UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR
15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the Fiscal Year Ended December 31, 2003
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d)
OF THE SECURITIES EXCHANGE ACT OF 1934
For the Transition Period from N/A to
-------- --------
Commission File Number: 1-9566
FirstFed Financial Corp.
(Exact name of registrant as specified in its charter)
Delaware 95-4087449
(State or other jurisdiction of (I. R. S. Employer Identification No.)
incorporation or organization)
401 Wilshire Boulevard
Santa Monica, California 90401-1490
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (310) 319-6000
Securities registered pursuant to Section 12(b) of the Act:
Common Stock $0.01 par value
(Title of Class)
Securities registered pursuant to Section 12(g) of the Act: None
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
------ ------
The approximate aggregate market value of the voting stock held by
non-affiliates of the Registrant as of June 30, 2003 was $545,323,000, based on
the closing sales price of the Registrant's common stock on the New York Stock
Exchange on such date of $35.29 per share. For purposes of the preceding
sentence only, all directors, executive officers and beneficial owners of ten
percent or more of the common stock, as well as the Company's Employee Stock
Ownership Plan ("ESOP"), are assumed to be affiliates.
The number of shares of Registrant's $0.01 par value common stock outstanding as
of February 1, 2004: 17,067,189.
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the Proxy Statement for Annual Meeting of Stockholders to be held
April 21, 2004 ("Proxy Statement"), (Parts II, III & IV).
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K (sub-section 229.405 of this chapter) is not contained herein,
and will not be contained, to the best of Registrant's knowledge, in definitive
proxy or information statements incorporated by reference in Part III of the
Form 10-K or any amendment to this Form 10-K. [X]
Indicate by check mark whether the registrant is an accelerated filer (as
defined in Rule 12b-2 of the Act).
Yes [X] No[ ]
Disclosure Regarding Forward-looking Statements
This Annual Report on Form 10-K for the year ended December 31, 2003
includes certain statements that may be deemed to be "forward-looking
statements" within the meaning of Section 27A of the Securities Act of 1933, as
amended, (the "Securities Act") and Section 21E of the Securities and Exchange
Act of 1934, as amended (the "Exchange Act"). All statements, other than
statements of historical facts, included in this Annual Report that address
activities, events or developments that the Company expects, believes or
anticipates will or may occur in the future, including, but not limited to, such
matters as future product development, business development, competition, future
revenues, business strategies, expansion and growth of the Company's operations
and assets and other such matters are forward-looking statements. These kinds of
statements are signified by words such as "believes," "anticipates," "expects,"
"intends," "may", "could," and other similar expressions. However, these words
are not the exclusive means of identifying such statements. These statements are
based on certain assumptions and analyses made by the Company in light of its
experience and perception of historical trends, current conditions, expected
future developments and other factors it believes are appropriate in the
circumstances. Such statements are subject to a number of assumptions, risks and
uncertainties, including the risk factors discussed below, general economic and
business conditions, the business opportunities (or lack thereof) that may be
presented to and pursued by the Company, changes in law or regulations and other
factors, many of which are beyond the Company's control. Specific factors that
could cause results to differ materially from historical results or those
anticipated are: (1) the level of demand for adjustable rate mortgages, which is
affected by external factors such as interest rates, the strength of the
California economy and Southern California economy in particular; (2)
fluctuations between consumer interest rates and the cost of funds; (3) federal
and state regulation of lending, deposit and other operations, and (4)
competition for financial products and services within the Bank's market areas.
Investors are cautioned that any such statements are not guarantees of future
performance and that actual results or developments may differ materially from
those projected in the forward-looking statements.
2
FirstFed Financial Corp.
Index
Page
Part I Item 1. Business................................................................ 4
Item 2. Properties.............................................................. 23
Item 3. Legal Proceedings....................................................... 23
Item 4. Submission of Matters to a Vote of Security Holders..................... 23
Part II Item 5. Market for Registrant's Common Equity and Related
Stockholder Matters..................................................... 23
Item 6. Selected Financial Data................................................. 24
Item 7. Management's Discussion and Analysis of Financial
Condition and Results of Operations..................................... 25
Item 7a. Quantitative and Qualitative Disclosures About Market Risk.............. 38
Item 8. Financial Statements and Supplementary Data............................. 42
Notes to Consolidated Financial Statements.............................. 46
Independent Auditors' Report............................................ 73
Item 9. Changes In and Disagreements with Accountants on
Accounting and Financial Disclosure..................................... 74
Item 9a. Controls and Procedures................................................. 74
Part III Item 10. Directors and Executive Officers of the Registrant...................... 74
Item 11. Executive Compensation.................................................. 74
Item 12. Security Ownership of Certain Beneficial Owners and
Management.............................................................. 74
Item 13. Certain Relationships and Related Transactions.......................... 74
Item 14. Principal Accounting Fees and Services.................................. 74
Part IV Item 15. Exhibits, Consolidated Financial Statement
Schedules, and Reports on Form 8K....................................... 75
Signatures ...................................................................................... 76
Power of Attorney................................................................................ 77
31.1 Certification of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley Act
of 2002.................................................................................... 78
31.2 Certification of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley Act
of 2002.................................................................................... 79
32.1 Certification of Chief Executive Officer pursuant to 18 USC Section 1350, as
adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.......................... 80
32.2 Certification of Chief Financial Officer pursuant to 18 USC Section 1350, as
adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002.......................... 81
3
PART I
ITEM 1 -- BUSINESS
General Description
FirstFed Financial Corp., a Delaware corporation ["FFC," and collectively
with its sole and wholly owned subsidiary, First Federal Bank of California (the
"Bank"), the "Company"], was incorporated on February 3, 1987. Since September
22, 1987, FFC has operated as a savings and loan holding company engaged
primarily in the business of owning the Bank. Because the Company does not
presently engage in any significant independent business operations,
substantially all earnings and performance figures herein reflect the operations
of the Bank.
The Bank was organized in 1929 as a state-chartered savings and loan
association, and, in 1935, converted to a federal mutual charter. In February
1983 the Bank obtained a federal savings bank charter, and, in December 1983,
converted from mutual to stock ownership. The executive offices of the Company
are located at 401 Wilshire Boulevard, Santa Monica, California, telephone
number (310) 319-6000.
The Company is a savings and loan holding company and as such is subject to
examination and regulation by the Office of Thrift Supervision ("OTS"). The
deposits of the Bank are insured by the Savings Association Insurance Fund
("SAIF") of the Federal Deposit Insurance Corporation (the "FDIC"). The Bank is
regulated by the Director of the OTS and the FDIC. The Bank is a member of the
Federal Home Loan Bank ("FHLB") of San Francisco, which is one of the 12
regional banks comprising the Federal Home Loan Bank System. The Bank is also
subject to certain regulations of the Board of Governors of the Federal Reserve
System ("FRB") with respect to reserves required to be maintained against
deposits and certain other matters. See "--Summary of Material Legislation and
Regulations--."
The Company's periodic and current reports are available free of charge on
its website at www.firstfedca.com as soon as reasonably practicable after such
material is electronically filed with, or furnished to, the SEC.
The principal business of the Bank is attracting checking and savings
deposits from the general public, and using such deposits, together with
borrowings and other funds, to make real estate, business and consumer loans.
At December 31, 2003, the Company had assets totaling $4.8 billion,
compared to $4.3 billion at December 31, 2002 and $4.7 billion at December 31,
2001. The Company recorded net earnings of $64.5 million for 2003, compared to
$55.2 million for 2002 and $50.3 million for 2001.
The Bank derives its revenues principally from interest on loans and
investments and loan origination fees. Its major items of expense are interest
on deposits and borrowings, and general and administrative expense.
As of February 15, 2004, the Bank operated 29 full-service banking
branches, all located in Southern California. Permission to operate full-service
branches is granted by the OTS. In addition to these branches, the Bank operates
a call center, which conducts transactions with deposit and loan customers by
telephone and an internet website through which customers can perform transfers
and pay bills.
Southern California has traditionally been the Bank's primary lending area.
The Bank plans to increase its level of originations in Northern California
during 2004. The majority of the Bank's residential loans are obtained from
wholesale loan brokers. Residential loans are also offered by all of the Bank's
full-service branches. In addition, the Bank has an income property lending
group and a commercial banking group each with one loan production office.
The Bank has three wholly-owned subsidiaries: Seaside Financial
Corporation, Oceanside Insurance Agency, Inc. and Santa Monica Capital Group,
all of which are California corporations. See "--Subsidiaries--."
In February of 2004, the Bank received approval to begin trust operations.
Management believes that the services offered by the new trust division will
complement the other services currently offered by the Bank.
Current Operating Environment
The Company's operating results are significantly influenced by national
and regional economic conditions, monetary and fiscal policies of the federal
government, local housing demand and affordability, and general levels of
interest rates.
4
According to the Federal Housing Finance Board`s report for the third
quarter of 2003, home prices in the Los Angeles area increased 10.5% from one
year ago. Already at record highs, California home prices are expected to
continue increasing, but at a slower pace. The UCLA Anderson Forecast for
California, December 2003 Report states, "If mortgage rates remain "reasonable",
as we are forecasting in our national outlook, then prices in California will
probably continue to increase, more likely at a single-digit rate, during the
next two years." Alternatively, an increase in mortgage rates could have a
negative affect on home prices in Southern California and the value of the
collateral supporting the Bank's real estate loan portfolio.
The Bank continuously monitors the sufficiency of the collateral supporting
its real estate loan portfolio based on many factors including the property
location, the date of loan origination and the original loan-to-value ratio.
Business loans collateralized by inventory, accounts receivable and/or
other assets are monitored on a monthly or quarterly basis through the provision
of reports by the borrower. Site visits are required at loan origination and
periodically thereafter.
The Bank adjusts its general allowance for loan losses as a result of these
evaluations. No provision for loan losses was necessary during 2003, 2002 or
2001.
The ratio of allowances for loan losses (general valuation allowances and
valuation allowances for impaired loans) to gross loans receivable was 1.70% at
the end of 2003 compared to 1.96% at the end of 2002 and 1.83% at the end of
2001. The change in ratio over the last three years is due to variations in
gross loans outstanding. See "--Business - Loan Loss Allowance--" for additional
information.
Consistent with the current favorable real estate climate in the greater
Los Angeles area, the Bank's non-performing assets were 0.10% of total assets at
the end of 2003 and 0.17% of total assets at the end of 2002 and 2001.
The Bank also maintains a separate valuation allowance for impaired loans
and a repurchase liability for loans sold with recourse. See "--Business - Loan
Loss Allowance--" for additional information regarding valuation allowances for
these loans.
Current Interest Rate Environment. The Federal Reserve Board decreased
interest rates once during 2003, once during and 2002, and eleven times during
2001. Through February 2004, the FRB has not changed interest rates.
Typically, the Bank's interest rate spread increases in a decreasing
interest rate environment, (savings and borrowing costs decrease quickly while
the loan portfolio yield decreases more slowly). The reverse is true during
periods of increasing interest rates. The Bank's loan portfolio tends to shrink
in a decreasing interest rate environment due to payoffs of adjustable rate
loans. However, the adjustable rate loan portfolio increased during 2003 as the
Bank expanded into new areas of Southern California using loan brokers, offered
new loan programs and adjusted its underwriting guidelines to better compete for
such loans in the current environment.
Changes in interest rates impact the Bank's loan portfolio yield due to the
interest rate adjustment features of its loans. There is also a time lag before
changes in interest rates can be implemented with respect to the Bank's real
estate loan portfolio due to operational and regulatory constraints. These
constraints do not allow the Bank to implement monthly changes in the primary
index utilized for the majority of its adjustable rate real estate loan
customers for periods of sixty to ninety days.
The Bank's interest rate spread increased to 3.22% in 2003 from 2.92% in
2002 and 2.71% in 2001 because the cost of its deposits and borrowings decreased
more quickly than the rates earned on its loan portfolio. See "Asset-Liability
Management" and "Components of Earnings - Net Interest Income" in
"--Management's Discussion and Analysis of Financial Condition and Results of
Operations--" for additional information.
Competition. The Bank experiences strong competition in attracting and
retaining deposits and originating real estate and business loans. It competes
for deposits with many of the nation's largest savings institutions and
commercial banks that have significant operations in Southern California.
The Bank also competes for deposits with credit unions, thrift and loan
associations, money market mutual funds, issuers of corporate debt securities
and the government. In addition to the rates of interest offered to depositors,
the Bank's ability to attract and retain deposits depends upon the quality and
variety of services offered, the convenience of the Bank's locations and its
financial strength as perceived by depositors.
5
The Bank competes for loans primarily with savings institutions, commercial
banks, mortgage companies and insurance companies. Commercial banks are the
Bank's primary competition for business loans. The primary factors in competing
for loans are interest rates, loan fees, interest rate caps, interest rate
adjustment provisions and the quality and extent of service to borrowers and
mortgage brokers.
Environmental Concerns. In certain circumstances, such as actively
participating in the management or operation of properties securing its loans,
the Bank could have liability for properties found to have pollutant or toxic
features. Environmental protection laws are strict and impose joint and several
liability on numerous parties. It is possible for the cost of cleanup of
environmental problems to exceed the value of the security property. The Bank
has adopted environmental underwriting requirements when considering loans
secured by properties, which appear to have environmentally high-risk
characteristics (e.g. commercial and industrial properties and construction of
all property types, which may contain friable asbestos or lead paint hazards).
The Bank also requires environmental insurance on all commercial properties
(retail, office, industrial) and on multi-family properties that may be near any
commercial influence. These requirements are intended to minimize the risk of
environmental hazard liability. The Bank's policies are also designed to avoid
the potential for liability imposed on lenders who assume the management of a
property.
Business Concentration. The Bank has no single customer or group of
customers, either as depositors or borrowers, the loss of any one or more of
which would have a material adverse effect on the Bank's operations or earnings
prospects.
Yields Earned and Rates Paid. Net interest income, the major component of
core earnings for the Bank, depends primarily upon the difference between the
combined average yield earned on the loan and investment security portfolios and
the combined average interest rate paid on deposits and borrowings, as well as
the relative balances of interest-earning assets and interest-bearing
liabilities. See "--Management's Discussion and Analysis of Financial Condition
and Results of Operations - Overview and Components of Earnings - Net Interest
Income--" for further analysis and discussion.
Lending Activities
General. The Bank's primary lending activity has been the origination of
loans for the purpose of enabling borrowers to purchase, refinance or construct
improvements on residential real property. The loan portfolio primarily consists
of loans made to homebuyers and homeowners on the security of single-family
dwellings and multi-family dwellings. The loan portfolio also includes loans
secured by commercial and industrial properties, consumer loans and commercial
business loans.
For an analysis of the loan portfolio composition and an analysis of the
types of loans originated, see "--Management's Discussion and Analysis of
Financial Condition and Results of Operations - Balance Sheet Analysis - Loan
Portfolio and Loan Composition--."
Origination and Sale of Loans. The Bank obtains qualified loan applicants
from mortgage brokers, borrower referrals, and the clients of its full-service
banking branches.
Loan originations and purchases were $2.3 billion in 2003, $1.3 billion in
2002, and $1.5 billion in 2001. Loan origination volume increased during 2003
because the Bank marketed its adjustable rate loans to more borrowers in a wider
geographic area using loan brokers, introduced new products and adjusted its
underwriting guidelines to better compete for such loans in the current
environment. Loan origination volume decreased during 2002 because borrowers in
the Bank's traditional market area preferred fixed rate loans. The above amounts
include loan purchases of $500 thousand during 2003, $89 thousand during 2002
and $132.6 million during 2001.
Loans sold totaled $86.1 million in 2003, $134.2 million in 2002 and $61.2
million in 2001. For the year ended December 31, 2003, $84.3 million in loans
were originated for sale compared to $103.7 million in 2002 and $64.2 million in
2001. Loans originated for sale totaled 4%, 8% and 5% of loan originations
during 2003, 2002 and 2001, respectively. The Bank originates 30-year and
15-year fixed rate loans only for resale to the secondary markets.
Loans held-for-sale at December 31, 2003, 2002 and 2001 were $492 thousand,
$2.3 million and $5.2 million. Loans originated for sale are recorded at the
lower of cost or fair value. The time from origination to sale typically takes
up to 30 days. During this time period the Bank may be exposed to price
adjustments as a result of fluctuations in market interest rates.
6
In previous years, the Bank structured mortgage-backed securities with
loans from its loan portfolio for use in collateralized borrowing arrangements.
In exchange for the improvement in credit risk when the mortgage-backed
securities were formed, guarantee fees were paid to the Federal Home Loan
Mortgage Corporation ("FHLMC") or the Federal National Mortgage Association
("FNMA"). No loans have been converted into mortgage-backed securities since
1995. The Bank originated all loans underlying the mortgage-backed securities
that it owns. Therefore, mortgage-backed securities generally have the same
experience with respect to prepayment, repayment, delinquencies and other
factors as the remainder of the Bank's portfolio.
The portfolio of mortgage-backed securities, classified as
available-for-sale, was recorded at fair value as of December 31, 2003, 2002 and
2001. Unrealized gains of $965 thousand, $1.6 million and $1.9 million, net of
tax, were recorded in stockholders' equity at December 31, 2003, 2002 and 2001,
respectively.
The Bank serviced $145.5 million in loans for other investors as of
December 31, 2003, $91.0 million, which were sold under recourse arrangements.
$6.7 million of the loans sold with recourse were formed into mortgage-backed
securities and are still owned by the Bank as of December 31, 2003. Due to
regulatory requirements, the Bank maintains capital for loans sold with recourse
as if those loans had not been sold. The Bank has not entered into any new
recourse arrangements since 1989. Loans sold with recourse are analyzed in
determining the adequacy of the repurchase liability. The principal balance of
loans sold with recourse decreased to $91.0 million at the end of 2003 from
$108.6 million at the end of 2002 and $137.2 million at the end of 2001 due to
loan amortization and payoffs.
Interest Rates, Terms and Fees. The Bank originates residential adjustable
mortgage loans ("AMLs") with 30 and 40 year terms and interest rates which
adjust each month based upon the Federal Home Loan Bank's Eleventh District Cost
of Funds Index ("COFI"), the one year U.S. Treasury Security rate, the 12-month
average U.S. Treasury Security rate ("12MAT"), LIBOR and, the 3-month
certificate of deposit Index ("CODI"). The CODI index is the monthly yield on
3-month certificate of deposits as published by the Federal Reserve Bank and is
a simple average based upon the 12 most recent months of data. (See
"--Asset-Liability Management--" in "--Quantitative and Qualitative Disclosures
About Market Risk--.") While the monthly payment adjusts annually, the maximum
annual change in the payment is limited to 7.5%. Any additional interest due as
a result of a rising Index is added to the principal balance of the loan
("negative amortization"). Payments are adjusted every five years without regard
to the 7.5% limitation to provide for full amortization during the balance of
the loan term. Although the interest rates are adjusted monthly, these loans
have maximum interest rates which can be charged ranging from 400 to 750 basis
points above their initial interest rate. Generally, these loans may be assumed
at any time during their term provided that the person assuming the loan meets
the Bank's credit standards and enters into a separate written agreement with
the Bank. Additionally, the new borrower is required to pay assumption fees
customarily charged for similar transactions.
The Bank also originates adjustable rate loans with initial fixed interest
rates for periods ranging from 3 to 10 years ("hybrid" loans). By policy, the
Bank will either match the fixed rate period of these hybrid loans with
borrowings for the same term or will hold unmatched fixed rate loans in its
portfolio up to 5% of total assets. Loans originated under this program totaled
$434.3 million in 2003, $419.7 million in 2002 and $1.0 billion in 2001.
Originations of adjustable rate loans with initial fixed interest rates declined
during 2003 and 2002 compared to 2001 because the rate differential between
these loans and traditional fixed rate loans was not sufficient to attract
borrowers.
Under current portfolio loan programs, the Bank normally lends no more than
95% of a single-family property's appraised value at the time of loan
origination. There are special Community Reinvestment Act loan programs in which
the Bank lends up to 97% of the property's appraised value. Because AML
loan-to-value ratios may increase above those established at the time of loan
origination due to negative amortization, the Bank rarely lends in excess of 90%
of the appraised value on AMLs. When the Bank does lend in excess of 90% of the
appraised value, additional fees and higher rates are charged. The amount of
negative amortization recorded by the Bank increases during periods of rising
interest rates. At December 31, 2003, 2002 and 2001, negative amortization on
all loans totaled $4.0 million, $7.8 million and $16.8 million, respectively.
The Bank generally requires that borrowers obtain private mortgage
insurance on loans in excess of 80% of the appraised property value. On certain
loans originated for the portfolio, the Bank charges premium rates and/or fees
in exchange for waiving the insurance requirement. Management believes that the
additional rates and fees that the Bank receives for these loans compensate for
the additional risk associated with this type of loan. Subsequent to the
origination of a portfolio loan, the Bank may purchase private mortgage
insurance with its own funds. Under certain mortgage insurance programs the Bank
acts as co-insurer and participates with the insurer in absorbing any future
loss. As of December 31, 2003, 2002 and 2001, loans with co-insurance totaled
$52.3 million, $106.6 million and $140.4 million, respectively. Loans with
initial loan-to-value ratios greater than 80% with no private mortgage insurance
totaled $486.7 million at December 31, 2003, $159.7 million at December 31, 2002
and $354.5 million at December 31, 2001.
7
Although regulations permit a maximum loan term of 40 years for real estate
secured home loans and 30 years for other real estate loans, the majority of the
Bank's real estate loans provide for a maximum maturity period of 30 years or
less. Loans with 40-year terms constituted 8%, 6% and 4% of loan originations
during 2003, 2002 and 2001, respectively.
The following table shows the contractual remaining maturities of the
Bank's loans at December 31, 2003:
Loan Maturity Analysis
Maturity Period
--------------------------------------------------------------------------------------------
Total 1 Year > 1 Year > 5-10 > 10-20 > 20-30
Balance or Less to 5 Years Years Years Years > 30 Years
---------- --------- ---------- --------- --------- --------- ----------
(In thousands)
Interest rate sensitive loans:
AMLs.........................$ 4,290,423 $ 97,373 $ 683,009 $ 547,304 $ 1,232,373 $ 1,545,925 $ 184,439
Fixed rate loans............. 65,999 7,255 29,584 16,368 7,619 5,055 118
Commercial business loans.... 34,955 8,206 26,749 -- -- -- --
Construction loans........... 9,053 4,540 4,513 -- -- -- --
Consumer and other loans..... 50,730 50,622 38 70 -- -- --
--------- --------- ---------- --------- --------- --------- ---------
Total..........................$ 4,451,160 $ 167,996 $ 743,893 $ 563,742 $ 1,239,992 $ 1,550,980 $ 184,557
========= ========= ========== ========= ========= ========= =========
Non-accrual, Past Due, Impaired and Restructured Loans
The Bank establishes allowances for delinquent interest equal to the amount
of accrued interest on all loans 90 days or more past due or in foreclosure.
This practice effectively places such loans on non-accrual status for financial
reporting purposes.
The following is a summary of non-accrual loans for which delinquent
interest allowances had been established as of December 31, for the end of each
of the periods indicated:
% of % of % of % of % of
2003 Total 2002 Total 2001 Total 2000 Total 1999 Total
------- ------ ------- ------- ------- ------ ------- ------- ------- -----
(Dollars in thousands)
Non-accrual loans:
Single family.....$ 3,326 99% $ 5,705 85% $ 6,062 93% $ 5,603 89% $ 9,626 70%
Multi-family...... -- -- 1,017 15 422 6 662 11 3,995 29
Commercial........ -- -- -- -- -- -- -- -- 225 1
Consumer.......... 16 1 -- -- 16 1 -- -- -- --
------ ------ ------- ------- ------- ------ ------- ------- ------- -----
Total non-accrual
loans...........$ 3,342 100% $ 6,722 100% $ 6,500 100% $ 6,265 100% $ 13,846 100%
====== ====== ======= ======= ======= ====== ======= ======= ======= =====
The allowance for delinquent interest, based on loans past due more than 90
days or in foreclosure, totaled $227 thousand, $372 thousand, $504 thousand,
$511 thousand and $720 thousand at December 31, 2003, 2002, 2001, 2000 and 1999,
respectively.
The Bank's modified loans result primarily from temporary modifications of
principal and interest payments or an extension of maturity dates. Under these
arrangements, loan terms are typically reduced to no less than a monthly
interest payment required under the note. If the borrower is unable to return to
scheduled principal and interest payments at the end of the modification period,
foreclosure proceedings are initiated or the modification period may be
extended. As of December 31, 2003, the Bank had modified loans totaling $5.7
million, net of loan loss allowances of $496 thousand. This compares with
modified loans totaling $3.9 million, net of loan loss allowances of $496
thousand as of December 31, 2002 and $7.4 million, net of loan loss allowances
of $1.9 million as of December 31, 2001. No modified loans were 90 days or more
delinquent as of December 31, 2003, 2002 or 2001.
Statement of Financial Accounting Standards No. 114, "Accounting by
Creditors for Impairment of a Loan" ("SFAS No. 114"), requires the measurement
of impaired loans. SFAS No. 114 does not apply to large groups of homogeneous
loans that are collectively reviewed for impairment.
8
The Bank considers a loan to be impaired when management believes that the
Bank will be unable to collect all amounts due under the contractual terms of
the loan agreement. In accordance with SFAS 114, the Bank annually evaluates the
collectibility of commercial business loans greater than or equal to $500,000,
single-family loans greater than or equal to $750,000, and income property loans
greater than or equal to $1,500,000 for impairment purposes using its normal
loan review procedures. When a loan is determined to be impaired, the Bank
measures impairment based on either (1) the present value of expected future
cash flows, discounted at the loan's effective interest rate; (2) the loan's
observable market price, or (3) the fair value of the collateral. Estimated
impairment losses are included in the Bank's impairment allowances.
Valuation allowances for impaired loans totaled $496 thousand at December
31, 2003 and 2002 compared to $1.9 million at December 31, 2001. The following
is a summary of impaired loans, net of valuation allowances for impairment, for
the periods indicated:
Year Ended December 31,
---------------------------------
2003 2002 2001
-------- --------- --------
(In thousands)
Non-accrual loans.............................. $ 1,782 $ -- $ 978
Modified loans................................. 1,488 1,567 6,416
-------- -------- --------
$ 3,270 $ 1,567 $ 7,394
======== ======== ========
All impaired non-accrual loans as of December 31, 2003 and December 31,
2001 were single-family loans.
When a loan is considered impaired the Bank measures impairment based on
the present value of expected future cash flows (over a period not to exceed 5
years) discounted at the loan's effective interest rate. However, if the loan is
"collateral-dependent" or a probable foreclosure, impairment is measured based
on the fair value of the collateral. When the measure of an impaired loan is
less than the recorded investment in the loan, the Bank records an impairment
allowance equal to the excess of the Bank's recorded investment in the loan over
its measured value. As of December 31, 2003, December 31, 2002, and December 31,
2001, impaired loans of $3.3 million, $1.6 million, and $3.9 million,
respectively, had no valuation allowances established. All impaired loans were
measured using the fair value method.
The present value of an impaired loan's expected future cash flows changes
from one reporting period to the next because of the passage of time and also
because of revised estimates in the amount or timing of those cash flows. The
Bank records the entire change in the present value of the expected future cash
flows as an impairment valuation allowance, which may necessitate an increase in
the provision for loan losses. Similarly, the fair value of the collateral of an
impaired collateral-dependent loan may change from one reporting period to the
next. The Bank also records a change in the measure of these impaired loans as
an impairment valuation allowance, which may necessitate an adjustment to the
provision for loan losses.
The following is an analysis of the activity in the Bank's valuation
allowance for impaired loans during the periods indicated (in thousands):
Balance at December 31, 1998............................... $ 7,634
Net charge-offs......................................... (5,038)
--------
Balance at December 31, 1999............................... 2,596
Net charge-offs......................................... (804)
--------
Balance at December 31, 2000............................... 1,792
Transfer from general valuation allowance............... 58
---------
Balance at December 31, 2001............................... 1,850
Transfer to general valuation allowance................. (1,354)
---------
Balance at December 31, 2002............................... 496
Net charge-offs......................................... --
---------
Balance at December 31, 2003............................... $ 496
=========
Cash payments received from impaired loans are recorded in accordance with
the contractual terms of the loan. The principal portion of the payment is used
to reduce the principal balance of the loan, whereas the interest portion is
recognized as interest income.
9
The average recorded investment in impaired loans during 2003, 2002 and
2001 was $4.3 million, $5.0 million and $7.4 million, respectively. The amount
of interest income recognized on impaired loans during 2003, 2002 and 2001 was
$226 thousand, $322 thousand and $597 thousand, respectively, under the cash
basis method of accounting. Interest income recognized under the accrual basis
method of accounting for 2003, 2002 and 2001 totaled $215 thousand, $316
thousand and $587 thousand, respectively.
