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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 [FEE REQUIRED]
For the fiscal year ended June 30, 1998
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES
EXCHANGE ACT OF 1934 [NO FEE REQUIRED]
For the transition period from ___________ to ____________
Commission file number 0-24040
PENNFED FINANCIAL SERVICES, INC.
(Exact name of registrant as specified in its charter)
Delaware 22-3297339
(State or other jurisdiction of incorporation or organization) (I.R.S. Employer Identification No.)
622 Eagle Rock Avenue, West Orange, New Jersey 07052-2989
(Address of principal executive offices) (Zip Code)
Registrant's telephone number, including area code: (973) 669-7366
Securities Registered Pursuant to Section 12(b) of the Act:
None
Securities Registered Pursuant to Section 12(g) of the Act:
Common Stock, par value $.01 per share
(Title of class)
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
requirements for the past 90 days.
YES X NO ___
Indicate by check mark if disclosure of delinquent filers pursuant to
Item 405 of Regulation S-K 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 this Form 10-K or any
amendment to this Form 10-K. [ X ]
The aggregate market value of the voting stock held by non-affiliates of
the registrant, computed by reference to the closing price of such stock on the
Nasdaq National Market as of September 11, 1998, was $90,496,000. (The exclusion
from such amount of the market value of the shares owned by any person shall not
be deemed an admission by the registrant that such person is an affiliate of the
registrant.)
As of September 11, 1998, there were issued and outstanding 9,235,859
shares of the Registrant's Common Stock.
DOCUMENTS INCORPORATED BY REFERENCE
Part III of Form 10-K - Portions of the Proxy Statement for 1998 Annual
Meeting of Stockholders.
PART I
Item 1. Business
General
PennFed Financial Services, Inc. ("PennFed" and with its subsidiaries, the
"Company"), a Delaware corporation, was organized in March 1994 for the purpose
of becoming the savings and loan holding company for Penn Federal Savings Bank
("Penn Federal" or the "Bank") in connection with the Bank's conversion from a
federally chartered mutual savings bank to a federally chartered stock savings
bank (the "Conversion"). PennFed owns all of the outstanding stock of the Bank.
All references to the Company, unless otherwise indicated, prior to July 14,
1994 refer to the Bank and its subsidiaries on a consolidated basis. The
Company's common stock is traded on the Nasdaq National Market Tier of the
Nasdaq Stock Market under the symbol "PFSB."
PennFed and the Bank are subject to comprehensive regulation, examination and
supervision by the Office of Thrift Supervision, Department of the Treasury
("OTS") and by the Federal Deposit Insurance Corporation ("FDIC"). The Bank is a
member of the Federal Home Loan Bank ("FHLB") System and its deposits are
insured up to applicable limits by the FDIC.
The Company has been, and intends to continue to be, a community-oriented
financial institution offering a variety of financial services to meet the needs
of the communities it serves. The Company attracts deposits from the general
public and uses such deposits, together with borrowings and other funds, to
originate and purchase one- to four-family residential mortgage loans, and, to a
lesser extent, commercial and multi-family real estate and consumer loans. See
"-Originations, Purchases, Sales and Servicing of Loans." The Company also
invests in mortgage-backed securities secured by one- to four-family residential
mortgages, U.S. Government and agency obligations and other permissible
investments.
The Company offers a variety of deposit accounts having a wide range of interest
rates and terms, which generally include savings, money market, and a variety of
checking accounts, as well as certificate accounts. The Company generally
solicits deposits in its primary market areas.
At June 30, 1998, the Company had total assets of $1.6 billion, deposits of $1.0
billion, borrowings of $362.0 million and stockholders' equity of $103.7
million.
At June 30, 1998, the Company's gross loan portfolio totaled $1.1 billion,
including $971.7 million of one- to four-family residential first mortgage
loans, $65.8 million of commercial and multi-family real estate loans and $54.1
million of consumer loans. In addition, on that date, the Company had $204.5
million of mortgage-backed securities and $193.4 million of other investment
securities and FHLB of New York stock.
At June 30, 1998, the vast majority of the Company's first and second mortgage
loans (excluding mortgage-backed securities) were secured by properties located
in New Jersey. Of the loans secured by properties outside the State of New
Jersey, the majority are one- to four-family loans and the balance are
commercial and multi-family real estate loans. See "-Originations, Purchases,
Sales and Servicing of Loans." The Company's revenues are derived primarily from
interest on loans, mortgage-backed securities and investments, and income from
service charges.
Penn Federal, through its wholly-owned subsidiary, Penn Savings Insurance
Agency, Inc., offers insurance and uninsured non-deposit investment products to
its customers. See "-Subsidiary Activities."
In October 1997, Penn Federal formed Ferry Development Holding Company, a
Delaware operating subsidiary, to hold and manage its investment portfolio.
The administrative offices of the Company are located at 622 Eagle Rock Avenue,
West Orange, New Jersey 07052-2989, and the telephone number at that address is
(973) 669-7366.
2
Forward-Looking Statements
When used in this Form 10-K and in future filings by the Company with the
Securities and Exchange Commission (the "SEC"), in the Company's press releases
or other public or shareholder communications, and in oral statements made with
the approval of an authorized executive officer, the words or phrases "will
likely result," "are expected to," "will continue," "is anticipated,"
"estimate," "project" or similar expressions are intended to identify
"forward-looking statements" within the meaning of the Private Securities
Litigation Reform Act of 1995. Such statements are subject to certain risks and
uncertainties, including, among other things, changes in economic conditions in
the Company's market area, changes in policies by regulatory agencies,
fluctuations in interest rates, demand for loans in the Company's market area
and competition, that could cause actual results to differ materially from
historical earnings and those presently anticipated or projected. The Company
wishes to caution readers not to place undue reliance on any such
forward-looking statements, which speak only as of the date made. The Company
wishes to advise readers that the factors listed above could affect the
Company's financial performance and could cause the Company's actual results for
future periods to differ materially from any opinions or statements expressed
with respect to future periods in any current statements.
The Company does not undertake - and specifically declines any obligation - to
publicly release the result of any revisions which may be made to any
forward-looking statements to reflect events or circumstances after the date of
such statements or to reflect the occurrence of anticipated or unanticipated
events.
Market Area
The Company's primary market areas are comprised of the Ironbound section of the
City of Newark and surrounding urban communities, the suburban Essex County
areas and selected areas of central/southern New Jersey, which are serviced
through eighteen full service offices. Penn Federal was organized in the
Ironbound section of Newark in 1941 and the home office of the Bank remains
there. The City of Newark and immediately adjacent communities of East Newark
and Harrison are primarily urban blue collar areas with two or more family
dwellings and some manufacturing and industry. Deposits at Bank branches in
these areas comprise 35% of total Bank deposits. The suburban Essex County area
consists of communities with predominantly single family homes, and a white
collar commuter population that works in New York or Newark, or engages in local
retail trade or industry. Suburban Essex County is the Bank's largest market
area, accounting for approximately 39% of total Bank deposits at June 30, 1998.
Penn Federal's central/southern New Jersey branches are located in selected
areas of Middlesex, Monmouth and northern Ocean counties. The central/southern
region branches, with 26% of total Bank deposits, serve retirement populations
and expanding townhouse, multi-family and single family home developments. The
Bank also purchases a significant volume of one- to four-family residential
loans secured by properties located primarily in New Jersey. See "-Originations,
Purchases, Sales and Servicing of Loans."
Lending Activities
General. The Company primarily originates and purchases fixed and adjustable
rate, one- to four-family first mortgage loans. The Company's general policy is
to originate and purchase such mortgages with maturities between 10 and 30
years. Adjustable rate mortgage ("ARM") loans are originated and purchased in
order to increase the percentage of loans with more frequent repricing than
fixed-rate, one- to four-family mortgage loans. The Company underwrites mortgage
loans generally using Federal Home Loan Mortgage Corporation ("FHLMC") and
Federal National Mortgage Association ("FNMA") guidelines, although loan amounts
may exceed agency limits. See "-Loan Portfolio Composition" and "-One- to
Four-Family Residential Mortgage Lending."
The Company also originates commercial and multi-family real estate loans and
consumer loans. Such loans generally reprice more frequently, have shorter
maturities, and/or have higher yields than fixed rate, one- to four-family
mortgage loans. At June 30, 1998, the Company's total net loan portfolio was
$1.1 billion.
Residential and consumer loan applications may be approved by various officers
up to $1.3 million. Commercial and multi-family real estate loan applications
are initially considered and approved at various levels of authority, depending
on the amount of the loan. All commercial and multi-family real estate loans
between $750,000 and $1.3 million must be approved by the Executive Loan
Committee which consists of the President, certain executive officers and the
Vice President of Commercial Lending. The approval of the Company's Board of
Directors is required for all loans above $1.3 million.
3
The aggregate amount of loans that the Company is permitted to make under
applicable federal regulations to any one borrower, including related entities,
or the aggregate amount that the Company could have invested in any one real
estate project is generally the greater of 15% of unimpaired capital and surplus
or $500,000. See "Regulation-Federal Regulation of Savings Associations." At
June 30, 1998, the maximum amount which the Company could have lent to any one
borrower and the borrower's related entities was approximately $16.7 million.
The Company's current policy is to limit such loans to a maximum of 50% of the
general regulatory limit or $5.0 million, whichever is less. At June 30, 1998,
the Company did not have any loans or series of loans to one borrower with
outstanding balances in excess of $2.8 million. See "-Commercial and
Multi-Family Real Estate Lending." At June 30, 1998, the Company's largest group
of loans to one borrower totaled $2.8 million and consisted of a single
commercial real estate loan. The loan is secured by a retail plaza located in
the center of Fort Lee, New Jersey. At June 30, 1998, there was a total of 17
loans or lender relationships in excess of $1.0 million, for a total amount of
$28.1 million. At that date, all of these loans were performing in accordance
with their respective repayment terms.
Loan Portfolio Composition. The following table sets forth the composition of
the Company's loan portfolio at the dates indicated.
June 30,
---------------------------------------------------------------------------------------------------
1998 1997 1996 1995 1994
---------------------------------------------------------------------------------------------------
Amount Percent Amount Percent Amount Percent Amount Percent Amount Percent
---------------------------------------------------------------------------------------------------
(Dollars in thousands)
First mortgage loans:
One- to four-family(1)....... $ 971,668 89.01% $831,843 89.55% $565,924 86.68% $386,125 82.17% $301,843 78.13%
Construction................. -- -- -- -- -- -- -- -- 177 0.04
Commercial and multi-family.. 65,833 6.03 56,811 6.12 52,014 7.97 50,448 10.74 49,135 12.72
---------------------------------------------------------------------------------------------------
Total first mortgage loans. 1,037,501 95.04 888,654 95.67 617,938 94.65 436,573 92.91 351,155 90.89
---------------------------------------------------------------------------------------------------
Other loans:
Consumer loans:
Second mortgages........... 27,232 2.49 23,665 2.55 23,912 3.66 21,105 4.49 22,532 5.83
Home equity lines of credit 23,538 2.16 14,040 1.51 8,955 1.37 9,792 2.08 10,840 2.81
Other...................... 3,331 0.31 2,512 0.27 2,117 0.32 2,461 0.52 1,825 0.47
---------------------------------------------------------------------------------------------------
Total consumer loans..... 54,101 4.96 40,217 4.33 34,984 5.35 33,358 7.09 35,197 9.11
---------------------------------------------------------------------------------------------------
Total loans.............. 1,091,602 100.00% 928,871 100.00% 652,922 100.00% 469,931 100.00% 386,352 100.00%
====== ====== ====== ====== ======
Add/(less):
Loans in process............. -- -- -- -- (44)
Unamortized premiums, deferred
loan fees, and other, net.. 7,026 5,202 2,279 606 109
Allowance for loan losses.... (2,776) (2,622) (2,630) (2,860) (3,060)
---------------------------------------------------------------------------------------------------
Total loans receivable, net $1,095,852 $931,451 $652,571 $467,677 $383,357
===================================================================================================
(1) One- to four-family loans include loans held for sale of $565,000, $88,000
and $536,000 at June 30, 1998, 1996 and 1994, respectively. There were
no loans held for sale at June 30, 1997 and 1995.
Loan Maturity. The following schedule sets forth the contractual maturity of the
Company's loan portfolio as of June 30, 1998. Loans that have adjustable rates
are shown as amortizing to final maturity rather than when the interest rates
are next subject to change. Loans with balloon payments are also shown as
amortizing to final maturity (i.e., when the balloon payment is due). All
balances are shown on a gross basis and, thus, include no premium or discount
adjustments. Savings account loans and overdraft checking balances, included in
consumer loans, which have no stated final maturity are reported as due within
one year. The table does not reflect the effects of possible prepayments or
scheduled principal amortization.
4
After One After Three After Five After Ten
One Year Through Through Through Through After
or Less Three Years Five Years Ten Years Twenty Years Twenty Years Total
-----------------------------------------------------------------------------------------
(In thousands)
First mortgage loans:
One- to four-family................ $1,306 $ 3,020 $ 5,169 $50,164 $227,994 $684,015 $ 971,668
Commercial and multi-family........ 3,487 9,972 4,621 10,854 31,777 5,122 65,833
-----------------------------------------------------------------------------------------
Total first mortgage loans...... 4,793 12,992 9,790 61,018 259,771 689,137 1,037,501
Consumer loans..................... 3,288 1,533 4,218 9,159 35,297 606 54,101
-----------------------------------------------------------------------------------------
Total loans, gross.............. $8,081 $14,525 $14,008 $70,177 $295,068 $689,743 $1,091,602
=========================================================================================
Loans due after June 30, 1999, which have fixed interest rates amount to $637.2
million, while those with adjustable rates amount to $446.4 million, detailed as
follows:
Due After June 30, 1999
------------------------------------------
Fixed Adjustable Total
------------------------------------------
(In thousands)
First mortgage loans:
One- to four-family...................... $596,768 $373,594 $ 970,362
Commercial and multi-family.............. 12,970 49,376 62,346
------------------------------------------
Total first mortgage loans.......... 609,738 422,970 1,032,708
Consumer loans........................... 27,439 23,374 50,813
------------------------------------------
Total loans, gross.................. $637,177 $446,344 $1,083,521
==========================================
One- to Four-Family Residential Mortgage Lending. At June 30, 1998, the
Company's one- to four-family residential mortgage loans totaled $971.7 million,
or approximately 89.01% of the Company's gross loan portfolio. Residential loan
originations are generated by the Company's in-house originations staff,
marketing efforts, its present customers, walk-in customers and referrals from
real estate agents, mortgage brokers and builders. The Company focuses its
lending efforts primarily on the origination of loans secured by first mortgages
on owner-occupied, one- to four-family residences. During the fiscal year ended
June 30, 1998, the Company originated $243.3 million of fixed rate real estate
loans secured by one- to four-family residential real estate. ARM loans
originated during fiscal 1998 totaled $40.3 million. Substantially all of the
Company's one- to four-family residential mortgage originations are secured by
properties located in the State of New Jersey.
During fiscal 1998, the Company had two correspondent relationships with other
institutions through which it purchased $16.3 million of newly originated fixed
and $73.6 million of newly originated adjustable rate one- to four-family
residential first mortgages, most of which are secured by properties located in
the State of New Jersey and a limited amount of which are secured by properties
located in the Commonwealth of Pennsylvania. Those loans are underwritten by the
correspondent institutions using the Company's guidelines and a portion of those
loans are re-underwritten by the Bank on a test basis. All loans purchased are
supported by customary representations and warranties provided by the
correspondent institutions. See "-Originations, Purchases, Sales and Servicing
of Loans."
The Company currently originates one- to four-family residential mortgage loans
with terms of up to 30 years in amounts up to 95% of the appraised value of the
security property. The Company generally requires that private mortgage
insurance be obtained in an amount sufficient to reduce the Company's exposure
to 80% or less of the loan-to-value level. Interest rates charged on loans are
competitively priced according to market conditions.
In underwriting one- to four-family residential real estate loans, the Company
evaluates both the borrower's ability to make monthly payments and the value of
the property securing the loan. Properties securing real estate loans made by
the Company are appraised by independent appraisers approved by the Board of
Directors. The Company requires borrowers to obtain title insurance and fire and
property insurance (including flood insurance, if necessary) in the amount of
the loan
5
or the replacement cost, whichever is less. Real estate loans originated and
purchased by the Company generally contain a "due on sale" clause allowing the
Company to declare the unpaid principal balance due and payable upon the sale of
the security property.
Commercial and Multi-Family Real Estate Lending. The Company also engages in
commercial and multi-family real estate lending in its market areas. At June 30,
1998, the Company had $65.8 million of commercial and multi-family real estate
loans which represented 6.03% of the Company's gross loan portfolio. This amount
includes less than $425,000 of lines of credit secured by non-real estate
business assets. At June 30, 1998, the average per loan balance of the Company's
commercial and multi-family real estate loans outstanding was $270,000.
The Company's commercial and multi-family real estate loan portfolio is secured
primarily by apartment buildings, mixed-use buildings, small office buildings,
restaurants, warehouses and strip shopping centers. Commercial and multi-family
real estate loans typically have terms that do not exceed 15 years and have a
variety of rate adjustment features and other terms. Generally, the loans are
made in amounts up to 75% of the appraised value of the security property.
Adjustable rate commercial and multi-family real estate loans normally provide
for a margin over the U.S. Treasury security adjusted to a constant maturity of
five years, with periodic adjustments after five years, or over the Prime Rate
as reported in the Wall Street Journal. In underwriting these loans, the Company
analyzes the current financial condition of the borrower, the borrower's credit
history, and the reliability and predictability of the cash flow generated by
the property securing the loan. The Company usually requires personal guarantees
of the borrowers. Appraisals on properties securing commercial real estate loans
originated by the Company are performed by independent appraisers approved by
the Board of Directors. During fiscal 1998, the Company established a
correspondent relationship with an unaffiliated bank in New Jersey as part of an
overall effort to increase its commercial and multi-family real estate
originations.
Commercial and multi-family real estate loans generally present a higher level
of risk than loans secured by one- to four-family residences. This greater risk
is due to several factors, including the concentration of principal in a limited
number of loans and borrowers, the effect of general economic conditions on
income-producing properties and the increased difficulty of evaluating and
monitoring these types of loans. Furthermore, the repayment of loans secured by
commercial and multi-family real estate is typically dependent upon the
successful operation of the related real estate project. If the cash flow from
the project is reduced (e.g., if leases are not obtained or renewed, or a
bankruptcy court modifies a lease term, or a major tenant is unable to fulfill
its lease obligations), the borrower's ability to repay the loan may be
impaired.
Consumer Lending. The Company offers a variety of secured consumer loans,
including home equity lines of credit, second mortgages, automobile loans, boat
loans and loans secured by savings deposits. In addition, the Company offers
unsecured overdraft checking protection. At June 30, 1998, the Company's total
consumer loan portfolio was $54.1 million, or 4.96% of its gross loan portfolio,
of which approximately 56% were fixed rate loans and 44% were adjustable rate
loans. The Company currently originates substantially all of its consumer loans
in its primary market areas. Since 1992, the Company has originated consumer
loans only on a direct basis, where the Company extends credit directly to the
borrower. Prior to that date, the Company purchased second mortgages from
various affiliated and unaffiliated third parties. At June 30, 1998, the Company
had $2.4 million in purchased second mortgages, of which $524,000 were
non-performing at that date. See "-Non-Performing Assets and Classified Assets."
The Company originates adjustable rate home equity lines of credit and fixed
rate second mortgage loans generally up to $125,000. Home equity lines of credit
and second mortgage loans together with loans secured by all prior liens, are
generally limited to 75% or less of the appraised value of the property securing
the loan. Second mortgage loans have a maximum term of up to 15 years. Home
equity lines of credit may have varying terms up to 20 years. These loans are
underwritten utilizing criteria similar to the Company's first mortgage loans.
As of June 30, 1998, second mortgage loans and home equity lines of credit
amounted to $50.8 million or 4.65% of the Company's gross loan portfolio.
Consumer loan terms vary according to the type and value of collateral, length
of contract and creditworthiness of the
6
borrower. The underwriting standards employed by the Company for consumer loans
include an application, a determination of the applicant's payment history on
other debts and an assessment of the borrower's ability to meet existing
obligations and payments on the proposed loan. Although creditworthiness of the
applicant is a primary consideration, the underwriting process also includes a
comparison of the value of the security, if any, in relation to the proposed
loan amount.
Consumer loans may entail greater credit risk than residential mortgage loans,
particularly in the case of consumer loans which are unsecured or are secured by
rapidly depreciable assets, such as automobiles and boats. In such cases, any
repossessed collateral from a defaulted consumer loan may not provide an
adequate source of repayment of the outstanding loan balance as a result of the
greater likelihood of damage, loss or depreciation. In addition, consumer loan
collections are dependent on the borrower's continuing financial stability, and
thus are more likely to be affected by adverse personal circumstances.
Furthermore, the application of various federal and state laws, including
bankruptcy and insolvency laws, may limit the amount which can be recovered on
such loans.
Originations, Purchases, Sales and Servicing of Loans
For the fiscal year ended June 30, 1998, the Company originated $340.2 million
of loans, compared to $173.5 million and $143.0 million in fiscal 1997 and 1996,
respectively. Mortgage loan originations are handled by employees of the
Company. Separate origination facilities are not maintained.
During the fiscal years ended June 30, 1998, 1997 and 1996, the Company
purchased $89.9 million, $195.5 million and $132.2 million of one-to four-family
residential first mortgage loans, respectively, primarily through correspondent
relationships with other institutions. The purchased loans represent both fixed
and adjustable rate one-to four-family first mortgages secured by properties
primarily located throughout New Jersey. During fiscal 1998 and 1997, a limited
amount of loans secured by properties located in the Commonwealth of
Pennsylvania were purchased. All loans are purchased on a non-recourse basis.
The increase in one- to four-family loan originations in fiscal 1998 was
primarily due to the Company's intentional reduction of its dependency on
correspondent relationships. In addition, in-house originations were positively
impacted during the latter part of fiscal 1998 due to a lower interest rate
environment.
From time to time, the Company sells one-to four-family first mortgage loans,
without recourse, to FHLMC and other secondary market purchasers. The Company
sold loans in aggregate amounts of $76.2 million, $585,000 and $273,000 during
the years ended June 30, 1998, 1997 and 1996, respectively.
When loans are sold, the Company may retain the responsibility for servicing the
loans or may sub-service the loans for a short term period. The Company receives
a fee for performing these services. The Company serviced for others one-to
four-family mortgage loans with an aggregate outstanding principal balance of
$110.9 million, $78.8 million and $89.2 million at June 30, 1998, 1997 and 1996,
respectively.
7
The following table sets forth the activity in the Company's loan portfolio for
the years indicated.
Year ended June 30,
------------------------------------------
1998 1997 1996
------------------------------------------
(In thousands)
Net loans receivable at beginning of year...................... $ 931,451 $652,571 $467,677
Plus:
Loans originated:
One- to four-family............................ 283,666 141,736 119,583
Commercial and multi-family real estate........ 18,901 12,225 7,477
Consumer....................................... 37,595 19,501 15,966
------------------------------------------
Total loans originated................. 340,162 173,462 143,026
------------------------------------------
One- to four-family loans purchased.................... 89,910 195,514 132,238
------------------------------------------
Total loans originated and purchased... 430,072 368,976 275,264
Less:
One- to four-family loans sold......................... 76,196 585 273
Loan principal payments and other, net................. 187,360 87,821 88,557
Loans transferred to real estate owned................. 2,115 1,690 1,540
------------------------------------------
Net loans receivable at end of year............................ $1,095,852 $931,451 $652,571
==========================================
Non-Performing and Classified Assets
Generally, when a borrower fails to make a required payment on a real estate
secured loan or other secured loan the Company institutes collection procedures
by mailing a delinquency notice. The customer is contacted again, by telephone,
if the delinquency is not promptly cured. In many cases, delinquencies are cured
promptly; however, if a loan secured by real estate or other collateral has been
delinquent for more than 60 days, a letter of notice of intention to foreclose
is sent and the customer is requested to make arrangements to bring the loan
current. At 90 days past due, unless satisfactory arrangements have been made,
immediate repossession commences or foreclosure procedures are instituted. For
unsecured loans, the collection procedures are similar; however, at 90 days past
due, a reserve or charge-off is recommended and, subsequently, a law suit is
filed, if necessary.
At June 30, 1998, the Company's loans delinquent 60 to 89 days totaled $1.5
million of which $1.1 million were one-to four-family mortgage loans, $274,000
were commercial and multi-family loans, and $93,000 were consumer loans.
The table below sets forth the Company's amounts and categories of
non-performing assets and restructured loans. Loans are placed on non-accrual
status when the collection of principal or interest becomes delinquent more than
90 days. There are no loans delinquent more than 90 days which are still
accruing. Real estate owned represents assets acquired in settlement of loans
and is shown net of valuation allowances. Restructured loans are all performing
in accordance with modified terms and are, therefore, considered performing.
8
At June 30,
--------------------------------------------------------
1998 1997 1996 1995 1994
--------------------------------------------------------
(Dollars in thousands)
Non-accruing loans:
One- to four-family........................... $2,575 $3,567 $4,009 $3,040 $ 5,739
Construction ................................. -- -- -- -- 132
Commercial and multi-family .................. 414 1,053 913 1,090 1,966
Consumer ..................................... 753 865 1,264 1,435 2,021
--------------------------------------------------------
Total non-accruing loans ................... 3,742 5,485 6,186 5,565 9,858
Real estate owned, net......................... 1,643 884 1,083 1,177 1,469
--------------------------------------------------------
Total non-performing assets................. 5,385 6,369 7,269 6,742 11,327
Restructured loans............................. 1,415 1,451 2,340 2,922 2,289
--------------------------------------------------------
Total risk elements......................... $6,800 $7,820 $9,609 $9,664 $13,616
========================================================
Non-accruing loans as a percentage
of total loans.............................. 0.34% 0.59% 0.95% 1.18% 2.55%
========================================================
Non-performing assets as a percentage
of total assets............................. 0.35% 0.48% 0.67% 0.78% 1.67%
========================================================
Total risk elements as a percentage
of total assets............................. 0.44% 0.59% 0.88% 1.11% 2.00%
========================================================
For the year ended June 30, 1998, gross interest income which would have been
recorded had the non-accruing loans been current in accordance with their
original terms amounted to $167,000, none of which was included in interest
income during this period.
For the year ended June 30, 1998, gross interest income which would have been
recorded had the restructured loans paid in accordance with their original terms
amounted to $162,000. For the year ended June 30, 1998, the actual amount
included in interest income, which was paid in accordance with the modified loan
terms, was $131,000.
Non-Performing Assets. Non-accruing loans at June 30, 1998 were comprised of 35
one- to four-family loans aggregating $ 2.6 million, 28 consumer loans
aggregating $753,000 and two commercial and multi-family real estate loans
totaling $414,000.
Real estate owned at June 30, 1998 included eight one- to four-family properties
totaling $731,000, the largest of which had a net book value of $267,000, and
two commercial properties with a total net book value of $912,000.
Restructured Loans. In the normal course of business the Company has
restructured the terms of certain loans. At June 30, 1998, restructured loans
consisted of two commercial real estate loans with individual book balances of
$750,000 and $665,000. These loans have been performing in accordance with their
modified terms.
Other Loans of Concern. As of June 30, 1998, there were $1.4 million of other
loans not included in the table or discussed above where known information about
the possible credit problems of borrowers caused management to have doubts as to
the ability of the borrower to comply with present loan repayment terms and
which may result in disclosure of such loans in the future. Set forth below is a
description of other loans of concern with book values of $1.0 million or
greater.
