192		$	3,410
Performing Portfolio Assets	814			833
Loans Acquired After 2004
Loans acquired with credit deterioration	176,475			125,108
Loans acquired with no credit deterioration	2,661			2,757
Other	60,253			65,394
Outstanding balance	243,395			197,502
Allowance for loan losses	(71,922		)	(76,365		)
Carrying amount of loans, net of allowance	171,473			121,137

Real estate held for sale	13,411			17,484
Real estate held for investment, net (1)	9,523			9,592
Portfolio Assets, net	$	194,407		$	148,213

(1) Includes lease-related intangible balances (net) of approximately $0.9 million and $1.0 million at March 31, 2009 and December 31, 2008, respectively.

Certain Portfolio Assets are pledged to secure a $100.0 million revolving loan facility between FH Partners LLC, an indirect wholly-owned affiliate of FirstCity, and Bank of Scotland. See Note 2 to the consolidated financial statements included in the Company’s 2008 Form 10-K for a description of this revolving credit agreement. In addition, certain Portfolio Assets are pledged to secure notes payable of certain consolidated affiliates of FirstCity that are generally non-recourse to FirstCity or any affiliate other than the acquiring entity that incurred the debt.

Income from Portfolio Assets is summarized as follows:

	Three Months Ended
	March 31,
	2009			2008
	(Dollars in thousands)
Loan Portfolios
Loans Acquired Prior to 2005
Non-performing Portfolio Assets	$	41		$	180
Performing Portfolio Assets	106			106
Loans Acquired After 2004
Loans acquired with credit deterioration	8,723			3,553
Loans acquired with no credit deterioration	79			112
Real Estate Portfolios	(180		)	929
Other	274			55
Income from Portfolio Assets	$	9,043		$	4,935

PART I

Item 1.	Financial Statements	1
	Consolidated Balance Sheets	1
	Consolidated Statements of Operations	2
	Consolidated Statements of Stockholders’ Equity	3
	Consolidated Statements of Cash Flows	4
	Notes to Consolidated Financial Statements	5
Item 2.	Management’s Discussion and Analysis of Financial Condition and Results of Operations	33
Item 3.	Quantitative and Qualitative Disclosures About Market Risk	44
Item 4.	Controls and Procedures	45

PART II OTHER INFORMATION		47

Item 1.	Legal Proceedings	47
Item 1A.	Risk Factors	47
Item 2.	Unregistered Sales of Equity Securities and Use of Proceeds	47
Item 3.	Defaults Upon Senior Securities	47
Item 4.	Submission of Matters to a Vote of Security Holders	47
Item 5.	Other Information	47
Item 6.	Exhibits	47
SIGNATURES		52

	Three Months Ended
	March 31,
	2009			2008
	(Dollars in thousands)
Beginning Balance	$	(76,365	)	$	(1,723	)
Provisions	(1,241		)	(2,867		)
Recoveries	312			155
Charge offs	1,427			22