Internal Asset Review System
In accordance with OTS regulations, the Bank maintains a system for the
on-going risk grading of all assets based on an assessment of the repayment
capacities of the borrower, the collateral property, guarantors and endorsers.
The risk grading system provides a tool for risk measurement, early problem
asset identification and proper pricing for new extensions of credit.
Assets are classified according to a nine-tiered risk grading system. The
nine risk grades are segmented into three general groups: "unclassified" (Risk
Grades 1 through 5), "criticized" (Risk Grade 6 - Special Mention), and
"classified" (Risk Grade 7 - Substandard, Risk Grade 8 - Doubtful and Risk Grade
9 - Loss). In determining the appropriate Risk Grade for an asset, consideration
is given to information on repayment prospects, including the value of and cash
flow provided by collateral and secondary support provided by the borrowers and
guarantors. Other factors considered in the assignment of a risk grade include
other cash flow sources, the stability of income sources, the type, value,
condition, and liquidity of collateral pledged, the obligor's credit history and
access to alternative financing and market influences.
All assets are subject to on-going classification through the Bank's
internal review system. For internal asset review purposes, the Bank's asset
portfolio is segregated into three distinct groups: assets subject to review by
the Loan Workout Committee (a committee of Bank officers responsible for
resolving problem asset situations), homogeneous assets and non-homogeneous
assets.
Assets Subject to Review by the Loan Workout Committee. The Loan Workout
Committee monitors and develops repayment strategies for the Bank's most complex
problem assets, such as delinquent high balance residential and income property
loans, commercial business loans and loans with collateral properties currently
managed by a court- appointed receiver.
Non-Homogeneous Assets. These are performing income property loans with
unpaid balances greater than $1.5 million, apartment loans with 36 or more
units, and commercial business loans. Other non-homogeneous assets may include
investments in subsidiaries, investments in securities, and significant
off-balance sheet items. In accordance with SFAS No. 114, the Bank identifies
and evaluates non-homogeneous assets for impairment on an individual basis based
on the present value of expected future cash flows discounted at the loan's
effective interest rate, or at the loan's observable market price or at the fair
value of its collateral. For further discussion of impaired loans, see
"--Business - Non-accrual, Past Due and Restructured Loans--".
Homogeneous Assets. These assets are other than non-homogeneous assets and
those reviewed by the Loan Workout Committee. Generally, these assets include
residential loans, lower-balance income property loans, and consumer loans and
are collectively, rather than individually, evaluated for risk grading purposes
through the identification of risk characteristics common to specific types of
assets.
Loan Loss Allowance
The Bank maintains a general valuation allowance for loan losses due to the
inherent risks in the loan portfolio that have yet to be specifically
identified. As discussed above, the Bank's asset classification system serves as
a foundation for determining the appropriate level of the general valuation
allowance. Within the classification categories, loans are stratified based on
factors affecting the perceived level and concentration of risk, such as type of
collateral, year of origination, original loan-to-value ratio and geographic
location.
The Bank calculates the appropriate level of general valuation allowance by
applying reserve factors to the balance of assets on which the Bank has loss
exposure ("exposure base"). These reserve factors represent the expected
likelihood of default multiplied by the expected rate of loss. The expected
rates of loss and default are based on the Bank's historical loss experience and
adjusted for current and anticipated conditions and trends.
The Bank's Asset Classification Committee, comprised of senior Bank
officers, reviews the general valuation allowance, methodology and performance
trends in the loan portfolio on a quarterly basis.
10
The following is an analysis of the activity in the Bank's general loan
valuation allowances for the periods indicated:
Year Ended December 31,
-----------------------------------------------------------------
2003 2002 2001 2000 1999
--------- ----------- ---------- ---------- ---------
(In thousands)
Beginning general loan valuation allowances....... $ 75,223 $ 72,919 $ 70,809 $ 69,954 $ 67,638
General loan valuation allowances obtained in
acquisition................................... -- -- 2,050 -- --
Charge-offs, net of recoveries:
Single family................................. (52) (372) (322) (767) (342)
Multi-family.................................. 14 189 286 1,692 2,650
Commercial.................................... -- -- -- (105) 111
Non-real estate............................... 53 1,133 154 35 (103)
-------- ---------- ---------- --------- ---------
Total net recoveries ............................. 15 950 118 855 2,316
Transfers from (to) impaired valuation allowance.. -- 1,354 (58) -- --
-------- ---------- ---------- --------- ---------
Ending general loan valuation allowances.......... $ 75,238 $ 75,223 $ 72,919 $ 70,809 $ 69,954
======== ========== ========== ========= =========
The Bank recorded total net recoveries for the last five years. The lack of
charge-offs over the last five years is due to the improved condition of the
Southern California economy and real estate market since the recession of the
mid-1990's.
Any increase in charge-offs would adversely impact the Bank's future loan
loss provisions and earnings.
The Bank's total general loan loss allowances to gross loans receivable was
1.70%, 1.96%, 1.83%, 1.95% and 2.31% at December 31, 2003, 2002, 2001, 2000 and
1999 respectively.
The following table details the general valuation allowance by loan type
for the periods indicated:
Year Ended December 31,
------------------------------------------------------------------------------------------------------
% of % of % of % of % of
2003 Total 2002 Total 2001 Total 2000 Total 1999 Total
------- ------ ------- ------- ------- ------ ------- ------- ------- -----
(Dollars in thousands)
Real estate loans:
Single family.....$ 28,775 38% $ 24,952 33% $ 30,040 41% $ 37,695 53% $ 24,985 35%
Multi-family...... 24,789 33 27,037 36 23,955 33 22,529 32 38,332 55
Commercial........ 6,185 8 9,938 13 7,860 11 5,797 8 6,129 9
Construction...... 2,266 3 2,281 3 3,687 5 -- -- -- --
------- ------ ------- ------- ------- ------ ------- ------- ------- -----
Total real estate
loans........... 62,015 82 64,208 85 65,542 90 66,021 93 69,446 99
------- ------ ------- ------- ------- ------ ------- ------- ------- -----
Non-real estate
loans:
Commercial........ 5,595 8 4,977 7 5,120 7 3,214 5 65 --
Consumer.......... 7,624 10 5,978 8 1,918 3 1,073 1 87 --
Other............. 4 -- 60 -- 339 -- 501 1 356 1
------- ------ ------- ------- ------- ------ ------- ------- ------- -----
Total non-real
estate loans..... 13,223 18 11,015 15 7,377 10 4,788 7 508
------- ------ ------- ------- ------- ------ ------- ------- ------- -----
Total...............$ 75,238 100% $ 75,223 100% $ 72,919 100% $ 70,809 100% $ 69,954 100%
======= ====== ======= ======= ======= ====== ======= ======= ======= =====
During 2003, the exposure base of single-family loans increased by $733.3
million, generating an increase in the general valuation allowance by $3.8
million. There were three changes pertaining to the calculation of the general
valuation allowance for single-family portfolio: segregation of the sub-prime
loans, refining for the geographic designation and re-evaluated risk factors for
the single-family loans made in Northern California. The decrease in the
multi-family and commercial real estate loan exposure base of $98.7 million and
$74.0 million, respectively, resulted in a decrease in general valuation
allowance of $2.2 million and $3.7 million, respectively. The exposure base of
the construction loan portfolio increased by $2.1 million, while the general
valuation allowance declined by $15 thousand. The increase in the commercial
loan exposure base of $14.8 million generated an increase of $617 thousand in
the general valuation allowance. The consumer loan exposure base increased by
$14.3 million, which added $1.6 million to the general valuation allowance. The
remainder of the change in the general valuation allowance for loans was
attributable to changes in miscellaneous loans.
11
During 2002, the exposure base of single-family loans declined by $463.8
million and the proportion of higher risk loans was reduced, resulting in a $5.1
million reduction in the general valuation allowance. The increase in the
multi-family and commercial real estate loan exposure base of $84.4 million and
$56.3 million, respectively, resulted in an increase in the general valuation
allowance of $3.1 million and $2.1 million, respectively. The exposure base of
the construction loan portfolio declined by $41.3 million, generating a
reduction of $1.4 million to the general valuation allowance. The increase in
the commercial loan exposure base of $2.1 million, sustained by enhanced
experience with managing commercial loans, resulted in a decrease of $143
thousand in the general valuation allowance. The consumer loan exposure base
increased by $56.2 million, which resulted in an addition of $4.1 million to the
general valuation allowance. The remainder of the change in the general
valuation allowance for loans was attributable to changes in miscellaneous
loans.
Depending on the economy and real estate markets in which the Bank
operates, increases in the general valuation allowance may be required in future
periods. In addition, various regulatory agencies, as an integral part of their
examination process, periodically review the Bank's general valuation allowance.
These agencies may require the Bank to establish additional general valuation
allowances based on their judgment of the information available at the time of
their examination.
The Bank also maintains a repurchase liability for loans sold with
recourse, which is included in "Accrued Expenses and Other Liabilities" in the
Company's Statement of Financial Condition. The Bank's repurchase liability for
loans sold with recourse represents the total losses that are estimated to occur
over the remaining life of the portfolio of loans sold with recourse, discounted
to present value. During 2003, the Bank revised its current estimate of the
required repurchase liability for loans sold with recourse from $6.9 million to
$5.4 million. During 2002, the Bank revised its current estimate of the required
repurchase liability for loans sold with recourse from $12.8 million to $6.9
million. These reduced liability amounts reflects the fact that the total
portfolio of loans sold with recourse has been experiencing significant payoffs,
and has had better credit experience than was previously estimated. The
remaining repurchase liability of $5.4 million represents approximately 5.93% of
the total portfolio of loans sold with recourse at December 31, 2003. The
activity in the repurchase liability for loans sold with recourse for 2003,
2002, 2001, 2000 and 1999 is presented below (in thousands):
Balance at December 31, 1998................................. $ 12,546
Net recoveries............................................... 278
----------
Balance at December 31, 1999................................. 12,824
Net recoveries............................................... --
----------
Balance at December 31, 2000................................. 12,824
Net recoveries............................................... --
----------
Balance at December 31, 2001................................. 12,824
Liability adjustment recorded as gain on sale of loans....... (5,924)
----------
Balance at December 31, 2002................................. 6,900
Liability adjustment recorded as gain on sale of loans....... (1,500)
----------
Balance at December 31, 2003................................. $ 5,400
==========
See "--Management's Discussion and Analysis of Financial Condition and
Results of Operations - Asset Quality Ratios--" for an analysis of the Bank's
general valuation allowances as a percentage of non-performing loans and loans
receivable.
Potential Problem Loans. The Bank also had $2.3 million, $2.1 million and
$6.2 million in potential problem real estate loans as of December 31, 2003,
December 31, 2002 and December 31, 2001, respectively. These are loans that do
not meet the criteria of impaired or non-performing loans but have displayed
some past or present weakness. If the weakness is not corrected, the loan could
eventually result in a loss to the Bank.
The Bank's Asset Classification Committee meets at least quarterly to
review and monitor the condition of the loan portfolio. Additionally, a special
workout group of the Bank's officers meets at least quarterly to resolve
delinquent loan situations and to initiate actions enforcing the Bank's rights
in security properties pending foreclosure and liquidation.
Non-performing Assets. For a further discussion of non-performing assets,
see "--Management's Discussion and Analysis of Financial Condition and Results
of Operations - Non-Performing Assets--."
Generally, real estate loans greater than 90 days delinquent are placed
into foreclosure and a valuation allowance is established, if necessary. The
Bank acquires title to the property in most foreclosure actions in which the
loan is not reinstated by the borrower. Once real estate is acquired in
settlement of a loan, the property is recorded at fair value less estimated
costs to sell.
12
Following the acquisition of foreclosed real estate ("REO"), the Bank
evaluates the property and establishes a plan for marketing and disposing of the
property. After inspecting the property, the Bank determines whether the
property may be disposed of in its present condition or if repairs,
rehabilitation or improvements are necessary.
The following table provides information regarding the Bank's REO activity
for the periods indicated:
Year Ended December 31,
-------------------------------------
2003 2002 2001
-------- ----------- ----------
(In thousands)
Beginning balance.............................. $ 319 $ 1,485 $ 2,157
Additions.................................... 1,582 1,881 5,136
Sales and other.............................. (577) (3,047) (5,808)
-------- ---------- ----------
Ending balance................................. $ 1,324 $ 319 $ 1,485
======== ========== ==========
Other Interest-Earning Assets. The Bank owned no contractually delinquent
interest-earning assets other than loans as of December 31, 2003.
Investment Activities. It is the Bank's policy to maintain liquidity
investments at a modest level and to use available cash to originate mortgages
that normally command higher yields. Therefore, interest income on investments
generally represents less than 5% of total revenues.
The following table summarizes the total investment portfolio at historical
cost by type at the end of the periods indicated:
At or for the Year Ended December 31,
------------------------------------------------------------------------
2003 2002 2001 2000 1999
----------- ------------ ----------- ---------- -----------
(Dollars in thousands)
U.S. treasury securities..........................$ 200 $ 200 $ 300 $ 300 $ 300
U.S. agency securities............................ -- -- 28,199 38,185 38,167
Collateralized mortgage obligations ("CMO's")..... 115,992 101,802 80,013 98,562 115,704
----------- ------------ ----------- ---------- ----------
116,192 102,002 108,512 137,047 154,171
Unrealized gain (loss) on securities available-
for-sale....................................... 219 1,053 1,932 (510) (2,976)
----------- ------------ ----------- ---------- ----------
$ 116,411 $ 103,055 $ 110,444 $ 136,537 $ 151,195
=========== ============ =========== ========== ==========
Weighted average yield on interest-earning
investments end of period...................... 2.92% 4.77% 6.07% 5.99% 5.86%
=========== ============ =========== ========== ==========
The Bank's collateralized mortgage obligations all have expected maturities
within five years.
Sources of Funds
General. The Bank's principal sources of funds are deposits, principal and
interest payments on loans, loan sales, advances from the FHLB and securities
sold under agreements to repurchase.
Deposits. The Bank obtains deposits through three different sources: 1) its
full-service branch system, 2) phone solicitations by designated employees
(telemarketing deposits), and 3) national brokerage firms.
Deposits obtained through the branch system were $2.5 billion, $2.3 billion
and $2.1 billion at December 31, 2003, 2002 and 2001, respectively. Branch
deposits comprised 99% of total deposits at December 31, 2003, 91% of total
deposits at December 31, 2002 and 82% of total deposits at December 31, 2001.
Management attributes the increase in branch deposits during 2003 and 2002 to
increased funds from stock market investors wanting more security for their
investments.
Deposits acquired through telemarketing efforts are typically placed with
the Bank by professional money managers and represented 1%, 3% and 4% of total
deposits at December 31, 2003, 2002 and 2001, respectively. The level of
telemarketing deposits varies based on yields available to depositors on other
investment instruments and the depositors' perception of the Bank's
creditworthiness.
13
Deposits acquired through national brokerage firms represented 0%, 6% and
14% of total deposits at December 31, 2003, 2002 and 2001, respectively. Any
fees paid to deposit brokers are amortized over the term of the deposit. Based
on historical renewal percentages, management believes that these deposits are a
stable source of funds. Institutions meeting the regulatory capital standards
necessary to be deemed well-capitalized are not required to obtain a waiver from
the FDIC in order to accept brokered deposits. See "--Management's Discussion
and Analysis - Capital Resources and Liquidity--."
The Bank has concentrated its marketing efforts over the last several years
on the attraction and retention of non-term accounts. As a result, the
percentage of fixed-term certificates of deposit in the Bank's total deposits
has decreased from 52% as of December 31, 2001 and 37% as of December 31, 2002
to 22% as of December 31, 2003.
The following table shows the average balances and average rates paid on
deposits by deposit type for the periods indicated:
During the Year Ended December 31,
----------------------------------------------------------------------------------------------
2003 2002 2001
-------------------------- -------------------------- --------------------------
Average Average Average Average Average Average
Balance Rate Balance Rate Balance Rate
----------- ----------- ----------- ----------- ---------- ------------
(Dollars in thousands)
Passbook accounts............ $ 118,859 1.15% $ 106,591 1.47% $ 94,067 1.53%
Money market deposit accounts
1,244,294 1.72 909,866 2.50 613,745 3.84
Interest-bearing checking
accounts................. 178,173 0.32 164,930 0.66 141,282 0.97
Non interest-bearing
checking accounts........ 285,653 -- 234,936 -- 189,185 --
Fixed term certificate
accounts................. 688,492 2.30 1,101,043 3.20 1,279,465 5.33
---------- ----------- ----------
$ 2,515,471 1.55% $ 2,517,366 2.42% $ 2,317,744 4.08%
========== =========== ==========
14
The following tables set forth information regarding the amount of deposits
in the various types of deposit programs offered by the Bank at the end of the
years indicated and the balances and average rates for those dates:
At December 31,
----------------------------------------------------------------------
2003 2002 2001
-------------------- --------------------- ---------------------
Amount % Amount % Amount %
----------- ------ ------------ ----- ----------- ------
(Dollars in thousands)
Variable rate non-term accounts:
Money market deposit accounts (weighted
average rate of 1.43%, 2.13% and 2.76%).
$ 1,373,240 54% $ 1,079,278 43% $ 741,978 29%
Interest-bearing checking accounts
(weighted average rate of 0.26%, 0.43%
and 0.72%)............................. 232,247 9 174,802 7 162,309 7
Passbook accounts (weighted average rate
of 1.10%, 1.34% and 1.59%)............. 124,427 5 111,844 4 104,488 4
Non-interest bearing checking accounts..... 239,357 10 239,695 9 205,597 8
----------- ----- ---------- ----- ---------- -----
1,969,271 78 1,605,619 63 1,214,372 48
----------- ----- ---------- ----- ---------- -----
Fixed-rate term certificate accounts:
Under six-month term (weighted average
rate of 1.00%, 1.54% and 2.57%)........ 32,062 1 37,630 1 54,626 2
Six-month term (weighted average rate of
1.06%, 1.95% and 3.29%)................ 79,201 3 104,600 4 246,161 10
Nine-month term (weighted average rate of
1.25%, 2.76% and 3.98%)................ 15,126 1 101,980 4 170,190 7
One year to 18-month term (weighted
average rate of 1.53%, 2.63% and 4.45%)
178,858 6 331,308 14 469,113 18
Two year to 30-month term (weighted
average rate of 2.63%, 3.55% and 5.38%)
42,187 2 41,460 2 45,993 2
Over 30-month term (weighted average rate
of 3.88%, 4.49% and 5.31%)............. 123,966 5 94,927 4 39,938 1
Negotiable certificates of $100,000 and
greater, 30 day to one year terms
(weighted average rate of 1.25%, 2.32%
and 3.84%)............................. 97,727 4 209,502 8 306,254 12
----------- ----- ----------- ---- ---------- ----
569,127 22 921,407 37 1,332,275 52
----------- ----- ----------- ---- ---------- ----
Total deposits (weighted average rate of
1.29%, 1.98% and 3.02%)................ $ 2,538,398 100% $ 2,527,026 100% $ 2,546,647 100%
=========== ==== =========== ==== ========== ====
The cost of funds, operating margins and net earnings of the Bank
associated with brokered and telemarketing deposits are generally comparable to
the cost of funds, operating margins and net earnings of the Bank associated
with deposits, FHLB borrowings and securities sold under agreements to
repurchase. As the cost of each source of funds fluctuates from time to time,
the Bank seeks funds from the lowest cost source until the relative cost
changes. As the costs of funds, operating margins and net earnings of the Bank
associated with each source of funds are generally comparable, the Bank does not
deem the impact of a change in incremental use of any one of the specific
sources of funds at a given time to be material.
The following table shows the maturity distribution of jumbo certificates
of deposit ($100,000 and greater) as of December 31, 2003 (in thousands):
Maturing in:
1 month or less.............................................. $ 16,207
Over 1 month to 3 months..................................... 31,488
Over 3 months to 6 months.................................... 837
Over 6 months to 12 months................................... 25,297
Over 12 months............................................... 23,898
---------
Total...................................................... $ 97,727
=========
Based on historical renewal percentages at maturity, management believes
that jumbo certificates of deposit are a stable source of funds. For additional
information with respect to deposits, see Note 8 of the Notes to Consolidated
Financial Statements.
15
Borrowings. The Federal Home Loan Bank System functions as a source of
credit to financial institutions that are members of a regional Federal Home
Loan Bank. The Bank may apply for advances from the FHLB secured by the FHLB
capital stock owned by the Bank, certain of the Bank's mortgages and other
assets (principally obligations issued or guaranteed by the United States
government or agencies thereof). Advances can be requested for any sound
business purpose, which an institution is authorized to pursue. Any institution
not meeting the qualified thrift lender test will be subject to restrictions on
its ability to obtain advances from the FHLB. See "Summary of Material
Legislation and Regulation - Qualified Thrift Lender Test." In granting
advances, the FHLB also considers a member's creditworthiness and other relevant
factors.
Total advances from the FHLB were $1.7 billion at December 31, 2003 at a
weighted average rate of 2.88%. This compares with advances of $1.2 billion at
December 31, 2002 and $1.6 billion at December 31, 2001 with weighted average
rates of 3.90% and 5.01%, respectively. The Bank has credit availability with
the FHLB, which allows it to borrow up to 50% of its assets or approximately
$2.4 billion at December 31, 2003.
The Bank enters into sales of securities under agreements to repurchase
(reverse repurchase agreements) which require the repurchase of the same
securities. The agreements are treated as borrowings in the Company's
Consolidated Statements of Financial Condition. There are certain risks involved
with entering into these types of transactions. In order to minimize these
risks, the Bank's policy is to enter into agreements only with well-known
national brokerage firms that meet their regulatory capital requirements.
Borrowings under reverse repurchase agreements totaled $122.6 million at
December 31, 2003 at a weighted average rate of 1.12% and were secured by
mortgage-backed securities with principal balances totaling $114.4 million and
investments totaling $11.3 million. Borrowings under reverse repurchase
agreements totaled $155.3 million at December 31, 2002 and $211.0 million at
December 31, 2001 at weighted average rates of 1.61% and 2.66%, respectively.
The decrease in borrowings under agreements to repurchase over the last three
years is due to paydowns of the underlying mortgage-backed securities.
Borrowings from all sources totaled $1.8 billion, $1.3 billion and $1.8
billion at weighted average rates of 2.76%, 3.63% and 4.74% at December 31,
2003, 2002, and 2001, respectively. The increase in borrowings during 2003 was
necessary to fund asset growth. Due to the high level of loan payoffs and the
growth in branch deposits, no additional borrowings were necessary to fund asset
growth during 2002.
The Bank's portfolio of short-term borrowings includes FHLB advances due in
less than one year and securities sold under agreements to repurchase. The
following schedule summarizes short-term borrowings for the last three years at
December 31:
Maximum
Month-End
Outstanding
Balance
During the
End of Period Period Average
--------------------------- --------------- ----------------------------
Outstanding Rate Outstanding Rate
-------------- --------- ---------------- --------
(Dollars in thousands)
2003
Short-term FHLB advances......... $ 1,082,000 2.16% $ 1,082,000 $ 734,000 2.25%
Securities sold under agreements
to repurchase................ 122,622 1.12 154,021 139,568 1.27
2002
Short-term FHLB advances......... $ 427,000 2.25% $ 885,000 $ 611,000 4.01%
Securities sold under agreements
to repurchase................ 155,273 1.61 208,367 169,335 2.04
2001
Short-term FHLB Advances......... $ 985,000 4.86% $ 987,000 $ 900,895 5.68%
Securities sold under agreements
to repurchase................ 211,040 2.66 294,110 255,747 4.69
Other Sources of Funds
See "--Management's Discussion and Analysis of Financial Condition and
Results of Operations - Sources of Funds--" for a discussion of other funding
sources.
16
Subsidiaries
The Bank has three wholly-owned subsidiaries: Seaside Financial Corporation
("Seaside"), Oceanside Insurance Agency, Inc. ("Oceanside"), and Santa Monica
Capital Group ("SMCG"), all of which are California corporations. SMCG is an
inactive corporation.
Revenues and operating results of these subsidiaries accounted for less
than 1% of consolidated revenues in 2003 and no material change is presently
foreseen.
Real Estate Development Activities. Seaside has not been involved in any
real estate development activity for the last several years and there are no
plans for future real estate projects. A gain of $87 thousand was recognized
during 2003 on the sale of Seaside's remaining condominium unit. A gain of $142
thousand was recognized during 2002 on the sale of assets from a 100% owned real
estate partnership. No gains or losses on real estate development activities
were recorded during 2001.
Trustee Activities. Seaside acts as trustee on the Bank's deeds of trust.
Trustee fees for this activity amounted to $66 thousand, $56 thousand and $86
thousand in 2003, 2002 and 2001, respectively.
Insurance Brokerage Activities. Oceanside engages in limited insurance
agent activities. Income to date from this source has been insignificant.
Oceanside operates as a licensed life insurance agent for the purpose of
receiving commissions on the sale of fixed and variable rate annuities conducted
in the Bank's branches by a licensed third party vendor, who is a registered
broker-dealer. The registered broker-dealer conducts its sales activities in the
Bank's branch offices and the Bank receives a percentage of the commissions on
such sales through its licensed insurance agency, Oceanside. During 2003, 2002
and 2001, Oceanside received commission income of $219 thousand, $456 thousand
and $231 thousand, respectively, from the sale of non-insured investment
products. Additionally, Oceanside receives insurance commissions from the sale
of insurance to its borrowers. Commissions received from this activity totaled
$2 thousand in 2003 and $35 thousand in 2001. Commission rebates totaling $64
thousand were paid during 2002. The rebates paid during 2002 resulted from
repayments of previously earned commissions when interim lender-placed policies
were replaced by permanent policies obtained by borrowers.
Employees
As of December 31, 2003, the Bank had a total of 574 full time equivalent
employees, including 111 part-time employees. No employees were represented by a
collective bargaining group. At present, the Company has no employees who are
not also employees of the Bank. The Bank provides its regular full-time and
part-time employees with a comprehensive benefits program that includes basic
and major medical insurance, long-term disability coverage, sick leave, a 401(k)
plan and a profit sharing employee stock ownership plan. The Bank considers its
employee relations to be excellent.
Summary of Material Legislation and Regulations
General. FFC, as a savings and loan holding company, is registered with and
subject to regulation and examination by the OTS. The Bank, which is a federally
chartered savings bank and a member of the FHLB, is subject to regulation and
examination by the OTS with respect to most of its business activities,
including, among others, lending activities, capital standards, general
investment authority, deposit taking and borrowing authority, mergers and other
business combinations, establishment of branch offices, and permitted subsidiary
investments and activities. The Bank's deposits are insured by the FDIC through
the SAIF. As insurer, the FDIC is authorized to conduct examinations of the
Bank. The Bank is also subject to Federal Reserve Board regulations concerning
reserves required to be maintained against deposits.
The OTS also imposes assessments and examination fees on savings
institutions. OTS assessments for the Bank were $667 thousand in 2003, $708
thousand in 2002 and $653 thousand in 2001.
As a member of the FHLB System, the Bank is required to own capital stock
in its regional FHLB in an amount at least equal to the greater of 1% of the
aggregate principal amount of its unpaid residential mortgage loans, home
purchase contracts and similar obligations at the end of each year, or 5% of its
outstanding borrowings from the FHLB. The Bank was in compliance with this
requirement, with an investment of $87.8 million in FHLB stock at December 31,
2003. During 2003, the FHLB amended the redemption policy requiring 5 years
written notice to redeem stock effective 2004.
17
The FHLB serves as a source of liquidity for the member institutions within
its assigned region, the FHLB Eleventh District. It is funded primarily from
proceeds derived from the sale of consolidated obligations of the FHLB System.
It makes advances to members in accordance with policies and procedures
established by the Federal Housing Finance Board and the Board of Directors of
the FHLB. At December 31, 2003, the Bank's advances from the FHLB amounted to
$1.7 billion, or 39% of the Company's total funding sources (deposits and
borrowings).
The FHLBs are required to contribute to affordable housing programs through
direct loans or interest rate subsidies on advances targeted for community
investment and low and moderate income housing projects. These contributions
have adversely affected the level of dividends that the FHLBs have paid to its
members. These contributions also could have an adverse effect on the value of
FHLB stock in the future. For the year ended December 31, 2003, dividends paid
by the FHLB to the Bank totaled approximately $3.3 million.
Financial Services Modernization Legislation. On November 12, 1999, the
Gramm-Leach-Bliley Act of 1999 (the "Act") was signed into law. The Act made
significant changes to the operations of financial services companies, including
provisions affecting affiliations among banks, securities firms and insurance
companies, the ability of commercial entities to obtain thrift charters, the
confidential treatment of nonpublic personal information about consumers, and
the Community Reinvestment Act (the "CRA", as discussed in more detail below).