Included in other loans of concern at June 30, 1998 are six loans to one
borrower and one loan to an affiliated party totaling $1.0 million acquired in
the 1989 acquisition of First Federal Savings and Loan Association of Montclair.
The six loans consist of one commercial real estate loan of $445,000, four
one-to four-family loans totaling $227,000 and an $82,000 line of credit. The
loan to an affiliated party consists of a commercial real estate loan of
$267,000. All of these loans are secured by properties located in New Jersey.
The commercial real estate loans are secured by mixed-use properties consisting
of retail stores and apartments located in Essex County, New Jersey. All of
these loans were originated from 1985 to 1989 with thirty year terms. At June
30, 1998, all of these loans were performing in accordance
9
with their respective repayment terms. However, the Company continues to monitor
these loans due to their periodic delinquencies.
All of the other loans of concern have been considered by management in
conjunction with the analysis of the adequacy of the allowance for loan losses.
Classified Assets. Federal regulations provide for the classification of loans
and other assets such as debt and equity securities considered by the OTS to be
of lesser quality as "substandard," "doubtful" or "loss." An asset is considered
"substandard" if it is inadequately protected by the current net worth and
paying capacity of the obligor or of the collateral pledged, if any.
"Substandard" assets include those characterized by the "distinct possibility"
that the savings institution will sustain "some loss" if the deficiencies are
not corrected. Assets classified as "doubtful" have all of the weaknesses
inherent in those classified "substandard," with the added characteristic that
the weaknesses present make "collection or liquidation in full," on the basis of
currently existing facts, conditions and values, "highly questionable and
improbable." Assets classified as "loss" are those considered "uncollectible"
and of such little value that the establishment of a specific loss reserve is
warranted.
When a savings institution classifies problem assets as either substandard or
doubtful, it may establish general allowances for loan losses in an amount
deemed prudent by management. General allowances represent loss allowances which
have been established to recognize the inherent risk associated with lending
activities, but which, unlike specific allowances, have not been allocated to
particular problem assets. When a savings institution classifies problem assets
as "loss," it is required to either establish a specific reserve equal to 100%
of that portion of the asset so classified or to charge-off such amount.
In connection with the filing of its periodic reports with the OTS and in
accordance with its classification of assets policy, the Bank regularly reviews
the assets in its portfolio to determine whether any assets require
classification in accordance with applicable regulations. On the basis of
management's review of its assets at June 30, 1998, the Bank's classified
assets, including real estate owned, totaled $6.7 million, with $6.2 million
classified as substandard and $479,000 classified as loss. Total classified
assets represent 6.5% of the Company's stockholders' equity and 0.4% of the
Company's total assets.
Allowance for Loan Losses. The allowance for loan losses is established through
a provision for loan losses based on management's evaluation of the risk
inherent in its loan portfolio and changes in the nature and volume of its loan
activity. Such evaluation, which includes a review of loans for which full
collectibility may not be reasonably assured, considers among other matters, the
loan classifications discussed above, the estimated fair value of the underlying
collateral, economic conditions, historical loan loss experience, and other
factors that warrant recognition in providing for an adequate loan loss
allowance.
Real estate properties acquired through foreclosure are recorded at the lower of
cost or estimated fair value less costs to dispose of such properties. If fair
value at the date of foreclosure is lower than the balance of the related loan,
the difference will be charged-off to the allowance for loan losses at the time
of transfer. Valuations are periodically updated by management and if the value
declines, a specific provision for losses on real estate owned is established by
a charge to operations.
Although management believes that it uses the best information available to
determine the allowances, unforeseen market conditions could result in
adjustments and net earnings could be significantly affected if circumstances
differ substantially from the assumptions used in making the final
determination. Future additions to the Company's allowances will be the result
of periodic loan, property and collateral reviews and thus cannot be predicted
in advance. In addition, federal regulatory agencies, as an integral part of the
examination process, periodically review the Company's allowance for loan
losses. Such agencies may require the Company to record additions to the
allowance level based upon their assessment of the information available to them
at the time of examination.
10
The following table sets forth an analysis of the Company's allowance for loan
losses at, and for, the dates indicated.
Year ended June 30,
------------------------------------------------------
1998 1997 1996 1995 1994
------------------------------------------------------
(Dollars in thousands)
------------------------------------------------------
Balance at beginning of year...................... $2,622 $2,630 $2,860 $3,060 $3,126
Charge-offs:
One- to four-family............................. (306) (392) (195) (267) (489)
Commercial and multi-family..................... (44) (147) (508) (223) (93)
Consumer........................................ (96) (146) (238) (279) (395)
------------------------------------------------------
(446) (685) (941) (769) (977)
------------------------------------------------------
Recoveries:
One- to four-family............................. -- -- -- -- 28
Commercial and multi-family..................... -- -- 101 -- --
Consumer........................................ -- 42 -- -- --
------------------------------------------------------
-- 42 101 -- 28
------------------------------------------------------
Net charge-offs................................... (446) (643) (840) (769) (949)
Additions charged to operations................... 600 635 610 569 883
------------------------------------------------------
Balance at end of year............................ $2,776 $2,622 $2,630 $2,860 $3,060
======================================================
Ratio of net charge-offs during the year
to average loans outstanding during
the year........................................ 0.04% 0.08% 0.16% 0.19% 0.25%
======================================================
Ratio of allowance for loan losses to
total loans at end of year...................... 0.25% 0.28% 0.40% 0.61% 0.79%
======================================================
Ratio of allowance for loan losses to
non-accruing loans at end of year.............. 74.18% 47.80% 42.52% 51.39% 31.04%
======================================================
The distribution of the Company's allowance for loan losses at the dates
indicated is summarized in the following table. The portion of the allowance
allocated to each loan category does not necessarily represent the total
available for possible future losses within that category since the total
allowance is applicable to the entire loan portfolio.
June 30,
---------------------------------------------------------------------------------------------------------
1998 1997 1996 1995 1994
---------------- ----------------- ------------------ ----------------- -----------------
Percent of Percent of Percent of Percent of Percent of
Loans in Loans in Loans in Loans in Loans in
Each Each Each Each Each
Category Category Category Category Category
to Total to Total to Total to Total to Total
Amount Loans Amount Loans Amount Loans Amount Loans Amount Loans
---------------------------------------------------------------------------------------------------------
(Dollars in thousands)
One- to
four-family.......... $1,502 89.01% $1,463 89.55% $1,290 86.68% $ 657 82.17% $ 726 78.17%
Commercial and
multi-family
real estate.......... 740 6.03 654 6.12 782 7.97 1,602 10.74 1,726 12.72
Consumer............... 534 4.96 505 4.33 558 5.35 601 7.09 608 9.11
---------------------------------------------------------------------------------------------------------
Total................ $2,776 100.00% $2,622 100.00% $2,630 100.00% $2,860 100.00% $3,060 100.00%
=========================================================================================================
11
Investment Activities
The Bank must maintain minimum levels of investments that qualify as liquid
assets under OTS regulations. Liquidity may increase or decrease depending upon
the availability of funds and comparative yields on investments in relation to
the return on loans. Historically, the Bank has maintained its liquid assets
above the minimum requirements imposed by the OTS regulations and at a level
believed adequate to meet requirements of normal daily activities, repayment of
maturing debt and potential deposit outflows. As of June 30, 1998, the Bank's
liquidity ratio (liquid assets as a percentage of net withdrawable deposit
accounts and current borrowings) was 24.50%. See "Regulation-Liquidity."
Federally chartered savings institutions have the authority to invest in various
types of liquid assets, including U.S. Treasury obligations, securities of
various federal agencies, certain certificates of deposit of insured banks and
savings institutions, certain bankers' acceptances, repurchase agreements and
Federal funds. Subject to various restrictions, federally chartered savings
institutions may also invest their assets in commercial paper, investment grade
corporate debt securities and mutual funds whose assets conform to the
investments that a federally chartered savings institution is otherwise
authorized to make directly.
Generally, the investment policy of the Company is to invest funds among various
categories of investments and maturities based upon the Company's need for
liquidity, to provide collateral for borrowings and to fulfill the Company's
asset/liability management policies.
At June 30, 1998, the Company had a securities portfolio consisting principally
of U.S. Government obligations and securities of various federal agencies,
including mortgage-backed securities. These investments carry a low risk
weighting for OTS risk-based capital purposes, generally satisfy OTS
liquid-asset requirements and are of relatively short duration. See
"Regulation-Regulatory Capital Requirements" and "Regulation-Liquidity."
Investment Securities. At June 30, 1998, the Company's investment securities
(including a $15.1 million investment in FHLB of New York stock) totaled $193.4
million, or 12.5 % of its total assets. It is the Company's general policy to
purchase U.S. Government securities and federal agency obligations and other
investment grade securities in accordance with its strategic objectives,
including, but not limited to, achieving growth, yield and interest rate risk
measurement targets. During fiscal 1998, PennFed invested in certain
non-investment grade Trust preferred securities of other financial institutions.
At June 30, 1998, PennFed held $11.2 million of such securities.
OTS regulations restrict investments in corporate debt and equity securities by
the Bank. See "Regulation-Federal Regulation of Savings Associations" for a
discussion of additional restrictions on the Company's investment activities.
The following table indicates the composition of the investment securities
portfolio, excluding FHLB of New York stock, based on the final maturities of
each investment. At June 30, 1998, the weighted average life of this portfolio
was 0.9 years, based on the shorter of the remaining maturity, next repricing
date or initial call date.
June 30, 1998
---------------------------------------------------------------------------------------
After After
One Year Five Years After Total
One Year Through Through Ten Investment
or Less Five Years Ten Years Years Securities
------------------------------------------------------ ---------------------------
Book Value Book Value Book Value Book Value Book Value Market Value
---------------------------------------------------------------------------------------
(Dollars in thousands)
U.S. Government and
agency obligations............ $ -- $ -- $95,000 $71,969 $166,969 $166,985
Obligations of states and
political subdivisions........ 100 40 -- -- 140 147
Trust Preferred
securities.................... -- -- -- 11,201 11,201 11,611
---------------------------------------------------------------------------------------
Total investment
securities.................... $100 $40 $95,000 $83,170 $178,310 $178,743
=======================================================================================
Weighted average yield at
year end...................... 5.70% 10.38% 7.10% 7.30% 7.19%
=======================================================================================
12
The Company's investment securities portfolio at June 30, 1998 did not contain
securities of any issuer or tax-exempt securities with an aggregate book value
in excess of 10% of the Company's retained earnings, excluding those issued by
the U.S. Government or its agencies.
The Company's investments, including the mortgage-backed securities portfolio,
are managed in accordance with a written investment policy adopted by the Board
of Directors.
At June 30, 1998, there were no investment securities held for sale.
Mortgage-Backed Securities. The Company, from time to time, purchases
mortgage-backed securities in accordance with its strategic objectives,
including, but not limited to, achieving growth, yield and interest rate risk
measurement targets. No purchases were made in fiscal 1998 or 1997. At June 30,
1998, mortgage-backed securities totaled $204.5 million, or 13.2% of the
Company's total assets, of which approximately 24% consisted of adjustable rate
securities. The type of securities purchased is based upon the Company's
asset/liability management strategy and balance sheet objectives. Most of the
mortgage-backed securities purchased by the Company over the last several years
were secured by loans with five or seven year balloon terms, 15 year fixed rate
terms or one and three year adjustable rate terms. The Company's current
investment strategy emphasizes mortgage-backed securities with high credit
quality and relatively short duration. The Company has invested primarily in
federal agency securities, principally those of the Government National Mortgage
Association ("GNMA"), FHLMC and FNMA.
The following table indicates the composition of the mortgage-backed securities
portfolio, excluding unamortized premiums, based on the final maturities of each
security.
June 30, 1998
---------------------------------------------------------------------------------
After After
One Year Five Years After Total
Through Through Ten Mortgage-backed
Five Years Ten Years Years Securities
--------------------------------------------- ----------------------------
Book Value Book Value Book Value Book Value Market Value
---------------------------------------------------------------------------------
(Dollars in thousands)
GNMA.......................... $ 109 $ 1,109 $ 1,787 $ 3,005 $ 3,195
FHLMC......................... 41,860 18,057 63,527 123,444 125,931
FNMA.......................... 15,982 13,391 47,646 77,019 78,601
CMOs/REMICs................... -- -- 400 400 401
---------------------------------------------------------------------------------
Total mortgage-backed
securities................ $57,951 $32,557 $113,360 $203,868 $208,128
=================================================================================
Weighted average yield at
year end.................... 6.79% 7.15% 7.28% 7.12%
================================================================================
The GNMA, FHLMC and FNMA certificates are modified pass-through mortgage-backed
securities that represent undivided interests in underlying pools of fixed rate,
or certain types of adjustable rate, single-family residential mortgages issued
by these government-sponsored entities. GNMA's guarantee to the certificate
holder of timely payments of principal and interest is backed by the full faith
and credit of the U.S. Government. FNMA and FHLMC provide the certificate holder
a guarantee of timely payments of interest and scheduled principal payments,
whether or not they have been collected.
Collateralized Mortgage Obligations ("CMOs") are special types of pass-through
debt in which the stream of principal and interest payments on the underlying
mortgages or mortgage-backed securities is used to create classes with different
maturities and, in some cases, amortization schedules, as well as a residual
interest, with each such class possessing different risk characteristics. Real
Estate Mortgage Investment Conduits ("REMICs") are similar, except REMICs are
typically issued by a special purpose entity, such as a trust, corporation or
partnership which pools pass-through securities to create different classes.
Management believes these securities may represent attractive alternatives
relative to other investments due to the wide variety of maturity and repayment
options available through such investments. The CMOs and REMICs acquired by the
Company are not interest only or principal only or residual interests. The
Company held $400,000 of CMOs and REMICs at June 30, 1998.
13
The following table sets forth the Company's mortgage-backed securities purchase
and repayment activities for the years indicated.
Year ended June 30,
------------------------------------------------
1998 1997 1996
------------------------------------------------
(In thousands)
Mortgage-backed securities, net:
At beginning of year......................... $288,539 $346,068 $319,436
Securities purchased......................... -- -- 99,085
Less:
Principal repayments......................... 83,775 57,266 72,028
Amortization of premiums..................... 312 263 425
------------------------------------------------
At end of year............................... $204,452 $288,539 $346,068
================================================
The following table sets forth the composition of the Company's investment and
mortgage-backed securities portfolios at the dates indicated.
June 30,
---------------------------------------------------------------------------------------------
1998 1997 1996
--------------------------------- ------------------------------ ----------------------------
Percent Percent Percent
of Total of Total of Total
Book Market Book Book Market Book Book Market Book
Value Value Value Value Value Value Value Value Value
---------------------------------------------------------------------------------------------
(Dollars in thousands)
Investment securities:
U.S. Government and
agency obligations ............ $166,969 $166,985 86.35% $ 34,999 $ 35,125 73.37% $ 20,997 $ 21,183 71.57%
Obligations of states and
political subdivisions......... 140 147 0.07 291 307 0.61 291 319 0.99
Trust Preferred securities....... 11,201 11,611 5.79 -- -- -- -- -- --
---------------------------------------------------------------------------------------------
Total investment securities 178,310 178,743 92.21 35,290 35,432 73.98 21,288 21,502 72.56
FHLB of New York stock........... 15,065 15,065 7.79 12,413 12,413 26.02 8,052 8,052 27.44
---------------------------------------------------------------------------------------------
Total investment securities and
FHLB of New York stock....... $193,375 $193,808 100.00% $ 47,703 $ 47,845 100.00% $ 29,340 $ 29,554 100.00%
=============================================================================================
Weighted average life of investment
securities excluding
FHLB of New York stock (1)....... 0.9 years 1.0 year 2.5 years
Mortgage-backed securities:
GNMA............................. $ 3,005 $ 3,195 1.47% $ 3,993 $ 4,205 1.38% $ 4,904 $ 5,090 1.42%
FHLMC............................ 123,444 125,931 60.38 184,028 186,350 63.78 221,777 221,240 64.09
FNMA............................. 77,019 78,601 37.67 98,684 99,632 34.20 115,896 115,603 33.49
CMOs/REMICs...................... 400 401 0.19 938 938 0.33 1,348 1,342 0.39
Other pass-through securities(2). -- -- -- -- -- -- 984 1,056 0.28
---------------------------------------------------------------------------------------------
203,868 208,128 99.71 287,643 291,125 99.69 344,909 344,331 99.67
Unamortized premiums, net....... 584 -- 0.29 896 -- 0.31 1,159 -- 0.33
---------------------------------------------------------------------------------------------
Total mortgage-backed
securities.................. $204,452 $208,128 100.00% $288,539 $291,125 100.00% $346,068 $344,331 100.00%
=============================================================================================
- -------------
(1) The weighted average life of investment securities is based on the shorter
of the remaining maturity, next repricing date or initial call date.
(2) Other pass-through securities is composed of an A-rated privately issued
pass-through security.
14
Sources of Funds
General. The Company's sources of funds are deposits, borrowings, payment of
principal and interest on loans and mortgage-backed securities, interest
received on or maturities of other investment securities and funds provided from
operations.
Borrowings, including FHLB of New York advances, have been used as a supplement
to deposits to fund asset growth and as a mechanism to extend the average life
of the Company's liabilities.
Deposits. The Company offers a variety of deposit accounts having a wide range
of interest rates and terms. The Company's deposits consist of savings, money
market and demand deposit accounts, as well as certificate accounts currently
ranging in terms up to 60 months. The Company solicits deposits primarily from
its market areas and relies primarily on product mix, competitive pricing
policies, advertising, customer service and customer relationships to attract
and retain deposits. In the latter part of fiscal 1997, the Company initiated a
program to solicit short term deposits from municipalities in its market areas.
As of June 30, 1998, certificates of deposit from municipalities totaled $70.2
million.
The variety of deposit accounts offered by the Company has allowed it to be
competitive in obtaining funds and to respond with flexibility to changes in
consumer demand. The Company endeavors to manage the pricing of its deposits in
keeping with its asset/liability management, liquidity and profitability
objectives. In this regard, the Company has from time-to-time paid slightly
higher rates than its competitors to attract certificates of deposit. Based on
its experience, the Company believes that its savings, money market and demand
deposit accounts are relatively stable sources of deposits. However, the ability
of the Company to attract and maintain certificates of deposit and the rates
paid on these deposits has been and will continue to be significantly affected
by market conditions, including general economic conditions, changes in interest
rates and competition. At June 30, 1998 and 1997, the Company had $1.0 million
of brokered deposits. See Item 8 - Financial Statements - Note I - Deposits - of
the Notes to Consolidated Financial Statements.
The following table sets forth the deposit flows of the Company during the
periods indicated.
Year ended June 30,
-----------------------------------------
1998 1997 1996
-----------------------------------------
(Dollars in thousands)
Opening balance..................... $ 918,160 $836,416 $713,524
Net deposits (withdrawals).......... 68,152 47,233 93,407
Interest credited .................. 41,788 34,511 29,485
-----------------------------------------
Ending balance ..................... $1,028,100 $918,160 $836,416
=========================================
Net increase........................ $ 109,940 $ 81,744 $122,892
=========================================
Percent increase.................... 11.97% 9.77% 17.22%
=========================================
The following table indicates the amount of the Company's certificates of
deposit by time remaining until maturity as of June 30, 1998.
Maturity
------------------------------------------------------------------------
Over Over Over
3 Months 3 to 6 6 to 12 12
or Less Months Months Months Total
------------------------------------------------------------------------
(In thousands)
Certificates of deposit less than $100,000...... $129,172 $143,475 $177,033 $168,652 $618,332
Certificates of deposit of $100,000 or more..... 82,933 23,117 19,017 25,250 150,317
------------------------------------------------------------------------
Total certificates of deposit................... $212,105 $166,592 $196,050 $193,902 $768,649
========================================================================
Borrowings. Although deposits are the Company's primary source of funds, the
Company's policy has been to utilize borrowings when they are a less costly
source of funds, can be invested at a positive interest rate spread, when the
Company desires additional capacity to fund loan demand or to extend the life of
its liabilities.
The Company's borrowings historically have consisted of advances from the FHLB
of New York, and to a lesser extent, reverse repurchase agreements. FHLB of New
York advances can be made pursuant to several different credit programs, each of
which has its own interest rate and range of maturities.
15
The following table sets forth the maximum month-end balance, average balance
and weighted average cost of FHLB of New York advances and other borrowings
for the periods indicated.
Year ended June 30,
-------------------------------------------
1998 1997 1996
-------------------------------------------
(In thousands)
Maximum balance for the year ended:
FHLB of New York advances ........................................ $240,465 $205,465 $105,000
Other borrowings:
Overnight repricing lines of credit............................ $ 50,000 $ 46,610 $ 46,650
FHLB of New York one-month overnight repricing
line of credit............................................... 35,000 15,000 20,000
Reverse repurchase agreements callable or maturing
within one year.............................................. 49,925 30,100 10,000
Reverse repurchase agreements maturing after one year.......... 29,875 10,000 --
-------- -------- ---------
Total other borrowings ..................................... $164,800 $101,710 $ 76,650
======== ======== =========
Average balance for the year ended:
FHLB of New York advances ........................................ $218,568 $147,945 $ 65,625
Other borrowings:
Overnight repricing lines of credit............................ $ 24,620 $ 29,537 $ 23,101
FHLB of New York one-month overnight repricing
line of credit............................................... 4,401 8,886 4,141
Reverse repurchase agreements callable or maturing
within one year.............................................. 23,091 24,244 2,604
Reverse repurchase agreements maturing after one year.......... 21,487 5,417 --
-------- -------- ---------
Total other borrowings....................................... $ 73,599 $ 68,084 $ 29,846
======== ======== =========
Balance at June 30:
FHLB of New York advances......................................... $230,465 $205,465 $ 105,000
Other borrowings:
Overnight repricing lines of credit............................ $ 41,700 $ 32,650 $ 36,700
FHLB of New York one-month overnight repricing
line of credit............................................... 10,000 10,000 5,000
Reverse repurchase agreements callable or maturing
within one year.............................................. 49,925 30,100 --
Reverse repurchase agreements maturing after one year.......... 29,875 10,000 --
-------- -------- ---------
Total other borrowings....................................... $131,500 $ 82,750 $ 41,700
======== ======== =========
Weighted average cost of funds for the year ended:
FHLB of New York advances......................................... 6.13% 6.14% 5.83%
Other borrowings:
Overnight repricing lines of credit ........................... 5.75% 5.47% 5.61%
FHLB of New York one-month overnight repricing
line of credit............................................... 5.85% 5.48% 5.35%
Reverse repurchase agreements callable or maturing
within one year.............................................. 5.59% 5.50% 5.81%
Reverse repurchase agreements maturing after one year.......... 6.06% 6.24% --
Weighted average cost of funds at June 30:
FHLB of New York advances......................................... 6.06% 6.13% 5.93%
Other borrowings:
Overnight repricing lines of credit............................ 6.25% 6.63% 5.69%
FHLB of New York one-month overnight repricing
line of credit............................................... 6.13% 6.38% 5.63%
Reverse repurchase agreements callable or maturing
within one year............................................. 5.35% 5.74% --
Reverse repurchase agreements maturing after one year.......... 5.93% 6.24% --
16
Trust Preferred Securities. During fiscal 1998, the Company formed a
wholly-owned trust subsidiary, PennFed Capital Trust I (the "Trust"). Effective
October 21, 1997, the Trust sold $34.5 million of 8.90% cumulative trust
preferred securities to the public which are reflected on the Consolidated
Statement of Financial Condition as Guaranteed Preferred Beneficial Interest in
the Company's Junior Subordinated Debentures (the "Trust Preferred securities").
The Trust used the proceeds from the sale of the Trust Preferred securities to
purchase 8.90% junior subordinated deferrable interest debentures issued by
PennFed. The Company used the proceeds from the junior subordinated debentures
for general corporate purposes, including a $20 million capital contribution to
the Bank to support future growth.
Subsidiary Activities
As a federally chartered savings association, Penn Federal is permitted by OTS
regulations to invest up to 2% of its assets, or $30.9 million at June 30, 1998,
in the stock of, or loans to, service corporation subsidiaries. As of such date,
the net book value of Penn Federal's investment in its service corporation was
$10,800. Penn Federal may invest an additional 1% of its assets in service
corporations where such additional funds are used for inner-city or community
development purposes and up to 50% of its total capital in conforming loans to
service corporations in which it owns more than 10% of the capital stock. In
addition to investments in service corporations, federal associations are
permitted to invest an unlimited amount in operating subsidiaries engaged solely
in activities which a federal association may engage in directly. As of June 30,
1998, the Bank's investment in its operating subsidiary was $425.7 million.
Penn Federal currently has a single service corporation, which is known as Penn
Savings Insurance Agency, Inc. ("PSIA"). PSIA offers insurance and uninsured
non-deposit investment products to the Company's customers and members of the
general public.
In October 1997, Penn Federal formed Ferry Development Holding Company, a
Delaware operating subsidiary, to hold and manage its investment portfolio.
Competition
The Company faces strong competition, both in originating real estate and other
loans and in attracting deposits. Competition in originating real estate loans
comes primarily from commercial banks, other savings associations, mortgage
banking companies and credit unions making loans secured by real estate located
in the State of New Jersey. Commercial banks, credit unions and finance
companies provide vigorous competition in consumer lending. The Company competes
for real estate and other loans principally on the basis of the quality of
services it provides to borrowers, interest rates and loan fees it charges, and
the types of products offered.
The Company attracts substantially all of its deposits through its branches,
primarily from the communities in which those offices are located; therefore,
competition for those deposits is principally from commercial banks, savings
associations, credit unions and brokerage houses. The Company competes for these
deposits by offering a variety of deposit accounts at competitive rates, quality
customer service, convenient business hours and branch locations with
interbranch deposit and withdrawal privileges.
17
REGULATION
General
Penn Federal is a federally chartered savings bank, the deposits of which are
federally insured up to applicable limits. Accordingly, the Bank is subject to
comprehensive federal regulation and oversight extending to all its operations.
Penn Federal is a member of the FHLB of New York and is subject to certain
limited regulation by the Board of Governors of the Federal Reserve System
("Federal Reserve Board"). As the savings and loan holding company of Penn
Federal, PennFed is also subject to federal regulation and oversight. The
purpose of the regulation of PennFed and other savings and loan holding
companies is to protect subsidiary savings associations. The Bank is a member of
the Savings Association Insurance Fund ("SAIF") and the deposits of Penn Federal
are insured by the FDIC. As a result, the FDIC has certain regulatory and
examination authority over the Bank. For purposes of the "Regulation"
discussion, the terms "savings bank," "savings association" and "savings
institution" would apply to the Bank.
Certain of these regulatory requirements and restrictions are discussed below or
elsewhere in this document.
Federal Regulation of Savings Associations
The OTS has extensive authority over the operations of savings associations. As
part of this authority, Penn Federal is required to file periodic reports with
the OTS and is subject to periodic examinations by the OTS and the FDIC. The
last regular OTS and FDIC examinations of the Bank were as of September 1997 and
May 1992, respectively.
All savings associations are subject to a semi-annual OTS assessment, based upon
the savings association's total assets and supervisory evaluation. The Bank's
OTS assessment for the fiscal year ended June 30, 1998 was $245,000.
The OTS also has extensive enforcement authority over all savings institutions
and their holding companies, including Penn Federal and PennFed. This
enforcement authority includes, among other things, the ability to assess civil
money penalties, to issue cease-and-desist and/or removal and prohibition orders
and to initiate injunctive actions. In general, these enforcement actions may be
initiated for violations of laws and regulations and unsafe or unsound
practices. Other actions or inactions may provide the basis for enforcement
action, including misleading or untimely reports filed with the OTS. Except
under certain circumstances, public disclosure of interim and final enforcement
actions by the OTS is required.
In addition, the investment, lending and branching authority of Penn Federal is
prescribed by federal laws, and it is prohibited from engaging in any activities
not permitted by such laws. For instance, no savings institution may invest in
non-investment grade corporate debt securities. In addition, the permissible
level of investment by federal associations in loans secured by non-residential
real property may not exceed 400% of total capital, except with approval of the
OTS. At June 30, 1998, the Bank was in compliance with each of these
restrictions. Federal savings associations meeting the Qualified Thrift Lender
Test or comparable requirement are also generally authorized to branch
nationwide. See "-- Qualified Thrift Lender Test."
The OTS, as well as the other federal banking agencies, has developed guidelines
establishing safety and soundness standards on matters such as loan underwriting
and documentation, internal controls and audit systems, asset quality, earning
standards, interest rate risk exposure and compensation and other employee
benefits. Any institution which fails to comply with these standards must submit
a compliance plan. Failure to submit a plan or to comply with an approved plan
would subject the institution to further enforcement action.
Insurance of Accounts and Regulation by the FDIC
Penn Federal's deposits are insured by the SAIF, which is administered by the
FDIC. Deposits are insured up to applicable limits by the FDIC. As insurer, the
FDIC imposes deposit insurance premiums and is authorized to conduct
examinations of and to require reporting by FDIC-insured institutions. It also
may prohibit any FDIC-insured institution from engaging in any activity the FDIC
determines by regulation or order to pose a serious risk to the deposit
insurance funds. The FDIC also has the authority to initiate enforcement actions
against savings associations, after giving the OTS an opportunity to take such
action, and may terminate the institution's deposit insurance if it determines
18
that the institution has engaged or is engaging in unsafe or unsound practices,
or is in an unsafe or unsound condition.
The FDIC's SAIF deposit premiums are assessed through a risk-based system under
which all insured depository institutions are placed into one of nine categories
and assessed insurance premiums, based upon their level of capital and
supervisory evaluation. The current SAIF premium schedule ranges from 0.00% to
0.27% of deposits. Under the system, institutions classified as well capitalized
(generally those institutions with a core capital ratio of at least 5% and a
risk-based capital ratio of at least 10%) and considered financially sound with
only a few weaknesses pay the lowest premium, while institutions that are less
than adequately capitalized and considered to pose a substantial risk of loss to
the SAIF, pay the highest premium. Risk classification of all insured
institutions will be made by the FDIC for each semi-annual assessment period.
The Bank has been notified by the FDIC that for the semi-annual assessment
period beginning July 1, 1998, it will be assessed insurance premiums at an
annual rate of 0.00%. In addition to the SAIF assessment, the FDIC is authorized
to collect an assessment against SAIF-assessable deposits to be paid to the
Financing Corporation ("FICO"). The actual FICO assessment rate that is applied
to deposits is not tied to the FDIC risk classification and is determined on a
quarterly basis. For the quarterly period beginning July 1, 1998, the Company's
FICO assessment rate is 0.061% of deposits, on an annualized basis.
The FDIC is authorized to increase assessment rates, on a semi-annual basis, if
it determines that the reserve ratio of the SAIF will be less than the
designated reserve ratio of 1.25% of SAIF insured deposits. In setting these
increased assessments, the FDIC must seek to restore the reserve ratio to that
designated reserve level, or such higher reserve ratio as established by the
FDIC. The FDIC may also impose special assessments on SAIF members to repay
amounts borrowed from the U.S. Treasury or for any other reason deemed necessary
by the FDIC.
As is the case with the SAIF, the FDIC is authorized to adjust the insurance
premium rates for banks that are insured by the Bank Insurance Fund (the "BIF")
of the FDIC in order to maintain the reserve ratio of the BIF at 1.25% of BIF
insured deposits. The current BIF premium schedule also ranges from 0.00% to
0.27% of deposits. Until December 31, 1999, or such earlier date on which the
last savings association ceases to exist, the FICO rate applied to BIF deposits
must equal one-fifth the FICO assessment rate that is applied to SAIF deposits.
Prior to September 30, 1996, financial institutions which were members of the
BIF were assessed substantially lower deposit insurance premiums because the BIF
had achieved its required level of reserves while the SAIF had not yet achieved
its required reserves. As a result of legislation signed into law on September
30, 1996, the SAIF recapitalization plan provided for a one-time assessment of
0.657% of deposits, which was imposed on all institutions with SAIF-insured
deposits, to enable the SAIF to achieve its required level of reserves. The
assessment was based on deposits as of March 31, 1995, and the Bank's special
assessment was approximately $4.8 million, or $3.1 million, net of taxes.
Following the recapitalization assessment, beginning January 1, 1997 deposit
insurance premiums were decreased significantly from the 0.23% of deposits
previously paid by the Bank to 0.00%, plus the FICO assessment described above.
Regulatory Capital Requirements
Federally insured savings associations, such as Penn Federal, are required to
maintain a minimum level of regulatory capital. The OTS has established capital
standards, including a tangible capital requirement, a leverage ratio (or core
capital) requirement and a risk-based capital requirement applicable to such
savings associations. These capital requirements must be generally as stringent
as the comparable capital requirements for national banks. The OTS is also
authorized to impose capital requirements in excess of these standards on
individual associations on a case-by-case basis.
The capital regulations require tangible capital of at least 1.5% of adjusted
total assets (as defined by regulation). Tangible capital generally includes
common stockholders' equity and retained earnings, and certain noncumulative
perpetual preferred stock. In addition, all intangible assets, other than
certain amounts of mortgage servicing rights, must be deducted from assets and
capital for calculating compliance with the requirements. At June 30, 1998, Penn
Federal had $13.5 million of intangible assets other than qualifying mortgage
servicing rights.
The OTS regulations establish special capitalization requirements for savings
associations that own subsidiaries. In determining compliance with the capital
requirements, all subsidiaries engaged solely in activities permissible for
national banks or engaged in certain other activities solely as agent for its
customers are "includable" subsidiaries that are consoli-
19
dated for capital purposes in proportion to the association's level of
ownership. For excludable subsidiaries, the debt and equity investments in such
subsidiaries are fully deducted from assets and capital. The Bank has two
subsidiaries, Penn Savings Insurance Agency, Inc. and Ferry Development Holding
Co., both of which are includable subsidiaries.
At June 30, 1998, Penn Federal had tangible capital of $108.6 million, or 7.09%
of adjusted total assets, which was approximately $85.6 million above the
minimum requirement of 1.5% of adjusted total assets in effect on that date.
The capital standards also require core capital equal to at least 3% of adjusted
total assets. Core capital generally consists of tangible capital plus certain
intangible assets up to 25% of adjusted total assets. At June 30, 1998, Penn
Federal had $0.2 million of intangibles which were subject to these tests. As a
result of the prompt corrective action provisions discussed below, however, a
savings association must maintain a core capital ratio of at least 4% to be
considered adequately capitalized unless its supervisory condition is such to
allow it to maintain a 3% ratio.
At June 30, 1998, Penn Federal had core capital equal to $108.8 million, or
7.11% of adjusted total assets, which was approximately $47.6 million above the
4% ratio required to be considered adequately capitalized.
The OTS risk-based capital requirement requires savings associations to have
total capital of at least 8% of risk-weighted assets. Total capital consists of
core capital, as defined above, and supplementary capital. Supplementary capital
consists of selected items, such as certain permanent and maturing capital
instruments that do not qualify as core capital and allowances for loan and
lease losses up to a maximum of 1.25% of risk-weighted assets. Supplementary
capital may be used to satisfy the risk-based requirement only to the extent of
core capital. At June 30, 1998, the Bank had no capital instruments that qualify
as supplementary capital and had $2.5 million of allowances for loan and lease
losses, all of which was included since it was less than 1.25% of risk-weighted
assets.
Certain exclusions from capital and assets are required to be made for the
purpose of calculating total capital, in addition to the adjustments required
for calculating core capital. Such exclusions consist of equity investments (as
defined by regulation), that portion of land loans and nonresidential
construction loans in excess of an 80% loan-to-value ratio and reciprocal
holdings of qualifying capital instruments. At June 30, 1998, Penn Federal had
$50,000 of such exclusions from capital and assets.
In determining the amount of risk-weighted assets, all assets, including certain
off-balance sheet items, are multiplied by a risk weight, ranging from 0% to
100%, based on the risk inherent in the type of assets. For example, the OTS has
assigned a risk weight of 50% for prudently underwritten permanent one- to
four-family first lien mortgage loans not more than 90 days delinquent and
having a loan to value ratio of not more than 80% at origination unless insured
to such ratio by an insurer approved by FNMA or FHLMC.
On June 30, 1998, Penn Federal had total risk-based capital of $111.3 million
(including $108.8 million in core capital and $2.5 million in allowable
supplementary capital) and risk-weighted assets of $733.8 million (including
$17.1 million in converted off-balance sheet assets) resulting in risk-based
capital of 15.16% of risk-weighted assets. This amount was $52.6 million above
the 8% requirement in effect on that date.
The OTS has adopted a regulation that requires every savings association with
more than normal interest rate risk exposure to deduct from its total capital,
for purposes of determining compliance with such requirement, an amount equal to
50% of its interest-rate risk exposure multiplied by the present value of its
assets. This exposure is a measure of the potential decline in the net portfolio
value of a savings association, greater than 2% of the present value of its
assets, based upon a hypothetical 200 basis point increase or decrease in
interest rates (whichever results in a greater decline). Net portfolio value is
the present value of expected cash flows from assets, liabilities and
off-balance sheet contracts. The rule provides for a two quarter lag between
calculating interest rate risk and recognizing any deduction from capital. The
OTS has indefinitely postponed the effective date of the rule. However, if
effective, this rule should not prevent the Bank from complying with its
risk-based capital requirement.
The federal banking agencies, including the OTS, have also adopted regulations
authorizing the agencies to require a depository institution to maintain
additional total capital to account for concentration of credit risk and the
risk of non-traditional activities.
The OTS and the FDIC are authorized and, under certain circumstances required,
to take certain actions against savings associations that fail to meet their
capital requirements. The OTS is generally required to take action to restrict
20
the activities of an "undercapitalized association" (generally defined to be one
with less than either a 4% core capital ratio, a 4% Tier 1 risked-based capital
ratio or an 8% risk-based capital ratio). Any such association must submit a
capital restoration plan and, until such plan is approved by the OTS, may not
increase its assets, acquire another institution, establish a branch or engage
in any new activities, and generally may not make capital distributions. The OTS
is authorized to impose the additional restrictions, discussed below, that are
applicable to significantly undercapitalized associations.
As a condition to the approval of the capital restoration plan, any company
controlling an undercapitalized association must agree that it will enter into a
limited capital maintenance guarantee with respect to the institution's
achievement of its capital requirements.
Any savings association that fails to comply with its capital plan or is
"significantly undercapitalized" (i.e., Tier 1 risk-based or core capital ratios
of less than 3% or a risk-based capital ratio of less than 6%) must be made
subject to one or more additional mandated specified actions and operating
restrictions, which may cover all aspects of its operations and include a forced
divestiture, merger or acquisition of the association. An association that
becomes "critically undercapitalized" (i.e., a ratio of tangible equity to total
assets of 2% or less) is subject to further mandatory restrictions on its
activities in addition to those applicable to significantly undercapitalized
associations.
Any undercapitalized association is also subject to actions by the general
enforcement authority of the OTS and the FDIC, including the appointment of a
conservator or a receiver. The OTS is also authorized to reclassify an
association into a lower capital category and impose the restrictions applicable
to such category if the institution is engaged in unsafe or unsound practices or
is in an unsafe or unsound condition.
The imposition by the OTS or the FDIC of any of these measures on Penn Federal
may have a substantial adverse effect on the Bank's operations and profitability
and the market value of PennFed's common stock. Stockholders do not have
preemptive rights, and therefore, if the Company is directed by the OTS or the
FDIC to issue additional shares of common stock, such issuance may result in the
dilution in the percentage of ownership of existing stockholders.
Limitations on Dividends and Other Capital Distributions
OTS regulations impose various restrictions or requirements on associations with
respect to their ability to pay dividends or make other distributions of
capital. OTS regulations prohibit an association from declaring or paying any
dividends or from repurchasing any of its stock if, as a result, the regulatory
capital of the association would be reduced below the association's minimum
capital requirements or the amount required to be maintained for the liquidation
account established in connection with the Conversion.
The OTS utilizes a three-tiered approach to permit associations, based on their
capital level and supervisory condition, to make capital distributions which
include dividends, stock redemptions or repurchases, cash-out mergers and other
transactions charged to the capital account. See "-Regulatory Capital
Requirements."
Generally, Tier 1 associations, which are associations that before and after the
proposed distribution meet their fully phased-in capital requirements, may make
capital distributions during any calendar year equal to the greater of 100% of
net income for the year-to-date plus 50% of the amount by which the lesser of
the association's tangible, core or risk-based capital exceeds its fully
phased-in capital requirement for such capital component, as measured at the
beginning of the calendar year. However, a Tier 1 association deemed to be in
need of more than normal supervision by the OTS may be downgraded to a Tier 2 or
Tier 3 association as a result of such a determination. Penn Federal meets the
requirements for a Tier 1 association and has not been notified of a need for
more than normal supervision. Tier 2 associations, which are associations that
before and after the proposed distribution meet their current minimum capital
requirements, may make capital distributions of up to 75% of net income over the
most recent four quarter period ("safe-harbor level").
Tier 3 associations (which are associations that do not meet current minimum
capital requirements) that propose to make any capital distribution and Tier 2
associations that propose to make a capital distribution in excess of the noted
safe harbor level must obtain OTS approval prior to making such distribution.
Tier 2 associations proposing to make a
21
capital distribution within the safe-harbor provisions and Tier 1 associations
proposing to make any capital distribution need only submit written notice to
the OTS 30 days prior to such distribution. As a subsidiary of PennFed, the Bank
is required to give the OTS 30 days' notice prior to declaring any dividend on
its stock. The OTS may object to the distribution during that 30-day period
based on safety and soundness concerns. See "-Regulatory Capital Requirements."
Liquidity
All savings associations, including Penn Federal, are required to maintain an
average daily balance of liquid assets equal to a certain percentage of the sum
of its average daily balance of net withdrawable deposit accounts and borrowings
payable in one year or less. This liquid asset ratio requirement may vary from
time to time (between 4% and 10%) depending upon economic conditions and savings
flows of all savings associations. At the present time, the minimum liquid asset
ratio is 4%. Penalties may be imposed upon associations for violations of the
liquid asset ratio requirement. At June 30, 1998, Penn Federal was in compliance
with the requirement, with a liquidity ratio of 24.50%.
Accounting
An OTS policy statement applicable to all savings associations clarifies and
re-emphasizes that the investment activities of a savings association must be in
compliance with approved and documented investment policies and strategies, and
must be accounted for in accordance with generally accepted accounting
principles ("GAAP"). Under the policy statement, management must support its
classification of and accounting for loans and securities (i.e., whether held
for investment, sale or trading) with appropriate documentation. Penn Federal is
in compliance with these policy statements.
The OTS has adopted an amendment to its accounting regulations, which may be
made more stringent than GAAP, to require that transactions be reported in a
manner that best reflects their underlying economic substance and inherent risk
and that financial reports must incorporate any other accounting regulations or
orders prescribed by the OTS.
Qualified Thrift Lender Test
All savings associations, including Penn Federal, are required to meet a
qualified thrift lender ("QTL") test to avoid certain restrictions on their
operations. This test requires a savings association to have at least 65% of its
portfolio assets (as defined by regulation) in qualified thrift investments on a
monthly average for nine out of every 12 months on a rolling basis. As an
alternative, the savings association may maintain 60% of its assets in those
assets specified in Section 7701(a)(19) of the Internal Revenue Code of 1986, as
amended (the "Code"). Under either test, such assets primarily consist of
residential housing related loans and investments. At June 30, 1998, the Bank
met the QTL test and has always met the test since its effective date.
Any savings association that fails to meet the QTL test must convert to a
national bank charter, unless it requalifies as a QTL and thereafter remains a
QTL. If an association does not requalify and converts to a national bank
charter, it must remain SAIF-insured until the FDIC permits it to transfer to
the BIF. If such an association has not yet requalified or converted to a
national bank, its new investments and activities are limited to those
permissible for both a savings association and a national bank, and it is
limited to national bank branching rights in its home state. In addition, the
association is immediately ineligible to receive any new FHLB of New York
borrowings and is subject to national bank limits for payment of dividends. If
such association has not requalified or converted to a national bank within
three years after the failure, it must divest itself of all investments and
cease all activities not permissible for a national bank. In addition, it must
repay promptly any outstanding FHLB of New York borrowings, which may result in
prepayment penalties. If any association that fails the QTL test is controlled
by a holding company, then within one year after the failure, the holding
company must register as a bank holding company and become subject to all
restrictions on bank holding companies. See "-Holding Company Regulation."
Community Reinvestment Act
Under the Community Reinvestment Act ("CRA"), every FDIC insured institution has
a continuing and affirmative obligation consistent with safe and sound banking
practices to help meet the credit needs of its entire community, including low
and moderate income neighborhoods. The CRA does not establish specific lending
requirements or
22
programs for financial institutions nor does it limit an institution's
discretion to develop the types of products and services that it believes are
best suited to its particular community, consistent with CRA. The CRA requires
the OTS, in connection with the examination of Penn Federal, to assess the
institution's record of meeting the credit needs of its community and to take
such record into account in its evaluation of certain applications, such as a
merger or the establishment of a branch, by Penn Federal. An unsatisfactory
rating may be used as the basis for the denial of an application by the OTS.
Due to the heightened attention being given to the CRA in recent years, the Bank
may be required to devote additional funds for investment and lending in its
local community. The Bank was examined for CRA compliance in November 1996 and
received a rating of outstanding.
Transactions with Affiliates
Generally, transactions between a savings association or its subsidiaries and
its affiliates are required to be on terms as favorable to the association as
transactions with non-affiliates. In addition, certain of these transactions,
such as loans to affiliates, are restricted to a percentage of the association's
capital. Affiliates of Penn Federal include PennFed and any company which is
under common control with the Bank. In addition, a savings association may not
lend to any affiliate engaged in activities not permissible for a bank holding
company or acquire the securities of most affiliates. Penn Federal's
subsidiaries are not deemed affiliates; however, the OTS has the discretion to
treat subsidiaries of savings associations as affiliates on a case by case
basis.
Certain transactions with directors, officers or controlling persons are also
subject to conflict of interest regulations enforced by the OTS. These conflict
of interest regulations and other statutes also impose restrictions on loans to
such persons and their related interests. Among other things, such loans must be
made on terms substantially the same as for loans to unaffiliated individuals.
Holding Company Regulation
PennFed is a unitary savings and loan holding company subject to regulatory
oversight by the OTS. As such, PennFed is required to register and file reports
with the OTS and is subject to regulation and examination by the OTS. In
addition, the OTS has enforcement authority over PennFed, which also permits the
OTS to restrict or prohibit activities that are determined to be a serious risk
to the subsidiary savings association.
As a unitary savings and loan holding company, PennFed generally is not subject
to activity restrictions. If PennFed acquires control of another savings
association as a separate subsidiary, it would become a multiple savings and
loan holding company and the activities of PennFed and any of its subsidiaries
(other than Penn Federal or any other SAIF-insured savings association) would
become subject to such restrictions unless such other associations each qualify
as a QTL and were acquired in a supervisory acquisition.
If Penn Federal fails the QTL test, PennFed must obtain the approval of the OTS
prior to continuing after such failure, directly or through any other
subsidiaries, any business activity other than those approved for multiple
savings and loan holding companies or their subsidiaries. In addition, within
one year of such failure, PennFed must register as, and will become subject to,
the restrictions applicable to bank holding companies. See "-Qualified Thrift
Lender Test." The activities authorized for a bank holding company are more
limited than are the activities authorized for a unitary or multiple savings and
loan holding company.
PennFed must obtain approval from the OTS before acquiring control of any other
SAIF-insured association. Such acquisitions are generally prohibited if they
result in a multiple savings and loan holding company controlling savings
associations in more than one state. However, such interstate acquisitions are
permitted based on specific state authorization or in a supervisory acquisition
of a failing savings association.
Federal Securities Law
The common stock of PennFed is registered with the SEC under the Securities
Exchange Act of 1934, as amended (the "Exchange Act"). PennFed is subject to the
information, proxy solicitation, insider trading restrictions and other
requirements of the Exchange Act and the rules and regulations of the SEC
thereunder.
23
PennFed stock held by persons who are affiliates (generally executive officers,
directors and principal stockholders) of PennFed may not be resold without
registration or unless sold in accordance with certain resale restrictions. If
PennFed meets specified current public information requirements, each affiliate
of PennFed is able to sell in the public market, without registration, a limited
number of shares in any three-month period.
Federal Reserve System
The Federal Reserve Board requires all depository institutions to maintain
non-interest bearing reserves at specified levels against their transaction
accounts (primarily checking accounts). At June 30, 1998, Penn Federal was in
compliance with these reserve requirements. The balances maintained to meet the
reserve requirements imposed by the Federal Reserve Board may be used to satisfy
liquidity requirements that may be imposed by the OTS. See "-Liquidity."
Savings associations are authorized to borrow from the Federal Reserve Bank
"discount window," but Federal Reserve Board regulations require associations to
exhaust other reasonable alternative sources of funds, including FHLB
borrowings, before borrowing from the Federal Reserve Bank.
Federal Home Loan Bank System
Penn Federal is a member of the FHLB of New York, which is one of 12 regional
FHLBs that provides loans and correspondent services to its members. Each FHLB
serves as a reserve or central bank for its members within its assigned region.
It is funded primarily from proceeds derived from the sale of consolidated
obligations of the FHLB System. It makes loans to members (i.e., advances) in
accordance with policies and procedures established by the board of directors of
the FHLB, which are subject to the oversight of the Federal Housing Finance
Board. All borrowings from the FHLB are required to be fully secured by
sufficient collateral as determined by the FHLB.
As a member, Penn Federal is required to purchase and maintain stock in the FHLB
of New York. At June 30, 1998, the Bank had $15.1 million in FHLB of New York
stock, which was in compliance with this requirement. In past years, Penn
Federal has received substantial dividends on its FHLB of New York stock. Over
the past five fiscal years such dividends have averaged 7.12%.
Under federal law, the FHLBs are required to provide funds for the resolution of
troubled savings associations and to contribute to low and moderately priced
housing programs through direct loans or interest subsidies on advances targeted
for community investment and low- and moderate-income housing projects. These
contributions have adversely affected the level of FHLB dividends paid and could
continue to do so in the future. These contributions could also have an adverse
effect on the value of FHLB of New York stock in the future.
For the year ended June 30, 1998, dividends paid by the FHLB of New York to Penn
Federal totaled $996,000, resulting in a 7.18% yield.
Federal and State Taxation
Prior to the enactment of legislation in August 1996 (discussed below), savings
banks that met certain definitions, tests and other conditions prescribed by the
Internal Revenue Code were allowed to deduct, with limitations, a bad debt
deduction. This deduction was computed as a percentage of taxable income before
such deduction or based upon actual loss experience. During fiscal 1996, the
Company employed the percentage of taxable income method.
On August 20, 1996, legislation was signed into law which repealed the
percentage of taxable income method for the tax bad debt deduction. This repeal
became effective for the Company's taxable year beginning July 1, 1996, and as a
result, during the fiscal years 1998 and 1997, the Company's bad debt deduction
was based upon actual loss experience. In addition, the legislation requires the
Company to include in taxable income its tax bad debt reserves in excess of its
base year reserves (i.e., the balance of its bad debt reserves as of June 30,
1988) over a six, seven, or eight year period, depending upon the attainment of
certain loan origination levels. Since the percentage of taxable income method
for the tax bad debt deduction and the corresponding increase in the tax bad
debt reserve in excess of the base year have been recorded as temporary
differences pursuant to SFAS 109, this change in the tax law had no effect on
the Company's statement of operations.
24
In addition to the regular income tax, corporations, including savings
associations such as the Bank, generally are subject to a minimum tax. An
alternative minimum tax is imposed at a minimum tax rate of 20% on alternative
minimum taxable income, which is the sum of a corporation's regular taxable
income (with certain adjustments) and tax preference items, less any available
exemption. The alternative minimum tax is imposed to the extent it exceeds the
corporation's regular income tax. Net operating losses can offset no more than
90% of alternative minimum taxable income.
PennFed files consolidated federal income tax returns with the Bank and its
subsidiaries. Savings associations, such as the Bank, that file federal income
tax returns as part of a consolidated group are required by applicable Treasury
regulations to reduce their taxable income for purposes of computing the
percentage bad debt deduction for losses attributable to activities of the
non-savings association members of the consolidated group that are functionally
related to the activities of the savings association member.
To the extent a savings association makes "non-dividend distributions," such
distributions will be considered to have been made from the association's tax
bad debt reserves (including the base year reserve) and then from the
association's supplemental reserve for losses on loans, to the extent thereof,
and an amount based on the amount distributed (but not in excess of the amount
of such reserves) will be included in the association's income. Non-dividend
distributions include distributions in excess of the association's current and
accumulated earnings and profits, as calculated for federal income tax purposes,
distributions in redemption of stock, and distributions in partial or complete
liquidation. Dividends paid out of the association's current or accumulated
earnings and profits will not be so included in the association's income.
The amount of additional taxable income created from a non-dividend distribution
is an amount that, when reduced by the tax attributable to the income, is equal
to the amount of the distribution. Thus, if the Bank makes a non-dividend
distribution to the Company, approximately one and one-half times the amount of
such distribution (but not in excess of the amount of such reserves) would be
includable in income for federal income tax purposes, assuming a 35% federal
corporate tax rate. The Bank does not intend to pay dividends that would result
in a recapture of any portion of its tax bad debt reserves.
The Bank and its consolidated subsidiary have been audited by the Internal
Revenue Service ("IRS") with respect to consolidated federal income tax returns
through December 31, 1991. There were no material adjustments made to taxable
income as originally reported to the IRS. In the opinion of management, any
examination of still open returns (including returns of subsidiaries and
predecessors of, or entities merged into, PennFed) would not result in a
deficiency which could have a material adverse effect on the financial condition
of the Company and its consolidated subsidiaries.
New Jersey Taxation. The Bank is taxed under the New Jersey Savings Institution
Tax Act. The tax is an annual privilege tax imposed at a rate of 3% on the net
income of the Bank as reported for federal income tax purposes, with certain
modifications. PennFed is taxed under the New Jersey Corporation Business Tax
Act, and if it meets certain tests, will be taxed as an investment company at an
effective annual rate for the taxable year ending June 30, 1998 of 2.3% of New
Jersey Taxable Income (as defined). If it fails to meet such tests, it will be
taxed at an annual rate of 9% of New Jersey Taxable Income. It is anticipated,
based upon representations of PennFed regarding its current and future holdings
and operations, that PennFed will be taxed as an investment company. Penn
Savings Insurance Agency is taxed under the New Jersey Corporation Business Tax
Act and is, therefore, taxed at a rate of 9%.
Delaware Taxation. PennFed, as a Delaware holding company, and Ferry Development
Holding Company, a Delaware investment company, are exempt from Delaware
corporate income tax, but are required to file an annual report with and pay an
annual fee to the State of Delaware. PennFed is also subject to an annual
franchise tax imposed by the State of Delaware. As a Delaware business trust,
PennFed Capital Trust I is not required to pay income or franchise taxes to the
State of Delaware.
25
EXECUTIVE OFFICERS
The executive officers of PennFed are elected annually and hold office until
their respective successors have been elected and qualified or until death,
resignation or removal by the Board of Directors. The executive officers of
PennFed are as follows: Joseph L. LaMonica, President and Chief Executive
Officer; Lucy T. Tinker, Executive Vice President and Chief Operating Officer;
Patrick D. McTernan, Executive Vice President, General Counsel and Secretary;
and Jeffrey J. Carfora, Senior Vice President and Chief Financial Officer.