The Act also significantly amended the Federal Home Loan Bank System, by
modifying membership requirements in regional FHLBs to permit membership to be
voluntary for both thrift and bank members. The Act changed corporate governance
of the FHLBs by eliminating the right of the Federal Housing Finance Board to
select the management of the local FHLBs, and returning that authority to the
boards of directors of the FHLBs. Additionally, the obligations of the FHLBs to
repay federal borrowings to finance the thrift bailout has been restructured
from a fixed dollar amount to a fixed percentage of the FHLBs' annual net
earnings.
There continues to be ongoing discussions in Congress as to whether the
regulator of the FHLBs should be changed and if so, to which regulatory agency.
This discussion includes whether the FHLBs should be required to register their
securities with the SEC, the composition of their Boards of Directors and
whether their "mission" should be curtailed. Because of the level of the Bank's
borrowings from the FHLB, the outcome of these discussions could effect the cost
and availability of borrowings and the value of the FHLB stock.
Savings and Loan Holding Company Regulations. The activities of savings
and loan holding companies are governed by the Home Owners' Loan Act of 1933, as
amended. Pursuant to that statute, the Company is subject to certain
restrictions with respect to its activities and investments.
A savings and loan holding company, like FFC, which controls only one
savings association, is exempt from restrictions on the conduct of unrelated
business activities that are applicable to savings and loan holding companies
that control more than one savings association. The restrictions on multiple
savings and loan holding companies are similar to the restrictions on the
conduct of unrelated business activities applicable to bank holding companies
under the Bank Holding Company Act. The Company would become subject to these
restrictions if it were to acquire control of another savings association or if
the Bank were to fail to meet its qualified thrift lender ("QTL") test. See
"--Qualified Thrift Lender Test--."
The OTS may impose restrictions when it has reasonable cause to believe
that the continuation of any particular activity by a savings and loan holding
company constitutes a serious risk to the financial safety, soundness or
stability of such holding company's savings institution. Specifically, the OTS
may, as necessary, (i) limit the payment of dividends by the savings
institution; (ii) limit transactions between the savings institution and its
holding company or its affiliates; and (iii) limit any activities of the savings
institution or the holding company that create a serious risk that the
liabilities of the holding company may be imposed on the savings institution.
Any such limits will be issued in the form of a directive having the effect of a
cease-and-desist order.
Regulatory Capital Requirements. The capital regulations of the OTS (the
"Capital Regulations") require federally insured institutions such as the Bank
to meet certain minimum capital requirements. See "--Management's Discussion and
Analysis of Financial Condition and Results of Operations - Capital Resources
and Liquidity - Capital Requirements--." The OTS may establish, on a
case-by-case basis, individual minimum capital requirements for a savings
institution which vary from the requirements that would otherwise apply under
the Capital Regulations.
The OTS has adopted rules based upon five capital tiers: well-capitalized,
adequately capitalized, undercapitalized, significantly undercapitalized, and
critically undercapitalized. An institution falls into one of these
classifications depending primarily on its capital ratios. The Bank is
considered to be "well-capitalized" for purposes of these capital measures.
18
Insurance of Accounts. The FDIC administers two separate deposit insurance
funds. The Bank Insurance Fund ("BIF") insures the deposits of commercial banks
and other institutions that were insured by the FDIC prior to the enactment of
the Financial Institutions Reform, Recovery and Enforcement Act of 1989
("FIRREA"). The SAIF insures the deposits of savings institutions which were
insured by the Federal Savings and Loan Insurance Corporation ("FSLIC") prior to
the enactment of FIRREA. The Bank's deposits are insured by the SAIF. The FDIC
is authorized to increase deposit insurance premiums if it determines such
increases are appropriate to maintain the reserves of either the SAIF or the BIF
or to fund the administration of the FDIC. In addition, the FDIC is authorized
to levy emergency special assessments on BIF and SAIF members.
The FDIC has implemented a risk-based assessment system, under which an
institution's deposit insurance assessment is based on the probability that the
deposit insurance fund will incur a loss with respect to the institution, the
likely amount of any such loss, and the revenue needs of the deposit insurance
fund. Under the risk-based assessment system, a savings institution is
categorized into one of three capital categories: well capitalized, adequately
capitalized, and undercapitalized. A savings institution is also assigned to one
of three supervisory subgroup categories based on examinations by the OTS.
The FDIC may terminate the deposit insurance of any insured depository if
the FDIC determines, after a hearing, that the institution has engaged or is
engaging in unsafe or unsound practices, is in an unsafe or unsound condition to
continue operations or has violated any applicable law, regulation or order or
any condition imposed in writing by the FDIC. The FDIC may also suspend deposit
insurance temporarily during the hearing process if the institution has no
tangible capital. In addition, FDIC regulations provide that any insured
institution that falls below a 2% minimum leverage ratio will be subject to FDIC
deposit insurance termination proceedings unless it has submitted, and is in
compliance with, a capital plan with its primary federal regulator and the FDIC.
Liquidity. In July 2001, the OTS revised its liquidity regulations to
require a savings institution to maintain sufficient liquidity to ensure its
safe and sound operation. The determination of what constitutes safe and sound
operation was left to the discretion of management. For several years it has
been the Bank's strategy to keep cash and liquid investments at a modest level
due to availability of substantial credit lines. After the repeal of the
liquidity regulation, the Bank's liquidity policy was modified to include unused
borrowing capacity in the definition of available liquidity. The Bank's current
liquidity policy requires that cash and cash equivalents, short-term investments
and unused borrowing capacity be maintained at a minimum level of 10% of the
Bank's liquidity base (defined as deposits and borrowings due within one year).
At December 31, 2003, liquidity-qualifying balances were 13.54% of the Bank's
liquidity base.
Community Reinvestment Act. The Community Reinvestment Act ("CRA") requires
each savings institution, as well as commercial banks and certain other lenders,
to identify the communities served by the institution's offices and to identify
the types of credit the institution is prepared to extend within those
communities. The CRA also requires the OTS to assess an institution's
performance in meeting the credit needs of its identified communities as part of
its examination of the institution, and to take such assessments into
consideration in reviewing applications with respect to branches, mergers and
other business combinations, including acquisitions by savings and loan holding
companies. An unsatisfactory CRA rating may be the basis for denying such an
application and community groups have successfully protested applications on CRA
grounds. In connection with its assessment of CRA performance, the OTS assigns
CRA ratings of "outstanding," "satisfactory," "needs to improve" or "substantial
noncompliance." The Bank was rated "satisfactory" in its last CRA examination,
which was conducted in 2000. Institutions are evaluated based on: (i)
performance in lending in their assessment areas; (ii) the provision of deposit
and other community services in their assessment areas; and (iii) the investment
in housing-related and other qualified community investments. An institution
that is found to be deficient in its performance in meeting its community's
credit needs may be subject to enforcement actions, including cease and desist
orders and civil money penalties.
Restrictions on Dividends and Other Capital Distributions. Current OTS
regulations require that savings institutions controlled by savings and loan
holding companies (such as the Bank) file a 30-day advance notice of a proposed
capital distribution. The OTS may disapprove a notice if it finds that (a) the
savings association will be undercapitalized, significantly undercapitalized or
critically undercapitalized following the distribution, (b) the proposed capital
distribution raises safety and soundness concerns; or (c) the proposed
distribution violates a prohibition contained in a statute, regulation or
agreement between the savings institution and the OTS (or FDIC) or a condition
imposed by an OTS approval. The regulations also require a 30-day advance notice
to be filed for proposed capital distributions that would result in the savings
institution being less than well-capitalized or that involve the reduction or
retirement of the savings institution's stock. No capital distributions were
made to the Company during 2003. During 2002, the Bank paid a total of $20.0
million in capital distributions to the Company.
19
Limits on Types of Loans and Investments. Federal savings institutions are
authorized, without quantitative limits, to make loans on the security of liens
upon residential real property and to invest in a variety of instruments such as
obligations of, or fully guaranteed as to principal and interest by, the United
States; stock or bonds of the FHLB; certain mortgages, obligations, or other
securities which have been sold by FHLMC or FNMA; and certain securities issued
by, or fully guaranteed as to principal and interest by, the Student Loan
Marketing Association and the Government National Mortgage Association. Certain
other types of loans or investments may be acquired subject to quantitative
limits: secured or unsecured loans for commercial, corporate, business, or
agricultural purposes, loans on the security of liens upon nonresidential real
property, investments in personal property, consumer loans and certain
securities such as commercial paper and corporate debt, and construction loans
without security.
Savings institutions are subject to the same loans-to-one borrower ("LTOB")
restrictions that are applicable to national banks, with limited provisions for
exceptions. In general, the national bank standard restricts loans to a single
borrower to no more than 15% of a bank's unimpaired capital and surplus, plus an
additional 10% if the loan is collateralized by certain readily marketable
collateral. The Bank's loans were within the LTOB limitations at December 31,
2003.
Savings institutions and their subsidiaries are prohibited from acquiring
or retaining any corporate debt security that, at the time of acquisition, is
not rated in one of the four highest rating categories by at least one
nationally recognized statistical rating organization. The Bank has no
impermissible investments in its investment portfolio.
Safety and Soundness Standards. OTS regulations contain "safety and
soundness" standards covering various aspects of the operations of savings
institutions. The guidelines relate to internal controls and internal audit
systems, information systems, loan documentation, credit underwriting, interest
rate exposure, asset growth, executive compensation, maximum ratios of
classified assets to capital, and minimum earnings sufficient to absorb losses
without impairing capital. If the OTS determines that a savings institution has
failed to meet the safety and soundness standards, it may require the
institution to submit to the OTS, and thereafter comply with, a compliance plan
acceptable to the OTS describing the steps the institution will take to attain
compliance with the applicable standard and the time within which those steps
will be taken.
Federal regulations contain a number of measures intended to promote early
identification of management problems at depository institutions and to ensure
that regulators intervene promptly to require corrective action by institutions.
The Bank's annual management report on the effectiveness of internal control
standards and compliance with certain designated laws will be made available in
March of 2004.
Prompt Corrective Action. The "prompt corrective action" regulations
require insured depository institutions to be classified into one of five
categories based primarily upon capital adequacy, ranging from "well
capitalized" to "critically undercapitalized." These regulations require,
subject to certain exceptions, the appropriate federal banking agency to take
"prompt corrective action" with respect to an institution which becomes
"undercapitalized" and to take additional actions if the institution becomes
"significantly undercapitalized" or "critically undercapitalized."
Only "well capitalized" institutions may obtain brokered deposits without a
waiver. An "adequately capitalized" institution can obtain brokered deposits
only if it receives a waiver from the FDIC. An "undercapitalized" institution
may not accept brokered deposits under any circumstances. The Bank met the
"well-capitalized" standards during 2003 and was eligible to accept brokered
deposits without a waiver.
Qualified Thrift Lender Test. In general, the QTL test requires that 65% of
an institution's portfolio assets be invested in "qualified thrift investments"
(primarily loans, securities and other investments related to housing), measured
on a monthly average basis for nine out of every 12 months on a rolling basis.
Any savings institution that fails to meet the QTL test must either convert to a
bank charter or become subject to national bank-type restrictions on branching,
business activities, and dividends, and its ability to obtain FHLB advances. The
Bank met the QTL test at December 31, 2003, with 92.93% of its portfolio assets
comprised of "qualified thrift investments."
Transactions with Affiliates. Federal savings institutions are subject to
the provisions of Sections 23A and 23B of the Federal Reserve Act. Section 23A
restricts loans or extensions of credit to, or investments in, or certain other
transactions with, affiliates and as to the amount of advances to third parties
collateralized by the securities or obligations of affiliates. Section 23B
generally requires that transactions with affiliates must be on a
non-preferential basis. Federal savings institutions may not make any extension
of credit to an affiliate which is engaged in activities not permitted by bank
holding companies, and may not invest in securities issued by an affiliate
(except with respect to a subsidiary). The Company is an "affiliate" of the Bank
for the purposes of these provisions.
20
Transactions with Insiders. Federal savings institutions are subject to the
restrictions of Sections 22(g) and (h) of the Federal Reserve Act which, among
other things, restrict the amount of extensions of credit which may be made to
executive officers, directors, certain principal shareholders (collectively
"insiders"), and to their related interests. When lending to insiders, a savings
association must follow credit underwriting procedures that are no less
stringent than those applicable to comparable transactions with persons outside
the association. The amount that a savings association can lend in the aggregate
to insiders (and to their related interests) is limited to an amount equal to
the association's core capital and surplus. Insiders are also prohibited from
knowingly receiving (or knowingly permitting their related interests to receive)
any extensions of credit not authorized under these statutes.
Federal Reserve System. Federal Reserve Board regulations require savings
institutions to maintain non-interest bearing reserves against their transaction
accounts. The reserve for transaction accounts as of December 31, 2003 was 0% of
the first $6.0 million of such accounts, 3% of the next $36.1 million of such
accounts and 10% (subject to adjustment by the Federal Reserve Board between 8%
and 14%) of the balance of such accounts. The Bank is in compliance with these
requirements as of December 31, 2003.
Taxation. The Company, the Bank and its subsidiaries file a consolidated
federal income tax return on a calendar year basis using the accrual method. The
maximum marginal federal tax rate is currently 35%.
The Bank is required to use the specific charge-off method of accounting
for bad debts for Federal income tax purposes for all periods beginning after
1995. Prior to that date, the Bank used the reserve method of accounting for bad
debts. The Consolidated Statements of Financial Condition at December 31, 2003
and 2002 do not include a tax liability of $5,356,000 related to the adjusted
base year bad debt reserve. The bad debt reserve was created when the Bank was
on the reserve method.
These reserves are subject to recapture if: (1) the Bank fails to qualify
as a "bank" for federal income tax purposes; (2) certain distributions are made
with respect to the stock of the Bank; (3) the bad debt reserves are used for
any purpose other than to absorb bad debt losses; or (4) there is a change in
federal tax law. Management does not expect any of these events to occur.
To the extent that distributions by the Bank to the Company exceed the
Bank's cumulative earnings and profits (as computed for federal income tax
purposes), such distributions would be treated for tax purposes as being made
out of the Bank's base year reserve and would thereby constitute taxable income
to the Bank in an amount equal to the lesser of the Bank's base year reserve or
the amount which, when reduced by the amount of income tax attributable to the
inclusion of such amount in gross income, is equal to the amount of such
distribution. At December 31, 2003, the Bank's cumulative earnings and profits
(as computed for federal income tax purposes) were approximately $465.5 million.
The Bank is required to use the specific charge-off method for state tax
purposes for all periods beginning after 2002. Prior to 2002, the Bank made
additions to its state tax bad debt reserves in amounts necessary to "fill up"
to its tax reserve balance calculated using the experience method. A change in
California tax law during 2002 eliminated the bad debt reserve method for
California tax purposes and conformed state tax to federal tax with regard to
the method of accounting for bad debts used by banks. After a review of its bad
debt reserves by the California Franchise Tax Board, the Bank recorded a
reduction in tax expense of approximately $1.6 million, or $0.09 per diluted
share, net of federal income tax expense in 2003.
At December 31, 2003, the Bank had $50.1 million in gross deferred tax
assets. No valuation allowance was established because management believes that
it is more likely than not that the deferred tax assets will be realized. Gross
deferred tax liabilities totaled $34.1 million at December 31, 2003.
The Bank is subject to an alternative minimum tax if such tax is larger
than the tax otherwise payable. Generally, alternative minimum taxable income is
a taxpayer's regular taxable income, increased by the taxpayer's tax preference
items for the year and adjusted by computing certain deductions utilizing a
methodology that negates the acceleration of such deductions under the regular
tax. The adjusted income is then reduced by an exemption amount and is subject
to tax at a 20% rate. No alternative minimum taxes were applicable to the Bank
for tax years 2003, 2002 or 2001.
California tax laws generally conform to federal tax laws. For California
franchise tax purposes, federal savings banks are taxed as "financial
corporations" at a rate 2% higher than that applicable to non-financial
corporations because of exemptions from certain state and local taxes. The tax
rate for 2003, 2002 and 2001 was 10.84%.
21
The Internal Revenue Service ("IRS") has examined the Company's
consolidated federal income tax returns for tax years up to and including 1998.
The adjustments proposed by the IRS were primarily related to temporary
differences as to the recognition of certain taxable income and expense items.
While the Company had provided for deferred taxes for federal and state
purposes, the change in the period of recognition of certain income and expense
items resulted in interest due to the IRS and the Franchise Tax Board ("FTB").
The balance of accrued interest payable for amended returns was $400 thousand,
$700 thousand and $300 thousand as of December 31, 2003, 2002 and 2001,
respectively. No interest accruals were recorded in 2003. Accruals of $876,000
were recorded during 2002.
Recent Legislation. On October 26, 2001, President Bush signed into law the
USA PATRIOT Act ("Patriot Act"). The Patriot Act includes numerous provisions
designed to fight international money laundering and to block terrorist access
to the U.S. financial system. The "Customer Identification Program" requirements
of the Patriot Act became mandatory in October of 2003. While implementation of
these regulations has required devotion of resources to ensure compliance, it is
not anticipated that these new rules will have a significant adverse impact on
the Bank's operations.
On July 30, 2002, President Bush signed into law the Sarbanes-Oxley Act of
2002 ("Sarbanes-Oxley"), which implemented legislative reforms intended to
address corporate and accounting fraud. Sarbanes-Oxley contains reforms of
various business practices and numerous aspects of corporate governance. While
many of the Sarbanes-Oxley reforms took effect in 2002, a large number of the
provisions of Sarbanes-Oxley were implemented upon adoption of final rules and
regulations during 2003. Sarbanes-Oxley, among other things, places additional
responsibilities on management and the boards of directors of public companies.
The Company expects to incur incremental costs associated with compliance with
the provisions of Sarbanes-Oxley and other related changes to federal securities
and corporate governance laws. The Company expects to experience an increase in
the cost of its professional fees, including but not limited to, accounting and
compliance. However, management does not anticipate that such compliance will
have a material impact on the Company's financial condition or results of
operations.
22
ITEM 2 -- PROPERTIES
At December 31, 2003, the Bank owned the building and the land for eight of
its branch offices, owned the building but leased the land for two additional
offices, and leased its remaining offices. Properties leased by the Bank include
its home and executive offices located in an office tower in downtown Santa
Monica and a general services and corporate operations office building in Santa
Monica. For information concerning rental obligations, see Note 6 of the Notes
to Consolidated Financial Statements.
ITEM 3 -- LEGAL PROCEEDINGS
The Company is involved as a plaintiff or defendant in various legal
actions incident to its business, none of which are believed by management to be
material to the Company.
ITEM 4 -- SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
PART II
ITEM 5 -- MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
(a) Market Information. The Company's common stock is traded on the New
York Stock Exchange ("NYSE") under the symbol "FED." Included in "Management's
Discussion and Analysis of Financial Condition and Results of Operations" is a
table representing the range of high and low stock prices for the Company's
common stock for each quarterly period for the last five years.
(b) Holders. As of January 22, 2004, 17,056,893 shares of Company common
stock, representing approximately 756 record stockholders, were outstanding,
which total does not include the number of stockholders whose shares are held in
street name.
(c) Dividends. As a publicly traded company, the Company has no history of
dividend payments on its common stock. However, the Company may in the future
adopt a policy of paying dividends, depending on its net earnings, financial
position and capital requirements, as well as regulatory restrictions, tax
consequences and the ability of the Company to obtain a dividend from the Bank
for payment to stockholders. OTS regulations limit amounts that the Bank can pay
as a capital distribution to the Company. No such distribution may be made if
the Bank's net worth falls below regulatory requirements. (See "--Business -
Summary of Material Legislation and Regulations--" for other regulatory capital
distributions.) No capital distributions to the Company were made during 2003.
The Board of Directors of the Bank declared and paid to the Company $20.0
million during 2002. The distributions made during 2002 were for the purpose of
repurchasing shares of Company common stock.
(d) Securities authorized for issuance under equity compensation plans.
Information appearing on page 12 of the Proxy Statement is incorporated herein
by reference.
23
ITEM 6 -- SELECTED FINANCIAL DATA
Selected financial data for the Company is presented below:
FIRSTFED FINANCIAL CORP. AND SUBSIDIARY
FIVE YEAR CONSOLIDATED SUMMARY OF OPERATIONS
2003 2002 2001 2000 1999
------------- ------------ ------------- ----------- -------------
(Dollars in thousands, except per share data)
For the Year Ended December 31:
Interest income.............................$ 235,881 $ 263,878 $ 333,932 $ 314,320 $ 260,001
Interest expense............................ 88,342 128,419 201,754 206,505 161,031
Net interest income......................... 147,539 135,459 132,178 107,815 98,970
Provision for loan losses................... -- -- -- -- --
Other income................................ 16,741 18,074 8,919 7,747 12,688
Non-interest expense........................ 55,589 58,212 53,174 48,265 49,159
Earnings before income taxes................ 108,691 95,321 87,923 67,297 62,499
Income taxes................................ 44,216 40,149 37,621 28,832 27,052
Earnings before extraordinary items......... 64,475 55,172 50,302 38,465 35,447
Extraordinary item loss on early
extinguishment of debt, net of taxes....... -- -- -- -- (2,195)
Net earnings................................ 64,475 55,172 50,302 38,465 33,252
Basic earnings per share:
EPS before extraordinary item............... 3.80 3.22 2.92 2.23 1.84
Extraordinary item.......................... -- -- -- -- (0.11)
EPS after extraordinary item................ 3.80 3.22 2.92 2.23 1.73
Dilutive earnings per share:
EPS before extraordinary item............... 3.70 3.15 2.85 2.20 1.83
Extraordinary item.......................... -- -- -- -- (0.12)
EPS after extraordinary item................ 3.70 3.15 2.85 2.20 1.71
End of Year:
Loans receivable, net (1)................... 4,374,112 3,769,235 4,004,889 3,629,284 3,060,547
Mortgage-backed securities, at fair value... 135,176 200,585 284,079 374,405 428,641
Investment securities, at fair value........ 116,411 103,055 110,444 136,537 151,195
Total assets................................ 4,825,022 4,253,729 4,726,289 4,365,242 3,872,051
Deposits.................................... 2,538,398 2,527,026 2,546,647 2,165,047 2,061,357
Borrowings.................................. 1,816,622 1,322,273 1,808,040 1,873,110 1,532,635
Liabilities................................. 4,388,455 3,882,088 4,400,611 4,097,800 3,640,918
Stockholders' equity........................ 436,567 371,641 325,678 267,442 231,133
Book value per share........................ 25.61 21.95 18.88 15.52 12.82
Tangible book value per share............... 25.18 21.40 18.14 14.98 12.78
Selected Ratios:
Return on average assets.................... 1.43% 1.24% 1.10% 0.93% 0.94%
Return on average equity.................... 15.97% 15.82% 16.93% 15.85% 14.91%
Ratio of non-performing
assets to total assets................... 0.10% 0.17% 0.17% 0.19% 0.40%
Other Data:
Number of Bank full-service branches........ 29 29 29 25 24
(1) Includes loans held for sale.
Also see summarized results of operations on a quarterly basis for 2003,
2002 and 2001 in Note 15 of the Notes to Consolidated Financial Statements.
24
ITEM 7 -- MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION
AND RESULTS OF OPERATIONS
CRITICAL ACCOUNTING POLICIES
The discussion and analysis of the financial condition and results of
operations are based upon the consolidated financial statements, which have been
prepared in accordance with accounting principles generally accepted in the
United States of America. The preparation of these financial statements requires
management to make estimates and judgments that affect the reported amounts of
assets and liabilities at the date of the financial statements. Actual results
may differ from these estimates under different assumptions or conditions.
Accounting for the allowances for loan losses involves significant
judgments and assumptions by management which have a material impact on the
carrying value of net loans receivable. Management considers the accounting for
loan valuation allowances to be a critical accounting policy. The judgments and
assumptions used by management are based on historical experience and other
factors, which are believed reasonable under the circumstances as described in
the "Business - Loan Loss Allowance" section.
RISKS AND UNCERTAINTIES
In the normal course of business, the Company encounters two significant
types of risk: economic risk and regulatory risk.
ECONOMIC RISK
There are three main components of economic risk: credit risk, collateral
risk and market risk (which includes interest rate risk.)
Credit Risk
Credit risk is the risk of default in the Company's loan portfolio that
results from a borrower's inability to make contractually required payments. See
"--Loss Provision--" and "--Non-performing Assets--."
The determination of the allowance for loan losses and the valuation of
real estate collateral are based on estimates that are susceptible to changes in
the economic environment and market conditions. No loan loss provision was
recorded during 2003. A downward turn in the current economic climate could
increase the likelihood of losses due to credit risks. This could create the
need for additional loan loss provisions.
Collateral Risk
Collateral risk is the risk that the collateral securing the Bank's loans,
primarily real estate, declines in value. A downward turn in the real estate
market could increase the likelihood of losses if the loan exceeds the value of
the collateral. This could create the need for additional loan loss provisions.
Market Risk
Market risk is the risk of loss from unfavorable changes in market prices
and interest rates. The Bank's market risk arises primarily from the interest
rate risk inherent in its lending and deposit taking activities. Should there be
an economic or market downturn or if market interest rates increase
significantly, the Bank could experience a material increase in the level of
loan defaults and charge-offs.
See "--Asset-Liability Management--" in "--Quantitative and Qualitative
Disclosures About Market Risk--" for additional information relating to market
risk.
REGULATORY RISK
Regulatory risk is the risk that the regulators will reach different
conclusions than management regarding the financial position of the Company. The
OTS examines the Bank's financial results annually. The OTS reviews the
allowance for loan losses and may require the Bank to adjust the allowance based
on information available at the time of their examination.
25
OTHER RISKS
Inflation
Inflation substantially impacts the financial position and operations of
financial intermediaries, such as banks and savings institutions. These entities
primarily hold monetary assets and liabilities and, as such, can experience
significant purchasing power gains and losses over relatively short periods of
time. In addition, interest rate changes during inflationary periods change the
amounts and composition of assets and liabilities held by financial
intermediaries and could result in regulatory pressure for increasing the Bank's
capital.
Pending Lawsuits
The Bank has been named as a defendant in various lawsuits, none of which
is expected to have a materially adverse effect on the Company.
OVERVIEW
The Company's results of operations are primarily affected by its levels of
net interest income, provisions for loan losses, non-interest income,
non-interest expense and income taxes. The Company's results are strongly
influenced by the Southern California economy in which it operates and the
direction and level of general market interest rates.
Net earnings of $64.5 million or $3.70 per diluted share were recorded in
2003, compared to net earnings of $55.2 million or $3.15 per diluted share in
2002 and net earnings of $50.3 million or $2.85 per diluted share in 2001.
Net earnings increased from 2002 to 2003 due to higher net interest income,
higher prepayment fees and reduced operating expenses. In addition, there was a
$1.6 million reduction in net tax provision resulting from a change in the
California tax law relating to bad debts. The increase in net earnings from 2001
to 2002 was primarily due to higher net interest income and gain on sale of
loans of $5.9 million from a revised estimate of the Bank's repurchase liability
for loans sold with recourse.
Consolidated assets at the end of 2003 were $4.8 billion, representing a
13% increase from $4.3 billion at the end of 2002 and a 2% increase from $4.7
billion at the end of 2001. The increase in assets during 2003 is attributable
to increased loan origination activity. Loan originations totaled $2.3 billion
in 2003, $1.3 billion in 2002 and $1.5 billion in 2001.
No loss provision was recorded in 2003, 2002 or 2001. The Bank recorded net
loan recoveries of $15 thousand, $950 thousand and $118 thousand during 2003,
2002 and 2001, respectively.
Certain key financial ratios for the Company are presented below:
Year Ended December 31,
-----------------------------------------
Average
Return on Return on Equity to
Average Average Average
Assets Equity Assets
----------- ----------- ------------
2003.............................................. 1.43% 15.97% 8.98%
2002.............................................. 1.24 15.82 7.83
2001.............................................. 1.10 16.93 6.52
2000.............................................. .93 15.85 5.85
1999.............................................. .94 14.91 6.29
Non-performing assets (primarily loans 90 days past due or in foreclosure
plus foreclosed real estate) decreased to $4.7 million or 0.10% of total assets
as of December 31, 2003 from $7.0 million or 0.17% of total assets as of
December 31, 2002 and $7.9 million or 0.17% of total assets at December 31,
2001. The decrease in non-performing assets over the last several years is
attributable to lower balances of delinquent loans and the strength of the
Southern California real estate market. See --"Non-Performing Assets--."
As of February 1, 2004, 1,348,677 shares remain eligible for repurchase
under the Company's authorized repurchase program. The Company repurchased
common shares totaling 33,800 and 353,000 during 2003 and 2002, respectively. No
shares were repurchased during 2001.
At December 31, 2003 the Bank's regulatory risk-based capital ratio was
15.92% and its tangible and core capital ratios were 8.48%. The Bank met the
regulatory capital standards necessary to be deemed "well-capitalized" at
December 31, 2003. See --"Capital Requirements--."