Executive Officers of PennFed currently do not receive any remuneration in their
capacity as PennFed executive officers.
The following table sets forth certain information as of June 30, 1998 regarding
the executive officers of the Bank who are not also directors.
Name Age Positions Held with the Bank
- ---------------------------------------------------------------------------------------
Lucy T. Tinker........ 58 Executive Vice President and Chief Operating Officer
Barbara J. Sanders.... 46 Senior Vice President and Lending Group Executive
Jeffrey J. Carfora.... 40 Senior Vice President and Finance Group Executive
Barbara A. Flannery... 42 Senior Vice President and Retail Banking Group Executive
Officers are elected annually by the Board of Directors of the Bank. The
business experience of each executive officer who is not also a director is set
forth below.
Lucy T. Tinker - Ms. Tinker is responsible for the daily operations of the Bank.
Ms. Tinker also assists President LaMonica in the development of corporate
policies and goals. Ms. Tinker joined Penn Federal in 1989 as Vice President and
Treasurer. In 1990, she was appointed Senior Vice President and Finance Group
Executive. She was appointed Executive Vice President and Chief Operating
Officer in 1993.
Barbara J. Sanders - Through September 3, 1998, Ms. Sanders managed the Bank's
lending operations which include commercial, residential and consumer lending,
collections, servicing and quality control. Ms. Sanders resigned from the Bank
effective September 3, 1998. Management does not believe Ms. Sanders'
resignation will have a material effect on the operations of the Bank and has
implemented transitional measures to ensure the Bank's lending operations
continue uninterrupted.
Jeffrey J. Carfora - Mr. Carfora manages the Bank's finance division which
includes financial and tax accounting and reporting, strategic planning and
budgeting, and treasury and asset/liability management. Prior to joining Penn
Federal in 1993, Mr. Carfora was with Carteret Savings Bank.
Barbara A. Flannery - Ms. Flannery is responsible for the retail branch network.
Ms. Flannery has served Penn Federal in various capacities since joining the
Bank in 1980, including the management of product development, marketing and
various aspects of branch activities.
Employees
At June 30, 1998, the Company and its subsidiaries had a total of 243 employees,
including 40 part-time employees. The Company's employees are not represented by
any collective bargaining group.
Item 2. Properties
The Company conducts its business at its headquarters, operations center and the
Bank's branch offices located in its primary market areas. The following table
sets forth information relating to each of the Company's properties as of June
30, 1998.
The total net book value of the Company's premises and equipment (including
land, building and leasehold improvements and furniture and equipment) at June
30, 1998 was $18.1 million.
26
Lease Total
Owned or Expiration Approximate
Location Acquired Leased Date Square Footage
- -------------------------------------------------------------------------------------------------------
Home office:
36 Ferry Street
Newark, New Jersey.............. 1954 Owned -- 3,700
Operations Center:
622 Eagle Rock Avenue
West Orange, New Jersey......... 1988 Owned -- 48,063(1)
Branch Offices:
59 Main Street
Sayreville, New Jersey.......... 1982 Owned -- 3,400
Pathmark Office
1043 US Highway 9 N
Old Bridge, New Jersey.......... 1992 Leased 11/30/99 500
410 Bergen Street
Harrison, New Jersey............ 1983 Leased 11/30/03 2,000
77 Main Street
Farmingdale, New Jersey......... 1984 Owned -- 1,785
471 County Road 520
Marlboro, New Jersey............ 1978 Owned -- 2,000
1696 Route 88 West
Brick, New Jersey............... 1975 Owned -- 1,525
155 Central Avenue
East Newark, New Jersey......... 1973 Owned -- 1,771
37 Wilson Avenue
Newark, New Jersey.............. 1976 Owned -- 7,500
493 Bloomfield Avenue
Montclair, New Jersey........... 1991 Owned -- 7,395(2)
323 Orange Road
Montclair, New Jersey........... 1989 Owned -- 1,650
620 Bloomfield Avenue
Verona, New Jersey.............. 1995 Owned -- 5,460(3)
597 Valley Road
Montclair, New Jersey........... 1989 Owned -- 5,467(4)
265 Bloomfield Avenue
Caldwell, New Jersey............ 1995 Owned -- 7,140
Lease Total
Owned or Expiration Approximate
Location Acquired Leased Date Square Footage
- -------------------------------------------------------------------------------------------------------
198 Jefferson Street
Newark, New Jersey (5) ......... 1993 Leased 8/31/98 2,070
23 Little Falls Road
Fairfield, New Jersey .......... 1995 Owned -- 4,125
340 Atlantic City Boulevard
(U.S. Highway 9 South)
Bayville, New Jersey............ 1997 Leased 8/31/07 3,600
Other Properties:
151 Eagle Rock Avenue
(future branch location)
Roseland, New Jersey............ 1997 Owned -- 8,300
White Horse Pike
Winslow, New Jersey............. 1986 Owned -- 4.01 acres
- -----------------
(1) Includes 20,332 square feet leased to unaffiliated third parties.
(2) Includes 2,100 square feet leased to unaffiliated third parties.
(3) Land is leased through 1/31/99 with 5 year options.
(4) Includes 3,080 square feet leased to unaffiliated third parties.
(5) The property was purchased by the Company at the lease expiration.
The Company believes that its current facilities are adequate to meet the
present and foreseeable needs of the Company, subject to possible future
expansion.
Item 3. Legal Proceedings
The Company is involved from time to time as plaintiff or defendant in various
other legal actions arising in the normal course of its business. While the
ultimate outcome of these proceedings cannot be predicted with certainty, it is
the opinion of management at the present time, after consultation with counsel
representing the Company in the proceedings, that the resolution of these
proceedings should not have a material effect on the Company's consolidated
financial position or results of operations.
In 1987, the New Jersey Department of Environmental Protection ("NJDEP")
conducted an environment contamination investigation of the Orange Road branch
site of First Federal Savings and Loan Association of Montclair ("First
Federal"). Prior to the acquisition by First Federal, the location was used as a
gasoline service station. On August 16, 1989, the NJDEP issued a "no further
action" letter to First Federal with regard to this site. The Bank acquired
First Federal effective September 11, 1989. Not withstanding the earlier "no
further action" letter, on June 25, 1997, the NJDEP issued a letter demanding
that Penn Federal Savings Bank develop a remedial action work plan for the
Orange Road branch site as a result of an investigation conducted on behalf of
an adjacent property owner. The Bank disputed the NJDEP position that Penn
Federal Savings Bank was a responsible party. On July 1, 1998, the NJDEP issued
a letter determining that Penn Federal Savings Bank, Mobil Oil Corporation and
the former gasoline service station owner were all responsible parties for the
clean up at the subject site. Responsible parties may ultimately have full or
partial obligation for the cost of remediation. As of this date, the
apportionment of the remediation costs to the Bank, if any, is not determinable.
The Bank intends to vigorously contest this determination and to seek
contribution or indemnification from the other named responsible parties.
Item 4. Submission of Matters to a Vote of Security Holders
No matter was submitted to a vote of security holders, through the solicitation
of proxies or otherwise, during the quarter ended June 30, 1998.
28
PART II
Item 5. Market for the Registrant's Common Stock and Related Security Holder
Matters
The Company's common stock trades on the Nasdaq National Market tier of the
Nasdaq Stock Market under the symbol "PFSB." At September 11, 1998, there were
approximately 600 stockholders of record for the Company's common stock (not
including the number of persons or entities holding stock in nominee or street
name through various brokerage firms).
Market Information
The following table sets forth the high and low closing sales prices per common
share for the periods indicated. The closing price of a common share was
$16.5625 at June 30, 1998 compared to $13.625 at June 30, 1997.
1998 Closing Price 1997 Closing Price
------------------------- ------------------------
High Low High Low
------------------------- ------------------------
Quarter Ended:
September 30.......... $ 15.7500 $ 13.5625 $ 9.1875 $ 7.4375
December 31........... 17.3750 14.6875 10.3750 9.0625
March 31.............. 19.0000 15.8750 12.6250 10.0000
June 30............... 18.3750 16.5000 13.6875 11.1250
The Company initiated a quarterly cash dividend on its common stock of $0.035
per share in the second quarter of fiscal 1997.
Item 6. Selected Financial Data
The following selected consolidated financial data of the Company and its
subsidiaries is qualified in its entirety by, and should be read in conjunction
with, the consolidated financial statements, including notes thereto, included
elsewhere in this document.
At June 30,
------------------------------------------------------------------------
1998 1997 1996 1995 1994
------------------------------------------------------------------------
(In thousands, except per share amounts)
Selected Financial Condition Data:
Total assets................................ $1,551,938 $1,321,751 $1,086,524 $868,926 $680,157
Loans receivable, net....................... 1,095,852 931,451 652,571 467,677 383,357
Mortgage-backed securities.................. 204,452 288,539 346,068 319,436 204,870
Investment securities....................... 178,310 35,290 21,288 17,558 11,167
Deposits.................................... 1,028,100 918,160 836,416 713,524 614,860(1)
Total borrowings............................ 361,965 288,215 146,700 50,830 15,000
Trust Preferred securities, net............. 32,681 -- -- -- --
Stockholders' equity........................ 103,703 97,270 90,564 94,170 41,985
Book value per common share................. 11.87 10.92 10.25 9.09 --
Tangible book value per common share........ 10.33 9.13 8.17 7.06 --
- -----------
(1) Includes approximately $53.8 million received and held on deposit for the
purchase of stock in the Company's initial public offering completed on July 14,
1994.
29
Year ended June 30,
--------------------------------------------------------------------
1998 1997(1) 1996 1995 1994
--------------------------------------------------------------------
(In thousands, except per share amounts)
Selected Operating Data:
Total interest and dividend income................. $100,805 $85,401 $68,123 $52,719 $43,045
Total interest expense............................. 68,043 53,073 39,121 27,153 20,825
--------------------------------------------------------------------
Net interest and dividend income................... 32,762 32,328 29,002 25,566 22,220
Provision for loan losses.......................... 600 635 610 569 883
--------------------------------------------------------------------
Net interest income after provision for
loan losses..................................... 32,162 31,693 28,392 24,997 21,337
Service charges.................................... 1,974 1,666 1,602 1,476 1,686
Net gain (loss) from real estate operations........ (156) (181) 104 117 (541)
Net gain (loss) on sales of loans.................. 528 -- -- -- (19)
Net gain on sales of investment securities......... -- -- 94 -- --
Other.............................................. 321 298 402 532 540
--------------------------------------------------------------------
Total non-interest income.......................... 2,667 1,783 2,202 2,125 1,666
--------------------------------------------------------------------
Total non-interest expenses........................ 17,389 22,385(1) 17,642 17,561 15,556
--------------------------------------------------------------------
Income before taxes and cumulative effect of
change in accounting principle.................. 17,440 11,091 12,952 9,561 7,447
Income tax expense................................. 6,242 4,205 5,111 3,921 3,005
Cumulative effect of change in accounting principle -- -- -- -- 111
--------------------------------------------------------------------
Net income......................................... $ 11,198 $ 6,886(1) $ 7,841 $ 5,640 $ 4,553
====================================================================
Net income per common share:
Basic.............................................. $ 1.25 $ 0.77(1) $ 0.80 $ 0.54 $ --
====================================================================
Diluted............................................ $ 1.16 $ 0.73(1) $ 0.77 $ 0.54 $ --
====================================================================
(1) Fiscal 1997 includes the effect of a one-time SAIF recapitalization
assessment of approximately $4.8 million, or $3.1 million net of taxes.
Excluding this non-recurring assessment, total non-interest expenses would have
been $17.6 million, net income would have been $9.9 million, basic earnings per
share would have been $1.12 and diluted earnings per share would have been
$1.05.
30
At and for the year ended June 30,
--------------------------------------------------------------------
Selected Financial Ratios and Other Data: 1998 1997(1) 1996 1995 1994
--------------------------------------------------------------------
Performance Ratios:
Return on average assets (ratio of net income to
average total assets).......................... 0.78% 0.58%(1) 0.82% 0.74% 0.76%
Return on average stockholders' equity (ratio of
net income to average stockholders' equity).... 10.96 7.42(1) 8.36 5.97 11.40
Net interest rate spread during the year............. 2.12 2.58 2.96 3.24 3.90
Net interest margin (net interest and dividend
income to average interest-earning assets)..... 2.38 2.83 3.22 3.58 3.95
Ratio of average interest-earning assets to average
deposits and borrowings........................ 105.20 105.30 105.87 109.05 101.57
Ratio of earnings to fixed charges(2):
Excluding interest on deposits................. 1.88x 1.86x 3.35x 7.28x 10.44x
Including interest on deposits................. 1.26x 1.21x 1.33x 1.35x 1.36x
Ratio of non-interest expense to average total assets 1.22% 1.87%(1) 1.84% 2.31% 2.58%
Efficiency ratio (non-interest expense, excluding
amortization of intangibles, to net interest and
dividend income and non-interest income
excluding gains and real estate operations).... 42.65 57.95(1) 48.53 58.63 59.10
Asset Quality Ratios:
Non-accruing loans to total loans at end of year..... 0.34 0.59 0.95 1.18 2.55
Allowance for loan losses to non-accruing loans
at end of year................................. 74.18 47.80 42.52 51.39 31.04
Allowance for loan losses to total loans at end of year 0.25 0.28 0.40 0.61 0.79
Non-performing assets to total assets at end of year. 0.35 0.48 0.67 0.78 1.67
Ratio of net charge-offs during the year to average
loans outstanding during the year.............. 0.04 0.08 0.16 0.19 0.25
Capital Ratios:
Stockholders' equity to total assets at end of year.. 6.68 7.36 8.34 10.84 6.17
Average stockholders' equity to average total assets. 7.14 7.76 9.80 12.44 6.63
Tangible capital to tangible assets at end of year(3) 7.09 5.61 5.92 6.29 5.55
Core capital to adjusted tangible assets at end of
year(3)........................................ 7.11 5.64 5.97 6.38 5.71
Risk-based capital to risk-weighted assets at end of
year(3)........................................ 15.16 12.22 13.47 14.49 13.16
Other Data:
Number of branch offices at end of year.............. 18 17 17 17 16
Number of deposit accounts at end of year............ 87,500 85,400 81,700 78,800 63,100
- ----------------
(1) Fiscal 1997 results include the effect of a one-time SAIF recapitalization
assessment of approximately $4.8 million, or $3.1 million net of taxes.
Excluding this non-recurring assessment, return on average assets would have
been 0.83%, return on average stockholders' equity would have been 10.70%,
the ratio of non-interest expense to average total assets would have been
1.47% and the efficiency ratio would have been 43.92%.
(2) The ratio of earnings to fixed charges excluding interest on deposits is
calculated by dividing income before taxes and extraordinary items before
interest on borrowings by interest on borrowings on a pretax basis. The
ratio of earnings to fixed charges including interest on deposits is
calculated by dividing income before income taxes and extraordinary items
before interest on deposits and borrowings by interest on deposits plus
interest on borrowings on a pretax basis.
(3) Represents regulatory capital ratios for the Bank.
31
Item 7. Management's Discussion and Analysis of Financial Condition and Results
of Operations
General
In July 1994, PennFed became the savings and loan holding company of the Bank.
Currently, the results of operations of the Company are primarily those of the
Bank and its subsidiaries.
The Company's results of operations are dependent primarily on net interest
income, which is the difference between the income earned on its loan,
securities and investment portfolios and its cost of funds, consisting of the
interest paid on deposits and borrowings. Results of operations are also
affected by the Company's provision for loan losses and operating expenses.
General economic and competitive conditions, particularly changes in interest
rates, government policies and actions of regulatory authorities also
significantly affect the Company's results of operations. Future changes in
applicable law, regulations or government policies may also have a material
impact on the Company.
As noted previously, the deposits of savings associations, such as the Bank, are
presently insured by the SAIF, which, along with the BIF, are the two insurance
funds administered by the FDIC. Financial institutions which were members of the
BIF, prior to September 30, 1996, experienced substantially lower deposit
insurance premiums because the BIF had achieved its required level of reserves
while the SAIF had not yet achieved its required reserves. As a result of
legislation signed into law on September 30, 1996, the SAIF recapitalization
plan provided for a one-time assessment of 0.657% of deposits which was imposed
on all SAIF insured institutions to enable the SAIF to achieve its required
level of reserves. The assessment was based on deposits as of March 31, 1995,
and the Bank's special assessment was approximately $4.8 million, or $3.1
million, net of taxes. Accordingly, this special one-time SAIF recapitalization
assessment significantly increased non-interest expenses and adversely affected
the Company's results of operations for the year ended June 30, 1997. Following
the recapitalization assessment, beginning January 1, 1997 deposit insurance
premiums decreased significantly from the 0.23% of deposits previously paid by
the Bank to 0.00% plus the assessment to be paid to the FICO. Such assessment
for the quarterly period beginning July 1, 1998 amounted to 0.061% of deposits,
on an annualized basis. See "Regulation-Insurance of Accounts and Regulation by
the FDIC."
Management Strategy
Management's primary goal continues to be to improve profitability, while
continuing to manage risks, including interest rate risk, so as to enhance
stockholder value, and to foster and maintain customer confidence. The Company's
current strategies focus on: (i) emphasizing lending secured by one- to
four-family residential first mortgages with related sales of certain of these
products in the secondary market, (ii) increasing the commercial and
multi-family and consumer loan portfolios, (iii) maintaining asset quality, (iv)
increasing deposit balances, (v) managing the Company's exposure to interest
rate risk, (vi) improving non-interest income and (vii) controlling non-interest
expenses.
Emphasizing Lending Secured by One- to Four-Family Residential First Mortgages.
The Company has emphasized, and plans to continue to emphasize, originating and
purchasing traditional one- to four-family first mortgage loans secured by
properties located in New Jersey. Correspondent loan purchases of one- to
four-family mortgage loans have been primarily secured by properties located
throughout New Jersey with a limited purchase of loans secured by real estate
located in the Commonwealth of Pennsylvania. The Company originated or purchased
$373.6 million, $ 337.3 million and $251.8 million in one- to four-family
mortgage loans in fiscal 1998, 1997 and 1996, respectively. The Company's
interest income has been derived primarily from one- to four-family mortgage
loans on residential real estate which totaled $971.7 million or 89.01% of the
Company's gross loan portfolio at June 30, 1998. During fiscal 1998, in an
effort to manage prepayment risk, the Company sold approximately $70 million of
one- to four-family mortgage loans, primarily 30 year fixed rate mortgages.
Going forward secondary market activities will be pursued, to enable the Company
to both manage risks and improve profitability.
Increasing the Commercial and Multi-Family and Consumer Loan Portfolios. In
addition to one- to four-family residential first mortgage lending, the Company
plans to increase its emphasis on commercial and multi-family and consumer
lending. Such loans reprice more frequently, have shorter maturities, and/or
have higher yields than one- to four-family first mortgage loans. The Company
originated $18.9 million, $12.2 million and $7.5 million of commercial and
multi-family loans in fiscal 1998, 1997 and 1996, respectively. Consumer loan
originations totaled $37.6 million, $19.5 million and $16.0 million during
fiscal 1998, 1997 and 1996, respectively.
32
Maintaining Asset Quality. The Company's loan portfolio consists primarily of
one- to four-family mortgages, which are considered to have less risk than
commercial and multi-family real estate or consumer loans.
The Company's non-performing assets consist of non-accruing loans and real
estate owned. The Company focuses on strong underwriting and collection efforts
and aggressive marketing of real estate owned properties. In addition, the
Company has occasionally restructured loans in order to return the loan to a
performing status. As a result, non-performing assets as a percentage of total
assets was 0.35% at June 30, 1998 compared to 1.67% at June 30, 1994.
Increasing Deposit Balances. The Company's primary source of funds is deposits.
Deposits have increased 12%, 10% and 17% in fiscal 1998, 1997 and 1996,
respectively. The Company plans to continue to emphasize deposit growth,
particularly transaction accounts. Emphasis will also continue on the
solicitation of deposits from municipalities.
Managing the Company's Exposure to Interest Rate Risk. The Company has an
asset/liability committee that meets no less than weekly to price loan and
deposit products and monthly to develop, implement and review policies to manage
interest rate risk. The Company has endeavored to manage its interest rate risk
through the pricing and diversification of its loan and deposit products,
including the focus on the origination of first mortgage products with shorter
terms to maturity and/or with adjustable rate features, as well as the
origination of commercial and multi-family real estate and consumer loans which
generally have shorter expected average lives or reprice at shorter intervals
than one- to four-family residential first mortgage products. The Company has
also engaged in one- to four-family whole mortgage loan sales whereby longer
term fixed rate conventional and FHA loans have been sold to reduce the duration
of its fixed rate loan portfolios. In addition, the Company has purchased
government agency or callable securities with short to intermediate average
lives which generally do not exceed 4.5 years or which have adjustable rate
features. Furthermore, as part of its interest rate risk strategy, the Company
has emphasized longer term certificates of deposit and checking products and
utilized intermediate-term borrowings. The Company has also engaged in
intermediate-term interest rate swaps designed to extend the maturities of
short-term certificates of deposit to three to five years. See "-Interest Rate
Sensitivity Analysis" and "-Asset/Liability Strategy."
Improving Non-Interest Income. The Company continues to seek additional ways of
improving non-interest income. For the year ended June 30, 1998, service charge
income increased $308,000, or 18.5%, compared to the prior year. Implementation
of ATM surcharging for non-Penn Federal customers and growth in checking
accounts contributed to the service charge income increase. Continued growth in
checking, previously mentioned loan sales, sales of non-deposit investment
products and the introduction of an administrative fee for Individual Retirement
Accounts will further increase non-interest income.
Controlling Non-Interest Expenses. Non-interest expenses are carefully
monitored, which include ongoing reviews of staffing levels, supplies,
facilities and operations. The Company's ratio of non-interest expenses to
average total assets was 1.22% for the year ended June 30, 1998 compared to
1.47% for the prior fiscal year excluding the effects of the one-time SAIF
recapitalization assessment. The Company's efficiency ratio was 42.65% for the
year ended June 30, 1998 compared to 43.92% for the prior fiscal year excluding
the effects of the SAIF assessment.
Interest Rate Sensitivity Analysis
Interest Rate Gap. The interest rate risk inherent in assets and liabilities may
be determined by analyzing the extent to which such assets and liabilities are
"interest rate sensitive" and by measuring an institution's interest rate
sensitivity "gap." An asset or liability is said to be interest rate sensitive
within a defined time period if it matures or reprices within that period. The
difference or mismatch between the amount of interest-earning assets maturing or
repricing within a defined period and the amount of interest-bearing liabilities
maturing or repricing within the same period is defined as the interest rate
sensitivity gap. An institution is considered to have a negative gap if the
amount of interest-bearing liabilities maturing or repricing within a specified
time period exceeds the amount of interest-earning assets maturing or repricing
within the same period. If more interest-earning assets than interest-bearing
liabilities mature or reprice within a specified period, then the institution is
considered to have a positive gap. Accordingly, in a rising interest rate
environment, in an institution with a negative gap, the cost of its rate
sensitive liabilities would theoretically rise at a faster pace than the yield
on its rate sensitive assets, thereby diminishing future net interest income. In
a falling interest rate environment, a negative gap would indicate that the cost
of rate sensitive liabilities would decline at a faster pace than the yield on
rate sensitive assets and improve net interest income. For an institution with a
positive gap, the reverse would be expected.
33
In an attempt to manage its exposure to changes in interest rates, management
closely monitors the Company's exposure to interest rate risk. Management
maintains an asset/liability committee consisting of the Chief Executive
Officer, the Chief Operating Officer, the Finance Group Executive, the Lending
Group Executive, the Retail Banking Group Executive, the Treasurer and the
Customer Support/Operations Group Executive, which meets regularly and reviews
the Company's interest rate risk position and makes recommendations for
adjusting this position. In addition, the Board reviews on a monthly basis the
Company's asset/liability position, including simulations of the effect on the
Company's capital and earnings of various interest rate scenarios and
operational strategies.
The following table provides information about the Company's derivative
financial instruments and other financial instruments that are sensitive to
changes in interest rates, including interest rate swaps. Except for the effects
of prepayments and scheduled principal amortization on mortgage related assets,
the table presents principal cash flows and related weighted average interest
rates by the earlier of term to repricing or contractual term to maturity.
Callable government agency securities are assumed to be called within one year.
For interest rate swaps, the table presents notional amounts and weighted
average interest rates by contractual maturity dates.
Residential fixed and adjustable rate loans are assumed to have annual payment
rates between 9% and 18% of the portfolio. Commercial and multi-family real
estate loans are assumed to prepay at an annualized rate between 9% and 38%
while consumer loans are assumed to prepay at a 32% rate. Fixed and adjustable
rate mortgage-backed securities, including CMOs and REMICs, have annual payment
assumptions ranging from 20% to 30%. Demand loans and loans which have no
repayment schedule or stated final maturity, are assumed to be due within six
months. Loan and mortgage-backed securities balances are net of non-performing
loans and are not adjusted for unearned discounts, premiums, and deferred loan
fees.
The Company assumes, based on historical information, that $131.4 million or 80%
of savings accounts at June 30, 1998, are core deposits and are, therefore,
expected to roll-off after five years. The remaining savings accounts are
assumed to roll-off over the first eighteen months. Transaction accounts,
excluding money market accounts, are assumed to roll-off after five years. Money
market accounts are assumed to be variable accounts and are reported as
repricing within six months. No roll-off rate is applied to certificates of
deposit. Fixed maturity deposits reprice at maturity.
34
Maturing or Repricing
------------------------------------------------------------------------------------------
Year ended June 30,
------------------------------------------------------------------------------------------
1999 2000 2001 2002 2003 Thereafter Total Fair Value
------------------------------------------------------------------------------------------
(Dollars in thousands)
Fixed-rate mortgage loans including
one- to four-family and commercial
and multi-family.................. $ 96,632 $ 87,100 $ 77,188 $ 68,551 $ 61,641 $221,403 $ 612,515 $ 620,373
Average interest rate............. 7.47% 7.48% 7.48% 7.48% 7.49% 7.52% 7.49%
Adjustable rate mortgage loans including
one- to four-family and commercial
and multi-family.................. $ 128,399 $ 111,808 $ 70,188 $ 56,470 $ 30,685 $ 24,432 $ 421,982 $ 416,534
Average interest rate............. 7.56% 7.25% 7.30% 7.36% 7.54% 7.53% 7.40%
Consumer loans including
demand loans ..................... $ 37,053 $ 7,207 $ 5,058 $ 3,335 $ 710 $ -- $ 53,363 $ 53,701
Average interest rate............. 7.51% 8.46% 8.46% 8.46% 8.46% 0.00% 7.80%
Mortgage-backed securities........... $ 79,464 $ 38,661 $ 50,679 $ 13,864 $ 11,418 $ 9,782 $ 203,868 $ 208,128
Average interest rate............. 7.33% 6.99% 6.88% 7.06% 7.06% 7.08% 7.11%
Investment securities and other...... $ 182,124 $ -- $ -- $ -- $ 40 $ 11,211 $ 193,375 $ 193,808
Average interest rate............. 6.96% 0.00% 0.00% 0.00% 10.38% 8.90% 7.07%
Total interest-earning assets..... $ 523,672 $ 244,776 $203,113 $142,220 $104,494 $266,828 $1,485,103 $1,492,544
==========================================================================================
Savings deposits..................... $ 21,890 $ 10,946 $ -- $ -- $ -- $131,356 $ 164,192 $ 164,192
Average interest rate............. 2.00% 2.00% 0.00% 0.00% 0.00% 2.00% 2.00%
Money market and demand deposits
(transaction accounts)............ $ 13,435 $ -- $ -- $ -- $ -- $ 79,114 $ 92,549 $ 92,549
Average interest rate............. 2.05% 0.00% 0.00% 0.00% 0.00% 1.08% 1.22%
Certificates of deposit.............. $ 574,747 $ 109,807 $ 41,537 $ 36,678 $ 5,880 $ -- $ 768,649 $ 772,620
Average interest rate............. 5.51% 6.42% 5.86% 6.30% 5.79% 0.00% 5.70%
FHLB of New York advances............ $ 55,000 $ 90,000 $ 10,000 $ 30,000 $ 45,000 $ 465 $ 230,465 $ 231,217
Average interest rate............. 6.09% 6.17% 5.91% 6.42% 5.60% 7.39% 6.06%
Other borrowings..................... $ 101,625 $ -- $ 19,875 $ 10,000 $ -- $ -- $ 131,500 $ 131,510
Average interest rate............. 5.52% 0.00% 5.77% 6.24% 0.00% 0.00% 5.61%
Trust Preferred securities........... $ -- $ -- $ -- $ -- $ -- $ 32,681 $ 32,681 $ 35,104
Average interest rate............. 0.00% 0.00% 0.00% 0.00% 0.00% 8.90% 8.90%
Total deposits, borrowings and
Trust Preferred securities..... $ 766,697 $ 210,753 $ 71,412 $ 76,678 $ 50,880 $243,616 $1,420,036 $1,427,192
Interest rate swaps
(pay fixed, receive floating)...... $(130,000) $ 40,000 $ 80,000 $ 10,000 $ -- $ -- $ -- $( 1,173)
Average pay rate.................. 5.85% 6.25% 6.25% 6.13%
Average receive rate.............. 5.55% 5.55%
Total deposits, borrowings and Trust
Preferred Securites including the
effects of interest rate swaps.. $ 636,697 $ 250,753 $151,412 $ 86,678 $50,880 $243,616 $1,420,036 $1,426,019
==========================================================================================
Interest earning assets less
deposits, borrowings
and Trust Preferred Securites
(interest-rate sensitivity gap).... $(113,025) $ ( 5,977) $ 51,701 $ 55,542 $53,614 $ 23,212 $ 65,067
=============================================================================
Cumulative interest-rate sensitivity
gap................................ $(113,025) $(119,002) $(67,301) $(11,759) $41,855 $ 65,067
=================================================================
Cumulative interest-rate sensitivity
gap as a percentage of total assets at
June 30, 1998....................... (7.28%) (7.67%) (4.34%) (0.76%) 2.70% 4.19%
=================================================================
Cumulative interest-rate sensitivity gap
as a percentage of total interest-
earning assets at June 30, 1998..... (7.61%) (8.01%) (4.53%) (0.79%) 2.82% 4.38%
=================================================================
Cumulative interest-earning assets as
a percentage of cumulative deposits,
borrowings and Trust Preferred
Securites at June 30, 1998.......... 82.25% 97.62% 134.15% 164.08% 205.38% 109.53%
=================================================================
35
At June 30, 1998, the Company's total deposits, borrowings and Trust Preferred
securities maturing or repricing within one year exceeded its total
interest-earning assets maturing or repricing within one year by $113.0 million,
representing a one year negative gap of 7.28% of total assets, compared to a one
year negative gap of 7.44% of total assets at June 30, 1997. See "-
Asset/Liability Strategy." The Company's negative gap position improved slightly
from June 30, 1997 as a significant portion of short-term funding lengthened to
an intermediate-term through interest rate swaps. New loan activity was strong
and residential refinance activity steadily increased during the year. Second
mortgage activity emphasized variable rate and medium-term fixed rate products.
As a result of a significant flattening in the Treasury yield curve, growth in
short-term certificates of deposit far out paced activity in the
intermediate-term products. However, in an effort to lengthen the maturities of
interest-bearing liabilities, the Company supplemented funding needs through the
use of FHLB of New York medium-term advances and engaged in interest rate swaps.
Callable government agency securities, with final maturities of 15 years or
less, but initially callable within one year and periodically thereafter, have
also been purchased to supplement loan growth and replace redeemed security
balances. Such investments are anticipated to be called prior to their stated
final maturities.
In evaluating the Company's exposure to interest rate risk, certain limitations
inherent in the method of analysis presented in the foregoing table must be
considered. For example, although certain assets and liabilities may have
similar maturities or periods to repricing, they may react in different degrees
to changes in market interest rates. Also, the interest rates on certain types
of assets and liabilities may fluctuate in advance of changes in market interest
rates, while interest rates on other types may lag behind changes in market
rates. Additionally, certain assets, such as adjustable rate mortgages, have
features which restrict changes in interest rates in the short-term and over the
life of the asset. Further, in the event of a change in interest rates,
prepayment and early withdrawal levels may deviate significantly from those
assumed in calculating the table. Finally, the ability of many borrowers to
service their debt may decrease in the event of an interest rate increase. The
Company considers all of these factors in monitoring its exposure to interest
rate risk.
Net Portfolio Value. The Company's interest rate sensitivity is regularly
monitored by management through selected interest rate risk ("IRR") measures set
forth by the OTS. The IRR measures used by the OTS include an IRR "Exposure
Measure" or "Post-Shock" NPV ratio and a "Sensitivity Measure." A low Post-Shock
NPV ratio indicates greater exposure to IRR. Greater exposure can result from a
low initial NPV ratio or high sensitivity to changes in interest rates. The
Sensitivity Measure is the change in the NPV ratio, in basis points, caused by a
2% increase or decrease in rates, whichever produces a larger decline. At least
quarterly, and generally monthly, management models the change in net portfolio
value ("NPV") over a variety of interest rate scenarios. NPV is the present
value of expected cash flows from assets, liabilities and off-balance sheet
contracts. A NPV ratio, in any interest rate scenario, is defined as the NPV in
that rate scenario divided by the market value of assets in the same scenario.
As of June 30, 1998, the Bank's internally generated initial NPV ratio was
9.71%. Following a 2% increase in interest rates, the Bank's Post-Shock NPV
ratio was 7.07%. The change in the NPV ratio, or the Bank's Sensitivity Measure
was 2.64%. NPV is also measured internally on a consolidated basis. As of June
30, 1998, the Company's initial NPV ratio was 10.57%, the Post-Shock ratio was
7.86%, and the Sensitivity Measure was 2.71%. Variances between the Bank's and
the Company's NPV ratios are attributable to balance sheet items which are
adjusted during consolidation, such as investments, intercompany borrowings and
capital.
Internally generated NPV measurements are based on simulations which utilize
institution specific assumptions and, as such, generally result in lower levels
of presumed interest rate risk (i.e., higher Post-Shock NPV ratio and lower
Sensitivity Measure) than OTS measurements indicate.
The OTS measures the Bank's (unconsolidated) IRR on a quarterly basis using data
from the quarterly Thrift Financial Reports, coupled with non-institution
specific assumptions which are based on national averages. As of June 30, 1998,
the Bank's initial NPV ratio, as measured by the OTS, was 8.03%, the Bank's
Post-Shock ratio was 6.02% and the Sensitivity Measure was 2.01%. At June 30,
1997, the Bank's initial NPV ratio, as measured by the OTS, was 7.23%, the
Post-Shock ratio was 4.02% and the Sensitivity Measure was 3.21%.
In addition to monitoring NPV and gap, management also monitors the duration of
assets and liabilities and the effects on net interest income resulting from
parallel and non-parallel increases or decreases in rates.
At June 30, 1998, based on its internally generated simulation models, the
Company's consolidated net interest income projected for one year forward would
decrease 14.6% from the base case, or current market, as a result of an
immediate and sustained 2% increase in interest rates.
36
Asset/Liability Strategy
The primary elements of the Company's asset/liability strategy include the
following:
1. The Company has focused on shortening the average life and duration of its
portfolio of one- to four-family mortgage loans by promoting one year adjustable
rate products, with initial fixed rate terms of 1, 3 and 5 years, 15 and 30 year
bi-weekly mortgages and fixed rate products with terms of 10, 15 and 20 years.
2. The Company has emphasized the origination of variable rate home equity lines
and fixed rate second mortgage loans as well as variable and fixed rate
commercial and multi-family real estate loans having maturities or terms to
repricing significantly shorter than one- to four-family residential mortgage
loans.
3. The Company has periodically sold a portion of its one- to four-family 30
year fixed rate and 10/1 adjustable rate whole mortgage loan portfolios in an
effort to shorten their average lives and durations, as well as to mitigate
prepayment risk and reduce borrowings. Going forward, secondary market
activities with sales of one- to four-family mortgage loans to government
agencies, private investors, and other financial institutions will be pursued.
4. The Company has purchased government agency guaranteed investments with final
maturities within 15 years which are initially callable within one year and
periodically thereafter. Such investments are expected to be called prior to
their final maturities. The Company may continue to purchase such investments,
as well as government agency guaranteed mortgage-backed securities with an
expected average life at purchase of 4.5 years or less, as needed, in accordance
with its strategic objectives.
5. The Company has emphasized the lengthening of maturities of its liabilities
through its pricing of longer-term certificates of deposit and by utilizing
intermediate-term FHLB of New York advances and interest rate swaps, subject to
market conditions.
6. The Company has also emphasized growth in core demand deposit accounts, as
such funds are lower cost alternatives to certificates of deposit, and FHLB of
New York advances and strengthening customer relationships.
7. In October 1997, the Company issued $34.5 million of Trust Preferred
securities. The Company used the proceeds from the sale of these securities for
general corporate purposes including a $20 million capital contribution to the
Bank to support growth.
During fiscal 1998, each of the strategies noted above was assertively employed
to reduce the Company's sensitivity to changes in interest rates. Despite lower
market rates, increased prepayments and a flatter treasury yield curve, 9% of
the growth experienced in one- to four-family first mortgages between June 30,
1997 and June 30, 1998 was accomplished in the adjustable rate portfolio.
Sixty-eight percent of the growth in the consumer lending portfolio is
attributable to growth in variable rate home equity lines of credit. Adjustable
rate commercial and multi-family real estate loans increased 47% from June 30,
1997, while fixed rate balances declined 24%.
During fiscal 1998, the Company sold approximately $70 million of one- to
four-family residential mortgage loans, primarily 30 year fixed rate product.
These sales were undertaken to reduce prepayment risk.
Additionally, through the use of interest rate swaps, designed to synthetically
lengthen the maturities of short-term deposits, as well as growth in two through
five year certificates of deposit, demand deposit accounts, FHLB of New York
advances and other borrowings, medium- and long-term funds increased $110
million from June 30, 1997, while short-term funds increased $73 million.
Generally, the investment policy of the Company is to invest funds not utilized
in its lending activities or required for other corporate purposes among various
categories of investments and maturities based upon the Company's
asset/liability management policies. Investments generally include U.S. Treasury
and government agency securities and mortgage-backed securities.
The Company's cost of funds responds more rapidly to changes in interest rates
than its yield on earning assets due to the shorter terms of its funding
portfolios. Consequently, the results of operations are influenced by the levels
of short-term interest rates. The Company offers a range of maturities on its
deposit products at competitive rates and monitors the maturities on an ongoing
basis.
37
Additionally, the Company emphasizes and promotes its savings, money market and
demand deposit accounts, and certificates of deposit with varying maturities
through five years, principally within its primary market areas. During fiscal
1998, demand deposit accounts increased 18%, or $12.2 million. The balances of
savings, money market and demand deposit accounts, which represented
approximately 25% of total deposits at June 30, 1998, tend to be less
susceptible to rapid changes in interest rates than certificates of deposit
balances.
Collectively, each of these strategies resulted in a narrowing of the Company's
interest rate gap and a reduction in IRR during fiscal 1998. Management will
continue to monitor and employ such strategies, as necessary, in conjunction
with its overall strategic objectives.
38
Analysis of Net Interest Income. The following table sets forth certain
information relating to the Company's consolidated statements of financial
condition and the consolidated statements of income for the years ended June 30,
1998, 1997 and 1996 and reflects the average yield on assets and average cost of
liabilities for the periods indicated. Such yields and costs are derived from
average daily balances. The average balance of loans receivable includes
non-accruing loans. The yields and costs include fees which are considered
adjustments to yields.
Year ended June 30,
-------------------------------------------------------------------------------------------
1998 1997 1996
-------------------------------------------------------------------------------------------
Average Interest Average Interest Average Interest
Outstanding Earned/ Yield/ Outstanding Earned/ Yield/ Outstanding Earned/ Yield/
Balance Paid Rate Balance Paid Rate Balance Paid Rate
-------------------------------------------------------------------------------------------
(Dollars in thousands)
Interest-earning assets:
One- to four-family mortgage loans.. $ 889,169 $ 64,852 7.29% $ 713,260 $53,554 7.51% $457,167 $35,078 7.67%
Commercial and multi-family real
estate loans...................... 58,196 5,235 9.00 54,396 4,912 9.03 49,378 4,817 9.76
Consumer loans...................... 45,794 3,735 8.16 35,977 3,302 9.18 33,362 3,380 10.13
---------- -------- ---------- ------- -------- -------
Total loans receivable............ 993,159 73,822 7.43 803,633 61,768 7.69 539,907 43,275 8.02
Mortgage-backed securities.......... 248,812 17,151 6.89 317,394 22,030 6.94 329,821 22,549 6.84
Investment securities and other..... 134,585 9,832 7.31 22,611 1,603 7.09 31,264 2,299 7.35
---------- -------- ---------- ------- -------- -------
Total interest-earning assets..... 1,376,556 $100,805 7.32 1,143,638 $85,401 7.47 900,992 $68,123 7.56
======== ======= =======
Non-interest earning assets........... 54,614 53,664 56,302
---------- ---------- --------
Total assets...................... $1,431,170 $1,197,302 $957,294
========== ========== ========
Deposits and borrowings:
Money market and demand deposits
(transaction accounts)............ $ 84,958 $ 1,049 1.23% $ 80,099 $ 977 1.22% $ 79,360 $ 1,371 1.73%
Savings deposits.................... 166,243 3,638 2.19 174,114 3,876 2.23 181,839 4,114 2.26
Certificates of deposit............. 742,341 43,513 5.86 615,870 35,319 5.73 494,337 28,116 5.69
---------- -------- ---------- ------- -------- -------
Total deposits.................... 993,542 48,200 4.85 870,083 40,172 4.62 755,536 33,601 4.45
FHLB of New York advances........... 218,568 13,403 6.13 147,945 9,078 6.14 65,625 3,827 5.83
Other borrowings.................... 73,599 4,266 5.80 68,084 3,823 5.62 29,846 1,693 5.67
---------- -------- ---------- ------- -------- -------
Total deposits and borrowings..... 1,285,709 65,869 5.12 1,086,112 53,073 4.89 851,007 39,121 4.60
Trust Preferred securities.......... 22,748 2,174 9.56 -- -- -- -- -- --
---------- -------- ---------- ------- -------- -------
Total deposits, borrowings
and Trust Preferred securities... 1,308,457 $ 68,043 5.20 1,086,112 $53,073 4.89 851,007 $39,121 4.60
======== ======= =======
Other liabilities................... 20,576 18,337 12,446
---------- ---------- --------
Total liabilities................. 1,329,033 1,104,449 863,453
Stockholders' equity................ 102,137 92,853 93,841
---------- ---------- --------
Total liabilities and
stockholders' equity............ $1,431,170 $1,197,302 $957,294
========== ========== ========
Net interest income and net interest
rate spread........................ $ 32,762 2.12% $32,328 2.58% $29,002 2.96%
======== ==== ======= ==== ======= ====
Net interest-earning assets and
interest margin.................... $ 68,099 2.38% $ 57,526 2.83% $ 49,985 3.22%
========== ==== ========== ==== ======== ====
Ratio of interest-earning assets to
deposits, borrowings and
Trust Preferred securities......... 105.20% 105.30% 105.87%
====== ====== ======
39
Rate/Volume Analysis. The following table presents the extent to which changes
in interest rates and changes in the volume of interest-earning assets and
interest-bearing liabilities have affected the Company's interest income and
interest expense during the periods indicated. Information is provided in each
category with respect to (1) changes attributable to changes in volume (changes
in volume multiplied by prior rate), (2) changes attributable to changes in rate
(changes in rate multiplied by prior volume), (3) changes attributable to
changes in rate/volume (changes in rate multiplied by changes in volume) and (4)
the net change.
Year ended June 30,
------------------------------------------------------------------------------------
1998 vs. 1997 1997 vs. 1996
---------------------------------------- ----------------------------------------
Increase (Decrease) Increase (Decrease)
Due to Due to
------------------------------ -----------------------------
Total Total
Rate/ Increase Rate/ Increase
Volume Rate Volume (Decrease) Volume Rate Volume (Decrease)
------------------------------------------------------------------------------------
(In thousands)
Interest-earning assets:
One- to four-family
mortgage loans................... $13,208 $(1,532) $ (378) $11,298 $19,650 $ (752) $ (422) $18,476
Commercial and multi-family
real estate loans................ 343 (19) (1) 323 489 (358) (36) 95
Consumer loans..................... 901 (368) (100) 433 265 (318) (25) (78)
------------------------------------------------------------------------------------
Total loans receivable........... 14,452 (1,919) (479) 12,054 20,404 (1,428) (483) 18,493
Mortgage-backed securities......... (4,760) (152) 33 (4,879) (850) 344 (13) (519)
Investment securities and other.... 7,914 50 265 8,229 (636) (83) 23 (696)
------------------------------------------------------------------------------------
Total interest-earning assets.... $17,606 $(2,021) $ (181) $15,404 $18,918 $(1,167) $ (473) $17,278
===================================================================================
Deposits and borrowings:
Money market and demand
deposits (transaction accounts).. $ 59 $ 12 $ 1 $ 72 $ 13 $ (403) $ (4) $ (394)
Savings deposits................... (175) (66) 3 (238) (175) (66) 3 (238)
Certificates of deposit............ 7,253 781 160 8,194 6,912 234 57 7,203
------------------------------------------------------------------------------------
Total deposits................... 7,137 727 164 8,028 6,750 (235) 56 6,571
FHLB of New York advances.......... 4,334 (6) (3) 4,325 4,801 200 250 5,251
Other borrowings................... 310 123 10 443 2,169 (17) (22) 2,130
------------------------------------------------------------------------------------
Total deposits and borrowings.... 11,781 844 171 12,796 13,720 (52) 284 13,952
Trust Preferred securities......... -- -- 2,174 2,174 -- -- -- --
------------------------------------------------------------------------------------
Total deposits, borrowings
and Trust Preferred securities. $11,781 $ 844 $ 2,345 $14,970 $13,720 $ (52) $ 284 $13,952
===================================================================================
Net change in net interest income.. $ 5,825 $(2,865) $ (2,526) $ 434 $ 5,198 $ 1,115 $ (757) $ 3,326
===================================================================================
40
Financial Condition
Comparison of Financial Condition at June 30, 1998 and June 30, 1997
Total assets increased $230.2 million, or 17.4%, to $1.552 billion at June 30,
1998 from total assets of $1.322 billion at June 30, 1997. The increase was
primarily attributable to a $143.0 million increase in investment securities and
a $164.4 million increase in net loans receivable, particularly in the Company's
one- to four-family first mortgage loan portfolio. The increase in investment
securities was partially due to the leveraging of proceeds from the Trust
Preferred securities offering in October 1997. At June 30, 1998, net loans
receivable, including loans held for sale, were $1.096 billion compared to
$931.5 million at June 30, 1997. The asset growth was funded by the proceeds
from the issuance of the Trust Preferred securities, an increase in retail
deposits, additional medium-term FHLB of New York advances and increased other
borrowings as well as principal payments on mortgage-backed securities and one-
to four-family mortgage loan sales.
Deposits increased $109.9 million to $1.028 billion at June 30, 1998 from $918.2
million at June 30, 1997. FHLB of New York advances were $230.5 million at June
30, 1998, a $25.0 million increase from $205.5 million at June 30, 1997. In
addition, the Company had $131.5 million of other borrowings at June 30, 1998,
consisting of $91.6 million of short-term and overnight borrowings and $39.9
million of reverse repurchase agreements maturing after one year but within five
years. Other borrowings at June 30, 1997 totaled $82.8 million and consisted of
$72.8 million of short-term and overnight borrowings and a $10.0 million of
reverse repurchase agreement maturing in December 2001.
Non-performing assets at June 30, 1998 totaled $5.4 million, representing 0.35%
of total assets, compared to $6.4 million, or 0.48% of total assets, at June 30,
1997. Non-accruing loans were $3.7 million with a ratio of non-performing loans
to total loans of 0.34% at June 30, 1998 as compared to $5.5 million, or 0.59%
of total loans, at June 30, 1997. Real estate owned increased to $1.6 million at
June 30, 1998 from $884,000 at June 30, 1997.
Stockholders' equity at June 30, 1998 totaled $103.7 million compared to $97.3
million at June 30, 1997. The increase primarily reflects the net income
recorded for the year ended June 30, 1998, partially offset by the repurchase of
325,000 shares of the Company's outstanding stock at an average price of $17.17
per share and the declaration of dividends.
Results of Operations
Comparison of Operating Results for the Years Ended June 30, 1998 and June 30,
1997
General. For the year ended June 30, 1998 net income was $11.2 million, or $1.16
per diluted share, as compared to net income of $6.9 million, or $0.73 per
diluted share for the prior year. The year ended June 30, 1997 included the
effects of the one-time SAIF recapitalization assessment which totaled $4.8
million ($3.1 million after-tax), or $0.33 per share on a diluted basis.
Interest and Dividend Income. Interest and dividend income for the year ended
June 30, 1998 increased to $100.8 million from $85.4 million for the year ended
June 30, 1997. The increase in the current year was due to an increase in
average interest-earning assets, primarily residential loans, partially offset
by a decrease in the average yield earned on interest-earning assets. Average
interest-earning assets were $1.377 billion for the year ended June 30, 1998
compared to $1.144 billion for the prior year. The average yield earned on
interest-earning assets decreased to 7.32% for the year ended June 30, 1998 from
7.47% for the year ended June 30, 1997.
Interest income on residential one- to four-family mortgage loans for the year
ended June 30, 1998 increased $11.3 million, or 21.1%, when compared to the
prior year. The increase in interest income on residential one- to four-family
mortgage loans was due to $175.9 million increase in the average balance
outstanding to $889.2 million for the year ended June 30, 1998 compared to
$713.3 million for the prior year. The increase in the average balance on
residential one- to four-family mortgage loans was partially offset by a
decrease of 0.22% in the average yield earned on this loan portfolio to 7.29%
for the year ended June 30, 1998 from the prior year.
Interest on investment securities increased $8.2 million for the year ended June
30, 1998 from the prior year. The increase was primarily due to a $112.0 million
increase in the average balance outstanding and a 0.22% increase in the average
yield earned on these assets for the year ended June 30, 1998.
41
Interest income on the mortgage-backed securities portfolio decreased $4.9
million, or 22.1%, for the year ended June 30, 1998 as compared to the prior
year. The decrease in interest income on mortgage-backed securities primarily
reflects a $68.6 million decrease in the average balance outstanding to $248.8
million for the year ended June 30, 1998 compared to $317.4 million for the
prior year.
Interest Expense. Interest expense increased $15.0 million for the year ended
June 30, 1998 from $53.1 million for the year ended June 30, 1997. The increase
was primarily attributable to an increase in total average deposits, primarily
certificates of deposit, and FHLB of New York advances coupled with an increase
in the Company's cost of funds. Interest expense also increased due to the
issuance of the Trust Preferred securities. Average deposits and borrowings
increased $199.6 million for the year ended June 30, 1998 compared to fiscal
1997. The average rate paid on deposits, borrowings and Trust Preferred
securities increased to 5.20% for the year ended June 30, 1998 from 4.89% for
the prior year.
Net Interest and Dividend Income. Net interest and dividend income for the year
ended June 30, 1998 was $32.8 million, reflecting a slight increase from $32.3
million recorded in the prior year. The increase reflects the Company's growth
in assets, primarily in investment securities and residential one- to
four-family mortgage loans. The increase in net interest and dividend income was
partially offset by a decline in the net interest rate spread as well as timing
differences between the receipt of the proceeds from the Trust Preferred
securities offering and full implementation of the Company's investment
strategy. The net interest rate spread and net interest margin for the year
ended June 30, 1998 were 2.12% and 2.38%, respectively, a decline from 2.58% and
2.83%, respectively, during the prior year. For the year ended June 30, 1998,
the decline in net interest rate spread and net interest margin was partially
due to the addition of the Trust Preferred securities. The declines in the net
interest rate spread and net interest margin were also attributable to the flat
yield curve environment recently experienced in which higher yielding loans
pre-paid at accelerated rates and were replaced by lower yielding loans. Since
the Company's liabilities generally reprice more quickly than its assets, net
interest rate spread and net interest margin will likely decrease if interest
rates rise.
Provision for Loan Losses. The provision for loan losses for the year ended June
30, 1998 was $600,000 compared to $635,000 for the prior year. The allowance for
loan losses at June 30, 1998 of $2.8 million showed an increase from the $2.6
million at June 30, 1997. The allowance for loan losses as a percentage of
non-performing loans was 74.18% at June 30, 1998, compared to 47.80% at June 30,
1997.
Non-Interest Income. For the year ended June 30, 1998, non-interest income was
$2.7 million compared to $1.8 million for the prior year. Gains of approximately
$494,000 on the sale of $70 million of one- to four-family mortgage loans,
primarily 30 year fixed rate loans, were reflected in the year ended June 30,
1998. These loan sales were undertaken to manage prepayment risk as part of the
Company's asset/liability management strategy. In addition to these gains,
growth in non-interest income was primarily attained through the introduction of
charging non-customers for ATM transactions, fees recorded for the origination
of loans provided to other investors and an increase in service charges related
to checking accounts. Furthermore, for the year ended June 30, 1998, the
increase was partially attributable to a decrease in the net loss from real
estate operations. The net loss from real estate operations was $156,000 for the
year ended June 30, 1998 compared to a net loss from real estate operations of
$181,000 for the prior year.
Non-Interest Expenses. Non-interest expenses were $17.4 million for the year
ended June 30, 1998 compared to $22.4 million for the prior year. The year ended
June 30, 1997 included $4.8 million for the one-time SAIF recapitalization
assessment. Excluding the effects of the SAIF assessment, non-interest expenses
for the year ended June 30, 1998 were slightly lower than fiscal 1997. The
Company's non-interest expenses as a percent of average assets declined to 1.22%
for the year ended June 30, 1998 from 1.47% for the prior year, excluding the
SAIF assessment.
Income Tax Expense. Income tax expense for the year ended June 30, 1998 was $6.2
million compared to $4.2 million for the year ended June 30, 1997. Excluding the
effects of the one-time SAIF recapitalization assessment, income tax expense of
$6.0 million was recorded for the prior year. The effective tax rate for the
year ended June 30, 1998 was 35.8%. Excluding the effects of the one-time SAIF
recapitalization assessment, the effective tax rate was 37.5% for the year ended
June 30, 1997.
Comparison of Operating Results for the Years Ended June 30, 1997 and June 30,
1996
General. For the year ended June 30, 1997, net income was $6.9 million, or $0.73
per diluted share, including the effects of the one-time SAIF recapitalization
assessment. The SAIF recapitalization assessment for the Company
42
totaled $4.8 million, or an after-tax cost of $3.1 million, or $0.33 per share
on a diluted basis. The results for the year ended June 30, 1997, excluding the
effects of the SAIF assessment, would have compared favorably to net income of
$7.8 million, or $0.77 per diluted share, for the year ended June 30, 1996.