26
COMPONENTS OF EARNINGS
Net Interest Income
Net interest income is the primary component of the Company's earnings. The
chief determinants of net interest income are the dollar amounts of
interest-earning assets and interest-bearing liabilities and the interest rates
earned or paid thereon. The greater the excess of average interest-earning
assets over average interest-bearing liabilities, the more beneficial the impact
on net interest income. The excess of average interest-earning assets over
average interest-bearing liabilities was $262.9 million in 2003, $229.2 million
in 2002 and $179.2 million in 2001. The increase over the last three years was
due to accumulated earnings.
The Company's net interest income is impacted by a time lag before changes
in the cost of funds can be passed along to monthly adjustable rate loan
customers. Savings and borrowing costs adjust to market rates quickly while it
takes several months for loan yields to adjust. This time lag decreases the
Company's net interest income during periods of rising interest rates. The
reverse is true during periods of declining interest rates. See
"--Asset-Liability Management--" in "--Quantitative and Qualitative Disclosures
About Market Risk--" for further discussion.
The following table sets forth the components of interest-earning assets
and liabilities, the excess of interest-earning assets over interest-bearing
liabilities, the yields earned and rates paid and net interest income for the
periods indicated:
At or for the Year Ended December 31,
----------------------------------------
2003 2002 2001
---------- ----------- -----------
(Dollars in thousands)
Average loans and mortgage-backed securities (1).................... $ 4,194,404 $ 4,091,852 $ 4,181,554
Average investment securities....................................... 113,624 172,996 200,807
---------- ----------- -----------
Average interest-earning assets..................................... 4,308,028 4,264,848 4,382,361
---------- ----------- -----------
Average deposits.................................................... 2,515,471 2,517,366 2,317,744
Average borrowings.................................................. 1,529,630 1,518,283 1,885,426
---------- ----------- -----------
Average interest-bearing liabilities................................ 4,045,101 4,035,649 4,203,170
---------- ----------- -----------
Excess of interest-earning assets over interest-bearing liabilities. $ 262,927 $ 229,199 $ 179,191
========== =========== ===========
Yields earned on average interest-earning assets.................... 5.40 % 6.08 % 7.50 %
Rates paid on average interest-bearing liabilities.................. 2.18 3.16 4.79
Interest rate spread................................................ 3.22 2.92 2.71
Effective net spread................................................ 3.35 3.09 2.90
Total interest income............................................... $ 232,634 $ 259,303 $ 328,679
Total interest expense.............................................. 88,183 127,526 201,420
---------- ----------- -----------
144,451 131,777 127,259
Total other income (2).............................................. 3,088 3,682 4,919
---------- ----------- -----------
Net interest income................................................. $ 147,539 $ 135,459 $ 132,178
========== =========== ===========
(1) Non-accrual loans are included in the average dollar amount of loans
outstanding; however, no income is included for the period that each
such loan was on non-accrual status.
(2) Includes dividends on FHLB stock and other miscellaneous items.
The Bank's interest rate spread increased by 30 basis points in 2003
compared to 2002 as the yield on earning assets declined by only 68 basis points
while the cost of funds fell by 98 basis points due to declining short term
interests rate throughout the year. The Bank's interest rate spread increased by
21 basis points in 2002 compared to 2001 as the yield on earning assets declined
by only 142 basis points while the cost of funds fell by 163 basis points due to
the declining short term interest rates throughout the year. The time lag
inherent in the Bank's adjustable real estate loan portfolio ranges from one to
three months.
27
The table below sets forth certain information regarding changes in the
interest income and interest expense of the Bank for the periods indicated. For
each category of interest-earning assets and interest-bearing liabilities,
information is provided on changes attributable to (i) changes in volume
(changes in average balance multiplied by old rate) and (ii) changes in rates
(changes in rate multiplied by prior year average balance):
Year Ended December 31, 2003 Year Ended December 31, 2002
Versus Versus
December 31, 2002 December 31, 2001
------------------------------------ -------------------------------------
Change Due To Change Due To
------------------------------------ -------------------------------------
Volume Rate Total Volume Rate Total
--------- --------- ---------- --------- ---------- ----------
(In thousands)
Interest Income:
Loans and mortgage-backed
securities.........................$ 6,163 $ (29,014) $ (22,851) $ (6,685) $ (58,564) $ (65,249)
Investments.......................... (1,770) (2,048) (3,818) (1,309) (2,818) (4,127)
--------- --------- --------- --------- ---------- ---------
Total interest income.............. 4,393 (31,062) (26,669) (7,994) (61,382) (69,376)
--------- --------- --------- --------- ---------- ---------
Interest Expense:
Deposits............................. (46) (21,822) (21,868) 7,562 (41,232) (33,670)
Borrowings........................... 496 (17,971) (17,475) (18,628) (21,596) (40,224)
--------- --------- --------- --------- ---------- ---------
Total interest expense............. 450 (39,793) (39,343) (11,066) (62,828) (73,894)
--------- --------- --------- --------- ---------- ---------
Change in net interest income...... 3,943 8,731 12,674 3,072 1,446 4,518
--------- --------- --------- --------- ---------- ---------
Change in other items (1).............. (594) (1,237)
--------- ---------
Total change in net interest
Income including other items......... $ 12,080 $ 3,281
========= =========
(1) Includes dividends on FHLB stock and other miscellaneous items.
Note: Changes in rate/volume (change in rate multiplied by the change in average
volume) have been allocated to the change in rate or the change in volume based
upon the respective percentages of the combined totals.
Interest Rate Spreads and Effective Net Spreads
Year Ended December 31,
--------------------------------------------------------------------------------------------------------
2003 2002 2001 2000 1999
----------------- ------------------ ----------------- ------------------ ------------------
During End of During End of During End of During End of During End of
Period Period Period Period Period Period Period Period Period Period
------- ------ ------- ------- ------- ------ ------- ------- ------- -------
Weighted average
yield on loans and
mortgage-backed
securities......... 5.49% 5.09% 6.18% 5.98% 7.61% 6.57% 7.85% 8.15% 7.37% 7.31%
Weighted average
yield on
investment 2.20 2.64 3.65 4.41 5.16 3.52 6.11 5.63 5.41 5.69
portfolio (1)......
Weighted average
yield on all
interest-earning 5.40 5.02 6.08 5.94 7.50 6.40 7.77 8.04 7.26 7.25
assets.............
Weighted average
rate paid on
deposits.............. 1.55 1.29 2.42 1.98 4.08 3.02 4.70 4.90 4.22 4.42
Weighted average
rate paid on
borrowings and
FHLB advances......... 3.21 2.76 4.39 3.63 5.67 4.74 6.29 6.46 5.59 5.88
Weighted average rate
paid on all
interest-bearing
liabilities........ 2.18 2.12 3.16 2.54 4.79 3.73 5.40 5.62 4.76 5.04
Interest rate
spread(2)........... 3.22 2.90 2.92 3.40 2.71 2.67 2.37 2.42 2.50 2.21
Effective net
spread(3)........... 3.35 3.09 2.90 2.57 2.69
(1) Dividends on FHLB stock and miscellaneous interest income were not
considered in this analysis
(2) Weighted average yield on all interest-earning assets less weighted average
rate paid on all interest-bearing liabilities
(3) Net interest income (excluding dividends on FHLB stock and other
miscellaneous items) divided by average interest-earning assets
28
Loss Provision
The Company did not record a loan loss provision during 2003, 2002 or 2001.
No provision was recorded during the last three years because, based on analysis
performed by management, existing allowances were sufficient to cover credit
risks inherent in the loan portfolio. Non-performing assets decreased to $4.7
million in 2003 from $7.0 million in 2002 and $7.9 million in 2001 due to
improvement in the economy and real estate markets in which the Bank operates.
The Bank has a policy of providing for general valuation allowances, unallocated
to any specific loan, but available to offset any loan losses. The allowance is
maintained at an amount that management believes adequate to cover estimable and
probable loan losses. The Company also maintains valuation allowances for
impaired loans and loans sold with recourse. See "--Business - Loan Loss
Allowance--." Management performs regular risk assessments of the Bank's loan
portfolio to maintain appropriate valuation allowances. Additional loan loss
provisions may be required to the extent that charge-offs are recorded against
the valuation allowance for impaired loans, the general valuation allowance, or
the repurchase liability for loans sold with recourse.
The Company recorded net loan recoveries of $15 thousand during 2003, $950
thousand during 2002 and $118 thousand during 2001. The recoveries resulted from
cash payments by borrowers on loans that had been previously charged-off.
Non-interest Income
Loan servicing and other fees were $8.0 million in 2003 compared to $4.3
million in 2002 and $3.3 million in 2001. The increase in fees during 2003 was
due to an increase in loan prepayments fees. Fees earned during 2002 and 2001
include reductions of $311 thousand and $134 thousand, respectively, to provide
for impairment of the Bank's servicing asset due to accelerated payoffs and
prepayments of loans serviced for others. There were no such reductions during
2003.
Banking service fees were $5.1 million in 2003 compared to $4.6 million in
2002 and $3.8 million in 2001. The increase in these fees is due to an increase
in fee-generating deposit accounts.
Gain on sale of loans was $2.4 million in 2003, $7.8 million in 2002 and
$656 thousand in 2001. Loan sales were $86.1 million, $134.2 million and $61.2
million during 2003, 2002 and 2001, respectively. The gain realized on cash loan
sales was $944 thousand, $1.9 million and $656 thousand in 2003, 2002 and 2001,
respectively. Cash gains fluctuate due to changes in market pricing based on
interest rate trends. Also, the dollar amount of loans originated for sale
varies based on the availability of attractive fixed rate loan programs to
borrowers compared to the Bank's adjustable rate loan programs. In addition to
cash gains, Gain on sale of Loans includes adjustments from prior years' sales.
During 2003, the Bank revised its current estimate of the required repurchase
liability for loans sold with recourse from $6.9 million to $5.4 million. During
2002, the Bank revised its current estimate of the required repurchase liability
for loans sold with recourse from $12.8 million to $6.9 million. This reduced
liability amount reflects the fact that the total portfolio of loans sold with
recourse has been experiencing significant pay-offs, and has had better credit
experience than previously estimated. As a result, included in gain on sale of
loans for 2003 is a $1.5 million adjustment to the Bank's repurchase liability
for loans sold with recourse. Included in gain on sale of loans for 2002 is a
$5.9 million adjustment to the Bank's repurchase liability for loans sold with
recourse. The Company's repurchase liability for loans sold with recourse
represents the total losses that are estimated to occur over the remaining life
of the portfolio of loans sold with recourse, discounted to present value.
Real estate operations resulted in a net gain of $780 thousand in 2003,
$339 thousand in 2002 and $304 thousand in 2001. Real estate operations include
gain on sale of foreclosed properties, operational income and expense during the
holding period, and recoveries of prior losses on real estate sold.
Non-interest Expense
The ratio of non-interest expense to average total assets was 1.24% for
2003, 1.31% for 2002 and 1.17% for 2001. The decrease during 2003 compared to
2002 is primarily the result of a reduction in legal and advertising costs. The
higher ratio during 2002 is the result of increased compensation and legal costs
and a decrease in average total assets.
Salary and benefit costs increased 3% in 2003 compared to 2002 primarily
due to normal salary adjustments. Salary and benefit costs increased 10% in 2002
compared to 2001 primarily due to higher incentives and additional personnel
hired in the commercial banking group.
Occupancy expense decreased 5% in 2003 compared to 2002 due to a reduction
in depreciation expense for certain assets that became fully depreciated in
2003.
29
The following table details the components of non-interest expense for the
periods indicated:
Non-Interest Expense
Year Ended December 31,
-------------------------------------------------------------------
2003 2002 2001 2000 1999
---------- ---------- ----------- ---------- ----------
(Dollars in thousands)
Salaries and Employee Benefits:
Salaries..................................$ 21,565 $ 20,984 $ 18,119 $ 17,354 $ 16,631
Incentive compensation.................... 3,917 3,122 2,472 1,987 1,677
Payroll taxes............................. 1,883 1,827 1,652 1,486 1,607
Employee benefit insurance................ 1,016 1,386 1,203 1,320 1,220
Bonus compensation........................ 1,275 1,500 1,500 920 1,583
Profit sharing............................ 2,030 2,024 2,020 1,778 1,100
SERP...................................... 850 1,161 970 906 988
401(k).................................... 540 310 356 354 299
Other salaries and benefits............... 408 313 1,390 339 1,559
---------- ---------- ----------- ---------- ----------
33,484 32,627 29,682 26,444 26,664
---------- ---------- ----------- ---------- ----------
Occupancy:
Rent...................................... 4,690 4,673 4,439 4,539 4,395
Equipment................................. 1,378 1,836 1,971 2,318 2,145
Maintenance costs......................... 904 879 914 571 469
Other occupancy........................... 1,199 1,169 978 603 850
---------- ---------- ----------- ---------- ----------
8,171 8,557 8,302 8,031 7,859
---------- ---------- ----------- ---------- ----------
Other Operating Expense:
Insurance................................. 648 690 582 541 430
Amortization of core deposit intangible... 1,995 1,962 1,564 1,965 452
Data processing........................... 2,905 2,838 2,490 2,488 1,930
Contributions............................. 409 363 450 518 299
Professional services..................... 201 195 207 301 8
Legal expenses............................ 1,103 2,888 1,393 632 3,516
OTS assessments........................... 667 708 653 568 567
Federal deposit insurance premiums........ 394 438 418 538 1,236
Other operating costs..................... 5,297 5,568 5,633 4,822 4,334
---------- ---------- ----------- ---------- ----------
13,619 15,650 13,390 12,373 12,772
---------- ---------- ----------- ---------- ----------
Advertising.................................... 315 1,378 1,800 1,417 1,864
---------- ---------- ----------- ---------- ----------
Total........................................$ 55,589 $ 58,212 $ 53,174 $ 48,265 $ 49,159
========== ========== =========== ========== ==========
Non-interest expense as
% of average assets........................ 1.24% 1.31% 1.17% 1.17% 1.30%
========== ========== =========== ========== ==========
30
BALANCE SHEET ANALYSIS
Consolidated assets at the end of 2003 were $4.8 billion, representing a
13% increase from $4.3 billion at the end of 2002 and a 2% increase from $4.7
billion at the end of 2001. The increase in assets during 2003 is attributable
to increased loan origination activity. Loan originations totaled $2.3 billion
in 2003, $1.3 billion in 2002 and $1.5 billion in 2001. Loan purchases totaled
$500 thousand during 2003, $89 thousand during 2002 and $132.6 million during
2001. Principal repayments on loans totaled $1.7 billion during 2003, $1.5
billion during 2002 and $1.3 billion during 2001.
Real Estate Loan Portfolio
At the end of 2003, 37.6% of the Bank's loans had adjustable interest rates
based on monthly changes in the COFI, 22.1% were based on the 12MAT Index and
15.9% were based on the CODI. As part of its asset-liability management
strategy, the Bank has maintained a high level of adjustable loans in its
portfolio for several years. During 2003, the Bank focused on marketing
adjustable loans based on the CODI. At December 31, 2003, CODI loans comprised
15.9% of the loan portfolio. Management believes that the high level of
adjustable rate mortgages will help insulate the Bank from fluctuations in
interest rates, notwithstanding the several month time lag between a change in
its monthly cost of funds and a corresponding change in its loan yields. See
"--Asset - Liability Management--."
The Bank also originates adjustable rate loans with initial fixed interest
rates with periods ranging from 3 to 10 years. By policy, the Bank will either
match the fixed rate period of these loans with borrowings for the same term or
will hold unmatched fixed rate loans in its portfolio up to 5% of total assets.
Management believes that the limited origination of these hybrid fixed-rate
loans will enhance the Company's overall return on assets. Loans originated
under the hybrid programs totaled $434.3 million in 2003, $419.7 million in 2002
and $1.0 billion in 2001.
The following table summarizes loan originations and purchases by loan type for
the periods indicated:
December 31,
2003 2002
--------------- --------------
(In thousands)
Fixed.........................................................$ 64,120 $ 110,154
Hybrid........................................................ 434,314 419,690
Adjustable:
12MAT......................................................... 817,217 303,443
CODI.......................................................... 745,507 20,082
COFI.......................................................... 158,368 383,852
LIBOR......................................................... 2,350 20,887
Prime......................................................... 53,154 30,664
------------- ------------
Total.....................................................$ 2,275,030 $ 1,288,772
============= ============
In 2003, 2002 and 2001, the Bank placed $760 thousand, $1.4 million and
$5.0 million, respectively, in mortgages with other lenders under fee
arrangements. These loans are not included in the Bank's loan originations. In
2003, loans made on the security of single-family properties (one-to-four units)
comprised 75% of the dollar amount of new loan originations. Loans made on the
security of multi-family properties (five or more units) comprised 21% of new
originations. Loans made on the security of commercial real estate properties
comprised 2% of new loan originations. Business loans originated by the
commercial lending units totaled 1% of new loan originations. Adjustable rate
mortgages comprised 78% of new loan activity during 2003 compared with 59%
during 2002 and 18% during 2001.
31
The following table details loan originations and loan purchases by loan
type for the periods indicated:
Loan Originations and Purchased by Type
Year Ended December 31,
----------------------------------------------------------------------
2003 2002 2001 2000 1999
----------- ----------- ----------- ----------- ---------
(In thousands)
Single family (one-to-four units)......$ 1,712,584 $ 728,309 $ 912,974 $ 658,808 $ 779,698
Multi-family........................... 470,426 441,407 407,458 333,466 118,622
Commercial real estate................. 35,237 84,050 150,735 70,807 37,744
Commercial business loans.............. 31,581 17,572 16,172 11,759 7,768
Other.................................. 25,702 17,434 14,996 6,170 301
----------- ----------- ----------- ----------- ---------
Total..................................$ 2,275,530 $ 1,288,772 $ 1,502,335 $ 1,081,010 $ 944,133
=========== =========== =========== =========== =========
No loans were originated upon the sale of real estate owned during 2003 or
2001. Loans originated upon the sale of real estate owned totaled $375 thousand
during 2002.
The Bank's loan products may provide for initial monthly payments that are
calculated based on pay rates that are lower than the fully-indexed interest and
principal due. Any interest not fully paid by such lower first year payments is
added to the principal balance of the loan. This, as well as shortfalls
resulting from a 7 1/2 % annual payment cap, causes negative amortization until
payments increase to cover interest and principal repayment shortfalls. Due to
negative amortization, loan-to-value ratios may increase above those calculated
at the inception of the loan.
The Bank does not normally lend in excess of 90% of the appraised
collateral value on adjustable mortgage loans ("AMLs"). Where the Bank does lend
in excess of 90% of the appraised value, additional fees and rates are charged.
Mortgage insurance is required on loans in excess of 80% or premium rates and/or
fees are charged if the mortgage insurance requirement is waived. Subsequent to
the origination of a loan, the Bank may purchase private mortgage insurance with
its own funds. Loans originated with an initial loan-to-value greater than 80%
with no private mortgage insurance totaled $486.7 million at December 31, 2003
compared to $159.7 million at December 31, 2002 and $354.5 million at December
31, 2001. See "--Business - Interest Rates, Terms and Fees--."
Loan Composition
Loans based on the security of single-family properties (one-to-four units)
comprise the largest category of the Bank's loan portfolio. The loan portfolio
also includes loans secured by multi-family and commercial and industrial
properties. At December 31, 2003, 55% of the loan portfolio consisted of first
liens on single-family properties while first liens on multi-family properties
were 35% of the portfolio, and first liens on commercial properties represented
8% of the portfolio. Commercial business loans, construction loans, consumer
loans and other loans comprised the remaining 2% of the loan portfolio at
December 31, 2003.
32
The following table sets forth the composition of the Bank's portfolio
of loans and mortgage-backed securities for each of the last five years:
Year Ended December 31,
----------------------------------------------------------------------
2003 2002 2001 2000 1999
----------- ---------- ----------- ----------- -----------
(In thousands)
REAL ESTATE LOANS
First trust deed residential loans:
One-to-four units......................$ 2,456,971 $ 1,723,690 $ 2,121,899 $ 2,158,940 $ 1,813,783
Five or more units..................... 1,547,771 1,646,430 1,525,749 1,308,440 1,123,308
----------- ---------- ----------- ----------- -----------
Residential loans................. 4,004,742 3,370,120 3,647,648 3,467,380 2,937,091
OTHER REAL ESTATE LOANS
Commercial and industrial.............. 345,273 419,273 358,159 217,619 183,194
Construction........................... 9,053 6,927 38,060 -- --
Land................................... -- 203 1,481 -- --
Second trust deeds..................... 7,281 5,965 9,472 8,543 13,489
----------- ---------- ----------- ----------- -----------
Real estate loans.................... 4,366,349 3,802,488 4,054,820 3,693,542 3,133,774
NON-REAL ESTATE LOANS:
Manufactured housing................... -- -- -- 391 613
Deposit accounts....................... 649 1,185 1,267 576 683
Commercial business loans.............. 34,424 19,582 18,882 12,600 8,140
Consumer loans......................... 49,738 35,395 19,546 6,555 593
----------- ---------- ----------- ----------- -----------
Loans receivable..................... 4,451,160 3,858,650 4,094,515 3,713,664 3,143,803
LESS:
General valuation allowance............ 75,238 75,223 72,919 70,809 69,954
Impaired loan valuation allowance...... 496 496 1,850 1,792 2,596
Unearned loan fees..................... 1,314 13,696 14,857 11,779 10,706
----------- ---------- ----------- ----------- -----------
Net loans receivable (1)............. 4,374,112 3,769,235 4,004,889 3,629,284 3,060,547
FHLMC AND FNMA MORTGAGE-BACKED
SECURITES (at fair value):
Secured by single family dwellings..... 128,465 192,395 272,419 360,210 412,469
Secured by multi-family dwellings...... 6,711 8,190 11,660 14,195 16,172
----------- ---------- ----------- ----------- -----------
Mortgage-backed securities........ 135,176 200,585 284,079 374,405 428,641
----------- ---------- ----------- ----------- -----------
TOTAL $ 4,509,288 $ 3,969,820 $ 4,288,968 $ 4,003,689 $ 3,489,188
=========== ========== =========== =========== ===========
(1) Includes loans held-for-sale.
Unearned loan fees decreased to $1.3 million at December 31, 2003 from
$13.7 million at December 31, 2002 due to the high volume of wholesale loans
originated during 2003. Wholesale loans typically have deferred origination
costs in excess of loan origination income.
Loans Sold with Recourse
The Bank has loss exposure on certain loans sold with recourse. These loans
are substantially all secured by multi-family properties. Loans sold with
recourse totaled $91.0 million as of December 31, 2003, $108.6 million as of
December 31, 2002 and $137.2 million as of December 31, 2001. Although no longer
owned by the Bank, these loans are evaluated for the purposes of computing the
repurchase liability and measuring risk exposure for regulatory capital. Under
the Bank's current policy, it no longer enters into loans sold with recourse
agreements.
33
ASSET QUALITY
Asset Quality Ratios
The following table sets forth certain asset quality ratios of the Bank for
the periods indicated:
Year Ended December 31,
--------------------------------------------------------------------
2003 2002 2001 2000 1999
---------- ----------- ----------- ---------- -----------
Non-performing loans to gross loans
receivable (1)................................ 0.08% 0.17% 0.16% 0.17% 0.42%
Non-performing assets to total assets (2)....... 0.10% 0.17% 0.17% 0.19% 0.40%
Loan loss allowances to non-performing
loans (3)..................................... 2,266% 1,126% 1,151% 1,160% 528%
General loss allowances to gross loans
receivable (4)................................ 1.70% 1.96% 1.83% 1.95% 2.31%
(1) Non-performing loans are net of valuation allowances related to those
loans. Loans receivable are before deducting unrealized loan fees,
general valuation allowances and valuation allowances for impaired loans.
(2) Non-performing assets are net of valuation allowances related to those
assets.
(3) The Bank's loan loss allowances, including any valuation allowances for
non-performing loans, impaired loans and the general valuation allowance.
Non-performing loans are before deducting valuation allowances related to
those loans.
(4) The Bank's general valuation allowances plus the allowance for impaired
loans as a percentage of loans receivable before deducting unrealized
loan fees, general valuation allowances and valuation allowances for
impaired loans.
NON-PERFORMING ASSETS
Non-performing assets, as defined by the Bank, include loans delinquent
over 90 days or in foreclosure, real estate acquired in settlement of loans, and
other loans less than 90 days delinquent but for which collectibility is
questionable.
The table below details the amounts of non-performing assets by type of
collateral. Also shown is the ratio of non-performing assets to total assets.
Non-Performing Assets
December 31,
----------------------------------------------------------------------------------------------------------
2003 2002 2001 2000 1999
------------------ ------------------ ----------------- ----------------- ------------------
$ % $ % $ % $ % $ %
------- ------- ------- ------- ------- ------ ------ ------ ------ -------
(Dollars in thousands)
Real estate owned:
Single family..........$ 1,324 28% $ 519 7% $ 1,671 21% $ 2,507 30% $ 1,069 7%
Multi-family........... -- -- -- -- 164 2 -- -- 1,483 10
Less: general
valuation allowance.. -- -- (200) (2) (350) (4) (350) (4) (350) (2)
------- ------- ------- ------- ------- ------ ------ ------ ------ -------
Total real estate owned 1,324 28 319 5 1,485 19 2,157 26 2,202 15
Non-performing loans:
Single family.......... 3,326 71 5,705 81 6,062 76 5,603 68 9,626 62
Multi-family........... -- -- 1,017 14 422 5 662 8 3,995 26
Commercial and 1
industrial........... -- -- -- -- -- -- -- -- 225
Other.................. 16 1 -- -- 16 1 -- -- -- --
Less: valuation
allowance............ -- -- -- -- (57) (1) (123) (2) (625) (4)
------- ------- ------- ------- ------- ------ ------ ------ ------ -------
Total non-performing
loans................ 3,342 72 6,722 95 6,443 81 6,142 74 13,221 85
------- ------- ------- ------- ------- ------ ------ ------ ------ -------
Total..................$ 4,666 100% $ 7,041 100% $ 7,928 100% $ 8,299 100% $ 15,423 100%
======= ======= ======= ======= ======= ====== ====== ====== ====== =======
Ratio of
non-performing
assets to total
assets............... 0.10% 0.17% 0.17% 0.19% 0.40%
======= ======= ====== ====== =======
The decrease in non-performing loans over the last several years is due to
reductions in delinquent loans and non-performing loans due to continued
strength in the Southern California real estate markets.
34
Single-family non-performing loans are primarily due to factors such as
unemployment and declining personal income. Multi-family and commercial
non-performing loans are attributable primarily to factors such as declines in
occupancy rates, employment rates and rental rates. The Bank actively monitors
the status of all non-performing loans.
Impaired loans totaled $3.3 million, $1.6 million and $7.4 million, net of
related allowances of $496 thousand, $496 thousand and $1.9 million as of
December 31, 2003, 2002 and 2001, respectively. See "--Business - Non-accrual,
Past Due, Impaired and Restructured Loans--" for further discussion of impaired
loans.
The Bank's modified loans result primarily from temporary modifications of
principal and interest payments or an extension of maturity dates. Under these
arrangements, loan terms are typically reduced to no less than a required
monthly interest payment. Any loss of revenues under the modified terms would be
immaterial to the Bank. If the borrower is unable to return to scheduled
principal and interest payments at the end of the modification period,
foreclosure procedures are initiated, or, in certain circumstances, the
modification period is extended. As of December 31, 2003, the Bank had modified
loans totaling $5.7 million, net of loan loss allowances of $496 thousand. This
compares with $3.4 million and $7.4 million, net of allowances, as of December
31, 2002 and December 31, 2001 respectively. Modified loans included as impaired
loans totaled $3.3 million, $1.6 million and $6.4 million, net of valuation
allowances, as of December 31, 2003, 2002 and 2001, respectively. No modified
loans were 90 days or more delinquent as of December 31, 2003, 2002 or 2001.
CAPITAL RESOURCES AND LIQUIDITY
Liquidity Requirements
In July 2001, the OTS removed the regulation that required a savings
institution to maintain an average daily balance of liquid assets of at least
four percent of its liquidity base, and retained a provision requiring a savings
institution to maintain sufficient liquidity to ensure its safe and sound
operation. The determination of what constitutes safe and sound operation was
left to the discretion of management.
The Bank's strategy is to keep cash and liquid investments at a modest
level due to the availability of credit lines. After the repeal of the liquidity
regulation, the Bank's liquidity policy was modified to include unused borrowing
capacity in the definition of available liquidity. The Bank's current liquidity
policy requires that cash and cash equivalents, short-term investments and
unused borrowing capacity be maintained at a minimum level of 10% of the Bank's
liquidity base (defined as deposits and borrowings due within one year.) As of
December 31, 2003, liquidity-qualifying balances were 13.54% of the Bank's
liquidity base.