Interest and Dividend Income. Interest and dividend income for the year ended
June 30, 1997 increased to $85.4 million from $68.1 million for the year ended
June 30, 1996. The increase in the year ended June 30, 1997 was due to an
increase in average interest-earning assets, primarily residential loans,
partially offset by a decrease in the average yield earned on interest-earning
assets. Average interest-earning assets were $1.1 billion for the year ended
June 30, 1997 compared to $901.0 million for the comparable prior fiscal year.
The average yield on interest-earning assets decreased to 7.47% for the year
ended June 30, 1997 from 7.56% for the year ended June 30, 1996.
Interest income on residential one- to four-family mortgage loans for the year
ended June 30, 1997 increased $18.5 million, or 52.7% when compared to the prior
fiscal year. The increase in interest income on residential one- to four-family
mortgage loans was due to an increase of $256.1 million in the average balance
outstanding for the year ended June 30, 1997 over the prior fiscal year. The
increase in the average balance on residential one- to four-family mortgage
loans was partially offset by a decrease of 0.16% in the average yield earned on
this loan portfolio for the year ended June 30, 1997 from the prior fiscal year.
Interest Expense. Interest expense increased $14.0 million for the year ended
June 30, 1997, from $39.1 million for fiscal 1996. The increase was attributable
to an increase in total average deposits and borrowings coupled with an increase
in the Company's cost of funds. Average deposits and borrowings increased $235.1
million for the year ended June 30, 1997 compared to the 1996 period. The
average rate paid on deposits and borrowings increased to 4.89% for the year
ended June 30, 1997 from 4.60% for the prior fiscal year.
Net Interest and Dividend Income. Net interest and dividend income for the year
ended June 30, 1997 was $32.3 million, reflecting an increase from $29.0 million
recorded in the prior fiscal year. The increase reflects the Company's growth in
assets, primarily in residential one- to four-family mortgage loans. The net
interest rate spread and net interest margin for the year ended June 30, 1997
were 2.58% and 2.83%, respectively, a decline from 2.96% and 3.22%,
respectively, during fiscal 1996. While the interest rate environment of recent
years has proven beneficial to many financial institutions, including the
Company, increases in market rates of interest generally adversely affect the
net interest income of most financial institutions. Since the Company's
liabilities generally reprice more quickly than its assets, interest margins
will likely decrease if interest rates rise.
Provision for Loan Losses. The provision for loan losses for the year ended June
30, 1997 was $635,000 compared to $610,000 for the prior fiscal year. The
allowance for loan losses at June 30, 1997 of $2.6 million is comparable to the
June 30, 1996 level. The allowance for loan losses as a percentage of
non-performing loans was 47.80% at June 30, 1997, compared to 42.52% at June 30,
1996.
Non-Interest Income. For the year ended June 30, 1997 non-interest income was
$1.8 million compared to $2.2 million for the prior fiscal year. The decrease
was partially due to a $94,000 gain on sale of investments available for sale
which was recorded in the year ended June 30, 1996. In addition, the decrease in
the year ended June 30, 1997 was partially attributable to a net loss from real
estate operations of $181,000 compared to a net gain from real estate operations
of $104,000 for the prior fiscal year. The decrease in net gains from real
estate operations was partially reflective of additional reserves established in
accordance with internal policies and guidelines on real estate properties then
owned by the Company. Non-interest income for the year ended June 30, 1996
included a $62,000 gain on sale of a property no longer used in operations.
Non-Interest Expenses. The Company's non-interest expenses were $22.4 million
for the year ended June 30, 1997. Non-interest expenses for the year ended June
30, 1997 included $4.8 million for the one-time SAIF recapitalization
assessment. Excluding this SAIF assessment, non-interest expenses for the year
ended June 30, 1997 would have been comparable to the $17.6 million reported for
the year ended June 30, 1996. The Company's non-interest expenses, excluding the
SAIF assess ment, as a percent of average assets declined to 1.47% for the year
ended June 30, 1997 from 1.84% for the prior fiscal year.
As noted above, beginning January 1, 1997 deposit insurance premiums decreased
significantly from the 0.23% of
43
deposits previously paid by the Bank.
Income Tax Expense. Income tax expense for the year ended June 30, 1997 was $4.2
million compared to $5.1 million for the prior fiscal year. Excluding the
effects of the one-time SAIF recapitalization assessment, income tax expense
would have been $6.0 million for fiscal 1997. The effective tax rate was 37.9%
for the year ended June 30, 1997. Excluding the effect of the one-time SAIF
recapitalization assessment, the effective tax rate was 37.5% for the year ended
June 30, 1997 compared to 39.5% for the year ended June 30, 1996.
Year 2000
The concern comprising the Year 2000 issue has its basis in the fact that many
existing computer programs have traditionally used only two digits to identify
the year in many date fields. The century representation has been largely
assumed. As a century change rapidly approaches, any misinterpretation over the
proper meaning could cause logic and other software errors in various
applications. Year 2000 readiness means being able to clearly discern and
traverse the century boundary in all applications.
It is not, however, just a computer issue. Building, communications and
environmental systems are also involved. The issue is further compounded by the
degree to which other entities such as bank customers and suppliers are
successful in addressing this same issue. The Year 2000 issue affects virtually
all organizations globally. Penn Federal has been taking, as have most banking
institutions, a proactive stance on this issue for several years.
A formal Year 2000 Project Plan (the "Year 2000 Plan") has been prepared and
approved by the Company's Board of Directors. Supplementing this plan is a
detailed listing of areas of concentration. The Board of Directors is updated on
a monthly basis as to the status of all phases. Furthermore, an independent
verification of progress is being performed on a quarterly basis.
A task force with representation from all divisions within the Bank has been
assembled to implement the Year 2000 Plan, under the direction of two senior
vice presidents. The task force continues to engage in a wide range of
associated tasks. These include informing bank personnel about the complexity of
the issue, assessing its impact upon Penn Federal systems and applications and
arranging for the remediation of affected items. As the Bank primarily runs
software purchased from a few key vendors, the task force continues to meet and
work closely with those vendors and suppliers to ensure a smooth transition into
the next millennium. By following a carefully prescribed plan, efforts to date
have made substantial progress and the Company is currently on target toward
meeting its commitment in achieving Year 2000 compliance for its mission
critical systems.
Systems critical to the operation of the Company have been identified and are
receiving top priority. Certain of the mission-critical software elements are
now compliant. Upgrades on other mission-critical software have been received
and installed and are in the process of being tested. Although a vendor may
contend that its product is currently Year 2000 compliant or has been remediated
to be so, the Company will not consider an entity to be Year 2000 compliant
until either the vendor certifies such to the Company by providing a test
results review or until the Company has performed independent testing. Task
force personnel are currently participating in the process of testing and
verifying vendor changes. Management expects to have renovated and tested all
necessary systems by the end of the first quarter of 1999 and believes that its
level of preparedness for the project is appropriate.
Members of the task force have responsibility for identifying a contingency plan
for the different areas of software being tested in the event the Year 2000 Plan
is not timely and successfully implemented. If vendors for certain critical
systems are unable to supply Year 2000 compliant software upgrades, the use of
an alternative vendor would be required to be pursued, at additional cost to the
Company. Certain non-software items, such as the assurance of electrical power
on January 1, 2000 is beyond the control of the Company. Nevertheless,
contingency plans for these items must be formalized.
The estimated cost for this effort is $75,000; the actual amount will be
determined by managements's operational choices over the next few months. This
estimate includes approximately $44,000 of hardware and software cost upgrades.
The remaining $31,000 is estimated for software program consulting and
remediation. This estimate does not include manpower costs of Company personnel
associated with the task force, who retain their individual operational
responsibli-
44
ties in addition to Year 2000 duties. No costs have been incurred to
date. The completion date and cost are based upon management's analysis of the
information currently available to it.
Liquidity and Capital Resources
Liquidity. The Company's primary sources of funds are deposits, principal and
interest payments on loans and mortgage-backed securities, and borrowings from
the FHLB of New York. While scheduled loan repayments and maturing investments
are relatively predictable, deposit flows and early loan repayments are more
influenced by interest rates, general economic conditions and competition. The
Company has competitively set rates on deposit products for selected terms and,
when necessary, has supplemented deposits with longer-term or less expensive
alternative sources of funds.
Federal regulations require the Bank to maintain minimum levels of liquid
assets. The required percentage has varied from time to time based upon economic
conditions and savings flows. The current required percentage is 4% of net
withdrawable deposits payable on demand or in one year or less and borrowings
payable on demand or in one year or less, both as of the end of the preceding
calendar quarter. Liquid assets for purposes of this ratio include cash, accrued
interest receivable, certain time deposits, U.S. Treasury and Government
agencies and other securities and obligations generally having remaining
maturities of less than five years. All mortgage-backed securities are
includable in liquid assets, as well. The Company's most liquid assets are cash
and cash equivalents, short-term investments and mortgage-backed securities. The
levels of these assets are dependent on the Bank's operating, financing, lending
and investing activities during any given period. At June 30, 1998 and 1997, the
Bank's liquidity ratios were 24.50% and 10.36%, respectively.
In the event that the Company should require funds beyond its ability to
generate them internally, additional sources of funds are available through the
use of FHLB of New York advances and reverse repurchase agreements. In addition,
the Company may access funds, if necessary, through the use of $57.0 million of
overnight repricing lines of credit and a $50.0 million one-month overnight
repricing line of credit from the FHLB of New York. The Company uses its liquid
resources principally to fund maturing certificates of deposit and deposit
withdrawals, to purchase loans and securities, to fund existing and future
commitments, and to meet operating expenses. At June 30, 1998, the Company had
outstanding commitments to extend credit which amounted to $37.3 million
(including $30.4 million in available lines of credit) and commitments to
purchase loans of $11.7 million. Management believes that loan repayments and
other sources of funds will be adequate to meet the Company's foreseeable
liquidity needs.
In addition to cash provided by operating activities, the Company's fiscal 1998,
1997 and 1996 cash needs were provided by increased deposits, an increase in
advances from the FHLB of New York and other borrowings and principal repayments
of mortgage-backed securities. Furthermore, during fiscal 1998, proceeds from
the Trust Preferred securities offering, maturities of investment securities and
sales of loans contributed to meeting the Company's cash needs. During fiscal
1998 and 1997, the cash provided was used for investing activities, which
included the origination and purchase of loans and the purchase of investment
securities. During fiscal 1996, the cash provided was principally used for
investing activities, which included the purchase of investment and
mortgage-backed securities and the origination and purchase of loans.
Current regulatory standards impose the following capital requirements: a
risk-based capital standard expressed as a percentage of risk- adjusted assets;
a leverage ratio of core capital to total adjusted assets; and a tangible
capital ratio expressed as a percentage of total adjusted assets. As of June 30,
1998, the Bank exceeded all regulatory capital requirements and qualified as a
"well-capitalized" institution. See "Regulation" and Note P -- Stockholders'
Equity and Regulatory Capital, in the Notes to Consolidated Financial
Statements.
The Company initiated a quarterly cash dividend on its common stock of $0.035
per share in the second quarter of fiscal 1997. Total dividends paid for the
years ended June 30, 1998 and 1997 were $0.14 per share and $0.105 per share,
respectively. The declaration and payment of dividends are subject to, among
other things, PennFed's financial condition and results of operations,
regulatory capital requirements, tax considerations, industry standards,
economic conditions, regulatory restrictions, general business practices and
other factors.
45
Item 8. Financial Statements and Supplementary Data
Independent Auditors' Report
Board of Directors and Stockholders
PennFed Financial Services, Inc. and Subsidiaries
West Orange, New Jersey
We have audited the accompanying consolidated statements of financial condition
of PennFed Financial Services, Inc. and Subsidiaries (the "Company") as of June
30, 1998 and 1997, and the related consolidated statements of income, changes in
stockholders' equity and cash flows for each of the three years in the period
ended June 30, 1998. These consolidated financial statements are the
responsibility of the Company's management. Our responsibility is to express an
opinion on these financial statements based on our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those standards require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the consolidated financial statements referred to above present
fairly, in all material respects, the financial position of PennFed Financial
Services, Inc. and Subsidiaries as of June 30, 1998 and 1997, and the results of
their operations and their cash flows for each of the three years in the period
ended June 30, 1998 in conformity with generally accepted accounting principles.
/s/ Deloitte & Touche LLP
Parsippany, New Jersey
July 29, 1998
46
PENNFED FINANCIAL SERVICES, INC. AND SUBSIDIARIES
- -------------------------------------------------------------------------------
Consolidated Statements of Financial Condition
June 30,
---------------------------
1998 1997
---------------------------
(Dollars in thousands)
Assets
Cash and cash equivalents...................................................... $ 10,960 $ 10,729
Investment securities held to maturity, at amortized cost, market value
of $178,743 and $35,432 at June 30, 1998 and 1997...................... 178,310 35,290
Mortgage-backed securities held to maturity, at amortized cost, market value
of $208,128 and $291,125 at June 30, 1998 and 1997..................... 204,452 288,539
Loans held for sale............................................................ 565 --
Loans receivable, net of allowance for loan losses of $2,776 and $2,622
at June 30, 1998 and 1997.............................................. 1,095,287 931,451
Premises and equipment, net.................................................... 18,092 16,435
Real estate owned, net......................................................... 1,643 884
Federal Home Loan Bank of New York stock, at cost.............................. 15,065 12,413
Accrued interest receivable, net............................................... 8,723 7,196
Goodwill and other intangible assets........................................... 13,481 15,918
Other assets................................................................... 5,360 2,896
---------------------------
$1,551,938 $1,321,751
===========================
Liabilities and Stockholders' Equity
Liabilities:
Deposits............................................................... $1,028,100 $ 918,160
Federal Home Loan Bank of New York advances............................ 230,465 205,465
Other borrowings....................................................... 131,500 82,750
Mortgage escrow funds.................................................. 10,534 8,855
Due to banks........................................................... 12,069 7,237
Accounts payable and other liabilities................................. 2,886 2,014
---------------------------
Total liabilities...................................................... 1,415,554 1,224,481
---------------------------
Guaranteed Preferred Beneficial Interests in the
Company's Junior Subordinated Debentures............................. 34,500 --
Unamortized issuance expenses.......................................... (1,819) --
---------------------------
Net Trust Preferred Securities......................................... 32,681 --
---------------------------
Commitments and Contingencies (Note O)
Stockholders' Equity:
Serial preferred stock, $.01 par value,
7,000,000 shares authorized, no shares issued.................. -- --
Common stock, $.01 par value, 30,000,000 shares authorized,
11,900,000 shares issued and 9,385,988 and 9,644,248 shares
outstanding at June 30, 1998 and 1997 (excluding shares
held in treasury of 2,514,012 and 2,255,752 at June 30, 1998
and 1997)...................................................... 60 60
Additional paid-in capital............................................. 58,278 57,441
Restricted stock - Management Recognition Plan......................... (531) (1,062)
Employee Stock Ownership Plan Trust debt............................... (3,253) (3,671)
Retained earnings, partially restricted................................ 70,781 61,051
Treasury stock, at cost, 2,514,012 and 2,255,752 shares at June 30, 1998
and 1997............................................................ (21,632) (16,549)
---------------------------
Total stockholders' equity............................................. 103,703 97,270
---------------------------
$1,551,938 $1,321,751
===========================
See notes to consolidated financial statements.
47
PENNFED FINANCIAL SERVICES, INC. AND SUBSIDIARIES
- -------------------------------------------------------------------------------
Consolidated Statements of Income
For the years ended June 30,
-----------------------------------------
1998 1997 1996
-----------------------------------------
(Dollars in thousands)
Interest and Dividend Income:
Interest and fees on loans................................ $ 73,822 $ 61,768 $ 43,275
Interest on federal funds sold............................ 18 -- 1
Interest and dividends on investment securities........... 9,814 1,603 2,298
Interest on mortgage-backed securities.................... 17,151 22,030 22,549
-----------------------------------------
100,805 85,401 68,123
-----------------------------------------
Interest Expense:
Deposits.................................................. 48,200 40,172 33,601
Borrowed funds............................................ 17,669 12,901 5,520
Trust Preferred securities................................ 2,174 -- --
-----------------------------------------
68,043 53,073 39,121
-----------------------------------------
Net Interest and Dividend Income Before
Provision for Loan Losses................................. 32,762 32,328 29,002
Provision for Loan Losses................................... 600 635 610
-----------------------------------------
Net Interest and Dividend Income After
Provision for Loan Losses................................. 32,162 31,693 28,392
-----------------------------------------
Non-Interest Income:
Service charges........................................... 1,974 1,666 1,602
Net gain (loss) from real estate operations............... (156) (181) 104
Net gain on sales of loans................................ 528 -- --
Net gain on sales of investment securities................ -- -- 94
Other..................................................... 321 298 402
-----------------------------------------
2,667 1,783 2,202
-----------------------------------------
Non-Interest Expenses:
Compensation and employee benefits........................ 8,109 7,897 7,617
Net occupancy expense..................................... 1,275 1,129 1,129
Equipment................................................. 1,542 1,580 1,580
Advertising............................................... 380 326 298
Amortization of intangibles............................... 2,437 2,512 2,625
Federal deposit insurance premium......................... 591 1,112 1,680
SAIF recapitalization assessment.......................... -- 4,813 --
Other..................................................... 3,055 3,016 2,713
-----------------------------------------
17,389 22,385 17,642
-----------------------------------------
Income Before Income Taxes.................................. 17,440 11,091 12,952
Income Tax Expense.......................................... 6,242 4,205 5,111
-----------------------------------------
Net Income.................................................. $ 11,198 $ 6,886 $ 7,841
-----------------------------------------
Weighted average number of common shares outstanding:
Basic..................................................... 8,949,357 8,902,644 9,829,532
=========================================
Diluted................................................... 9,689,655 9,439,856 10,126,434
=========================================
Net income per common share:
Basic..................................................... $ 1.25 $ 0.77 $ 0.80
=========================================
Diluted................................................... $ 1.16 $ 0.73 $ 0.77
=========================================
See notes to consolidated financial statements.
48
PENNFED FINANCIAL SERVICES, INC. AND SUBSIDIARIES
- -------------------------------------------------------------------------------
Consolidated Statements of
Changes in Stockholders' Equity
For the Years Ended June 30, 1998, 1997 and 1996
Restricted Employee Unrealized
Stock - Stock Gain On
Serial Additional Management Ownership Investments
Preferred Common Paid-In Recognition Plan Trust Retained Available Treasury
Stock Stock Capital Plan Debt Earnings For Sale Stock
-------------------------------------------------------------------------------------------------
(Dollars in thousands)
Balance at June 30, 1995..... $ -- $60 $56,881 $(1,754) $(4,423) $47,333 $ 59 $ (3,986)
Allocation of ESOP Stock..... 362
ESOP Adjustment ............. 176
Purchase of 801,860 shares
of treasury stock.......... (12,370)
Issuance of 680 shares of
treasury stock
for options exercised...... (2) 8
Amortization of MRP stock.... 438
Decrease in unrealized gain on
investments available
for sale................... (59)
Net income for the year
ended June 30, 1996........ 7,841
-------------------------------------------------------------------------------------------------
Balance at June 30, 1996..... -- 60 57,057 (1,316) (4,061) 55,172 -- (16,348)
Allocation of ESOP stock..... 390
ESOP and MRP adjustment...... 345
Purchase of 32,500 shares
of treasury stock.......... (651)
Issuance of 1,804 shares
of treasury stock
for options exercised
and Dividend
Reinvestment Plan (DRP).... (20) 27
Issuance of 29,155 shares
of treasury stock
for MRP.................... 39 (462) 423
Amortization of MRP stock.... 716
Cash dividends............... (987)
Net income for the year
ended June 30, 1997........ 6,886
-------------------------------------------------------------------------------------------------
Balance at June 30, 1997..... -- 60 57,441 (1,062) (3,671) 61,051 -- (16,549)
Allocation of ESOP stock..... 418
ESOP and MRP adjustment...... 837
Purchase of 325,000 shares
of treasury stock.......... (5,581)
Issuance of 66,740 shares of
treasury stock for options
exercised and DRP.......... (166) 498
Amortization of MRP stock.... 531
Cash dividends............... (1,302)
Net income for the year
ended June 30, 1998........ 11,198
-------------------------------------------------------------------------------------------------
Balance at June 30, 1998..... $ -- $60 $58,278 $ (531) $(3,253) $70,781 $ -- $(21,632)
-------------------------------------------------------------------------------------------------
See notes to consolidated financial statements.
49
PENNFED FINANCIAL SERVICES, INC. AND SUBSIDIARIES
- -------------------------------------------------------------------------------
Consolidated Statements of Cash Flows
For the years ended June 30,
-----------------------------------------
1998 1997 1996
-----------------------------------------
(Dollars in thousands)
Cash Flows from Operating Activities:
Net income........................................... $ 11,198 $ 6,886 $ 7,841
Adjustments to reconcile net income to net cash
provided by operating activities:
Net gain on sales of loans........................... (528) -- --
Proceeds from sales of loans held for sale........... 1,616 585 273
Originations of loans held for sale.................. (2,181) (497) (361)
Gain on sales of investment securities............... -- -- (94)
Net gain on sales of real estate owned............... (95) (29) (236)
Amortization of investment and mortgage-backed
securities premium, net............................ 319 260 415
Depreciation and amortization........................ 1,297 1,301 1,315
Provision for losses on loans and real estate owned.. 751 747 618
Amortization of cost of stock plans.................. 1,786 1,466 978
Amortization of intangibles.......................... 2,437 2,512 2,625
Amortization of premiums on loans and loan fees...... 1,565 414 371
Amortization of Trust Preferred securities
issuance costs..................................... 42 -- --
Increase in accrued interest receivable, net of
accrued interest payable........................... (974) (113) (835)
(Increase) decrease in other assets.................. (2,464) 1,731 (1,294)
(Increase) decrease in deferred income tax asset..... 642 185 (174)
Increase (decrease) in accounts payable and
other liabilities.................................. 230 891 (894)
Increase in mortgage escrow funds.................... 1,679 2,925 1,160
Increase in due to banks............................. 4,832 1,248 2,348
Other, net........................................... -- (2) (83)
-----------------------------------------
Net cash provided by operating activities............ 22,152 20,510 13,973
-----------------------------------------
Cash Flows From Investing Activities:
Proceeds from maturities of investment securities.... 70,141 16,000 6,210
Proceeds from sales of investment securities
available for sale................................. -- -- 104
Purchases of investment securities held to maturity.. (213,168) (30,000) (10,000)
Net outflow from loan originations net of
principal repayments of loans...................... (152,786) (86,193) (55,090)
Purchases of loans................................... ( 89,910) (195,514) (132,238)
Proceeds from principal repayments of
mortgage-backed securities......................... 83,775 57,266 72,028
Purchases of mortgage-backed securities.............. -- -- (99,085)
Proceeds from sale of premises and equipment......... -- -- 326
Proceeds from sale of loans.......................... 75,108 -- --
Purchases of premises and equipment.................. (2,954) (1,701) (529)
Proceeds from sales of real estate owned............. 1,300) 1,806 1,868
Purchases of Federal Home Loan Bank of
New York stock..................................... (2,652) (4,361) (1,684)
-----------------------------------------
Net cash used in investing activities................ (231,146) (242,697) (218,090)
-----------------------------------------
Cash Flows From Financing Activities:
Net increase in deposits............................. 109,387 81,403 122,502
Increases in advances from the Federal Home Loan
Bank of New York and other borrowings.............. 73,750 141,515 95,870
Net proceeds from issuance of Trust
Preferred securities............................... 32,639 -- --
Cash dividends paid.................................. (1,302) (987) --
Purchases of treasury stock, net of reissuance....... (5,249) (644) (12,362)
-----------------------------------------
Net cash provided by financing activities............ 209,225 221,287 206,010
-----------------------------------------
Net Increase (Decrease) in Cash and Cash Equivalents......... 231 (900) 1,893
Cash and Cash Equivalents, Beginning of Year................. 10,729 11,629 9,736
-----------------------------------------
Cash and Cash Equivalents, End of Year....................... $ 10,960 $ 10,729 $ 11,629
=========================================
Supplemental Disclosures of Cash Flow Information:
Cash paid during the year for:
Interest............................................. $ 66,821 $ 52,054 $ 38,731
=========================================
Income taxes......................................... $ 6,707 $ 3,504 $ 5,133
=========================================
Supplemental Schedule of Non-Cash Activities:
Transfer of loans receivable to real estate
owned, net......................................... $ 2,115 $ 1,690 $ 1,540
=========================================
Unrealized gain on investments available for sale.... $ -- $ -- $ (59)
=========================================
Issuance of treasury stock for Management
Recognition Plan................................... $ -- $ 423 $ --
=========================================
See notes to consolidated financial statements.
50
PENNFED FINANCIAL SERVICES, INC. AND SUBSIDIARIES
- -------------------------------------------------------------------------------
Notes to Consolidated Financial Statements
Years Ended June 30, 1998, 1997 and 1996
A. Summary of Significant Accounting Policies
PennFed Financial Services, Inc. ("PennFed") was organized in March 1994 for the
purpose of becoming the savings and loan holding company for Penn Federal
Savings Bank (the "Bank") in connection with the Bank's conversion from a
federally chartered mutual savings bank to a federally chartered stock savings
bank (the "Conversion").
Principles of Consolidation -- The consolidated financial statements of PennFed
and subsidiaries (with its subsidiaries the "Company") include the accounts of
PennFed and its subsidiaries (the Bank and PennFed Capital Trust I). PennFed
owns all of the outstanding stock of the Bank issued on July 14, 1994 (see Note
B - Stock Conversion). All references to the Company, unless otherwise
indicated, prior to July 14, 1994, refer to the Bank and its subsidiaries on a
consolidated basis. All intercompany accounts and transactions have been
eliminated in consolidation.
The preparation of financial statements in conformity with generally accepted
accounting principles requires management to make estimates and assumptions that
affect the reported amounts of assets and liabilities and disclosure of
contingent assets and liabilities at the date of the financial statements and
the reported amounts of revenues and expenses during the reporting period.
Actual results could differ from those estimates. The most significant area in
the accompanying financial statements where estimates have an impact is in the
allowance for loan losses.
Cash and Cash Equivalents -- For purposes of reporting cash flows, cash and cash
equivalents include cash and amounts due from depository institutions.
Investment Securities and Mortgage-Backed Securities -- In accordance with
Statement of Financial Accounting Standards No. 115, "Accounting for Certain
Investments in Debt and Equity Securities" ("SFAS 115"), debt securities
classified as held to maturity are carried at amortized cost only if the
reporting entity has a positive intent and ability to hold those securities to
maturity.
The Company classifies investment securities and mortgage-backed securities as
either held to maturity or available for sale. Investment securities and
mortgage-backed securities held to maturity are stated at cost, adjusted for
amortization of premiums and accretion of discounts, since the Company has both
the ability and intent to hold the securities to maturity. Investments available
for sale are carried at market value with unrealized gains and losses excluded
from earnings and reported as a separate component of stockholders' equity.
Loans Held for Sale-- Mortgage loans originated and intended for sale in the
secondary market are carried at the lower of cost or estimated market value in
the aggregate. Aggregate net unrealized losses are recognized in a valuation
allowance by charges to income.
Loans Receivable -- Interest income is not accrued on loans where management has
determined that the borrowers may be unable to meet contractual principal or
interest obligations or where interest and/or principal is 90 days or more past
due. When a loan is placed on nonaccrual status, accrual of interest ceases and,
in general, uncollected past due interest (including interest applicable to
prior years, if any) is reversed and charged against current income. Therefore,
interest income is not recognized unless the financial condition and payment
record of the borrower warrant the recognition of interest income. Interest on
loans that have been restructured is generally accrued according to the
renegotiated terms.