External Sources of Funds
External sources of funds include deposits, loan sales, advances from the
FHLB and reverse repurchase agreements ("reverse repos"). For purposes of
funding asset growth, the source or sources of funds with the lowest total cost
for the desired term are generally selected. The incremental source of funds
used most often during the last three years were advances from the FHLB.
Deposits are accepted from full-service banking branches, national deposit
brokers ("brokered deposits") and telemarketing sources. The cost of funds,
operating margins and net earnings of the Bank associated with brokered and
telemarketing deposits are generally comparable to the cost of funds, operating
margins and net earnings of the Bank associated with deposits, FHLB borrowings
and repurchase agreements. As the cost of each source of funds fluctuates from
time to time, based on market rates of interest offered by the Bank and other
depository institutions, the Bank selects funds from the lowest cost source
until the relative costs change. As the cost of funds, operating margins and net
earnings of the Bank associated with each source of funds are generally
comparable, the Bank does not deem the impact of its use of any one of the
specific sources of funds at a given time to be material.
Deposits at full-service banking branches were $2.5 billion at December 31,
2003, $2.3 billion as of December 31, 2002 and $2.1 billion at December 2001.
Management attributes the increase in deposits over the last two years to
increased deposits from stock market investors wanting more security for their
investments due to price volatility in the stock market.
Deposits obtained from national brokerage firms ("brokered deposits") are
considered a source of funds similar to a borrowing. In evaluating brokered
deposits as a source of funds, the cost of these deposits, including commission
fees, is compared to other funding sources. The Bank had no brokered deposits at
December 31, 2003. This compares to $161.3 million at December 31, 2002 and
$356.8 million at December 31, 2001. Utilization of brokered deposits decreased
during 2003 due to the availability of cash from loan payoffs and growth in
full-service branch deposits.
35
Telemarketing deposits decreased by $49.0 million to $15.6 million at the
end of 2003. This compares with $64.6 million at the end of 2002 and $100.7
million at the end of 2001. These deposits are normally large deposits from
pension plans, managed trusts and other financial institutions. The level of
telemarketing deposits varies based on the activity of investors, who are
typically professional money managers. The availability of telemarketing
deposits also varies based on the investors' perception of the Bank's
creditworthiness. During 2003, the balance of telemarketing deposits decreased
as a result of cash flows from loan payoffs and growth in full-service branch
deposits.
Loan sales were $86.1 million in 2003. This compares to $134.2 million
during 2002 and $61.2 million during 2001. Loan sales increased during 2002 and
2001 due to the increased demand by clients for 30-year and 15-year fixed rate
mortgages which are originated by the Bank for sale to other financial
institutions.
FHLB advances were $1.7 billion at the end of 2003, $1.2 billion at the end
of 2002 and $1.6 billion at the end of 2001. Borrowings from the FHLB increased
during 2003 in order to fund loan originations which grew to $2.3 billion during
2003 compared to $1.3 billion during 2002. These funds were the most cost
effective in 2003 when compared to deposit broker and telemarketing funds.
Reverse repurchase agreements are short-term borrowings secured by
mortgage-backed and investment securities. These borrowings decreased to $122.6
million at the end of 2003 from $155.3 million at the end of 2002 and $211.0
million at the end of 2001. Borrowings under reverse repurchase agreements have
decreased over the last three years due to prepayments of the underlying
mortgage collateral. The Bank has not securitized any mortgage loans for use in
collateralized borrowings for several years.
Internal Sources of Funds
Internal sources of funds include loan principal payments, loan payoffs,
and positive cash flows from operations. Principal payments were $1.7 billion in
2003 compared to $1.5 billion in 2002 and $1.3 billion in 2001. Principal
payments include both scheduled principal paydowns and prepayments which are a
function of real estate activity and the general level of interest rates. The
increase in prepayments has been attributable to the low level of interest rates
available on 30-year and 15-year fixed rate loans available to customers.
The Company anticipates that it will have sufficient funds available to
fund current loan origination activity. At December 31, 2003, the Company has a
credit facility with the FHLB in the form of advances and lines of credit which
allow borrowings of up to 50% of the Bank's assets as computed for regulatory
purposes. At December 31, 2003, this amounted to approximately $2.4 billion. At
December 31, the Company had $1.7 billion in advances from the FHLB.
Certificates of deposits which have contractual maturities of one year or less
from December 31, 2003, totaled $435.2 million. If a significant portion of the
maturing certificates are not renewed at maturity, the Company's other sources
of liquidity include principal and interest payments on loans, proceeds from
loan sales and other borrowings, such as reverse repurchase transactions. The
Company could also choose to pay higher rates to maintain maturing deposits,
which could result in an increased cost of funds. Historically, the Company has
retained a significant portion of maturing deposits. While management
anticipates that there may be some outflow of these deposits upon maturity due
to the current competitive rate environment, these are not expected to have a
material impact on the long-term liquidity position of the Company.
The table below details the amounts of the Company's contractual
obligations by maturity at December 31, 2003.
Payments due by period
------------------------------------------------------------------------------
Less than More than
Total 1 year 1 - 3 years 3 - 5 years 5 years
------------- ------------- ------------ ------------ -------------
(In thousands)
Fixed-rate term certificates..........$ 569,127 $ 435,161 $ 116,672 $ 17,294 $ --
FHLB advances......................... 1,694,000 1,082,000 492,000 95,000 25,000
Reverse repurchase agreements......... 122,622 122,622 -- -- --
Operating lease obligations........... 20,417 4,262 7,825 6,087 2,243
----------- ----------- ----------- ---------- -----------
Total.................................$ 2,406,166 $ 1,644,045 $ 616,497 $ 118,381 $ 27,243
=========== =========== =========== ========== ===========
36
Capital Requirements
Current OTS regulatory capital standards require that the Bank maintain
tangible capital of at least 1.5% of total assets, core capital of 4.0% of total
assets, and risk-based capital of 8.0% of total risk-weighted assets. Among
other things, failure to comply with these capital standards will result in
restrictions on asset growth and necessitate the preparation of a capital plan,
subject to regulatory approval. Generally, any institution with a risk-based
capital ratio in excess of 10% and a core capital ratio greater than 5% is
considered "well-capitalized" for regulatory purposes. Institutions who maintain
this capital level can utilize brokered deposits at their discretion.
Additionally, if they achieve a sufficient ranking on their regulatory
examination, they may be assessed lower deposit insurance premiums.
Management presently intends to maintain its capital position at levels
above those required by regulators to ensure operating flexibility and growth
capacity for the Bank. The Bank's capital position is actively monitored by
management. The Bank met the regulatory capital standards to be deemed
"well-capitalized" for purposes of the various regulatory measures of capital
including the prompt corrective action regulations.
The following table summarizes the capital ratios of the "well capitalized"
category and the Bank's regulatory capital position at December 31, 2003 as
compared to such ratios. As indicated in the table, the Bank's capital levels
exceeded the three minimum capital ratios of the "well capitalized" category:
December 31, 2003
Amount %
--------- ------
(Dollars in thousands)
Core capital requirement.......................... $240,848 5.00%
Bank's core capital............................... 408,524 8.48
-------- ------
Excess core capital............................. $167,676 3.48%
======== ======
Tier 1 risk-based capital requirement............. $167,254 6.00%
Bank's tier 1 risk-based capital.................. 408,524 14.66
-------- -----
Excess tier 1 risk-based capital................ $241,270 8.66%
======== ======
Risk-based capital requirement.................... $278,757 10.00%
Bank's risk-based capital......................... 443,867 15.92
-------- -----
Excess risk-based capital....................... $165,110 5.92%
======== ======
37
ITEM 7A -- QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
ASSET-LIABILITY MANAGEMENT
The Bank's primary objective in managing interest rate risk is to minimize
the adverse impact of changes in interest rates on the Bank's net interest
income and capital, while, at the same time, adjusting the Bank's
asset-liability mix to achieve the most favorable impact on earnings.
The Bank's asset-liability management policy is designed to improve the
balance between the maturities and repricings of interest-earning assets and
interest-bearing liabilities in order to better insulate net earnings from
interest rate fluctuations. Under this program, the Bank emphasizes the funding
of monthly adjustable mortgages with short-term savings and borrowings and
matching the maturities of these assets and liabilities. The Bank also
originates adjustable rate loans with initial fixed interest rates for periods
ranging from 3 to 10 years. By policy, the Bank will either match the fixed rate
period of these loans with borrowings for the same term or will hold unmatched
fixed rate loans in its portfolio up to 5% of total assets.
At the end of 2003, 37.6% of the Bank's loans had adjustable interest rates
based on monthly changes in the COFI, 22.1% were based on the 12MAT Index and
15.9% were based on the CODI. Comparisons over the last several years show that
changes in the Bank's cost of funds generally correlate with changes in these
indices. The Bank does not use any futures, options or swaps in its
asset-liability strategy.
Assets and liabilities that are subject to repricing are considered rate
sensitive. The mis-match in the repricing of rate sensitive assets and
liabilities is referred to as a company's "GAP." The GAP is positive if
rate-sensitive assets exceed rate-sensitive liabilities for any specified
repricing term. Generally, a positive GAP benefits a company during periods of
increasing interest rates. The reverse is true during periods of decreasing
interest rates. The indices used by the Bank's real estate loans lag changes in
interest rates from 60 to 90 days while prime-based business loans re-price
immediately. However, the Bank's short-term savings and borrowing costs adjust
quickly causing net interest income to initially decrease during periods of
rising interest rates and increase during periods of declining interest rates.
The movement of interest rates, whether up or down, cannot be accurately
predicted and could have a negative impact on the earnings of the Bank.
The following table shows the interest sensitivity of the Bank's assets and
liabilities by repricing period at December 31, 2003 and the consolidated GAP
position as a percentage of total assets at that time:
INTEREST-SENSITIVITY GAP
--------------------------------------------------------------------------
Balances Balances Balances
Balances Repricing Repricing Repricing
Total Balance Repricing Within 1-3 Within 4-10 After
Within 1 Year Years Years 10 Years
------------ ------------ ----------- ----------- ------------
(Dollars in thousands)
Interest-earning assets:
FHLB and other interest-earning deposits..... $ 16,836 $ 16,836 $ -- $ -- $ --
Investment securities, at fair value......... 116,411 8,371 15,594 15,887 76,559
Mortgage-backed securities, at fair value.... 135,176 135,083 75 18 --
Loans receivable............................. 4,451,161 4,114,859 298,679 35,460 2,163
---------- ---------- --------- ---------- ----------
Total interest-earning assets.............. $ 4,719,584 $ 4,275,149 $ 314,348 $ 51,365 $ 78,722
========== ========== ========= ========== ==========
Interest-bearing liabilities:
Demand accounts.............................. $ 1,969,271 $ 1,969,271 $ -- $ -- $ --
Fixed rate term certificates................. 569,127 435,161 116,673 16,414 879
FHLB advances.............................. 1,694,000 1,082,000 492,000 120,000 --
Reverse repurchase agreements.............. 122,622 122,622 -- -- --
---------- ---------- --------- --------- ----------
Total interest-bearing liabilities........ $ 4,355,020 $ 3,609,054 $ 608,673 $ 136,414 $ 879
========== ========== ========= ========= ==========
Interest-sensitivity GAP....................... $ 364,564 $ 666,095 $ (294,325) $ (85,049) $ 77,843
========== ========== ========= ========== ==========
Interest-sensitivity GAP as a percentage of
total assets............................... 13.80% (6.10)% (1.78)% 1.61%
========== ========= ========== ==========
Cumulative interest-sensitivity GAP............ $ 666,095 $ 371,770 $ 286,721 $ 364,564
========== ========= ========== ==========
Cumulative interest-sensitivity GAP as a
percentage of total assets................. 13.80% 7.71% 5.94% 7.56%
========== ========= ========= =========
38
In order to minimize the impact of rate fluctuations on earnings,
management's goal is to keep the one-year GAP at less than 20% of total assets
(positive or negative). At December 31, 2003, the Bank's one-year GAP ratio was
a positive $666.1 million or 13.8% of total assets. This compares with a
positive GAP ratio of 6.1% of total assets at December 31, 2002 and a negative
GAP ratio of 6.1% of total assets at December 31, 2001. The increase in the
positive one-year GAP at December 31, 2003 from the GAP at December 31, 2002 is
due to an increase in the Bank's origination of monthly adjustable rate loans
and the early repayment of hybrid loans. The change to a positive one-year GAP
at December 31, 2002 from a negative GAP at December 31, 2001 was due to the
Bank extending the maturities of its FHLB advances in order to match the fixed
rate period of its hybrid loans.
Another measure of interest rate risk, that is required to be performed by
OTS-regulated institutions, is an analysis specified by OTS Thrift Bulletin
TB-13a, "Management of Interest Rate Risk, Investment Securities, and
Derivatives Activities". Under this regulation institutions are required to
establish limits on the sensitivity of their net interest income and net
portfolio value to changes in interest rates. Such changes in interest rates are
defined as instantaneous and sustained movements in interest rates in 100 basis
point increments.
The following table shows the estimated impact of a parallel shift in
interest rates on the Bank's net portfolio value at December 31, 2003 and
December 31, 2002:
Percentage
Change in Interest Rates Change in Net Portfolio Value(1)
(In Basis Points) 2003 2002
+300.......................... (14)% (12)%
+200.......................... (11)% (9)%
+100.......................... (8)% (5)%
--100......................... 9 % 10%
--200......................... --%(2) --%(2)
--300......................... --%(2) --%(2)
(1) The percentage change represents the projected change in the net portfolio
value of the Bank in a stable interest rate environment versus the net
portfolio value in the various rate scenarios. The OTS defines net
portfolio value as the present value of expected cash flows from existing
assets minus the present value of expected cash flows from existing
liabilities.
(2) A downward shift in interest rates of 200 basis points or 300 basis points
for both December 31, 2003 and December 31, 2002 levels would result in
negative interest rates in many cases. Therefore, modeling the impact of
such declines as of December 31, 2003 and December 31, 2002 is not
meaningful or practical.
39
The following table shows the contract terms and fair value of the Bank's
interest-earning assets and interest-bearing liabilities as of December 31, 2003
categorized by type and expected maturity for each of the next five years and
thereafter:
Expected Maturity Date as of December 31, (1)
--------------------------------------------------------------------------------------------------------
Total
2004 2005 2006 2007 2008 Thereafter Balance Fair Value
--------- ---------- ---------- -------- --------- --------- --------- -----------
(Dollars in thousands)
Interest-earning assets:
Loans receivable:
Adjustable rate loans:
Single family........ $ 775,676 $ 746,131 $ 481,073 $ 222,133 $ 108,626 $ 109,666 $ 2,443,305 $ 2,530,523
Average interest
rate................. 5.10% 4.96% 4.89% 4.83% 4.80% 4.78% 4.96%
Multi-family......... 460,170 389,175 273,129 158,868 93,750 151,094 1,526,186 1,582,830
Average interest
rate................. 5.10% 4.94% 4.89% 4.73% 4.61% 4.58% 4.90%
Commercial and
industrial........... 120,924 80,708 53,419 25,292 14,641 19,540 314,524 336,909
Average interest
rate................. 6.35% 6.01% 6.07% 5.50% 5.39% 4.99% 6.02%
Fixed rate loans:
Single family........ 7,087 4,281 1,662 462 126 47 13,665 14,610
Average interest
rate................. 6.81% 5.93% 5.78% 5.75% 5.73% 5.71% 6.36%
Multi-family......... 10,140 6,539 3,048 1,024 423 411 21,585 23,459
Average interest
rate................. 7.48% 7.10% 6.81% 6.59% 6.44% 6.51% 7.19%
Commercial and
industrial........... 16,512 8,137 3,614 1,588 542 356 30,749 33,807
Average interest
rate................. 7.60% 7.50% 7.86% 7.80% 7.98% 8.20% 7.63%
Commercial business
loans................ 7,675 8,681 9,184 8,884 -- -- 34,424 35,373
Average interest
rate................. 5.64% 5.64% 5.64% 5.64% -- -- 6.23%
Construction loans... 4,540 4,513 -- -- -- -- 9,053 9,370
Average interest 8.50% 8.50% -- -- -- -- 8.50%
rate.................
Consumer loans....... 57,562 8 9 10 11 70 57,670 49,998
Average interest
rate................. 5.00% 9.00% 9.00% 9.00% 9.00% 9.00% 5.01%
Mortgage-backed
securities:
Adjustable: 56,386 32,389 19,127 11,266 6,617 9,206 134,991 134,991
Average interest
rate................. 2.92% 2.92% 2.92% 2.92% 2.92% 2.92% 2.92%
Fixed: 91 50 26 13 5 -- 185 185
Average interest
rate................. 8.00% 8.00% 8.00% 8.00% 8.00% -- 8.00%
Investment securities,
overnight
investments and
interest-bearing
deposits: 18,121 1,149 1,191 1,201 1,067 110,518 133,247 133,247
Average interest
rate................. 0.96% 3.62% 3.64% 3.59% 3.17% 3.25% 2.94%
--------- ---------- ---------- -------- -------- --------- --------- ---------
Total interest-earning
assets............... $ 1,534,884 $ 1,281,761 $ 845,482 $ 430,741 $ 225,808 $ 400,908 $ 4,719,584 $ 4,885,302
========= ========= ========= ======== ======== ========= ========= =========
Interest-bearing
liabilities:
Deposits:
Checking accounts.... $ 471,604 $ -- $ -- $ -- $ -- $ -- $ 471,604 $ 471,604
Average interest
rate................. 0.10% -- -- -- -- -- 0.10%
Savings accounts..... 1,497,667 -- -- -- -- -- 1,497,667 1,497,667
Average interest
rate................. 1.41% -- -- -- -- -- 1.41%
Certificate accounts. 434,853 85,564 31,108 6,748 8,881 1,973 569,127 578,754
Average interest
rate................. 1.49% 3.72% 2.96% 4.32% 3.19% 3.14% 1.97%
Borrowings:
FHLB advances........ 1,082,000 212,000 280,000 85,000 10,000 25,000 1,694,000 1,721,309
Average interest
rate................. 2.16% 3.55% 4.30% 4.56% 5.43% 6.06% 2.88%
Reverse repurchase
agreements........... 122,622 -- -- -- -- -- 122,622 122,581
Average interest
rate................. 1.12% -- -- -- -- -- 1.12%
--------- --------- ---------- -------- -------- --------- --------- ---------
Total interest-bearing
liabilities.......... $ 3,608,746 $ 297,564 $ 311,108 $ 91,748 $ 18,881 $ 26,973 $ 4,355,020 $ 4,391,915
========= ========= ========== ======== ======== ========= ========= =========
(1) Expected maturities are contractual maturities adjusted for prepayments of
principal. The Bank uses certain assumptions to estimate fair values and
expected maturities. For assets, expected maturities are based upon
contractual maturity, projected repayments and prepayments of principal.
The prepayment experience used is based on the Bank's historical
experience. The Bank's average CPR (Constant Prepayment Rate) is 48% for
the single-family portfolio and 36% for its multi-family and commercial
real estate portfolios. For fixed rate loans, the Bank's average CPR is 72%
and 48% respectively. The Bank used estimated deposit runoff based on
available industry information.
40
STOCK PRICES
The common stock of FirstFed Financial Corp. is traded on the New York
Stock Exchange under the trading symbol "FED". The quarterly high and low
information presented below is based on information supplied by the New York
Stock Exchange.
The Company has never declared or paid a cash dividend to its stockholders.
As of February 1, 2004, there remain 1,348,677 shares eligible for
repurchase under the Company's stock repurchase program. The Company repurchased
33,800 and 353,000 shares of its common stock at average prices of $28.53 and
$25.02 during 2003 and 2002, respectively. No shares were repurchased during
2001.
PRICE RANGE OF COMMON STOCK
First Quarter Second Quarter Third Quarter Fourth Quarter
High Low High Low High Low High Low
2003 $31.30 $26.41 $35.57 $29.86 $41.50 $34.77 $49.05 $39.93
2002 27.00 24.58 29.90 26.26 28.89 23.89 29.15 23.92
2001 32.06 26.25 31.00 28.00 36.30 24.00 25.95 21.90
2000 16.63 11.88 14.56 11.69 23.00 14.06 33.13 21.31
1999 18.00 15.56 20.00 15.31 17.81 15.00 18.50 12.81
41
ITEM 8 -- FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
FIRSTFED FINANCIAL CORP. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
(Dollars in thousands, except share data)
December 31, December 31,
2003 2002
--------------- -----------------
ASSETS
Cash and cash equivalents........................................ $ 54,318 $ 45,199
Investment securities, available-for-sale (at fair value)
($11,347 and $0 pledged) (Notes 2 and 10)..................... 116,411 103,055
Mortgage-backed securities, available-for-sale (at fair value)
($114,360 and $151,775 pledged) (Notes 3 and 10).............. 135,176 200,585
Loans receivable, held-for-sale (fair value of $494 and $2,300)
(Note 4)....................................................... 492 2,293
Loans receivable, net (Notes 4 and 9)............................ 4,373,620 3,766,942
Accrued interest and dividends receivable........................ 16,941 17,752
Real estate, net (Note 5)........................................ 1,324 347
Office properties and equipment, net (Note 6).................... 10,568 10,342
Investment in Federal Home Loan Bank (FHLB) stock, at cost
(Notes 7 and 9)................................................ 87,775 78,728
Other assets..................................................... 28,397 28,486
--------------- -----------------
$ 4,825,022 $ 4,253,729
=============== =================
LIABILITIES
Deposits (Note 8)................................................ $ 2,538,398 $ 2,527,026
FHLB advances (Notes 7 and 9) ................................... 1,694,000 1,167,000
Securities sold under agreements to repurchase (Note 10)......... 122,622 155,273
Accrued expenses and other liabilities........................... 33,435 32,789
--------------- -----------------
4,388,455 3,882,088
--------------- -----------------
COMMITMENTS AND CONTINGENT LIABILITIES
(Notes 1, 4, 6 and 13)
STOCKHOLDERS' EQUITY (Notes 12 and 13)
Common stock, par value $.01 per share;
Authorized 100,000,000 shares; issued 23,543,339 and 23,395,202
shares, outstanding 17,045,643 and 16,931,306 shares.............. 235 234
Additional paid-in capital.......................................... 37,733 35,680
Retained earnings - substantially restricted..................... 483,360 418,885
Unreleased shares to employee stock
ownership plan ................................................ (125) (597)
Treasury stock, at cost, 6,497,696 and 6,463,896 shares.......... (85,727) (84,762)
Accumulated other comprehensive earnings, net of taxes........... 1,091 2,201
--------------- -----------------
436,567 371,641
--------------- -----------------
$ 4,825,022 $ 4,253,729
=============== =================
See accompanying notes to consolidated financial statements
42
FIRSTFED FINANCIAL CORP. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF OPERATIONS AND COMPREHENSIVE EARNINGS
YEARS ENDED DECEMBER 31, 2003, 2002 AND 2001
(Dollars in thousands, except per share data)
2003 2002 2001
-------------- -------------- --------------
Interest income:
Interest on loans....................................... $ 224,779 $ 243,716 $ 298,942
Interest on mortgage-backed securities.................. 5,328 9,154 19,803
Interest and dividends on investments................... 5,774 11,008 15,187
-------------- -------------- --------------
Total interest income................................ 235,881 263,878 333,932
-------------- -------------- --------------
Interest expense:
Interest on deposits (Note 8)........................... 39,104 60,808 94,568
Interest on borrowings (Notes 9 and 10)................. 49,238 67,611 107,186
-------------- -------------- --------------
Total interest expense............................... 88,342 128,419 201,754
-------------- -------------- --------------
Net interest income.......................................... 147,539 135,459 132,178
Provision for loan losses (Note 4)...................... -- -- --
-------------- -------------- --------------
Net interest income after provision for loan losses.......... 147,539 135,459 132,178
-------------- -------------- --------------
Non-interest income:
Loan servicing and other fees........................... 7,990 4,325 3,319
Banking service fees.................................... 5,095 4,604 3,791
Gain on sale of loans................................... 2,444 7,806 656
Real estate operations, net (Note 5).................... 780 339 304
Other operating income.................................. 432 1,000 849
-------------- -------------- --------------
Total other income................................... 16,741 18,074 8,919
-------------- -------------- --------------
Non-interest expense:
Salaries and employee benefits (Note 13)................ 33,484 32,627 29,682
Occupancy (Note 6)...................................... 8,171 8,557 8,302
Advertising............................................. 315 1,378 1,800
Amortization of core deposit intangible................. 1,995 1,962 1,564
Federal deposit insurance............................... 394 438 418
Legal................................................... 1,103 2,888 1,393
Other operating expense................................. 10,127 10,362 10,015
-------------- -------------- --------------
Total non-interest expense........................... 55,589 58,212 53,174
-------------- -------------- --------------
Earnings before income taxes................................. 108,691 95,321 87,923
Income taxes (Note 11)....................................... 44,216 40,149 37,621
-------------- -------------- --------------
Net earnings................................................. $ 64,475 $ 55,172 $ 50,302
============== ============== ==============
Other comprehensive earnings (loss):
Unrealized earnings (loss) on mortgage-backed
securities and securities available-for-sale, net of taxes (1,110) (790) 5,149
-------------- -------------- --------------
Comprehensive earnings....................................... $ 63,365 $ 54,382 $ 55,451
============== ============== ==============
Earnings per share: (Notes 12 and 15)
Basic................................................... $ 3.80 $ 3.22 $ 2.92
============== ============== ==============
Diluted................................................. $ 3.70 $ 3.15 $ 2.85
============== ============== ==============
Weighted average shares outstanding:
Basic................................................... 16,986,725 17,149,712 17,234,591
============== ============== ==============
Diluted................................................. 17,407,459 17,506,129 17,645,647
============== ============== ==============
See accompanying notes to consolidated financial statements
43
FIRSTFED FINANCIAL CORP. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
YEARS ENDED DECEMBER 31, 2003, 2002 AND 2001
(Dollars in thousands, except share data)
Accumulated Other
Retained Unreleased Comprehensive
Earnings Shares to Earnings
Additional (Substantially ESOP (Loss), Net of
Common Paid-In Restricted) (Notes 12 Treasury Taxes (Notes 2
Stock Capital Note 12) and 13) Stock and 3) Total
------- --------- ------------ ---------- --------- --------------- --------
Balance, December 31, 2000......... $ 233 $ 32,540 $ 313,411 $ (841) $ (75,743) $ (2,158) $ 267,442
Exercise of employee stock options. 1 764 -- -- -- -- 765
Net decrease in unreleased shares
to the ESOP.................... -- 1,179 -- 841 -- -- 2,020
Unrealized gain on securities
available-for-sale, net of taxes -- -- -- -- -- 5,149 5,149
Restricted common stock forfeited.. -- 187 -- -- (187) -- --
Net earnings 2001.................. -- -- 50,302 -- -- -- 50,302
-------- -------- ------------ --------- --------- --------------- ---------
Balance, December 31, 2001......... 234 34,670 363,713 -- (75,930) 2,991 325,678
Exercise of employee stock options. -- 407 -- -- -- -- 407
Net decrease in unreleased shares
to the ESOP.................... -- -- -- (597) -- -- (597)
Benefit from stock option tax
adjustment...................... -- 603 -- -- -- -- 603
Unrealized loss on securities
available-for-sale, net of taxes -- -- -- -- -- (790) (790)
Common stock repurchased (353,000)
shares.......................... -- -- -- -- (8,832) -- (8,832)
Net earnings 2002.................. -- -- 55,172 -- -- -- 55,172
-------- ------- ------------ --------- --------- --------------- ---------
Balance, December 31, 2002......... 234 35,680 418,885 (597) (84,762) 2,201 371,641
Exercise of employee stock options. 1 1,828 -- -- -- -- 1,829
Net increase in unreleased shares
to the ESOP.................... -- -- -- 472 -- -- 472
Benefit from stock option tax
adjustment...................... -- 225 -- -- -- -- 225
Unrealized loss on securities
available-for-sale, net of taxes -- -- -- -- -- (1,110) (1,110)
Common stock repurchased (33,800)
shares.......................... -- -- -- -- (965) -- (965)
Net earnings 2003.................. -- -- 64,475 -- -- -- 64,475
-------- ------- ------------ --------- --------- --------------- ---------
Balance, December 31, 2003......... $ 235 $ 37,733 $ 483,360 $ (125) $ (85,727) $ 1,091 $ 436,567
======== ======= ============ ========= ========= =============== =========
See accompanying notes to consolidated financial statements
44
FIRSTFED FINANCIAL CORP. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS
YEARS ENDED DECEMBER 31, 2003, 2002 AND 2001
(In thousands)
2003 2002 2001
------------ ------------ ------------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net earnings................................................. $ 64,475 $ 55,172 $ 50,302
Adjustments to reconcile net earnings to
net cash provided by operating activities:
Net change in loans held-for-sale.......................... 1,801 2,953 (3,000)
Depreciation and amortization.............................. 1,371 1,652 1,919
Valuation adjustments on real estate sold.................. (68) (265) (525)
Amortization of fees and discounts......................... 2,009 3,926 5,913
Decrease in servicing asset................................ 240 737 375
Change in taxes payable.................................... 6,617 (1,976) (1,738)
Decrease in interest and dividends receivable.............. 811 4,324 7,392
Decrease in interest payable............................... (3,298) (5,895) (13,855)
Amortization of core deposit intangible asset.............. 1,995 1,962 1,564
Increase in other assets................................... (13,844) (8,680) (6,442)
Decrease in accrued expenses and
other liabilities........................................ (726) (7,240) (1,575)
------------ ------------ ------------
Total adjustments........................................ (3,092) (8,502) (9,972)
------------ ------------ ------------
Net cash provided by operating activities................ 61,383 46,670 40,330
------------ ------------ ------------
CASH FLOWS FROM INVESTING ACTIVITIES:
Loans made to customers and principal
collections on loans .................................... (589,905) 232,998 (96,132)
Loans purchased............................................ (500) (89) (132,625)
Net change in unearned loan fees........................... (13,758) (5,104) 937
Proceeds from sales of real estate owned................... 884 3,500 4,968
Proceeds from maturities and principal payments of
investment securities, available-for-sale................ 134,037 87,120 48,962
Principal reductions on mortgage-backed securities,
available-for-sale....................................... 64,330 83,010 96,770
Purchases of investment securities,
available-for-sale....................................... (148,847) (80,855) (19,964)
Redemptions (purchases) of FHLB stock, net................. (5,787) 17,585 (4,025)
Other...................................................... -- -- (4,105)
Net cash from acquisitions................................. -- -- 17,680
------------ ------------ ------------
Net cash provided by (used in) investing activities...... (559,546) 338,165 (87,534)
------------ ------------ ------------
CASH FLOWS FROM FINANCING ACTIVITIES:
Net increase (decrease) in deposits........................ 11,372 (19,621) 206,824
Net increase (decrease) in short term borrowings........... 622,349 (613,767) (65,070)
Net Increase (decrease) in long term borrowings............ (128,000) 128,000 --
Purchases of treasury stock................................ (965) (8,832) --
Other...................................................... 2,526 413 1,944
------------ ------------ ------------
Net cash provided by (used in) financing activities 507,282 (513,807) 143,698
------------ ------------ ------------
Net increase (decrease) in cash and cash equivalents....... 9,119 (128,972) 96,494
Cash and cash equivalents at beginning of period........... 45,199 174,171 77,677
------------ ------------ ------------
Cash and cash equivalents at end of period................. $ 54,318 $ 45,199 $ 174,171
============ ============ ============
See accompanying notes to consolidated financial statements
45
FIRSTFED FINANCIAL CORP. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(1) Summary of Significant Accounting Policies
The following is a summary of the significant accounting policies of
FirstFed Financial Corp. ("Company") and its wholly-owned subsidiary First
Federal Bank of California ("Bank").