In accordance with Statement of Financial Accounting Standards No. 114,
"Accounting by Creditors for Impairment of a Loan" ("SFAS 114") and Statement of
Financial Accounting Standards No. 118, "Accounting by Creditors for Impairment
of a Loan - Income Recognition and Disclosures" ("SFAS 118"), the Company
accounts for impaired loans, except those loans that are accounted for at fair
value or at the lower of cost or fair value, at the present value of the
estimated future cash flows of the loan discounted at the loan's effective
interest rate or at the loan's observable market price or the fair value of the
collateral if the loan is collateral dependent. A loan is impaired when it is
probable that all principal and interest amounts will not be collected according
to the loan contract. Delinquent, smaller balance, homogeneous loans that are
evaluated collectively on a portfolio basis are not considered impaired under
SFAS 114. The Company generally evaluates the collectibility of consumer and
one- to four-family loans on a total portfolio basis.
51
PENNFED FINANCIAL SERVICES, INC. AND SUBSIDIARIES
- -------------------------------------------------------------------------------
Notes to Consolidated Financial Statements -- Continued
Allowance for Loan Losses -- The allowance for loan losses is established
through charges to earnings. Loan losses are charged against the allowance for
loan losses when management believes that the recovery of principal is unlikely.
If, as a result of loans charged off or increases in the size or risk
characteristics of the loan portfolio, the allowance is below the level
considered by management to be adequate to absorb future loan losses on existing
loans, the provision for loan losses is increased to the level considered
necessary to provide an adequate allowance. The allowance is an amount that
management believes will be adequate to absorb possible losses on existing loans
that may become uncollectible, based on evaluations of the collectibility of the
loans. The evaluations take into consideration such factors as changes in the
nature and volume of the loan portfolio, overall portfolio quality, review of
specific problem loans and current economic conditions that may affect the
borrowers' ability to pay. Economic conditions may result in the necessity to
change the allowance quickly in order to react to deteriorating financial
conditions of the Company's borrowers. As a result, additional provisions on
existing loans may be required in the future if borrowers' financial conditions
deteriorate or if real estate values decline.
Premises and Equipment -- Premises and equipment are stated at cost, less
accumulated depreciation and amortization. Provisions for depreciation of
premises and equipment are computed on the straight-line method over three to
ten years for furniture and equipment and twenty-five to forty years for
buildings. Amortization of leasehold improvements is provided using the
straight-line method over the terms of the respective lease or estimated useful
life of the improvement, whichever is shorter.
Real Estate Owned -- Real estate properties acquired by foreclosure are recorded
at the lower of cost or estimated fair value less costs to dispose with any
write down charged against the allowance for loan losses. Subsequent valuations
are periodically performed by management and the carrying value is adjusted by a
charge to expense to reflect any subsequent declines in the estimated fair
value. Further declines in real estate values may result in increased foreclosed
real estate expense in the future. Routine holding costs are charged to expense
as incurred and improvements to real estate owned that increase the fair value
of the real estate are capitalized. Gains on sale of real estate owned are
generally recognized upon disposition of the property. Losses are charged to
operations as incurred.
Goodwill -- The excess of cost over fair value of assets acquired ("goodwill")
arising from the acquisitions discussed in Note C is amortized to expense by an
accelerated method over the estimated remaining lives of long-term,
interest-bearing assets acquired (14 years) in accordance with Statement of
Financial Accounting Standards No. 72, "Accounting for Certain Acquisitions of
Banking or Thrift Institutions."
Core Deposit Premium -- The premium resulting from the valuation of core
deposits arising from the aforementioned acquisitions is being amortized to
expense over the estimated average remaining life of the existing customer
deposit base acquired (10 years).
Due to Banks -- This item represents a book overdraft relating to outstanding
checks written on the Company's Federal Home Loan Bank of New York operating
account.
Income Taxes-- Federal and state income taxes are based upon earnings reported
after permanent differences. Deferred income taxes are provided for temporary
differences in the basis of assets and liabilities between financial statement
and income tax amounts.
In accordance with Statement of Financial Accounting Standards No. 109,
"Accounting for Income Taxes" ("SFAS 109"), the Company uses an asset and
liability method for financial accounting and reporting for income taxes.
Earnings Per Common Share -- Basic earnings per common share is computed by
dividing income available to common stockholders by the weighted average number
of common shares outstanding during the period, less the weighted average
unallocated ESOP shares of common stock. The computation of diluted earnings per
share is similar to the computation of basic earnings per share except that the
denominator is increased to include the number of additional common shares that
would have been outstanding if the dilutive potential common shares had been
issued.
Loan Origination Fees and Discounts and Premiums -- Nonrefundable loan
origination fees net of certain direct loan origination costs are deferred. Net
deferred fees on loans held for investment are amortized into income over the
life of the related loans by use of the level-yield method. Net deferred fees on
loans originated for sale are deferred and recognized as part of the gain or
loss on sale of loans.
Discounts and premiums on investment and mortgage-backed securities and loans
purchased are recognized as
52
PENNFED FINANCIAL SERVICES, INC. AND SUBSIDIARIES
- -------------------------------------------------------------------------------
Notes to Consolidated Financial Statements -- Continued
income/expense over the estimated life of the asset purchased using the
level-yield method.
Interest Rate Swaps -- The Company has utilized interest rate swaps as a
component of managing interest rate risk. Swap agreements are held for purposes
other than trading. The Company's swaps are considered to be matched swaps, as
they are specifically linked with a liability. Periodic net cash settlements
under swap agreements are accrued as an adjustment to interest expense over the
life of the agreements. In the event of the termination of an interest rate swap
agreement, the gain or loss would be deferred and amortized as an adjustment to
interest expense over the shorter of the remaining life of the hedged item or
the remaining contract period. In the event of liquidation of the liability to
which the interest rate swap is linked, the interest rate swap would be recorded
at its fair market value with any change in such fair market value recorded in
the period it occurs.
Recently Adopted Accounting Standards -- Effective July 1, 1997, the Company
adopted Statement of Financial Accounting Standards No. 128, "Earnings Per
Share" ("SFAS 128"). SFAS 128 establishes standards for computing and presenting
earnings per share ("EPS"), simplifying the standards previously found in APB
Opinion No. 15, "Earnings Per Share." The previous presentation of primary EPS
has been replaced with a presentation of basic EPS. Dual presentation of basic
and diluted EPS is required on the face of the income statement as well as a
reconciliation of the numerator and denominator of the basic EPS computation to
the numerator and denominator of the diluted EPS computation. Basic EPS excludes
dilution and is computed by dividing income available to common stockholders by
the weighted-average number of common shares outstanding for the period. Diluted
EPS is computed similarly to fully diluted EPS pursuant to APB Opinion No. 15.
The adoption of SFAS 128 did not have a material effect on the Company's
financial condition or results of operations. EPS data presented for the years
ended June 30, 1997 and 1996 has been restated to conform with the provisions of
SFAS 128.
Stock Split-- All share information has been adjusted to reflect a two-for-one
stock split in the form of a 100% stock dividend paid on February 10, 1998. For
further information refer to Note P- Stockholders' Equity and Regulatory
Capital.
Reclassifications -- Certain reclassifications have been made to prior years'
financial statements to conform with current year's presentation.
B. Stock Conversion
On July 14, 1994, the Bank completed the Conversion and became a wholly owned
subsidiary of PennFed, a newly formed holding company. In connection with an
initial public offering, PennFed issued 11,900,000 shares of common stock at $5
per share ($.01 par value), increasing consolidated equity by $52.1 million,
which was net of conversion expenses of approximately $2.7 million and shares
issued to the ESOP representing 8% of the shares of common stock issued. The
Bank received proceeds of $28.0 million from PennFed in exchange for all of its
common stock.
As part of the Conversion, in order to grant a priority to eligible account
holders in the event of future liquidation in accordance with Office of Thrift
Supervision ("OTS") regulations, the Bank established a liquidation account in
an amount equal to $40.9 million (the retained earnings of the Bank as of March
31, 1994). The total amount of the liquidation account will be decreased as the
balances of eligible account holders are reduced subsequent to the Conversion.
In the event of a complete liquidation of the Bank, and only in such event,
eligible account holders who continue to maintain their deposit accounts shall
be entitled to receive a distribution from the liquidation account in an amount
proportionate to the current adjusted qualifying balances for accounts then
held.
C. Branch Acquisitions
In 1995, the Bank acquired from the Resolution Trust Corporation ("RTC") the
deposit liabilities and certain of the assets and other liabilities of four
branch offices of Carteret Federal Savings Bank, Madison, New Jersey
("Carteret"). The four Carteret branch offices were located in Caldwell, Verona,
Fairfield and Wayne, New Jersey. Immediately following the purchase, under a
pre-arranged "consortium" agreement, Atlantic Stewardship Bank of Midland Park,
New Jersey acquired from the Bank the deposit liabilities and certain of the
assets and other liabilities of the Wayne, New Jersey branch office. In
connection with this transaction, no gain or loss was recorded by the Bank.
The Bank submitted an $18,739,000 deposit premium bid, of which $18,000,000
related to the Caldwell, Verona and Fairfield branches. In addition to the
$18,000,000 deposit premium, the Bank also capitalized $141,000 of expenses
53
PENNFED FINANCIAL SERVICES, INC. AND SUBSIDIARIES
- -------------------------------------------------------------------------------
Notes to Consolidated Financial Statements -- Continued
reflecting a total deposit premium intangible asset of $18,141,000.
The Company acquired Sayreville Savings and Loan Association effective September
1982 and First Federal Savings and Loan Association of Montclair effective
September 1989. The acquisitions have been accounted for as purchases and,
accordingly, the purchase prices have been allocated to assets and liabilities
acquired based on their fair value at their date of acquisition. For each of the
years ended June 30, 1998, 1997 and 1996, the effect of the amortization of
goodwill was to reduce income before income taxes by approximately $421,000,
$496,000, and $609,000, respectively.
D. Investment Securities
June 30, 1998 June 30, 1997
--------------------------------------------------------
Carrying Market Carrying Market
Value Value Value Value
--------------------------------------------------------
(In thousands)
U.S. Treasury and Government Agencies:
Maturing:
Within one year................................. $ -- $ -- $ 4,999 $ 5,055
After five years but within ten years........... 95,000 95,342 30,000 30,070
After ten years................................. 71,969 71,643 -- --
--------------------------------------------------------
166,969 166,985 34,999 35,125
Obligations of states and political subdivisions:
Maturing:
Within one year................................. 100 101 -- --
After one year but within five years............ 40 46 101 102
After five years but within ten years........... -- -- 190 205
--------------------------------------------------------
140 147 291 307
Trust preferred securities:
Maturing:
After ten years................................. 11,201 11,611 -- --
--------------------------------------------------------
$178,310 $178,743 $35,290 $35,432
========================================================
At June 30, 1998, investment securities with a carrying value of $85,969,000
were pledged to secure Federal Home Loan Bank of New York advances and other
borrowings.
Gross unrealized gains and losses of investment securities at June 30, 1998 and
1997 were as follows:
June 30, 1998 June 30, 1997
-----------------------------------------------------------
Gross Gross Gross Gross
Unrealized Unrealized Unrealized Unrealized
Gains Losses Gains Losses
-----------------------------------------------------------
(In thousands)
U.S. Treasury and Government Agencies.................. $353 $337 $125 $ --
Obligations of states and political subdivisions....... 7 -- 17 --
Trust preferred securities............................. 410 -- -- --
--------------------------------------------------
$770 $337 $142 $ --
==================================================
For the year ended June 30, 1996, sales of investment securities with a cost
basis of $10,000 generated gross gains of $94,000. There were no sales of
investment securities for the years ended June 30, 1998 and 1997.
54
PENNFED FINANCIAL SERVICES, INC. AND SUBSIDIARIES
- -------------------------------------------------------------------------------
Notes to Consolidated Financial Statements -- Continued
E. Mortgage-Backed Securities
June 30,
----------------------------------
1998 1997
----------------------------------
(In thousands)
Government National Mortgage Association.......... $ 3,005 $ 3,993
Federal Home Loan Mortgage Corporation............ 123,444 184,028
Federal National Mortgage Association............. 77,019 98,684
Collateralized Mortgage Obligations/REMICs........ 400 938
----------------------------------
203,868 287,643
Unamortized premiums, net......................... 584 896
----------------------------------
$204,452 $288,539
==================================
The estimated market values of mortgage-backed securities were $208,128,000 and
$291,125,000 at June 30, 1998 and 1997, respectively. There were no sales of
mortgage-backed securities in the years ended June 30, 1998, 1997 and 1996.
The carrying value of mortgage-backed securities pledged were as follows:
June 30,
----------------------------------
1998 1997
----------------------------------
(In thousands)
Pledged to secure:
Federal Home Loan Bank of New York Advances.... $ 91,213 $ 72,004
Other borrowings............................... 19,485 41,566
Interest rate swap agreements.................. 2,618 1,789
Public funds on deposit........................ 3,865 384
----------------------------------
$ 117,181 $115,743
==================================
Collateralized mortgage obligations consist primarily of fixed and adjustable
rate sequentially paying securities with short durations.
The gross unrealized gains and losses of mortgage-backed securities held at June
30, 1998 and 1997 were as follows:
June 30, 1998 June 30, 1997
---------------------------------------------------------
Gross Gross Gross Gross
Unrealized Unrealized Unrealized Unrealized
Gains Losses Gains Losses
---------------------------------------------------------
(In thousands)
Government National Mortgage Association..... $ 192 $-- $ 214 $ --
Federal Home Loan Mortgage Corporation....... 2,064 19 2,604 965
Federal National Mortgage Association........ 1,443 5 1,225 492
Collateralized Mortgage Obligations/REMICs... 1 -- 3 3
---------------------------------------------------------
$3,700 $ 24 $4,046 $1,460
=========================================================
55
PENNFED FINANCIAL SERVICES, INC. AND SUBSIDIARIES
- -------------------------------------------------------------------------------
Notes to Consolidated Financial Statements -- Continued
F. Loans Receivable, Net
June 30,
-------------------------------
1998 1997
-------------------------------
(In thousands)
First Mortgage Loans:
Conventional............................. $ 966,073 $824,100
FHA insured.............................. 4,180 6,046
VA guaranteed............................ 1,415 1,697
-------------------------------
Total one- to four-family................ 971,668 831,843
Commercial and multi-family.............. 65,833 56,811
-------------------------------
Total first mortgage loans................. 1,037,501 888,654
-------------------------------
Consumer:
Second mortgages......................... 27,232 23,665
Home equity lines of credit.............. 23,538 14,040
Other.................................... 3,331 2,512
-------------------------------
Total consumer loans....................... 54,101 40,217
-------------------------------
Total loans................................ 1,091,602 928,871
-------------------------------
Add (Less):
Allowance for loan losses................ (2,776) (2,622)
Unamortized premium...................... 2,903 3,610
Unearned income on consumer loans........ (31) (36)
Net deferred loan fees................... 4,154 1,628
-------------------------------
4,250 2,580
-------------------------------
$1,095,852 $931,451
===============================
Conventional one- to four-family mortgage loans at June 30, 1998 included
$565,000 of mortgages held for sale. At June 30, 1998, the Company had a
commitment to sell these loans.
Non-accruing loans at June 30, 1998 and 1997 were $3,742,000 and $5,485,000,
respectively, which represents 0.34% and 0.59%, respectively, of total loans
outstanding. The total interest income that would have been recorded for the
years ended June 30, 1998 and 1997, had these loans been current in accordance
with their original terms, or since the date of origination if outstanding for
only part of the year, was approximately $167,000 and $139,000, respectively.
At June 30, 1998 and 1997, impaired loans totaled $457,000 and $1,687,000,
respectively. The average balance of impaired loans for the years ended June 30,
1998 and 1997 was $724,000 and $2,255,000, respectively. All impaired loans have
a related allowance for losses, which totaled $185,000 and $460,000 at June 30,
1998 and 1997, respectively. Interest income related to impaired loans is
recognized under the cash-basis method. Interest income recognized on impaired
loans for the years ended June 30, 1998 and 1997 was $30,000 and $120,000,
respectively. Total interest income that would have been recorded for the years
ended June 30, 1998 and 1997, had these loans been current in accordance with
their loan terms, was approximately $60,000 and $303,000, respectively.
The Company has restructured the terms of certain loans. Those loans, considered
to be troubled debt restructurings, had a balance of $1,415,000 and $1,451,000
at June 30, 1998 and 1997, respectively. The interest earned on restructured
loans that are performing in accordance with their modified terms amounted to
$131,000 and $210,000 for the years ended June 30, 1998 and 1997, respectively.
These loans would have earned $162,000 and $263,000 for the years ended June 30,
1998 and 1997, respectively, had they performed in accordance with their
original terms.
56
PENNFED FINANCIAL SERVICES, INC. AND SUBSIDIARIES
- -------------------------------------------------------------------------------
Notes to Consolidated Financial Statements -- Continued
The following is an analysis of the allowance for loan losses:
Year ended June 30,
------------------------------
1998 1997 1996
------------------------------
(In thousands)
Balance, beginning of year........... $2,622 $2,630 $2,860
Provisions for losses on loans....... 600 635 610
Recoveries........................... -- 42 101
Losses charged to allowance.......... (446) (685) (941)
------------------------------
Balance, end of year................. $2,776 $2,622 $2,630
==============================
The Company's loan portfolio consists primarily of loans secured by residential
and commercial real estate located in its market areas. Therefore, the
collectibility of these loans is dependent to a large degree on the overall
strength of the New Jersey economy, as well as the specific strength of the real
estate sector.
At June 30, 1998 and 1997, commercial and multi-family real estate loans totaled
$65,833,000 and $56,811,000, respectively. These loans are considered by
management to be of somewhat greater risk of collectibility due to their
dependency on income production. Commercial and multi-family real estate loans
collateralized by multi-family mixed use properties were $33,033,000 and
$25,114,000 at June 30, 1998 and 1997, respectively. The remaining commercial
real estate loans were collateralized by commercial properties. Additionally,
the majority of the Company's commercial and multi-family real estate loans were
collateralized by real estate in the State of New Jersey.
Loans serviced for others totaled approximately $110,916,000 and $78,781,000 at
June 30, 1998 and 1997, respectively. Servicing loans for others generally
consists of collecting mortgage payments, maintaining escrow accounts,
disbursing payments to investors and foreclosure processing. Loan servicing
income is recorded on the accrual basis and includes servicing fees from
investors and certain charges assessed to borrowers, such as late payment fees.
In connection with these loans serviced for others, the Company held borrowers
escrow balances of $1,216,000 and $926,000 at June 30, 1998 and 1997,
respectively.
G. Premises and Equipment, Net
June 30,
------------------------
1998 1997
------------------------
(In thousands)
Land................................ $ 3,959 $ 3,709
Buildings and improvements.......... 14,143 13,510
Leasehold improvements.............. 1,309 1,219
Furniture and equipment............. 10,174 8,194
------------------------
29,585 26,632
Less: accumulated depreciation
and amortization................. 11,493 10,197
------------------------
$18,092 $16,435
========================
H. Real Estate Owned
June 30,
------------------------
1998 1997
------------------------
(In thousands)
Acquired by foreclosure or deed
in lieu of foreclosure............ $1,850 $ 986
Allowance for losses on real
estate owned...................... (207) (102)
------------------------
$1,643 $ 884
========================
57
PENNFED FINANCIAL SERVICES, INC. AND SUBSIDIARIES
- -------------------------------------------------------------------------------
Notes to Consolidated Financial Statements -- Continued
Results of real estate operations were as follows:
Year ended June 30,
----------------------------------
1998 1997 1996
----------------------------------
(In thousands)
Net gain on sales of real estate owned............ $ 95 $ 29 $ 236
Holding costs..................................... (100) (98) (124)
Provision for losses on real estate owned......... (151) (112) (8)
----------------------------------
Net gain (loss) from real estate operations....... $ (156) $(181) $ 104
==================================
Activity in the allowance for losses on real estate owned was as follows:
Year ended June 30,
----------------------------------
1998 1997 1996
----------------------------------
(In thousands)
----------------------------------
Balance, beginning of year........................ $ 102 $ 61 $ 177
Provisions charged to operations.................. 151 112 8
Losses charged to allowance....................... (46) (71) (124)
----------------------------------
Balance, end of year.............................. $ 207 $102 $ 61
==================================
I. Deposits
June 30, 1998 June 30, 1997
---------------------------------------------------
Weighted Weighted
Average Average
Amount Interest Rate Amount Interest Rate
---------------------------------------------------
(Dollars in thousands)
Non-interest-bearing demand.............. $ 33,153 $ 31,203
Interest-bearing demand.................. 45,961 2.12% 35,698 1.79%
Money market accounts.................... 13,435 2.02 15,461 2.10
Savings accounts......................... 164,192 2.12 169,823 2.22
Certificates with remaining maturities of:
One year or less....................... 574,747 5.51 395,101 5.50
Over one year to three years........... 151,344 6.27 214,792 6.17
Over three years to five years......... 42,558 6.23 53,831 6.16
Over five years........................ -- -- 94 6.90
---------- ---------
Total certificates....................... 768,649 5.70 663,818 5.77
Accrued interest payable................. 2,710 2,157
---------- ---------
$1,028,100 4.72% $918,160 4.68%
========== =========
The aggregate amount of accounts with a denomination of $100,000 or more was
approximately $168,656,000 and $96,822,000 at June 30, 1998 and 1997,
respectively.
58
PENNFED FINANCIAL SERVICES, INC. AND SUBSIDIARIES
- -------------------------------------------------------------------------------
Notes to Consolidated Financial Statements -- Continued
J. Federal Home Loan Bank of New York Advances and Other Borrowings
The following table presents Federal Home Loan Bank of New York ("FHLB of New
York") advances at the earlier of the callable date or maturity date:
June 30, 1998 June 30, 1997
-------------------------------------------------
Weighted Weighted
Average Average
Amount Interest Rate Amount Interest Rate
-------------------------------------------------
(Dollars in thousands)
Within one year.............................. $ 55,000 6.09% $ 20,000 6.11%
After one year but within two years.......... 90,000 6.17 65,000 5.95
After two years but within three years....... 10,000 5.91 90,000 6.17
After three years but within four years...... 30,000 6.42 -- --
After four years but within five years....... 45,000 5.60 30,000 6.42
After five years............................. 465 7.39 465 7.39
-------- --------
$230,465 6.06% $205,465 6.13%
======== ========
The FHLB of New York advances are all fixed rate borrowings collateralized
either under a blanket pledge agreement by one- to four-family mortgage loans or
with mortgage-backed securities.
At June 30, 1998, the Company had available from the FHLB of New York an
overnight repricing line of credit for $50,000,000 which expires on May 1, 1999.
The line of credit has a variable interest rate. At June 30, 1998 and 1997, the
Company had $41,700,000 and $32,650,000 of overnight borrowings under this
credit line with an interest rate of 6.25% and 6.63%, respectively. In addition,
at June 30, 1998, the Company had available overnight variable repricing lines
of credit with other correspondent banks totaling $7,000,000. There were no
borrowings under these lines at June 30, 1998 or 1997. Also at June 30, 1998,
the Company had available from the FHLB of New York a one-month overnight
repricing line of credit for $50,000,000 which expires on May 1, 1999. This line
of credit has a variable interest rate. At June 30, 1998 and 1997, the Company
had $10,000,000 and $10,000,000 drawn under this line of credit with an interest
rate of 6.13% and 6.38%, respectively.
From time to time, the Company enters into sales of securities under agreements
to repurchase ("reverse repurchase agreements"). These agreements are accounted
for as financing arrangements and the obligations to repurchase securities sold
are reflected as other borrowings in the accompanying consolidated statements of
financial condition. The reverse repurchase agreements are collateralized by
investment and mortgage-backed securities which continue to be carried as assets
by the Company, with a carrying value of $79,454,000 and $41,566,000 and a
market value of $79,977,000 and $41,762,000 at June 30, 1998 and 1997,
respectively.
The following table presents reverse repurchase agreements at the earlier of the
callable date or the maturity date:
June 30, 1998 June 30, 1997
------------------------------------------------
Weighted Weighted
Average Average
Amount Interest Rate Amount Interest Rate
------------------------------------------------
(Dollars in thousands)
Within one year......................... $49,925 5.44% $ 30,100 5.74%
After one year but within five years.... 29,875 5.93 10,000 6.24
------- --------
$79,800 5.62% $ 40,100 5.86%
======= ========
The average balance of reverse repurchase agreements for the years ended June
30, 1998 and 1997 was $44,578,000 and $29,661,000, respectively.
59
PENNFED FINANCIAL SERVICES, INC. AND SUBSIDIARIES
- -------------------------------------------------------------------------------
Notes to Consolidated Financial Statements -- Continued
K. Guaranteed Preferred Beneficial Interests in the Company's Junior
Subordinated Debentures
The Company formed a wholly-owned trust subsidiary, PennFed Capital Trust I (the
"Trust"). Effective October 21, 1997, the Trust sold $34.5 million of 8.90%
cumulative trust preferred securities to the public which are reflected on the
Consolidated Statement of Financial Condition as Guaranteed Preferred Beneficial
Interests in the Company's Junior Subordinated Debentures (the "Trust Preferred
securities"). The Trust used the proceeds from the sale of the Trust Preferred
securities to purchase 8.90% junior subordinated deferrable interest debentures
issued by PennFed. The sole assets of the Trust are $35.6 million of junior
subordinated debentures which mature on October 31, 2027 and are redeemable at
any time after five years. The obligations of the Company related to the Trust
constitute a full and unconditional guarantee by the Company of the Trust
Issuer's obligations under the Trust Preferred securities. The Company has used
the proceeds from the junior subordinated debentures for general corporate
purposes, including a $20 million capital contribution to the Bank to support
future growth.
L. Incentive Savings Plan
The Company's employee benefits include the Penn Federal Savings Bank 401(k)
Plan (the "Plan"). All employees of the Company who work at least 1,000 hours
per year and are at least 20 1/2 years old are eligible to participate in the
Plan. The Plan provides for a discretionary Company match of employee
contributions. For the years ended June 30, 1998, 1997 and 1996, expense related
to the Plan was $101,000, $78,000 and $70,000, respectively. At June 30, 1998,
the Plan assets included common stock of the Company with a market value of
$144,000. Plan assets at June 30, 1997 did not include common stock of the
Company.
M. Stock Plans
Employee Stock Ownership Plan ("ESOP")
In connection with the Conversion, the Company established an ESOP for eligible
employees. All full-time employees are eligible to participate in the ESOP after
they attain age 21 and complete one year of service during which they work at
least 1,000 hours. Employees were credited for years of service to the Company
prior to the adoption of the ESOP for participation and vesting purposes. The
Bank's contribution is allocated among participants on the basis of
compensation. Each participant's account is credited with cash or shares of the
Company's common stock based upon compensation earned during the year with
respect to which the contribution is made. After completing seven years of
service, a participant will be 100% vested in his/her ESOP account. ESOP
participants are entitled to receive distributions from the ESOP account only
upon termination of service, which includes retirement and death.
The ESOP borrowed $4,760,000 from PennFed and purchased 952,000 shares of common
stock issued in the Conversion. This loan is to be repaid from discretionary
contributions by the Bank to the ESOP trust. The Bank has and intends to
continue to make contributions to the ESOP in amounts at least equal to the
principal and interest requirement of the debt, assuming a ten year term and an
interest rate of 7.46%. Annual contributions to the ESOP, which are used to fund
principal and interest payments on the ESOP debt, total $692,000. At June 30,
1998 and 1997, the loan had an outstanding balance of $3,253,000 and $3,671,000
and the ESOP had unallocated shares of 650,614 and 734,276, respectively. Based
upon a $16.5625 closing price per share of common stock on June 30, 1998, the
unallocated shares had a fair value of $10,776,000. The unamortized balance of
the ESOP debt is reflected as a reduction of stockholders' equity.