The preparation of the Company's financial statements in conformity with
Generally Accepted Accounting Principles in the United States of America
("GAAP") requires management to make estimates and assumptions that affect the
reported amounts of assets and liabilities and disclosures of contingent assets
and liabilities at the date of the financial statements and the reported
operations of the Company for the periods presented. Actual results may differ
from those estimates calculated by management.
Principles of Consolidation
The consolidated financial statements include the accounts of the Company
and its subsidiary, the Bank. The Bank maintains 29 full-service banking
branches in Southern California. The Bank's primary business consists of
attracting deposits and wholesale borrowings and using those funds to originate
loans secured by mortgages on real estate, consumer loans and business loans.
All significant inter-company balances and transactions have been eliminated in
consolidation. Certain items in the 2001 and 2002 consolidated financial
statements have been reclassified to conform to the 2003 presentation.
Statement of Cash Flows
For purposes of reporting cash flows, cash and cash equivalents include
cash, overnight investments and securities purchased under agreements to resell
with maturities within 90 days of the date of purchase.
Financial Instruments
GAAP requires the disclosure of the fair value of financial instruments,
whether or not recognized on the Statement of Financial Condition, whenever it
is practicable to estimate the value. A significant portion of the Bank's assets
and liabilities are financial instruments as defined under GAAP. Fair values,
estimates and assumptions are set forth in Note 16, Fair Value of Financial
Instruments.
Risks Associated with Financial Instruments
The credit risk of a financial instrument is the possibility that a loss
may result from the failure of another party to perform in accordance with the
terms of the contract. The most significant credit risk associated with the
Bank's financial instruments is concentrated in its loans receivable.
Additionally, the Bank is subject to credit risk on certain loans sold with
recourse. The Bank has established a system for monitoring the level of credit
risk in its loan portfolio and for loans sold with recourse.
The market risk of a financial instrument is the possibility that future
changes in market prices may reduce the value of a financial instrument or
increase the contractual obligations of the Bank. The Bank's market risk is
concentrated in its portfolios of loans receivable. When a borrower fails to
meet the contractual requirements of his or her loan agreement, the Bank is
subject to the market risk of the collateral securing the loan. Likewise, the
Bank is subject to the volatility of real estate prices with respect to real
estate acquired by foreclosure. The Bank's securities classified as
available-for-sale are traded in active markets. The value of these securities
is susceptible to the fluctuations of the market.
46
FIRSTFED FINANCIAL CORP. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(1) Summary of Significant Accounting Policies (continued)
Interest Rate Risk
Financial instruments are subject to interest rate risk to the extent that
they reprice on a frequency, degree or basis that varies from market pricing.
The Bank is subject to interest rate risk to the degree that its
interest-earning assets reprice on a different frequency or schedule than its
interest-bearing liabilities. A majority of the Bank's loans receivable tends to
lag market interest rates by 60 to 90 days. The Bank closely monitors the
pricing sensitivity of its financial instruments.
Concentrations of Credit Risk
Concentrations of credit risk would exist for groups of borrowers when they
have similar economic characteristics that would cause their ability to meet
contractual obligations to be similarly affected by changes in economic or other
conditions. The ability of the Bank's borrowers to repay their commitments is
contingent on several factors, including the economic condition in the
borrowers' geographic area and the individual financial condition of the
borrowers. The Company generally requires collateral or other security to
support borrower commitments on loans receivable. This collateral may take
several forms. Generally, on the Bank's mortgage loans, the collateral will be
the underlying mortgaged property. The Bank's lending activities are primarily
concentrated in Southern California. The Bank does not have significant exposure
to any individual customer.
Securities Purchased under Agreements to Resell
The Bank invests in securities purchased under agreements to resell
("repurchase agreements"). The Bank obtains collateral for these agreements,
which normally consists of U.S. treasury securities or mortgage-backed
securities guaranteed by agencies of the U.S. government. The collateral is held
in the custody of a trustee, who is not a party to the transaction. The duration
of these agreements is typically 1 to 30 days. The Bank deals only with
nationally recognized investment banking firms as the counterparties to these
agreements. The Bank's investment in repurchase agreements consisted solely of
securities purchased under agreements to resell identical securities.
Investments and Mortgage-Backed Securities
The Bank's investment in securities principally consists of U.S. Treasury
and agency securities and mortgage-backed securities. The Bank creates
mortgage-backed securities when it exchanges pools of its own loans for
mortgage-backed securities.
The Bank classifies all of its investments and mortgage-backed securities
as "available-for-sale" based upon a determination that such securities might be
sold at a future date or that there may be foreseeable circumstances under which
the Bank would sell such securities.
Securities designated as available-for-sale are recorded at fair value.
Changes in the fair value of such securities available-for-sale are included in
stockholders' equity as unrealized gains (losses) on securities
available-for-sale, net of taxes. Unrealized losses on available-for-sale
securities, reflecting a decline in value judged to be other than temporary, are
charged to earnings in the Consolidated Statements of Operations and
Comprehensive Earnings. Unrealized gains or losses on available-for-sale
securities are computed on a specific identification basis. Premiums and
discounts on investment securities available for sale are amortized utilizing
the interest method over the contractual term of the assets.
The Bank did not hold any trading securities at December 31, 2003 or 2002.
47
FIRSTFED FINANCIAL CORP. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(1) Summary of Significant Accounting Policies (continued)
Loans Held-for-Investment
The Bank's loan portfolio is primarily comprised of single-family
residential loans (one-to-four units), and multi-family loans (five or more
units). Loans are generally recorded at the contractual amounts owed by
borrowers, less unearned loan fees and allowances for loan losses.
Loans Held-for-Sale
The Bank identifies loans that foreseeably may be sold prior to maturity
and classifies them as held-for-sale. These loans are carried at the lower of
amortized cost or fair value on an aggregate basis by type of asset. For loans,
fair value is calculated on an aggregate basis as determined by current market
investor yield requirements.
Impaired Loans
The Bank evaluates loans for impairment whenever the collectibility of
contractual principal and interest payments is questionable. A loan is impaired
when, based on current circumstances and events, a creditor will be unable to
collect all amounts contractually due under a loan agreement. Large groups of
smaller balance homogenous loans that are collectively evaluated for impairment
are not subject to the evaluation of impairment on an individual basis.
When a loan is considered impaired, the Bank measures impairment based on
the present value of expected future cash flows (over a period not to exceed 5
years) discounted at the loan's effective interest rate. However, if the loan is
"collateral-dependent" or a probable foreclosure, impairment is measured based
on the fair value of the collateral. When the measure of an impaired loan is
less than the recorded investment in the loan, the Bank records an impairment
allowance equal to the excess of the Bank's recorded investment in the loan over
its measured value.
Cash payments received from impaired loans are recorded in accordance with
the contractual terms of the loan. The principal portion of the payment is used
to reduce the principal balance of the loan, whereas the interest portion is
recognized as interest income.
Non-Accrual Loans
The Bank establishes allowances for delinquent interest equal to the amount
of accrued interest on all loans 90 days or more past due or in foreclosure.
This practice effectively places such loans on non-accrual status for financial
reporting purposes. Loans are returned to accrual status only when the ultimate
collectibility of current interest is no longer in doubt.
Allowances for Loan Losses
The Bank maintains a general valuation allowance for loan losses for the
inherent risk in the loan portfolio which has yet to be specifically identified.
The allowance is not allocated to any specific loan. The allowance is maintained
at an amount that management believes adequate to cover estimable and probable
loan losses based on a risk analysis of the current portfolio. Additionally,
management performs periodic reviews of the loan portfolio to identify potential
problems and to establish impairment allowances if losses are expected to be
incurred. Additions to the allowances are charged to earnings. The regulatory
agencies periodically review the allowances for loan losses and may require the
Bank to adjust the allowances based on information available to them at the time
of their examination.
48
FIRSTFED FINANCIAL CORP. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(1) Summary of Significant Accounting Policies (continued)
General allowances are provided for all loans, regardless of any specific
allowances provided. The determination of the Bank's general allowance for loan
losses is based on estimates that are affected by changes in the regional or
national economy and market conditions. The Bank's management believes, based on
economic and market conditions, that the general allowance for loan losses is
adequate as of December 31, 2003 and 2002. Should there be an economic or market
downturn or if market interest rates increase significantly, the Bank could
experience a material increase in the level of loan defaults and charge-offs.
Loan Origination Fees and Costs
Loan origination fees and certain direct loan origination costs are
deferred and recognized over the lives of the related loans as an adjustment of
loan yields using the interest method. When a loan is repaid or sold, any
unamortized net deferred fee balance is included in the Bank's statement of
operations.
Gain or Loss on Sale of Loans
The Bank primarily sells its mortgage loans on a servicing released basis
and recognizes cash gains or losses immediately in its Statement of Operations
and Comprehensive Earnings. The Bank has previously sold mortgage loans and loan
participations on a servicing retained basis with yield rates to the buyer based
upon the current market rates which may differ from the contractual rate of the
loans sold. Under GAAP, servicing assets or liabilities and other retained
interests are required to be recorded as an allocation of the carrying amount of
the loans sold based on the estimated relative fair values of the loans sold and
any retained interests, less liabilities incurred. Servicing assets are
evaluated for impairment based on the asset's fair value. The Bank estimates
fair values by discounting servicing assets cash flows using discount and
prepayment rates that it believes market participants would use. Servicing
assets arising from the sale of loans are included in other assets and were
$296,000 and $536,000 at December 31, 2003 and 2002, respectively. No additional
servicing assets were originated in 2003, 2002 or 2001.
Core Deposit Intangible
Loans, deposits and other assets and liabilities assumed in connection with
acquisitions are accounted for under the purchase method of accounting. Assets
and liabilities are recorded at their fair values as of the date of the
acquisition and the excess cost over fair values of the assets and liabilities
is classified as a core deposit intangible asset. The Company adopted SFAS No.
142 effective January 1, 2002. Under the provisions of SFAS No. 142, the Company
amortizes these intangible assets on a straight- line basis over their estimated
useful lives which is seven years. The balance of core deposit intangible at
December 31, 2003 was $7,328,000. There was no impairment of the Company's core
deposit intangible as of December 31, 2003.
The following is a projection of estimated amortization of the core deposit
intangible at December 31, for the periods indicated (in thousands):
2004................................... $ 2,005
2005................................... 2,005
2006................................... 2,005
2007................................... 1,313
-------
$ 7,328
=======
49
FIRSTFED FINANCIAL CORP. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(1) Summary of Significant Accounting Policies (continued)
Real Estate
The Bank's real estate acquired in settlement of loans ("REO") consists of
property acquired through foreclosure proceedings or by deed in lieu of
foreclosure. Generally, all loans greater than 60 days delinquent are placed
into foreclosure and, if necessary, a valuation allowance is established. The
Bank acquires title to the property in most foreclosure actions that are not
reinstated by the borrower. Once real estate is acquired in settlement of a
loan, the property is recorded as REO at fair market value, less estimated
selling costs. Fair value is determined by an appraisal obtained at foreclosure.
The REO balance is adjusted for any subsequent declines in fair value through a
valuation allowance.
The recognition of gain on the sale of real estate is dependent on a number
of factors relating to the nature of the property, terms of sale, and any future
involvement of the Bank or its subsidiaries in the property sold. If a real
estate transaction does not meet certain down payment, cash flow and loan
amortization requirements, any gain would be deferred and recognized under an
alternative method.
Depreciation and Amortization
Depreciation of office properties and equipment is provided by use of the
straight-line method over the estimated useful lives of the related assets.
Amortization of leasehold improvements is provided by use of the straight-line
method over the lesser of the life of the improvement or the term of the lease.
Securities Sold Under Agreements to Repurchase
The Company enters into sales of securities under agreements to repurchase
("reverse repurchase agreements"). Reverse repurchase agreements are treated as
financing arrangements and, accordingly, the obligations to repurchase the
securities sold are reflected as liabilities in the consolidated financial
statements. The mortgage-backed securities collateralizing reverse repurchase
agreements are delivered to several major brokerage firms who arrange the
transactions. These securities are reflected as assets in the Company's
consolidated financial statements. The brokerage firms may loan such securities
to other parties in the normal course of their operations and agree to return
the identical securities to the Company at the maturity of the agreements.
Income Taxes
The Company files a consolidated Federal income tax return and a combined
California franchise tax report with the Bank and its subsidiaries. The Bank
accounts for income taxes using the asset and liability method. In the asset and
liability method, deferred tax assets and liabilities are established as of the
reporting date for the realizable cumulative temporary differences between the
financial reporting and tax return basis of the Bank's assets and liabilities.
The tax rates applied are the statutory rates expected to be in effect when the
temporary differences are realized or settled.
Stock Option Plans
The Company applies the intrinsic-value-based method of accounting
prescribed by Accounting Principles Board (APB) Opinion No. 25, Accounting for
Stock Issued to Employees, and related interpretations including SFAS
Interpretation No. 44, Accounting for Certain Transactions involving Stock
Compensation, an interpretation of APB Opinion No. 25, issued in March 2000, to
account for its fixed-plan stock options. Under this method, compensation
expense is recorded on the date of grant only if the current market price of the
underlying stock exceeded the exercise price. SFAS No. 123, Accounting for
Stock-Based Compensation, established accounting and disclosure requirements
using a fair-value-based method of accounting for stock-based employee
compensation plans. As allowed by SFAS No. 123, the Company has elected to
continue to apply the intrinsic-value-based method of accounting described
above, and has adopted only the disclosure requirements of SFAS No. 123. The
following table illustrates the effect on net income if the fair-value-based
method had been applied to all outstanding and unvested awards in each period.
50
FIRSTFED FINANCIAL CORP. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(1) Summary of Significant Accounting Policies (continued)
Years Ended December 31,
---------------------------------------------
2003 2002 2001
------------- ------------ ------------
(In thousands, except per share data)
Net income as reported............................ $ 64,475 $ 55,172 $ 50,302
Deduction:
Total stock-based compensation expense determined
under fair-value-based method for all rewards, net
of tax.......................................... (606) (976) (978)
------------ ------------ -----------
Pro forma net income............................ $ 63,869 $ 54,196 $ 49,324
============ ============ ===========
Earnings per share:
Basic:
As reported..................................... $ 3.80 $ 3.22 $ 2.92
Pro forma....................................... $ 3.76 $ 3.16 $ 2.86
Diluted:
As reported..................................... $ 3.70 $ 3.15 $ 2.85
Pro forma....................................... $ 3.68 $ 3.11 $ 2.80
The fair value of each option grant is estimated on the date of the grant
using the Black-Scholes option pricing model with the following weighted average
assumptions used for grants in 2003, 2002 and 2001, respectively: no dividend
yield in any year; expected volatility of 34%, 34% and 38%; risk free interest
rates of 3.8%, 5.1% and 5.1%; and expected average lives of 5.5 years for 2003
and 6 years for 2002 and 2001. The weighted-average grant date fair value of
options granted during the year are $11.31, $12.68 and $9.45 for 2003, 2002 and
2001, respectively. The Company has elected to recognize forfeitures in the year
they occur.
Cash Flows
Cash and cash equivalents include short-term, highly liquid investments
that generally have an original maturity date of three months or less. Non-cash
investing transactions during 2001 include the acquisition of $158,654,000 of
loans and other assets and the assumption of $176,334,000 in deposits and other
liabilities and the recognition of $3,573,000 of intangible assets. A net total
of $17,680,000 in cash was received in the acquisition.
Earnings Per Share
The Company reports both basic and diluted net earnings per share. Basic
net earnings per share is determined by dividing net earnings by the average
number of shares of common stock outstanding, while diluted net earnings per
share is determined by dividing net earnings by the average number of shares of
common stock outstanding adjusted for the dilutive effect of common stock
equivalents.
Comprehensive Earnings
GAAP establishes standards for reporting and presentation of comprehensive
earnings and its components in a full set of financial statements. Comprehensive
earnings consists of net earnings and net unrealized gains (losses) on
securities available-for-sale and is presented in the consolidated statements of
operations and comprehensive earnings and consolidated statements of
stockholders' equity.
51
FIRSTFED FINANCIAL CORP. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(1) Summary of Significant Accounting Policies (continued)
Segment Information and Disclosures
GAAP establishes standards to report information about operating segments
in annual financial statements and requires reporting of selected information
about operating segments in interim reports to stockholders. It also establishes
standards for related disclosures about products and services, geographic areas
and major customers. The Company manages its business as one segment.
Derivative Instruments
The Company accounts for derivative instruments in accordance with SFAS No.
133, "Accounting for Derivative Instruments and Hedging Activities" as amended.
A derivative is considered either an asset or liability in the statement of
financial condition and measured at fair value. If a derivative is designated as
a hedging instrument the changes in fair value of the derivative are either (a)
recognized in earnings in the period of change together with the offsetting gain
or loss on the hedged item or (b) reported as a component of other comprehensive
earnings and subsequently reclassified into earnings when the hedged risk
affects earnings. For a derivative not designated as a hedging instrument,
changes in fair value are recognized in earnings in the period of change. As of
December 31, 2003, the Company had approximately $485,000 of commitments to
originate loans, which will be held for sale, and approximately $977,000 of loan
sale commitments that qualify as derivatives under SFAS No. 133. The commitments
are recorded at fair value at December 31, 2003.
Recent Accounting Pronouncements
In December 2003, the FASB issued Interpretation No. 46R,Consolidation of
Variable Interest Entities, which addresses how a business enterprise should
evaluate whether it has a controlling financial interest in an entity through
means other than voting rights and accordingly should consolidate the entity.
FIN 46R replaces Interpretation No. 46, Consolidation of Variable Interest
Entities, which was issued in January 2003. FIN 46R should be applied to
variable interests in VIEs created after December 31, 2003. For variable
interests in VIEs created before January 1, 2004, the Interpretation will
generally be applied as of March 31, 2004. For any VIEs that must be
consolidated under FIN 46R that were created before January 1, 2004, the assets,
liabilities and noncontrolling interests of the VIE initially would be measured
at their carrying amounts with any difference between the net amount added to
the balance sheet and any previously recognized interest being recognized as the
cumulative effect of an accounting change. If determining the carrying amounts
is not practicable, fair value at the date FIN 46R first applies may be used to
measure the assets, liabilities and noncontrolling interest of the VIE. The
Company does not expect that the adoption of FIN 46 will have a material effect
on the Company's financial statements as the Company has no variable interest
entities.
In December 2002, SFAS Statement No. 148, Accounting for Stock-Based
Compensation - Transition and Disclosure, an amendment of SFAS Statement No.
123, was issued. This Statement amends SFAS Statement No. 123, Accounting for
Stock-Based Compensation, to provide alternative methods of transition for a
voluntary change to the fair value method of accounting for stock-based employee
compensation. In addition, Statement 148 amends the disclosure requirements of
Statement 123 to require prominent disclosures in both annual and interim
financial statements. Disclosures required by this standard are included in the
notes to these consolidated financial statements.
In December 2003, SFAS Statement No. 132 (revised), Employers' Disclosures
about Pensions and Other Postretirement Benefits, was issued. Statement 132
(revised) prescribes employers' disclosures about pension plans and other
postretirement benefit plans; it does not change the measurement or recognition
of those plans. The Statement retains and revises the disclosure requirements
contained in the original Statement 132. It also requires additional disclosures
about the assets, obligations, cash flows, and net periodic benefit cost of
defined benefit pension plans and other postretirement benefit plans. The
Statement generally is effective for fiscal years ending after December 15,
2003. The Company's disclosures in Note 13 incorporate the requirements of
Statement 132 (revised).
52
FIRSTFED FINANCIAL CORP. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(1) Summary of Significant Accounting Policies (continued)
SFAS Statement No. 150, Accounting for Certain Financial Instruments with
Characteristics of both Liabilities and Equity, was issued in May 2003. This
Statement establishes standards for the classification and measurement of
certain financial instruments with characteristics of both liabilities and
equity. The Statement also includes required disclosures for financial
instruments within its scope. For the Company, the Statement was effective for
instruments entered into or modified after May 31, 2003 and otherwise will be
effective as of January 1, 2004, except for mandatorily redeemable financial
instruments. For certain mandatorily redeemable financial instruments, the
Statement will be effective for the Company on January 1, 2005. The effective
date has been deferred indefinitely for certain other types of mandatorily
redeemable financial instruments. The Company currently does not have any
financial instruments that are within the scope of this Statement.
(2) Investment Securities
The amounts advanced under agreements to resell securities (repurchase
agreements) represent short-term investments. During the agreement period the
securities are maintained by the dealer under a written custodial agreement that
explicitly recognizes the Bank's interest in the securities. The Bank had
$5,000,000 in agreements to resell securities at December 31, 2003 and had no
agreements to resell securities at December 31, 2002. These agreements are
classified as cash and cash equivalents in the accompanying Consolidated
Statements of Financial Condition.
The Bank also had overnight deposits on hand with the Federal Home Loan
Bank which totaled $11,836,000 and $9,925,000, respectively, at December 31,
2003 and December 31, 2002.
Investment securities, available-for-sale, are recorded at fair value and
summarized below for the periods indicated:
At December 31, 2003
--------------------------------------------------------
Gross Gross
Historical Unrealized Unrealized
Cost Gains Losses Fair Value
----------- ---------- ---------- ----------
(In thousands)
United States Government and
Federal agency obligations.................$ 200 $ -- $ -- $ 200
Collateralized Mortgage Obligations.......... 115,992 313 (94) 116,211
----------- ---------- ----------- ---------
$ 116,192 $ 313 $ (94) $ 116,411
=========== ========== =========== =========
At December 31, 2002
--------------------------------------------------------
Gross Gross
Historical Unrealized Unrealized
Cost Gains Losses Fair Value
----------- ---------- ---------- ----------
(In thousands)
United States Government and
Federal agency obligations.................$ 200 $ 3 $ -- $ 203
Collateralized Mortgage Obligations.......... 101,802 1,151 (101) 102,852
---------- ------------ ---------- ---------
$ 102,002 $ 1,154 $ (101) $ 103,055
========== ============ ========== =========
53
FIRSTFED FINANCIAL CORP. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(2) Investment Securities (continued)
Related maturity data for U.S. government and agency securities,
available-for-sale, is summarized below for the period indicated:
At December 31, 2003
----------------------------------------------------
Gross Gross
Historical Unrealized Unrealized Fair
Cost Gains Losses Value
----------- ---------- ---------- ---------
(In thousands)
Maturing within 1 year.......................$ 200 $ -- $ -- $ 200
---------- ---------- ---------- --------
$ 200 $ -- $ -- $ 200
========== ========== ========== ========
Collateralized Mortgage Obligations as of December 31, 2003 all have expected
maturities within five years. There were no sales of investment securities
during 2003, 2002 or 2001. Accrued interest on investments was $332,000 and
$428,000 at December 31, 2003 and 2002, respectively.
(3) Mortgage-backed Securities
Mortgage-backed securities, available-for-sale, are due through the year
2032 and are summarized below for the periods indicated:
At December 31, 2003
-----------------------------------------------------------
Gross Gross
Historical Unrealized Unrealized Fair
Cost Gains Losses Value
----------- ---------- ---------- ---------
(In thousands)
FNMA...............................$ 6,711 $ 84 $ -- $ 6,795
FHLMC.............................. 126,800 1,581 -- 128,381
---------- ------------- ------------- ---------
$ 133,511 $ 1,665 $ -- $ 135,176
========== ============= ============= =========
At December 31, 2002
-----------------------------------------------------------
Gross Gross
Historical Unrealized Unrealized Fair
Cost Gains Losses Value
----------- ---------- ---------- ---------
(In thousands)
FNMA...............................$ 8,203 $ 114 $ -- $ 8,317
FHLMC.............................. 189,638 2,630 -- 192,268
---------- ------------- ------------- ---------
$ 197,841 $ 2,744 $ -- $ 200,585
========== ============= ============= =========
There were no mortgage-backed securities created with loans originated by
the Bank in 2003, 2002 or 2001. There were no sales of mortgage-backed
securities during 2003, 2002 or 2001.
Accrued interest receivable related to mortgage-backed securities
outstanding at December 31, 2003 and 2002 totaled $691,000 and $1,293,000
respectively.
54
FIRSTFED FINANCIAL CORP. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(4) Loans Receivable
The following is a summary of loans receivable for the periods indicated:
At December 31,
----------------------------
2003 2002
------------ ------------
(In thousands)
Real estate loans: First trust deed residential loans:
One-to-four units .................................. $ 2,456,971 $ 1,723,690
Five or more units ............................... 1,547,771 1,646,430
------------ ------------
Residential loans .................................. 4,004,742 3,370,120
Other real estate loans:
Commercial and industrial .......................... 345,273 419,273
Construction ....................................... 9,053 6,927
Land ............................................... -- 203
Second trust deeds ................................. 7,281 5,965
------------ ------------
Real estate loans ..................................... 4,366,349 3,802,488
Non-real estate loans:
Deposit accounts ..................................... 649 1,185
Commercial business loans ............................ 34,424 19,582
Consumer ............................................. 49,738 35,395
------------ ------------
Loans receivable ................................... 4,451,160 3,858,650
Less:
General loan valuation allowance ..................... 75,238 75,223
Valuation allowances for impaired loans .............. 496 496
Unearned loan fees .................................... 1,314 13,696
------------ ------------
Subtotal ........................................... 4,374,112 3,769,235
Less:
Loans held-for-sale.................................. 492 2,293
------------ ------------
Loans receivable, net.................................... $ 4,373,620 $ 3,766,942
============ ============
Loans serviced for others totaled $145,475,000, $197,250,000 and
$257,629,000 at December 31, 2003, 2002 and 2001, respectively.
The Bank had outstanding commitments to fund $246,996,000 and $239,127,000
in real estate loans at December 31, 2003 and December 31, 2002, respectively.
Of these totals, $246,511,000 and $225,497,000 had variable interest rates and
$485,000 and $13,630,000 had fixed interest rates. The Bank had outstanding
commitments to sell real estate loans of $977,000 and $3,590,000, respectively
at December 31, 2003 and December 31, 2002, respectively.
Accrued interest receivable related to loans outstanding at December 31,
2003 and 2002 totaled $15,189,000 and $15,349,000, respectively.
Loans delinquent greater than 90 days or in foreclosure were $3,342,000 and
$6,722,000 at December 31, 2003 and 2002, respectively, and the related
allowance for delinquent interest was $227,000 and $372,000, respectively.
Loans made to directors and executive officers (defined for this purpose as
senior vice presidents and above) totaled $4,993,000 and $5,041,000 at December
31, 2003 and 2002, respectively.
See Note 9 for loans that were pledged as security for borrowings.
55
FIRSTFED FINANCIAL CORP. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(4) Loans Receivable (continued)
The following is a summary of the activity in the general loan valuation
allowance and the valuation allowance for impaired loans for the periods
indicated:
Valuation
Allowance
General for
Valuation Impaired
Allowance Loans Total
------------ ----------- ----------
(In thousands)
Balance at December 31, 1999................................. $ 69,954 $ 2,596 $ 72,550
Charge-offs................................................ (1,443) (804) (2,247)
Recoveries................................................. 2,298 -- 2,298
------------ ----------- ----------
Balance at December 31, 2000................................. 70,809 1,792 72,601
Balance obtained from acquisition.......................... 2,050 -- 2,050
Transfers.................................................. (58) 58 --
Charge-offs................................................ (369) -- (369)
Recoveries................................................. 487 -- 487
------------ ----------- ----------
Balance at December 31, 2001................................. 72,919 1,850 74,769
Transfers.................................................. 1,354 (1,354) --
Charge-offs................................................ (372) -- (372)
Recoveries................................................. 1,322 -- 1,322
------------ ----------- ----------
Balance at December 31, 2002................................. 75,223 496 75,719
Charge-offs................................................ (103) -- (103)
Recoveries................................................. 118 -- 118
------------ ----------- ----------
Balance at December 31, 2003................................. $ 75,238 $ 496 $ 75,734
============ =========== ==========
The Bank has loss exposure on certain loans sold with recourse. The dollar
amount of loans sold with recourse totaled $91,003,000 and $108,606,000 at
December 31, 2003 and 2002, respectively. The maximum potential recourse
liability totaled $20,476,000 and $23,325,000 at December 31, 2003 and December
31, 2002, respectively.
The Bank maintains a repurchase liability for loans sold with recourse.
This liability is included in accrued expenses and other liabilities in the
Consolidated Statements of Financial Condition and was $5,400,000 and $6,900,000
at December 31, 2003 and December 31, 2002, respectively.
The following is a summary of impaired loans, net of valuation allowances
for impairment, for the periods indicated:
At December 31,
-----------------------
2003 2002
---------- ---------
(In thousands)
Non-accrual loans............................................ $ 1,782 $ --
Modified loans............................................... 1,488 1,567
---------- ---------
$ 3,270 $ 1,567
========== =========
The Bank considers a loan to be impaired when management believes that the
Bank will be unable to collect all amounts due under the contractual terms of
the loan agreement. In accordance with SFAS 114, the Bank evaluates the
collectibility of commercial business loans greater than or equal to $500,000,
single-family loans greater than or equal to $750,000, and income property loans
greater than or equal to $1,500,000 for impairment purposes using its normal
loan review procedures. When a loan is determined to be impaired, the Bank
measures impairment based on either (1) the present value of expected future
cash flows, discounted at the loan's effective interest rate; (2) the loan's
observable market price, or (3) the fair value of the collateral. Estimated
impairment losses are included in the Bank's impairment allowances.
56
FIRSTFED FINANCIAL CORP. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(4) Loans Receivable (continued)
As of December 31, 2003, the Bank's total recorded investment in impaired
loans identified in accordance with SFAS 114 was $3,270,000 (after deducting
$496,000 of impairment allowances attributable to such loans). As of December
31, 2002, the total recorded investment in impaired loans was $1,567,000 (net of
$496,000 of impairment allowances).
As of December 31, 2003 and December 31, 2002, impaired loans totaling
$3,270,000 and $1,567,000, respectively, had no valuation allowances
established.
The average recorded investment in impaired loans during the years ended
December 31, 2003, 2002 and 2001 was $4,327,000, $4,982,000 and $7,429,000,
respectively. Interest income recognized for these same periods was $226,000,
$322,000 and $597,000, respectively, under the cash basis method of accounting;
and was $215,000, $316,000 and $587,000, respectively, under the accrual basis
of accounting. There were no commitments to lend additional funds to borrowers
whose loan terms had been modified for any of these periods.
(5) Real Estate
The following is a summary of real estate owned at the dates indicated:
At December 31,
--------------------------
2003 2002
----------- -----------
(In thousands)
Real estate acquired by (or deed in lieu of) foreclosure ("REO") $ 1,324 $ 519
Valuation allowance............................................. -- (200)
----------- -----------
1,324 319
Real estate held-for-investment................................. -- 28
----------- -----------
Real estate, net.............................................. $ 1,324 $ 347
=========== ===========
Listed below is a summary of the activity in the general valuation
allowance for real estate owned for the periods indicated (in thousands):
Balance at December 31, 1999.......................................... $ 350
Provision for losses on REO........................................... --
Charge-offs........................................................... --
--------
Balance at December 31, 2000.......................................... 350
Provision for losses on REO........................................... --
Charge-offs........................................................... --
--------
Balance at December 31, 2001.......................................... 350
Reversal of valuation allowance....................................... (150)
Charge-offs........................................................... --
--------
Balance at December 31, 2002.......................................... 200
Reversal of valuation allowance....................................... (200)
--------
Balance at December 31, 2003.......................................... $ --
========
The following table summarizes real estate operations, net:
For the Years Ended December 31,
------------------------------------
2003 2002 2001
----------- -------- ---------
(In thousands)
Net income (loss) from operations:
Gain on sale of REO......................................... $ 884 $ 765 $ 1,501
Other REO operations........................................ (104) (426) (1,197)
----------- -------- ---------
Real estate operations, net ............................. $ 780 $ 339 $ 304
=========== ======== =========
The Bank acquired $1,582,000, $1,881,000 and $5,135,000 of real estate in
settlement of loans during 2003, 2002 and 2001, respectively.
57
FIRSTFED FINANCIAL CORP. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(6) Office Properties, Equipment and Lease Commitments
Office properties and equipment, at cost, less accumulated depreciation and
amortization, are summarized as follows:
At December 31,
-----------------------
2003 2002
---------- ---------
(In thousands)
Land............................................................... $ 3,861 $ 3,861
Office buildings................................................... 5,333 5,348
Furniture, fixtures and equipment.................................. 14,773 16,815
Leasehold improvements............................................. 8,634 10,478
Other.............................................................. 1,160 541
---------- ---------
33,761
Less accumulated depreciation and amortization..................... 23,193 26,701
---------- ---------
$ 10,568 $ 10,342
========== =========
The Bank is obligated under non-cancelable operating leases for periods
ranging from five to thirty years. The leases are for certain of the Bank's
office facilities. Approximately half of the leases for office facilities
contain five and ten year renewal options. Minimum rental commitments at
December 31, 2003 under all non-cancelable leases are as follows (in thousands):
2004....................................$ 4,262
2005.................................... 4,042
2006.................................... 3,783
2007.................................... 3,570
2008.................................... 2,517
Thereafter.............................. 2,243
----------
$ 20,417
==========
Rent payments under these leases were $4,690,000, $4,665,000 and $4,309,000
for 2003, 2002 and 2001, respectively. Certain leases require the Bank to pay
property taxes and insurance. Additionally, certain leases have rent escalation
clauses based on specified indices.
(7) Federal Home Loan Bank Stock
The Bank's investment in FHLB stock at December 31, 2003 and 2002 was
$87,775,000 and $78,728,000, respectively. The FHLB provides a central credit
facility for member institutions. As a member of the FHLB system, the Bank is
required to own capital stock in the FHLB in an amount at least equal to the
greater of 1% of the aggregate principal amount of its unpaid home loans, home
purchase contracts and similar obligations at the end of each calendar year,
assuming for such purposes that at least 30% of its assets were home mortgage
loans, or 5% of its advances (borrowings) from the FHLB. The Bank was in
compliance with this requirement at December 31, 2003. The Bank's investment in
FHLB stock was pledged as collateral for advances from the FHLB at December 31,
2003 and 2002. The fair value of the Bank's FHLB stock approximates book value
due to the Bank's ability to redeem such stock with the FHLB at par value.
During 2003, the FHLB amended the redemption policy requiring 5 years written
notice to redeem stock effective 2004. Accrued dividends on FHLB stock totaled
$711,000 and $1,054,000 at December 31, 2003 and December 31, 2002,
respectively.
58
FIRSTFED FINANCIAL CORP. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(8) Deposits
Deposit account balances are summarized as follows:
At December 31,
-------------------- --------------------
2003 2002
-------------------- --------------------
Amount % Amount %
----------- ----- ----------- -----
(Dollars in thousands)
Variable rate non-term accounts:
Money market deposit accounts (weighted average
rate of 1.43% and 2.13%)................... $ 1,373,240 54% $ 1,079,278 43%
Interest-bearing checking accounts (weighted
average rate of 0.26% and 0.43%)........... 232,247 9 174,802 7
Passbook accounts (weighted average rate of 1.10%
and 1.34%)................................. 124,427 5 111,844 4
Non-interest bearing checking accounts......... 239,357 10 239,695 9
----------- ----- ----------- -----
1,969,271 78 1,605,619 63
----------- ----- ----------- -----
Fixed-rate term certificate accounts:
Under six-month term (weighted average rate of
1.00% and 1.54%)........................... 32,062 1 37,630 1
Six-month term (weighted average rate of 1.06% and
1.95%)..................................... 79,201 3 104,600 4
Nine-month term (weighted average rate of 1.25% and
2.76%)..................................... 15,126 1 101,980 4
One year to 18-month term (weighted average rate of
1.53% and 2.63%)........................... 178,858 6 331,308 14
Two year to 30-month term (weighted average rate of
2.63% and 3.55%)........................... 42,187 2 41,460 2
Over 30-month term (weighted average rate of
3.88% and 4.49%)........................... 123,966 5 94,927 4
Negotiable certificates of $100,000 and greater, 30
day to one year terms (weighted average rate of
1.25% and 2.32%)........................... 97,727 4 209,502 8
----------- ----- ----------- -----
569,127 22 921,407 37
----------- ----- ----------- -----
Total deposits (weighted average rate of 1.29% and
1.98%)..................................... $ 2,538,398 100% $ 2,527,026 100%
=========== ===== =========== =====
Certificates of deposit, placed through four major national brokerage
firms, totaled $0 and $161,273,000 at December 31, 2003 and 2002, respectively.
Cash payments for interest on deposits (including interest credited)
totaled $42,108,000, $65,830,000 and $96,482,000 during 2003, 2002 and 2001,
respectively. Accrued interest on deposits at December 31, 2003 and 2002 totaled
$895,000 and $3,899,000, respectively, and is included in accrued expenses and
other liabilities in the accompanying Consolidated Statements of Financial
Condition.
Certificates of deposit of $100,000 or more amounted to $97,727,000 and
$209,502,000 at December 31, 2003 and December 31, 2002, respectively.
59
FIRSTFED FINANCIAL CORP. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(8) Deposits (continued)
The following table indicates the maturities and weighted average interest
rates of the Bank's deposits at December 31, 2003:
Non-Term There-
Accounts 2004 2005 2006 2007 after Total
-------- --------- --------- --------- -------- ---------- -----------
(Dollars in thousands)
Deposits at
December 31, 2003....... $1,969,271 $435,161 $85,564 $31,108 $6,748 $10,546 $2,538,398
Weighted average
interest rates.......... 1.10% 1.49% 3.71% 2.96% 4.32% 3.23% 1.29%
Interest expense on deposits is summarized as follows:
For the Years Ended December 31,
------------------------------------------
2003 2002 2001
----------- ----------- ------------
(In thousands)
Passbook accounts................................................... $ 1,370 $ 1,559 $ 1,443
Money market deposits and interest-bearing checking accounts........ 21,920 24,024 24,929
Certificate accounts................................................ 15,814 35,225 68,196
----------- ----------- ------------
$ 39,104 $ 60,808 $ 94,568
=========== =========== ============
(9) Federal Home Loan Bank Advances
FHLB advances consist of the following at December 31, for the years
indicated:
2003 2002
----------- -----------
(In thousands)
Advances from the FHLB of San Francisco with a weighted average interest
rate of 2.88% and 3.90%, respectively, secured by FHLB stock and certain
real estate loans with unpaid principal balances of approximately $2.5
billion at December 31, 2003,
advances mature through 2010............................... $1,694,000 $1,167,000
---------- ----------
$1,694,000 $1,167,000
========== ==========
At December 31, 2003 and 2002, accrued interest payable on FHLB advances
totaled $134,000 and $125,000, respectively, which is included in accrued
expenses and other liabilities in the accompanying Consolidated Statements of
Financial Condition.
The Bank has a credit facility with the FHLB in the form of advances and
lines of credit which allow borrowings up to 50% of the Bank's assets, as
computed for regulatory purposes, or approximately $2,412,511,000 at December
31, 2003, with terms up to 30 years.
The following is a summary of FHLB advance maturities at December 31, 2003
(in thousands):
2004................................... $1,082,000
2005................................... 212,000
2006................................... 280,000
2007................................... 85,000
2008................................... 10,000
2009................................... 5,000
2010................................... 20,000
----------
$1,694,000
==========
60
FIRSTFED FINANCIAL CORP. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(9) Federal Home Loan Bank Advances (continued)
Cash payments for interest on borrowings (including reverse repurchase
agreements - see Note 10) totaled $49,393,000, $67,579,000 and $118,194,000
during 2003, 2002 and 2001, respectively.
Interest expense on borrowings is comprised of the following for the years
indicated:
For the Years Ended December 31,
----------------------------------------
2003 2002 2001
----------- ----------- ----------
(In thousands)
FHLB advances............................................... $ 47,299 $ 63,253 $ 94,506
Reverse repurchase agreements............................... 1,800 3,453 12,346
Other....................................................... 139 905 334
---------- ---------- ----------
$ 49,238 $ 67,611 $ 107,186
========== ========== ==========
Other interest expense in 2002 and 2001 includes the additional accruals
and reversals of accrued interest due to the Internal Revenue Service and
Franchise Tax Board. See Note 11.
(10) Securities Sold Under Agreements to Repurchase
The Bank enters into sales of securities under agreements to repurchase
(reverse repurchase agreements) which require the repurchase of the same
securities. Reverse repurchase agreements are treated as financing arrangements,
and the obligation to repurchase securities sold is reflected as a borrowing in
the Consolidated Statements of Financial Condition. The mortgage-backed
securities underlying the agreements were delivered to the dealer who arranged
the transactions or its trustee.
At December 31, 2003, $122,622,000 in reverse repurchase agreements were
collateralized by mortgage-backed securities totaling $114,360,000 and
securities totaling $11,347,000. At December 31, 2002, $155,273,000 in reverse
repurchase agreements were collateralized by mortgage-backed securities totaling
$5,557,000 and mortgage-backed securities with principal balances totaling
$150,331,000.
The weighted average interest rates for borrowings under reverse repurchase
agreements were 1.12% and 1.61%, respectively, at December 31, 2003 and December
31, 2002.
Securities sold under agreements to repurchase averaged $139,568,000 and
$169,335,000 during 2003 and 2002, respectively, and the maximum amounts
outstanding at any month-end during 2003 and 2002 were $154,021,000 and
$208,367,000 respectively.
The following is a summary of maturities at December 31, 2003 (in
thousands):
Up to 30 days.......................... $ 14,500
30 to 90 days.......................... 47,000
Over 90 to 182 days.................... 61,122
-------
$122,622
=======
Accrued interest on securities sold under agreements to repurchase which is
included in accrued expenses and other liabilities in the accompanying
Consolidated Statements of Financial Condition was $370,000 and $673,000 at
December 31, 2003 and 2002, respectively.
61
FIRSTFED FINANCIAL CORP. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(11) Income Taxes
Income taxes (benefit) consist of the following:
2003 2002 2001
---------- ---------- ---------
(In thousands)
Current:
Federal................................................. $ 32,136 $ 32,615 $ 30,305
State................................................... 13,842 10,866 9,889
-------- -------- ---------
45,978 43,481 40,194
-------- -------- ---------
Deferred:
Federal................................................. 2,694 (2,920) (2,492)
State................................................... (4,456) (412) (81)
-------- -------- ---------
(1,762) (3,332) (2,573)
-------- -------- ---------
Total:
Federal................................................. 34,830 29,695 27,813
State................................................... 9,386 10,454 9,808
-------- -------- ---------
$ 44,216 $ 40,149 $ 37,621
======== ======== =========
A reconciliation of the statutory federal corporate income tax rate to
the Company's effective income tax rate follows:
At December 31,
---------------------------------------
2003 2002 2001
------------ ---------- ---------
Statutory federal income tax rate ................... 35.0% 35.0% 35.0%
Increase in taxes resulting from:
State franchise tax, net of federal income tax benefit 5.6 7.1 7.2
Other, net........................................... 0.1 -- 0.6
---------- ---------- ---------
Effective rate....................................... 40.7% 42.1% 42.8%
========== ========== =========
Cash payments for income taxes totaled $38,727,000, $44,257,000 and
$43,100,000 during 2003, 2002 and 2001, respectively.
Current income taxes receivable were $1,675,000 and $6,706,000 at December
31, 2003 and December 31, 2002, respectively.
62
FIRSTFED FINANCIAL CORP. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(11) Income Taxes (continued)
Listed below are the significant components of the net deferred tax (asset)
and liability:
At December 31,
--------------------------
2003 2002
----------- -----------
(In thousands)
Components of the deferred tax asset:
Bad debts....................................................... $ (36,965) $ (35,307)
Pension expense................................................. (4,763) (4,421)
State taxes..................................................... (2,745) (4,093)
Core deposit intangible asset................................... (2,147) (1,778)
Other........................................................... (3,443) (1,351)
---------- -----------
Total deferred tax asset...................................... (50,063) (46,950)
---------- -----------
Components of the deferred tax liability:
Loan fees....................................................... 11,002 10,304
FHLB stock dividends............................................ 21,776 21,085
Tax effect of unrealized gain on
securities available-for-sale................................ 792 1,597
Other........................................................... 491 529
---------- -----------
Total deferred tax liability.................................. 34,061 33,515
---------- -----------
Net deferred tax asset............................................ $ (16,002) $ (13,435)
========== ===========
The Company provides for recognition and measurement of deductible
temporary differences to the extent that it is more likely than not that the
deferred tax asset will be realized. The Company did not have a valuation
allowance for the deferred tax asset at December 31, 2003 or 2002, as it is more
likely than not that the deferred tax asset will be realized through loss
carrybacks and the timing of future reversals of existing temporary differences.
The Internal Revenue Service ("IRS") has examined the Company's
consolidated federal income tax returns for tax years up to and including 1998.
The adjustments proposed by the IRS were primarily related to temporary
differences as to the recognition of certain taxable income and expense items.
While the Company had provided for deferred taxes for federal and state
purposes, the change in the period of recognition of certain income and expense
items resulted in interest due to the IRS and Franchise tax Board ("FTB").
Interest accruals of $0 and $876,000 were recorded during 2003 and 2002,
respectively for interest on amended returns. The balance of accrued interest
payable for amended returns was $400,000 and $700,000 as of December 31, 2003
and December 31, 2002, respectively.
The Bank is required to use the specific charge-off method of accounting
for bad debts for federal income tax purposes for all periods beginning after
1995. Prior to that date, the Bank used the reserve method of accounting for bad
debts. The Consolidated Statements of Financial Condition at December 31, 2003
and 2002 do not include a liability of $5,356,000 related to the adjusted base
year bad debt reserve. This reserve was created when the Bank was on the reserve
method. During 2002, legislation was passed which requires the Bank to use the
specific charge-off method of accounting for bad debts for state tax purposes
starting in 2003. The Bank recorded a state tax benefit of $1,643,000, net of
federal taxes during 2003 because 50% of the state reserve balance was forgiven
as part of the change in legislation.
63
FIRSTFED FINANCIAL CORP. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(12) Stockholders' Equity and Earnings Per Share
The Company's stock charter authorizes 5,000,000 shares of serial preferred
stock. As of December 31, 2003, no preferred shares had been issued.
The following is a reconciliation of the numerators and denominators of the
basic and diluted earnings per share computations for the years indicated:
For the Year Ended December 31, 2003 For the Year Ended December 31, 2002 For the Year Ended December 31, 2001
------------------------------------ ------------------------------------ ------------------------------------
Weighted Weighted Weighted
Average Average Average
Shares Per Shares Per Shares Per
Earnings Outstanding Share Earnings Outstanding Share Earnings Outstanding Share
(Numerator) (Denominator) Amount (Numerator) (Denominator) Amount (Numerator) (Denominator) Amount
---------- ----------- ------ --------- ------------ ------- ---------- ----------- ------
(Dollars in thousands, except per share data)
Basic EPS:
Net earnings....$ 64,475 16,986,725 $ 3.80 $ 55,172 17,149,712 $ 3.22 $ 50,302 17,234,591 $ 2.92
Diluted EPS:
Net earnings....$ 64,475 16,986,725 $ 3.80 $ 55,172 17,149,712 $ 3.22 $ 50,302 17,234,591 $ 2.92
Options-common
stock
equivalents -- 420,734 -- -- 356,417 -- -- 411,056 --
------- ----------- ------ --------- ------------ ------ -------- ----------- ------
Net earnings....$ 64,475 17,407,459 $ 3.70 $ 55,172 17,506,129 $ 3.15 $ 50,302 17,645,647 $ 2.85
======= =========== ====== ========= ============ ====== ======== =========== ======
The number of anti-dilutive shares excluded from the weighted average
shares outstanding within the diluted EPS calculation was 0, 118,100, and
104,900 during 2003, 2002 and 2001, respectively.
Regulatory Capital
The Bank is subject to various regulatory capital requirements administered
by the federal banking agencies. Failure to meet minimum capital requirements
can initiate certain mandatory - and possibly additional discretionary - actions
by regulators that, if undertaken, could have a direct material effect on the
Bank's financial statements. Under capital adequacy guidelines and the
regulatory framework for prompt corrective action, the Bank must meet specific
capital guidelines that involve quantitative measures of the Bank's assets,
liabilities and certain off-balance sheet items as calculated under regulatory
accounting practices. The Bank's capital amounts and classification are also
subject to qualitative judgments by the regulators about asset risk weightings,
and other factors.
Quantitative measures established by regulation to ensure capital adequacy
require the Bank to maintain minimum amounts and ratios (set forth in the table
below) of total and Tier I capital (as defined in the regulations) to risk
weighted assets (as defined). Management believes that the Bank meets all
capital adequacy requirements to which it is subject as of December 31, 2003.
As of December 31, 2003, the most recent notification from the OTS
indicated that the Bank was well capitalized under the regulatory framework for
prompt corrective action. There are no conditions or events since December 31,
2003 that management believes have changed the Bank's classification.
64
FIRSTFED FINANCIAL CORP. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(12) Stockholders' Equity and Earnings Per Share (continued)
The following table summarizes the Bank's regulatory capital and required
capital for the years indicated:
December 31, 2003
-----------------------------------------------------------------
Tier 1
Tangible Core Risk-based Risk-based
Capital Capital Capital Capital
------------- ------------ -------------- -------------
(Dollars in thousands)
Actual capital:
Amount....................................$ 408,524 $ 408,524 $ 408,524 $ 443,867
Ratio..................................... 8.48% 8.48% 14.66% 15.92%
FIRREA minimum required capital:
Amount....................................$ 72,254 $ 192,678 $ -- $ 223,005
Ratio..................................... 1.50% 4.00% --% 8.00%
FIRREA well capitalized required capital:
Amount....................................$ -- $ 240,848 $ 167,254 $ 278,757
Ratio..................................... --% 5.00% 6.00% 10.00%
December 31, 2002
-----------------------------------------------------------------
Tier 1
Tangible Core Risk-based Risk-based
Capital Capital Capital Capital
------------- ------------ -------------- -------------
(Dollars in thousands)
Actual capital:
Amount....................................$ 341,680 $ 341,680 $ 341,680 $ 374,421
Ratio..................................... 8.05% 8.05% 13.26% 14.53%
FIRREA minimum required capital:
Amount....................................$ 63,643 $ 169,715 $ -- $ 206,142
Ratio..................................... 1.50% 4.00% --% 8.00%
FIRREA well capitalized required capital:
Amount....................................$ -- $ 212,143 $ 154,607 $ 257,678
Ratio..................................... --% 5.00% 6.00% 10.00%
The payment of dividends is subject to certain federal income tax
consequences. Specifically, the Bank is capable of paying dividends to the
Company in any year without incurring tax liability only if such dividends do
not exceed both the tax basis current year earnings and profits and accumulated
tax earnings and profits as of the beginning of the year.
Thirty days' prior notice to the OTS of the intent to declare dividends is
required for the declaration of such dividends by the Bank. The OTS generally
allows a savings institution which meets its fully phased-in capital
requirements to distribute without OTS approval dividends up to 100% of the
institution's net income for the applicable calendar year plus retained net
income for the two prior calendar years. However, the OTS has the authority to
preclude the declaration of any dividends or adopt more stringent amendments to
its capital regulations.
The Company may loan up to $6,000,000 to the Employee Stock Ownership Plan
("ESOP") under a line of credit loan. At December 31, 2003, the outstanding loan
to the ESOP totaled $104,000. There was $553,000 outstanding at December 31,
2002. Interest on any outstanding loan balance is due each December 31. Interest
varies based on the Bank's monthly cost of funds. The average rates paid during
2003 and 2002 were 2.18% and 3.16%, respectively.
65
FIRSTFED FINANCIAL CORP. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(12) Stockholders' Equity and Earnings Per Share (continued)
The Company maintains a Shareholder Rights Plan ("Rights Plan") which is
designed to protect shareholders from attempts to acquire control of the Company
at an inadequate price. Under the Rights Plan, the owner of each share of
Company stock received a dividend of one right ("Right") to purchase one
one-thousandth of a share of a new series of preferred stock for its estimated
long term value of $200. In the event of certain acquisitions of 15% or more of
the voting stock or a tender offer for 15% or more of the voting stock of the
Company, each holder of a Right who exercises such Right will receive shares of
the Company with a market value equal to two times the exercise price of the
Right. Also, in the event of certain business combination transactions following
the acquisition by a person of 15% or more of the Company stock, each Rights
holder will have the right to receive upon exercise of the Right common stock of
the surviving company in such transaction having a market value of two times the
exercise price of the Right. The Company may redeem the Rights at any time prior
to such acquisition or tender offer should the Board of Directors deem
redemption to be in its stockholders' best interests.
(13) Employee Benefit Plans
The Bank maintains a qualified defined contribution plan established under
Section 401 (k) of the Internal Revenue Code, as amended (the "401(k) Plan").
Participants are permitted to make contributions on a pre-tax basis, a portion
of which is matched by the Bank. The 401(k) Plan expense was $540,000, $310,000
and $356,000 for 2003, 2002 and 2001, respectively.
The Bank has a Supplementary Executive Retirement Plan ("SERP") which
covers any individual employed by the Bank as its Chief Executive Officer or
Chief Operating Officer. The pension expense for the SERP was $850,000,
$1,161,000 and $970,000 in 2003, 2002 and 2001, respectively. The SERP is
unfunded. The expected contribution to the SERP during 2004 is $288,000.
The discount rates used in determining the actuarial value of benefit
obligations were 6.00% and 6.50%, respectively, as of December 31, 2003 and
2002. The rate of increase in future compensation levels used in determining the
pension cost for the SERP was 4.0% as of December 31, 2003 and 2002. The plan
had no assets at December 31, 2003 or 2002.
66
FIRSTFED FINANCIAL CORP. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(13) Employee Benefit Plans (continued)
The following table sets forth the funded status of the SERP and amounts
recognized in the Company's financial statements for the years indicated:
At December 31,
----------------------
2003 2002
---------- --------
(In thousands)
Change in Benefit Obligation
Projected benefit obligation, beginning of the year.................. $ 9,161 $ 7,885
Service cost......................................................... 447 380
Interest cost........................................................ 586 581
Benefits paid........................................................ (287) (287)
Actuarial gain....................................................... 278 602
--------- --------
Projected benefit obligation, end of the year........................ $ 10,185 $ 9,161
========= ========
Change in Plan Assets
Funded status........................................................ (10,185) $ (9,161)
Unrecognized transition obligation................................... -- --
Unrecognized prior service cost...................................... 149 284
Unrecognized loss.................................................... 2,115 1,956
--------- --------
Net amount recognized................................................ $ (7,921) $ (6,921)
========= ========
Components of Net Periodic Benefit Cost
Service cost......................................................... $ 447 $ 380
Interest cost........................................................ 586 581
Amortization of unrecognized transition obligation................... 119 65
Amortization of unrecognized prior service cost...................... 135 135
--------- --------
Pension cost......................................................... $ 1,287 $ 1,161
========= ========
The projected benefit obligation, accumulated benefit obligation, and fair
value of assets were $10,185,000, $8,604,000, and $0 respectively, at December
31, 2003 and $9,161,000, $7,255,000, and $0, respectively, at December 31, 2002.
The Bank has a profit sharing plan (the "ESOP") for all salaried employees
and officers who have completed one year of continuous service. The ESOP is
accounted for in accordance with SOP 93-6. At December 31, 2003, the ESOP held
4.75% of the outstanding stock of the Company. Profit sharing expense for the
years ended December 31, 2003, 2002 and 2001 was $2,030,000, $2,024,000 and
$2,020,000, respectively. The amount of the contribution made by the Bank is
determined each year by the Board of Directors, but is not to exceed 15% of the
participants' aggregated compensation. The Bank does not offer post-retirement
benefits under this plan.
For the year ended December 31, 2003 and 2002 total allocated ESOP shares
were 767,486 and 819,964 shares, respectively. For the year ended December 31,
2003 and 2002 total unallocated ESOP shares were 3,426 and 23,105 shares,
respectively. The fair value of unallocated ESOP shares totaled $149,000 and
$669,000 at December 31, 2003 and 2002, respectively.
Stock Compensation Plans
At December 31, 2003, the Company had two stock-based compensation
programs, which are described below. The Company applies APB Opinion 25 and
related interpretations in accounting for its plans. Accordingly, no
compensation cost has been recognized for its stock compensation plans.
67
FIRSTFED FINANCIAL CORP. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(13) Employee Benefit Plans (continued)
Under the 1994 Stock Option and Stock Appreciation Rights Plan (the "1994
Plan"), the Company may grant options to employees of the Bank for up to
3,000,000 shares of common stock, subject to limitations set forth under the
1994 Plan. Under the 1994 Plan, the exercise price of each option equals the
market value of the Company's stock on the date of the grant, and an option's
maximum term is 10 years. Options typically begin to vest on the second
anniversary date of the grant.
The Company also has a stock option plan for outside directors, the 1997
Non-employee Directors Stock Incentive Plan (the "Directors Stock Plan"). The
Directors Stock Plan provides for the issuance of up to 400,000 shares of common
stock to non-employee directors of the Company. The exercise price of each
option equals the market value of the Company's stock on the date of the grant,
and an option's maximum term is 10 years plus one month. Options typically vest
100% on the one year anniversary date of the grant.
The following table summarizes information about stock option activity
during the periods indicated:
At December 31,
------------------------------------
2003 2002 2001
Options Outstanding ---------- --------- ---------
(Weighted average option prices) (In shares)
Beginning of year ($17.08, $15.51 and $12.84) 857,682 819,915 796,538
Granted ($29.55, $26.75 and $31.44)............................. 150,510 134,900 127,050
Exercised ($12.73, $10.98 and $12.22)........................... (149,664) (33,006) (62,489)
Canceled ($26.89, $20.53 and $18.12)............................ (50,280) (64,127) (41,184)
---------- --------- ---------
End of Year ($19.58, $17.08 and $15.51)......................... 808,248 857,682 819,915
========== ========= =========
Shares exercisable at December 31, ($15.50, $13.41 and $11.53).. 352,004 407,401 309,808
========== ========= =========
Additional information with respect to stock options outstanding at
December 31, 2003 follows:
Price Ranges
-------------------------------------------------------------
($5.63 - $14.23) ($14.24 - $22.84) ($22.85 - $31.44)
Options outstanding:
Number of outstanding shares.......................... 294,677 191,206 322,365
Weighted-average contractual life .................... 4.08 4.60 8.23
Weighted-average exercise price ...................... $10.96 $16.68 $29.17
Options exercisable:
Number of exercisable shares.......................... 170,329 122,505 59,170
Weighted-average exercise price ...................... $9.77 $16.68 $29.54
68
FIRSTFED FINANCIAL CORP. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(14) Parent Company Financial Information
The following condensed parent company financial information should be read
in conjunction with the other Notes to the Consolidated Financial Statements.
CONDENSED STATEMENTS OF FINANCIAL CONDITION
At December 31,
------------------------
2003 2002
--------- -----------
(In thousands)
Assets:
Cash.................................................................... $ 18,990 $ 17,947
Fixed assets............................................................ -- 259
Other assets............................................................ 449 --
Investment in subsidiary................................................ 417,236 353,739
--------- -----------
$ 436,675 $ 371,945
========= ===========
Liabilities and Stockholders' Equity:
Other liabilities....................................................... 108 304
Stockholders' equity.................................................... 436,567 371,641
--------- -----------
$ 436,675 $ 371,945
========= ===========
Years Ended December 31,
------------------------------------
CONDENSED STATEMENTS OF OPERATIONS AND 2003 2002 2001
---------- --------- ---------
COMPREHENSIVE EARNINGS (In thousands)
Dividends received from Bank.................................. $ -- $ 20,000 $ --
Equity in undistributed net earnings of subsidiary ........... 64,605 35,254 52,007
Other expense, net............................................ (130) (82) (1,705)
---------- --------- ---------
Net earnings.................................................. 64,475 55,172 50,302
========== ========= =========
Other comprehensive earnings (loss), net of taxes............. (1,110) (790) 5,149
---------- --------- ---------
Comprehensive earnings........................................ $ 63,365 $ 54,382 $ 55,451
========== ========= =========
69
FIRSTFED FINANCIAL CORP. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(14) Parent Company Financial Information (continued)
Years Ended December 31,
-------------------------------------
CONDENSED STATEMENTS OF CASH FLOWS 2003 2002 2001
---------- ---------- ---------
(In thousands)
Net Cash Flows from Operating Activities:
Net earnings................................................ $ 64,475 $ 55,172 $ 50,302
Adjustments to reconcile net earnings to
net cash provided by operating activities:
Equity in undistributed
net earnings of subsidiary............................. (64,605) (35,254) (52,007)
Depreciation expense...................................... 62 160 184
Other..................................................... (646) 25 2,760
---------- ---------- ---------
Net cash provided by operating activities................. (714) 20,103 1,239
---------- ---------- ---------
Cash Flows from Investing Activities:
Decrease (increase) in fixed assets....................... 197 -- (112)
---------- ---------- ---------
Net cash used in investing activities..................... 197 -- (112)
---------- ---------- ---------
Cash Flows from Financing Activities:
Purchase of treasury stock................................ (965) (8,832) --
(Increase) decrease in unreleased shares.................. 472 (597) 841
Exercise of stock options................................. 2,053 1,010 764
---------- ---------- ---------
Net cash provided by (used in) financing activities........... 1,560 (8,419) 1,605
---------- ---------- ---------
Net increase in cash.......................................... 1,043 11,684 2,732
Cash at beginning of period................................... 17,947 6,263 3,531
---------- ---------- ---------
Cash at end of period......................................... $ 18,990 $ 17,947 $ 6,263
========== ========== =========
(15) Quarterly Results of Operations: (unaudited)
Summarized below are the Company's results of operations on a quarterly
basis for 2003, 2002 and 2001:
Provision Basic Diluted
Interest Interest for Loan Other Non-Interest Net Earnings Earnings
Income Expense Losses Income Expense Earnings per Share per Share
---------- ---------- ---------- -------- --------- --------- ---------- -----------
(In thousands, except per share data)
First quarter
2003................. $ 60,839 $ 23,324 $ -- $ 3,348 $ 14,116 $ 15,478 $ 0.92 $ 0.89
2002................. 70,776 36,788 -- 2,699 15,311 12,368 0.72 0.70
2001................. 88,017 55,865 -- 2,007 12,533 12,373 0.72 0.70
Second quarter
2003................. $ 59,412 $ 22,350 $ -- $ 3,393 $ 13,429 $ 15,633 $ 0.92 $ 0.90
2002................. 65,923 32,943 -- 2,494 14,233 12,287 0.71 0.70
2001................. 87,443 53,881 -- 1,641 13,195 12,592 0.73 0.71
Third quarter
2003................. $ 58,344 $ 21,814 $ -- $ 5,590 $ 13,522 $ 18,203 $ 1.07 $ 1.04
2002................. 64,741 31,312 -- 8,711 14,107 16,226 0.94 0.92
2001................. 81,837 49,397 -- 3,019 13,738 12,427 0.72 0.70
Fourth quarter
2003................. $ 57,286 $ 20,854 $ -- $ 4,410 $ 14,522 $ 15,161 $ 0.89 $ 0.87
2002................. 62,438 27,376 -- 4,170 14,561 14,291 0.84 0.83
2001................. 76,635 42,611 -- 2,252 13,708 12,910 0.75 0.73
Total year
2003................. $235,881 $ 88,342 $ -- $ 16,741 $ 55,589 $ 64,475 $ 3.80 $ 3.70
2002................. 263,878 128,419 -- 18,074 58,212 55,172 3.22 3.15
2001................. 333,932 201,754 -- 8,919 53,174 50,302 2.92 2.85
70
FIRSTFED FINANCIAL CORP. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(16) Fair Value of Financial Instruments
The following table presents fair value information for financial
instruments for which a market exists.
At December 31,
----------------------------------------------------------------
2003 2002
------------------------------ ------------------------------
Carrying Carrying
Value Fair Value Value Fair Value
----------- --------------- ------------- -------------
(In thousands)
Mortgage-backed securities .................... $ 135,176 $ 135,176 $ 200,585 $ 200,585
U.S. Government securities .................... 200 200 203 203
Collateralized mortgage obligations ........... 116,211 116,211 102,852 102,852
Loans held-for-sale ........................... 492 494 2,293 2,300
The following table presents fair value information for financial
instruments shown in the Company's Consolidated Statements of Financial
Condition for which there is no readily available market. The fair values for
these financial instruments were calculated by discounting expected cash flows.
Because these financial instruments have not been evaluated for possible sale
and because management does not intend to sell these financial instruments, the
Company does not know whether the fair values shown below represent values at
which the respective financial instruments could be sold.
At December 31,
------------------------------------------------------------------
2003 2002
------------------------------ --------------------------------
Calculated Calculated
Historical Fair Value Historical Fair Value
Cost Amount Cost Amount
----------- --------------- ------------- ---------------
(In thousands)
ASSETS
Adjustable loans:
Single family ............................... $ 2,439,962 $ 2,527,181 $ 1,636,398 $ 1,665,635
Multi-family ................................ 1,526,186 1,582,830 1,611,318 1,659,295
Commercial ................................. 314,524 336,909 383,383 401,772
Fixed rate loans:
Single family 13,665 14,610 22,685 23,290
Multi-family ................................ 21,585 23,459 33,995 35,969
Commercial ................................. 30,749 33,807 37,640 39,916
Commercial business loans...................... 34,424 35,372 20,304 20,595
Construction loans............................. 9,053 9,370 6,927 7,150
Consumer loans................................. 57,670 49,998 36,880 36,891
Non-performing loans .......................... 3,342 3,342 6,722 6,722
LIABILITIES
Fixed-term certificate accounts ............... 569,127 578,754 921,407 934,359
Non-term deposit accounts ..................... 1,969,271 1,969,271 1,605,619 1,605,619
Borrowings .................................... 1,816,622 1,843,890 1,322,273 1,369,329
GAAP specifies that fair values should be calculated based on the value of
one unit. The estimates do not necessarily reflect the price the Company might
receive if it were to sell the entire holding of a particular financial
instrument at one time.
Fair value estimates are based on the following methods and assumptions,
some of which are subjective in nature. Changes in assumptions could
significantly affect the estimates.
71
FIRSTFED FINANCIAL CORP. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(16) Fair Value of Financial Instruments (continued)
Cash and Cash Equivalents
The carrying amounts reported in the Consolidated Statements of Financial
Condition for this item approximate fair value.
Investment Securities and Mortgage-Backed Securities
Fair values are based on bid prices published in financial newspapers or
bid quotations received from national securities dealers.
Loans Receivable
The portfolio is segregated into those loans with adjustable rates of
interest and those with fixed rates of interest. Fair values are based on
discounting future cash flows by the current rate offered for such loans with
similar remaining maturities and credit risk. The amounts so determined for each
loan category are reduced by the Bank's allowance for loans losses which thereby
takes into consideration changes in credit risk. At December 31, 2003, the Bank
had outstanding commitments to fund $246,996,000 in real estate mortgage loans,
$11,625,000 in construction loans and $12,000 in non-mortgage loans. All loan
commitments were substantially at fair value.
Non-performing Loans
The carrying amounts reported in the Consolidated Statements of Financial
Condition for this item approximate fair value.
Deposits
The fair value of deposits with no stated term, such as regular passbook
accounts, money market accounts and checking accounts, is defined by SFAS No.
107 as the carrying amounts reported in the Consolidated Statements of Financial
Condition. The fair value of deposits with a stated maturity, such as
certificates of deposit, is based on discounting future cash flows by the
current rate offered for such deposits with similar remaining maturities.
Borrowings
For short-term borrowings, fair value approximates carrying value. The fair
value of long-term borrowings is based on their interest rate characteristics.
For variable rate borrowings, fair value is based on carrying values. For fixed
rate borrowings, fair value is based on discounting future contractual cash
flows by the current interest rate paid on such borrowings with similar
remaining maturities.
72
Independent Auditors' Report
The Board of Directors
FirstFed Financial Corp.:
We have audited the accompanying consolidated statements of financial condition
of FirstFed Financial Corp. and subsidiary (Company) as of December 31, 2003 and
2002 and the related consolidated statements of operations and comprehensive
earnings, stockholders' equity and cash flows for each of the years in the
three-year period ended December 31, 2003. These consolidated financial
statements are the responsibility of the Company's management. Our
responsibility is to express an opinion on these consolidated financial
statements based on our audits.
We conducted our audits in accordance with auditing standards generally accepted
in the United States of America. 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 consolidated financial statements referred to above present
fairly, in all material respects, the financial position of FirstFed Financial
Corp. and subsidiary as of December 31, 2003 and 2002 and the results of their
operations and their cash flows for each of the years in the three-year period
ended December 31, 2003 in conformity with accounting principles generally
accepted in the United States of America.
KPMG LLP
Los Angeles, California
January 28, 2004
73
ITEM 9 -- CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None.
ITEM 9A -- CONTROLS AND PROCEDURES
(a) Under the supervision and with the participation of the Company's
management, including its principal executive officer and principal
accounting officer, the Company conducted an evaluation of its disclosure
controls and procedures, as such term is defined under Rule 13a-14(c)
promulgated under the Securities Exchange Act of 1934, as amended (the
"Exchange Act"), within 90 days of the filing date of this report. Based on
their evaluation, the Company's principal executive officer and principal
accounting officer concluded that the Company's disclosure controls and
procedures are effective to alert them to any material information relating
to the Company (including its consolidated subsidiaries) that must be
included in the Company's periodic Securities and Exchange Commission
filings.
(b) There have been no significant changes (including corrective actions with
regard to significant deficiencies or material weaknesses) in the Company's
internal controls or in other factors that could significantly affect these
controls subsequent to the date of the evaluation referenced in paragraph
(a) above.
(c) The Company intends to review and evaluate the design and effectiveness of
its disclosure controls and procedures from time to time in order to
improve its controls and procedures. If any deficiencies are discovered in
the future, corrective action will be taken in order to ensure that senior
management has timely access to all material financial and non-financial
information concerning the Company's business. While management believes
that the Company's disclosure controls and procedures are currently
effective to achieve these results, future events affecting the Company's
business may cause management to modify its disclosure controls and
procedures.
PART III
ITEM 10 -- DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
Information regarding directors and executive officers appearing on page 5
of the Proxy Statement for the Annual Meeting of Stockholders' to be held April
21, 2004 (the "Proxy Statement") is incorporated herein by reference.
ITEM 11 -- EXECUTIVE COMPENSATION
Information regarding executive compensation appearing on page 8 of the
Proxy Statement is incorporated herein by reference.
ITEM 12 -- SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
Information regarding security ownership of certain beneficial owners and
management appearing on pages 2 and 3 of the Proxy Statement incorporated herein
by reference. Information regarding securities authorized for issuance under
equity compensation plans appearing on page 3 of the Proxy Statement is
incorporated herein by reference.
ITEM 13 -- CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
Information regarding certain relationships and related transactions
appearing on pages 10 through 11 of the Proxy Statement is incorporated herein
by reference.
ITEM 14 --PRINCIPAL ACCOUNTING FEES AND SERVICES
Information regarding principal accounting fees and services appearing on
page 16 of the Proxy Statement and the Audit Committee Charter attached as
Exhibit A to the Proxy Statement, are incorporated herein by reference.
74
PART IV
ITEM 15 -- EXHIBITS, CONSOLIDATED FINANCIAL STATEMENT SCHEDULES, AND REPORTS
ON FORM 8K
FIRSTFED FINANCIAL CORP. AND SUBSIDIARY
EXHIBIT
NUMBER
-------------
(3.1) Restated Certificate of Incorporation filed as Exhibit 3.1 to Form 10-K
for the fiscal year ended December 31, 1999 and incorporated by
reference.
(3.2) By-laws filed as Exhibit (1)(a) to Form 8-A dated September 4,1987 and
incorporated by reference.
(4.1) Amended and Restated Rights Agreement dated as of September 25, 1998,
filed as Exhibit 4.1 to Form 8-A/A, dated September 25, 1998 and
incorporated by reference.
(10.1) Deferred Compensation Plan filed as Exhibit 10.3 to Form 10-K for
the fiscal year ended December 31, 1983 and incorporated by
reference.
(10.2) Supplemental Executive Retirement Plan dated January 16, 1986 filed as
Exhibit 10.5 to Form 10-K for the fiscal year ended December 31, 1992
and incorporated by reference.
(10.3) Change of Control Agreement effective September 26, 1996 filed
as Exhibit 10.4 to Form 10-Q for the Quarter ended September 30, 1996
and Amendment filed as Exhibit 10.3 10.4 for change of control to
Form 10-Q for the Quarter ended September 30, 2000 and incorporated
by reference.
(10.4) 1997 Non-employee Directors Stock Incentive Plan filed as Exhibit 1 to
Form S-8 dated August 12, 1997 and Amendment filed as Exhibit 10.5 to
Form 10-Q for the Quarter ended September 30, 2000, and
incorporated by reference.
(21) Registrant's sole subsidiary is First Federal Bank of California, a
federal savings bank.
(23) Independent Auditors' consent.
(24) Power of Attorney (included at page 78).
(31.1) Certification of Babette E. Heimbuch, Chairman, President and Chief
Executive Officer of the Company, pursuant to Rule 13a-14(a) of the
Exchange Act.
(31.2) Certification of Douglas J. Goddard, Executive Vice President
and Chief Financial Officer of the Company, pursuant to Rule
13a-14(a) of the Exchange Act.
(32.1) Certification of Babette E. Heimbuch, Chairman, President and Chief
Executive Officer of the Company, pursuant to 18 U.S.C. Section 1350.
(32.2) Certification of Douglas J. Goddard, Executive Vice President
and Chief Financial Officer of the Company, pursuant to 18 U.S.C.
Section 1350.
This 2003 Annual Report on Form 10-K and the Proxy Statement have already
been furnished to each stockholder of record who is entitled to receive copies
thereof. Copies of these items will be furnished without charge upon request in
writing by any stockholder of record on March 5, 2004 and any beneficial owner
of Company stock on such date who has not previously received such material and
who so represents in good faith and in writing to:
Corporate Secretary
FirstFed Financial Corp.
401 Wilshire Boulevard
Santa Monica, California 90401
Other exhibits will be supplied to any such stockholder at a charge equal
to the Company's cost of copying, postage, and handling.
(b) Reports on Form 8-K
The Company filed reports on Form 8-K during the year ended December 31,
2003 on the following dates: October 15, 2003, October 22, 2003, November 21,
2003, and December 23, 2003. The reports are related to the release of the
Company's third quarter earnings and the disclosure of certain other financial
data.
75
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.
FIRSTFED FINANCIAL CORP.,
a Delaware corporation
Dated this 24th day of February 2004
By: /s/ Babette E. Heimbuch
-----------------------
Babette E. Heimbuch
Chief Executive Officer
76
POWER OF ATTORNEY
Each person whose signature appears below hereby authorizes Babette E. Heimbuch
and Douglas J. Goddard, and each of them or either of them, as attorney-in-fact
to sign on his or her behalf as an individual and in every capacity stated
below, and to file all amendments to the Registrant's Form 10-K, and the
Registrant hereby confers like authority to sign and file in its behalf.
Pursuant to the requirements of the Securities Exchange Act of 1934, this report
has be signed by the following persons on behalf of the Registrant and in the
capacities indicated on the 24th day of February 2004.
SIGNATURE TITLE
Chairman of the Board and
Chief Executive Officer
/s/ Babette E. Heimbuch (Principal Executive Officer)
- ----------------------------------------
Babette E. Heimbuch
Director, President and Chief
/s/ James P. Giraldin Operating Officer
- ----------------------------------------
James P. Giraldin
Executive Vice President and
/s/ Douglas J. Goddard Chief Financial Officer
- ----------------------------------------
Douglas J. Goddard (Principal Financial Officer)
Senior Vice President
/s/ Brenda J. Battey and Controller
- ----------------------------------------
Brenda J. Battey (Principal Accounting Officer)
/s/ Jesse Casso, Jr. Director
- ----------------------------------------
Jesse Casso, Jr.
/s/ Christopher M. Harding Director
- ----------------------------------------
Christopher M. Harding
/s/ William G. Ouchi Director
- ----------------------------------------
William G. Ouchi
/s/ William P. Rutledge Director
- ----------------------------------------
William P. Rutledge
/s/ Charles F. Smith Director
- ----------------------------------------
Charles F. Smith
/s/ Steven L. Soboroff Director
- ----------------------------------------
Steven L. Soboroff
/s/ John R. Woodhull Director
- ----------------------------------------
John R. Woodhull
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Exhibit 31.1
CERTIFICATION OF CHIEF EXECUTIVE OFFICER
I, Babette Heimbuch, certify that:
1) I have reviewed this annual report on Form 10-K of FirstFed Financial
Corp.;
2) Based on my knowledge, this annual report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by
this annual report;
3) Based on my knowledge, the financial statements, and other financial
information included in this annual report, fairly present in all material
respects the financial condition, results of operations and cash flows of
the registrant as of, and for, the periods presented in this annual report;
(4) The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined
in Exchange Act Rules 13a-14 and 15d-14) and internal control over
financial reporting (as defined in Exchange Act Rules 13a-15(f) and
15d-15(f)) for the registrant and have:
(i) Designed such disclosure controls and procedures, or caused such
disclosure controls and procedures to be designed under our
supervision, to ensure that material information relating to the
registrant, including its consolidated subsidiaries, is made known
to us by others within those entities, particularly during the
period in which this annual report is being prepared;
(ii) Designed such internal control over financial reporting, or caused
such internal control over financial reporting to be designed
under our supervision, to provide reasonable assurance regarding
the reliability of financial reporting and the preparation of
financial statements for external purposes in accordance with
generally accepted accounting principles;
(iii)Evaluated the effectiveness of the registrant's disclosure
controls and procedures and presented in this report our
conclusions about the effectiveness of the disclosure controls and
procedures, as of the end of the period covered by this report
based on such evaluation; and
(iv) Disclosed in this report any change in the registrant's internal
control over financial reporting that occurred during the
registrant's most recent fiscal quarter (the registrant's
fourth fiscal quarter in the case of an annual report) that has
materially affected, or is reasonably likely to materially
affect, the registrant's internal control over financial
reporting;
(5) The registrant's other certifying officers and I have disclosed, based on
our most recent evaluation of internal control over financial reporting, to
the registrant's auditors and the audit committee of the registrant's board
of directors (or persons fulfilling the equivalent function):
(i) All significant deficiencies and material weaknesses in the
design or operation of internal control over financial reporting
which are reasonably likely to adversely affect the registrant's
ability to record, process, summarize and report financial
information; and
(ii) Any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's
internal control over financial reporting; and
(6) The registrant's other certifying officers and I have indicated in this
annual report whether or not there were significant changes in internal
control over financial reporting or in other factors that could
significantly affect internal control over financial reporting subsequent
to the date of our most recent evaluation, including any corrective actions
with regard to significant deficiencies and material weaknesses.
Dated this 24th day of February 2004
By: /s/ Babette E. Heimbuch
-----------------------
Babette E. Heimbuch
Chief Executive Officer
78
Exhibit 31.2
CERTIFICATION OF CHIEF FINANCIAL OFFICER
I, Douglas Goddard, certify that:
(1) I have reviewed this annual report on Form 10-K of FirstFed Financial
Corp.;
(2) Based on my knowledge, this annual report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by
this annual report;
(3) Based on my knowledge, the financial statements, and other financial
information included in this annual report, fairly present in all material
respects the financial condition, results of operations and cash flows of
the registrant as of, and for, the periods presented in this annual report;
(4) The registrant's other certifying officers and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined
in Exchange Act Rules 13a-14 and 15d-14) and internal control over
financial reporting (as defined in Exchange Act Rules 13a-15(f) and
15d-15(f)) for the registrant and have:
(i) Designed such disclosure controls and procedures or caused such
disclosure controls and procedures to be designed under our
supervision, to ensure that material information relating to
the registrant, including its consolidated subsidiaries, is made
known to us by others within those entities, particularly during
the period in which this annual report is being prepared;
(ii) Designed such internal control over financial reporting, or
caused such internal control over financial reporting to be
designed under our supervision, to provide reasonable assurance
regarding the reliability of financial reporting and the
preparation of financial statements for external purposes in
accordance with generally accepted accounting principles;
(iii) Evaluated the effectiveness of the registrant's disclosure
controls and procedures and presented in this report our
conclusions about the effectiveness of the disclosure controls
and procedures, as of the end of the period covered by this
report based on such evaluation; and
(iv) Disclosed in this report any change in the registrant's internal
control over financial reporting that occurred during the
registrant's most recent fiscal quarter (the registrant's fourth
fiscal quarter in the case of an annual report) that has
materially affected, or is reasonably likely to materially
affect, the registrant's internal control over financial
reporting;
(5) The registrant's other certifying officers and I have disclosed, based on
our most recent evaluation of internal control over financial reporting, to
the registrant's auditors and the audit committee of the registrant's board
of directors (or persons fulfilling the equivalent function):
(i) All significant deficiencies and material weaknesses in the
design or operation of internal control over financial reporting
which are reasonably likely to adversely affect the registrant's
ability to record, process, summarize and report financial
information; and
(ii) Any fraud, whether or not material, that involves management or
other employees who have a significant role in the registrant's
internal control over financial reporting; and
(6) The registrant's other certifying officers and I have indicated in this
annual report whether or not there were significant changes in internal
control over financial reporting or in other factors that could
significantly affect internal control over financial reporting subsequent
to the date of our most recent evaluation, including any corrective actions
with regard to significant deficiencies and material weaknesses.
Dated this 24th day of February 2004.
By: /s/ Douglas Goddard
-------------------
Douglas Goddard
Chief Financial Officer
79
EXHIBIT 32.1
CEO CERTIFICATION
The undersigned, as Chief Executive Officer hereby certifies, to the best of her
knowledge and belief, that:
(1) the Form 10-K of FirstFed Financial Corp. (the "Company") for the annual
period ended December 31, 2003 (the "Report ") accompanying this
certification fully complies with the requirements of Section 13(a) or
15(d) of the Securities Exchange Act of 1934 (15 U.S.C. 78m or 78o(d)); and
(2) the information contained in the Report fairly presents, in all material
respects, the financial condition and results of operations of the Company
for such period.
This certification is made solely for purposes of complying with the provisions
of Section 906 of the Sarbanes-Oxley Act of 2003, 18 U.S.C. Section 1350.
FIRSTFED FINANCIAL CORP.
Registrant
Date: February 24, 2004
By: /s/ Babette E. Heimbuch
-----------------------
Babette E. Heimbuch
Chief Executive Officer
80
EXHIBIT 32.2
CFO CERTIFICATION
The undersigned, as Chief Financial Officer hereby certifies, to the best of his
knowledge and belief, that:
(1) the Form 10-K of FirstFed Financial Corp. (the "Company") for
the annual period ended December 31, 2003 (the "Report ")
accompanying this certification fully complies with the
requirements of Section 13(a) or 15(d) of the Securities
Exchange Act of 1934 (15 U.S.C. 78m or 78o(d)); and
(2) the information contained in the Report fairly presents, in
all material respects, the financial condition and results of
operations of the Company for such period.
This certification is made solely for purposes of complying with the provisions
of Section 906 of the Sarbanes-Oxley Act of 2003, 18 U.S.C. Section 1350.
FIRSTFED FINANCIAL CORP.
Registrant
Date: February 24, 2004
By: /s/ Douglas J. Goddard
----------------------
Douglas J. Goddard
Chief Financial Officer and
Executive Vice President
81