For the years ended June 30, 1998 and 1997, the Bank recorded compensation
expense related to the ESOP of $1,273,000 and $740,000, respectively. The
compensation expense related to the ESOP includes $959,000 and $433,000,
respectively, for a valuation adjustment to reflect the increase in the average
fair value of allocated shares for the period from the time of purchase to the
allocation date. The ESOP allocated 83,662 and 77,854 shares for the years ended
June 30, 1998 and 1997, respectively, to participants in the plan.
Management Recognition Plan
In connection with the Conversion, the Company established a Management
Recognition Plan ("MRP") as a means of enhancing and encouraging the recruitment
and retention of directors and officers. A maximum amount of an additional 4%,
or 476,000 shares, of the shares outstanding upon Conversion may be awarded
under the plan. As of June
60
PENNFED FINANCIAL SERVICES, INC. AND SUBSIDIARIES
- -------------------------------------------------------------------------------
Notes to Consolidated Financial Statements -- Continued
30, 1998, 476,000 shares of restricted stock have been awarded under the MRP.
The shares vest in equal installments generally over a five-year period, with
the final installment vesting on April 28, 1999. For the years ended June 30,
1998 and 1997, the Company recorded expense of $531,000 and $732,000,
respectively, related to the MRP.
Stock Option Plan
In connection with the Conversion, the Company established the 1994 Stock Option
and Incentive Plan ("Option Plan"). The exercise price for the options granted
under the Option Plan cannot be less than the fair market value of the Company's
common stock on the date of the grant. The options are granted, and the terms of
the options are established, by the Board of Directors upon the recommendation
of its Compensation Committee. Transactions during the years ended June 30,
1998, 1997 and 1996 relating to the Option Plan are as follows:
Exercise
Options Price
-----------------------------
Balance, June 30, 1995....................... 1,026,450 $5.25
Granted................................. -- --
Exercised............................... (1,360) 5.25
Expired................................. (2,600) 5.25
Forfeited............................... (11,040) 5.25
-----------------------------
Balance, June 30, 1996....................... 1,011,450 5.25
Granted................................. 124,950 7.94
Exercised............................... (1,400) 5.25
Expired................................. -- --
Forfeited............................... (600) 5.25
-----------------------------
Balance, June 30, 1997....................... 1,134,400 5.25 to 7.94
Granted................................. 486,700 13.88 to 17.19
Exercised............................... (63,800) 5.25
Expired................................. -- --
Forfeited............................... -- --
-----------------------------
Balance, June 30, 1998....................... 1,557,300 $5.25 to $ 17.19
=============================
At June 30, 1998, 1997 and 1996, 1,023,527 options, 679,760 options and 403,860
options were exercisable, respectively.
Statement of Financial Accounting Standards No. 123, "Accounting for Stock-Based
Compensation" ("SFAS 123"), if fully adopted, requires companies to measure
employee stock compensation plans based on the fair value method of accounting.
The Company has adopted the disclosure-only provisions of SFAS 123. Accordingly,
the Company continues to apply Accounting Principles Board Opinion No. 25,
"Accounting for Stock Issued to Employees," ("APB 25") and related
interpretations in accounting for its plans. In accordance with APB 25, no
compensation expense has been recognized for its stock-based compensation plans
other than for restricted stock. Pro forma disclosures as if the Company fully
adopted the cost recognition requirements under SFAS 123 are presented below.
The estimated weighted average fair value of each stock option granted during
fiscal 1998 and 1997 is estimated as $8.08 and $2.28, respectively, on the date
of grant. The fair value of options at date of grant was estimated using the
Black-Scholes model with the following weighted average assumptions: stock
volatility of 18.78% in 1998 and 15.91% in 1997; risk-free interest rate of
5.93% in 1998 and 6.50% in 1997; and an expected life of 10 years in 1998 and 8
years in 1997. Had compensation cost for the grants been determined based upon
the fair value at the grant date consistent with the methodology prescribed
under SFAS 123, the Company's fiscal 1998 pro forma net income and diluted
earnings per share would have been approximately $9.6 million and $0.99,
respectively. Pro forma net income and diluted earnings per share for fiscal
1997 would have been approximately $6.8 million and $0.71, respectively. As the
SFAS 123 method of accounting has not been applied to stock options granted
prior to July 1, 1996, the resulting pro forma effects on net income is not
representative of the pro forma effect on net income in future years.
61
PENNFED FINANCIAL SERVICES, INC. AND SUBSIDIARIES
- -------------------------------------------------------------------------------
Notes to Consolidated Financial Statements -- Continued
N. Income Taxes
For years beginning prior to January 1, 1996, thrift institutions that met
certain definitions, tests and other conditions prescribed by the Internal
Revenue Code were allowed to deduct, with limitations, a bad debt deduction.
This deduction is a percentage of taxable income before such deduction or based
upon actual loss experience. During the fiscal year 1996, the Company employed
the percentage of taxable income method.
On August 20, 1996 legislation was signed into law which repealed the percentage
of taxable income method for the tax bad debt deduction. This repeal is
effective for the Company's taxable year beginning July 1, 1996. In addition,
the legislation requires the Company to include in taxable income its tax bad
debt reserves in excess of its base year reserves over a six, seven, or eight
year period, depending upon the attainment of certain loan origination levels.
Since the percentage of taxable income method for the tax bad debt deduction and
the corresponding increase in the tax bad debt reserve in excess of the base
year have been recorded as temporary differences pursuant to SFAS 109, this
change in the tax law had no effect on the Company's statement of operations.
The income tax provision is comprised of the following components:
Year ended June 30,
---------------------------------
1998 1997 1996
---------------------------------
(In thousands)
Current provision............... $5,600 $4,020 $5,285
Deferred provision (benefit).... 642 185 (174)
--------------------------------
Total income tax provision...... $6,242 $4,205 $5,111
================================
Income taxes payable is included in accounts payable and other liabilities in
the consolidated statements of financial condition at June 30, 1998 and 1997.
The financial statements also include a net deferred tax liability of $545,000
that has been recorded for the temporary differences between the tax basis and
the financial statement carrying amounts of assets and liabilities. The source
of these temporary differences and their deferred tax effect at June 30, 1998
and 1997 is as follows:
June 30,
-------------------
1998 1997
-------------------
(In thousands)
Deferred tax assets:
Allowance for loan losses........... $ 330 $ 182
Litigation reserves................. 22 47
Deposit premium intangible.......... 726 503
MRP expense......................... 229 229
Depreciation........................ 503 363
-------------------
Total deferred tax assets............. 1,810 1,324
-------------------
Deferred tax liabilities:
Deferred loan fees.................. 2,106 882
Loan sale premiums.................. 15 18
Purchase accounting................. 234 327
-------------------
Total deferred tax liabilities........ 2,355 1,227
-------------------
Net deferred tax asset (liability).... $ (545) $ 97
===================
62
PENNFED FINANCIAL SERVICES, INC. AND SUBSIDIARIES
- -------------------------------------------------------------------------------
Notes to Consolidated Financial Statements -- Continued
A reconciliation of the statutory income tax provision to the effective income
tax provision is as follows:
Year ended June 30,
-----------------------------
1998 1997 1996
-----------------------------
(In thousands)
Income tax provision at statutory rate........... $6,104 $3,882 $4,533
Amortization of intangibles...................... 147 174 213
State and local tax provision.................... -- 214 262
Tax bracket rate differential.................... -- -- (24
Other, net....................................... (9) (65) 127
-----------------------------
Total income tax provision....................... $6,242 $4,205 $5,111
=============================
Pursuant to SFAS 109, the Company is not required to provide deferred taxes on
its tax loan loss reserve as of December 31, 1987. The amount of this reserve on
which no deferred taxes have been provided is approximately $16,300,000. This
reserve could be recognized as taxable income and create a current and/or
deferred tax liability using the income tax rates then in effect if one of the
following occur: (1) the Company's retained earnings represented by this reserve
are used for dividends or distributions in liquidation or for any other purpose
other than to absorb losses from bad debts, (2) the Company fails to qualify as
a Bank, as provided by the Internal Revenue Code, or (3) there is a change in
federal tax law.
O. Commitments and Contingencies
Lease Commitments -- At June 30, 1998, minimum rental commitments under all
noncancellable operating leases with initial or remaining terms of more than one
year are as follows:
Minimum Rent
Year ending June 30, (In thousands)
-------------------- -------------
1999...................................................... $264
2000...................................................... 231
2001...................................................... 176
2002...................................................... 180
2003...................................................... 184
2004 and later............................................ 772
------
$1,807
======
Rentals under long-term operating leases for certain branch offices amounted to
$234,000, $169,000, and $176,000 for the years ended June 30, 1998, 1997 and
1996, respectively. Rental income of $444,000, $452,000, and $481,000 for the
years ended June 30, 1998, 1997 and 1996, respectively, is netted against
occupancy expense in the consolidated statements of income.
Financial Instruments With Off-Balance Sheet Risk -- The Company is a party to
financial instruments with off-balance sheet risk in the normal course of
business to meet the financing needs of its customers. These financial
instruments are not recorded on the balance sheet when either the exchange of
the underlying asset or liability has not yet occurred or the notional amounts
are used solely as a means to determine the cash flows to be exchanged. These
financial instruments are commitments to extend credit, unused lines of credit,
commitments to purchase loans and interest rate swaps. These instruments
involve, to varying degrees, elements of credit and interest rate risk in excess
of the amount recognized in the consolidated statements of financial condition.
The Company's exposure to credit loss in the event of nonperformance by the
other party to the financial instrument for commitments to extend credit is
represented by the contractual notional amount of those instruments. The Company
uses the same credit policies in making commitments and conditional obligations
as it does for on-balance sheet instruments.
63
PENNFED FINANCIAL SERVICES, INC. AND SUBSIDIARIES
- -------------------------------------------------------------------------------
Notes to Consolidated Financial Statements -- Continued
The following summarizes the notional amount of off-balance sheet financial
instruments:
June 30,
---------------------------
1998 1997
---------------------------
(In thousands)
Commitments to extend credit............... $ 6,850 $ 9,692
Unused lines of credit..................... 30,402 17,366
Commitments to purchase loans.............. 11,666 32,660
Interest rate swaps........................ 150,000 70,000
Commitments to extend credit and unused lines of credit are legally binding
agreements to lend to a customer as long as there is no violation of any
condition established in the contract. Commitments and lines of credit generally
have fixed expiration dates or other termination clauses and may require payment
of a fee. Since some of the commitments are expected to expire without being
drawn upon, the total commitment amounts do not necessarily represent future
cash requirements. The Company evaluates each customer's credit worthiness on a
case-by-case basis. The amount of collateral obtained by the Company upon
extension of credit is based on management's credit evaluation of the borrower.
Collateral held varies but may include mortgages on commercial and residential
real estate and other tangible properties.
Commitments to purchase loans represent agreements to purchase loans through a
correspondent relationship established by the Company with another institution.
The Company purchases newly originated one- to four-family residential mortgages
secured by properties located in the State of New Jersey and, to a lesser
extent, the Commonwealth of Pennsylvania. Prior to purchase, the Company applies
the same underwriting criteria used in its own originations.
The Company periodically enters into interest rate swap agreements to help
reduce certain interest rate exposure on a portion of the short-term deposits.
Interest rate swaps are contractual agreements between two parties to exchange
interest payments at particular intervals, computed on different terms, on a
specified notional amount. The notional amounts represent the base on which
interest due each counter party is calculated and do not represent the potential
for gains or losses associated with the market risk or credit risk of such
transactions. At June 30, 1998 and 1997, the Company had $150 million and $70
million, respectively, in notional amount interest rate swap agreements
outstanding on which the Company pays a fixed interest rate and receives a
floating interest rate based on three-month LIBOR, from the counter parties,
which are nationally recognized investment firms. At June 30, 1998, the pay
fixed interest rates ranged from 5.44% to 6.71% and three-month LIBOR was 5.72%.
The average balance of notional amount interest rate swap agreements in fiscal
1998 and 1997 was $100,548,000 and $52,356,000, respectively. Included in
interest expense for the year ended June 30, 1998 and 1997 was $507,000 and
$459,000, respectively, of expense related to interest rate swap agreements.
Mortgage-backed securities with a carrying value of $2,617,000 and $1,789,000 at
June 30, 1998 and 1997, respectively, were pledged to secure these agreements.
The interest rate swap agreements mature or are callable between June 18, 1999
and November 8, 2001.
Other Contingencies -- The Company is a defendant in certain claims and legal
actions arising in the ordinary course of business. At the present time,
management does not anticipate losses on any of these claims or actions which
would have a material adverse effect on the accompanying consolidated financial
statements. See Note V- Subsequent Event.
P. Stockholders' Equity and Regulatory Capital
On January 13, 1998, the Company's Board of Directors declared a two-for-one
stock split in the form of a 100% stock dividend, payable on February 10, 1998
to common stockholders of record as of January 27, 1998.
During the year ended June 30, 1998, the Company repurchased 325,000 shares of
its outstanding common stock at prices ranging from $16.63 to $17.88 per share
for a total cost of $5,581,000. During the year ended June 30, 1997, the Company
repurchased 65,000 shares of its outstanding common stock. The prices paid for
the repurchased shares ranged from $10.00 to $10.09 per share, for a total cost
of $651,000. During the year ended June 30, 1996, the Company repurchased
1,603,720 shares of its outstanding common stock at prices ranging from $7.31 to
$8.00 per share, for a total cost of $12,370,000.
64
PENNFED FINANCIAL SERVICES, INC. AND SUBSIDIARIES
- -------------------------------------------------------------------------------
Notes to Consolidated Financial Statements -- Continued
On March 21, 1996, the Board of Directors of the Company (the "Board") initially
adopted a Stockholder Protection Rights Plan ("Rights Plan") and declared a
dividend of one common share purchase right ("Right") for each share of common
stock of the Company outstanding on April 1, 1996. Until it is announced that a
person or group has acquired 10% or more of the outstanding common stock of the
Company ("Acquiring Person") or has commenced a tender offer that could result
in such person or group owning 10% or more of such common stock, the Rights will
initially be redeemable for $0.01 each, will be evidenced solely by the
Company's common stock certificates, will automatically trade with the Company's
common stock and will not be exercisable. Following any such announcement,
separate Rights certificates would be distributed, with each Right entitling its
holder to purchase one share of the Company's common stock for an exercise price
of $30. On February 10, 1998, the Board approved amendments to the Company's
Rights Plan. The amendments increase the exercise price per Right to $33.75 per
Right and extend the expiration date of the Rights Plan to February 10, 2008,
unless terminated earlier in accordance with the Rights Plan.
Upon announcement that any person or group has become an Acquiring Person and
unless the Board acts to redeem the Rights, then ten business days after such
announcement (the "Flip-in Date"), each Right (other than Rights beneficially
owned by any Acquiring Person or transferee thereof, which Rights become void)
will entitle the holder to purchase, for the $33.75 exercise price, a number of
shares of the Company's common stock having an aggregate market value of $67.50.
In addition, if, after the Acquiring Person gains control of the Board, the
Company is involved in a merger with any person or sells more than 50% of its
assets or earning power to any person (or has entered into an agreement to do
either of the foregoing), and, in the case of a merger, an Acquiring Person will
receive different treatment than other stockholders, each Right will entitle its
holder to purchase, for the $33.75 exercise price, a number of shares of common
stock of such other person having an aggregate market value of $67.50. If any
person or group acquires between 10% and 50% of the Company's common stock, the
Board may, at its option, require the Rights to be exchanged for common stock of
the Company. The Rights generally may be redeemed by the Board for $0.01 per
Right prior to the Flip-in Date.
The Bank is subject to various regulatory capital requirements administered by
the Office of Thrift Supervision ("OTS"). Failure to meet minimum capital
requirements could result in certain mandatory and possible discretionary
actions by the OTS that, if undertaken, could have a direct material effect on
the Company's financial statements. Under capital adequacy guidelines and the
regulatory framework for prompt corrective action, the Bank must meet specific
quantitative capital guidelines.
Quantitative measures established by regulation to ensure capital adequacy
require the Bank to maintain minimum amounts and ratios of tangible capital of
not less than 1.5% of tangible assets, core capital of not less than 3% of
adjusted tangible assets and risk-based capital of not less than 8% of
risk-weighted assets. As of June 30, 1998, the Bank meets all capital adequacy
requirements to which it is subject.
As of its last regulatory examination the Bank was categorized as
"well-capitalized" under the prompt corrective action framework. To be
considered as "well-capitalized", the Bank must maintain a core capital ratio of
not less than 5% and a risk-based capital ratio of not less than 10%. There are
no conditions or events since that notification that management believes have
changed the Bank's category.
65
PENNFED FINANCIAL SERVICES, INC. AND SUBSIDIARIES
- -------------------------------------------------------------------------------
Notes to Consolidated Financial Statements -- Continued
The Bank's capital amounts and ratios are presented in the following table.
To Be Well
Capitalized Under
For Capital Prompt Corrective
Actual Adequacy Purposes Action Provisions
---------------------------------------------------------------------
Amount Ratio Amount Ratio Amount Ratio
---------------------------------------------------------------------
(Dollars in thousands)
As of June 30, 1998
Tangible capital...... $108,580 7.09% $22,960 1.50% N/A N/A
Core capital.......... $108,816 7.11% $61,237 4.00% $76,547 5.00%
Risk-based capital.... $111,262 15.16% $58,705 8.00% $73,381 10.00%
As of June 30, 1997
Tangible capital...... $ 73,470 5.61% $19,658 1.50% N/A N/A
Core capital.......... $ 73,907 5.64% $52,440 4.00% $65,550 5.00%
Risk-based capital.... $ 75,929 12.22% $49,702 8.00% $62,127 10.00%
In August 1993, the OTS adopted a regulation requiring that an amount be added
to an institution's risk-based capital requirement equal to 50% of the decline
in market value of portfolio equity ("MVPE") that exceeds 2% of the
institution's assets, under a hypothetical 200 basis points shock in interest
rates. MVPE is defined as the market value of assets, less the market value of
liabilities, plus or minus the market value of off-balance sheet items. At the
present time, the OTS has indefinitely postponed the effective date of the rule.
However, if the regulation had been in effect at June 30, 1998, the Bank would
still have exceeded its risk-based capital requirement.
The Bank's management believes that, with respect to regulations, the Bank will
continue to meet its minimum capital requirements in the foreseeable future.
However, events beyond the control of the Bank, such as increased interest rates
or a further downturn in the economy in areas where the Bank has most of its
loans, could adversely affect future earnings and, consequently, the ability of
the Bank to meet its future minimum capital requirements.
The previous table reflects information for the Bank. Savings and loan holding
companies, such as PennFed, are not subject to capital requirements for capital
adequacy purposes or for prompt corrective action requirements. Bank holding
companies, however, are subject to capital requirements established by the Board
of Governors of the Federal Reserve System (the "FRB"). The following summarizes
the Company's capital position under the FRB's capital requirements for bank
holding companies.
66
PENNFED FINANCIAL SERVICES, INC. AND SUBSIDIARIES
- -------------------------------------------------------------------------------
Notes to Consolidated Financial Statements -- Continued
To Be Well
Capitalized Under
For Minimum Capital Prompt Corrective
Actual Adequacy Purposes Action Provisions
-----------------------------------------------------------------------
Amount Ratio Amount Ratio Amount Ratio
-----------------------------------------------------------------------
(Dollars in thousands)
Stockholders' equity..................... $ 103,703
Add: Qualifying preferred securities..... 30,145
Less: Goodwill........................... (1,000)
Deposit premium intangible...... (12,481)
Disallowed servicing assets..... (21)
----------
Tangible capital, and ratio to adjusted
total assets..................... $ 120,346 7.82% $23,084 1.50%
========== =======
Add: Qualifying intangible assets........ $236
----------
Tier I (core) capital, and ratio to
adjusted total assets............ $ 120,582 7.84% $46,167 3.00% $76,945 5.00%
========== ======= =======
Tier I (core) capital, and ratio to
risk- weighted assets............ $ 120,582 16.51% $29,211 4.00% $43,817 6.00%
========== ======= =======
Less: Equity investments and
investments in real estate....... $ (50)
Add: Allowance for loan losses........... 2,496
----------
Total risk-based capital, and ratio to
risk-weighted assets............. $ 123,028 16.85% $58,423 8.00% $73,029 10.00%
========== ======= =======
Total assets............................. $1,551,938
==========
Adjusted total assets.................... $1,538,909
==========
Risk-weighted assets..................... $ 730,287
==========
Federal regulations impose certain limitations on the payment of dividends and
other capital distributions by the Bank. Under current regulations, savings
institutions, such as the Bank, that meet the fully phased-in capital
requirements, as defined, subsequent to a capital distribution are generally
permitted to make such capital distribution without OTS approval, so long as
they have not been notified of the need for more than normal supervision by the
OTS. The Bank has not been so notified and, therefore, may make capital
distributions during a calendar year equal to 100% of net income plus 50% of the
amount by which the lesser of the association's tangible, core or risk-based
capital exceeds its fully phased-in capital requirement for such capital
component, as measured at the beginning of the calendar year. At June 30, 1998,
the Bank could have paid dividends totaling approximately $27.2 million.
67
PENNFED FINANCIAL SERVICES, INC. AND SUBSIDIARIES
- -------------------------------------------------------------------------------
Notes to Consolidated Financial Statements -- Continued
Q. Computation of EPS
The computation of EPS is presented in the following table.
For the year ended June 30,
-----------------------------------------------
1998 1997 1996
-----------------------------------------------
(Dollars in thousands, except per share amounts)
Net income........................................ $ 11,198 $ 6,886 $ 7,841
===============================================
Number of shares outstanding:
Weighted average shares issued.................... 11,900,000 11,900,000 11,900,000
Less: Weighted average shares held in treasury... 2,268,513 2,233,752 1,231,068
Less: Average shares held by the ESOP............ 952,000 952,000 952,000
Plus: ESOP shares released or committed to be
released during the fiscal year...... 269,870 188,396 112,600
-----------------------------------------------
Plus: Average basic shares....................... 8,949,357 8,902,644 9,829,532
Plus: Average common stock equivalents........... 740,298 537,212 296,902
===============================================
Plus: Average diluted shares..................... 9,689,655 9,439,856 10,126,434
===============================================
Earnings per common share
Basic..................................... $ 1.25 $ 0.77 $ 0.80
===============================================
Diluted................................... $ 1.16 $ 0.73 $ 0.77
===============================================
R. Disclosure About Fair Value of Financial Instruments
The carrying amounts and estimated fair value of the Company's financial
instruments at June 30, 1998 and 1997 were as follows:
June 30, 1998 June 30, 1997
-----------------------------------------------------
Carrying Estimated Carrying Estimated
Amount Fair Value Amount Fair Value
-----------------------------------------------------
(In thousands)
Financial assets:
Cash and cash equivalents.............. $ 10,960 $ 10,960 $ 10,729 $ 10,729
Investment securities.................. 178,310 178,743 35,290 35,432
Mortgage-backed securities............. 204,452 208,128 288,539 291,125
FHLB of New York stock................. 15,065 15,065 12,413 12,413
-----------------------------------------------------
Total cash and investments............. 408,787 412,896 346,971 349,699
Loans held for sale.................... 565 565 -- --
Loans receivable, less allowance for
loan losses.......................... 1,095,287 1,097,701 931,451 923,822
-----------------------------------------------------
Total loans............................ 1,095,852 1,098,266 931,451 923,822
Accrued interest receivable, net....... 8,723 8,723 7,196 7,196
-----------------------------------------------------
Total financial assets................. $1,513,362 $1,519,885 $1,285,618 $1,280,717
=====================================================
Financial liabilities:
Deposits............................... $1,028,100 $1,032,071 $ 918,160 $ 919,385
FHLB of New York advances.............. 230,465 231,217 205,465 205,919
Other borrowings....................... 131,500 131,510 82,750 82,671
Mortgage escrow funds.................. 10,534 10,534 8,855 8,855
Due to banks........................... 12,069 12,069 7,237 7,237
Net Trust Preferred securities......... 32,681 35,104 -- --
-----------------------------------------------------
Total financial liabilities............ $1,445,349 $1,452,505 $1,222,467 $1,224,067
=====================================================
68
PENNFED FINANCIAL SERVICES, INC. AND SUBSIDIARIES
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Notes to Consolidated Financial Statements -- Continued
June 30, 1998 June 30, 1997
--------------------------------------------------------
Notional Estimated Notional Estimated
Amount Fair Value Amount Fair Value
--------------------------------------------------------
(In thousands)
Off-balance sheet financial instruments:
Commitments to extend credit....... $ 6,850 $ -- $9,692 $ --
Unused lines of credit............. 30,402 -- 17,366 --
Commitments to purchase loans...... 11,666 -- 32,660 --
Interest rate swaps................ 150,000 (1,173) 70,000 169
The following methods and assumptions were used to estimate the fair value of
each class of financial instruments for which it is practicable to estimate fair
value:
Cash and Cash Equivalents -- For these short-term instruments, the carrying
amount is a reasonable estimate of fair value.
Investment Securities and Mortgage-Backed Securities -- For these securities,
fair values are based on quoted market prices.
Federal Home Loan Bank of New York Stock --For this security, the carrying
amount, which is par, is a reasonable estimate of fair value. All transactions
in the capital stock of the FHLB of New York are executed at par.
Loans Held for Sale -- Fair value is based on the contractual sales price.
Loans Receivable -- Fair values are estimated for portfolios of loans with
similar financial characteristics. The total loan portfolio is first divided
into performing, held for sale and non-performing categories. Performing loans
are then segregated into adjustable and fixed rate interest terms. Fixed rate
loans are segmented by type, such as residential real estate mortgage,
non-residential, commercial real estate and consumer loans. Adjustable rate
loans are segmented by repricing characteristics. Residential loans are further
segmented by maturity.
For loans, fair value is calculated by discounting scheduled future cash flows
through estimated maturity using a discount rate equivalent to the rate at which
the Company would currently make loans which are similar with regard to
collateral, maturity and type of borrower. The discounted value of the cash
flows is reduced by a credit risk adjustment based on internal loan
classifications. Based on the current composition of the Company's loan
portfolio, as well as both past experience and current economic conditions and
trends, future cash flows are adjusted by prepayment assumptions which shorten
the estimated remaining time to maturity and, therefore, impact the fair market
valuation.
Accrued Interest Receivable, Net -- For these short-term assets, the carrying
amount is a reasonable estimate of fair value.
Deposits -- The fair value of deposits with no stated maturity, such as savings,
money market and other demand accounts, is equal to the amount payable on demand
as of June 30, 1998 and 1997. Time deposits are segregated by type and original
term. The fair value of time deposits is based on the discounted value of
contractual cash flows. The discount rate is equivalent to the rate currently
offered by the Company for deposits of similar type and maturity.
Federal Home Loan Bank of New York Advances -- The fair value of FHLB of New
York advances is based on the discounted value of contractual cash flows. The
discount rate is equivalent to the rate currently offered by the FHLB of New
York on borrowings of similar type and maturity.
Other Borrowings -- For these short-term borrowings, the fair value is based on
the discounted value of contractual cash flows. The discount rate is equivalent
to the rate currently offered for borrowings of similar type and maturity.
Mortgage Escrow Funds and Due to Banks -- For these short-term liabilities, the
carrying amount is a reasonable estimate of fair value.
Commitments to Extend Credit and Unused Lines of Credit-- The fair value of
commitments is estimated to be zero since the fees collected on commitments to
extend credit approximates the amount of costs incurred. No estimated fair value
is presented for unused lines of credit because the rates associated with these
lines are market rates.
Commitments to Purchase Loans -- No fair value is estimated due to the
short-term nature of these commitments.
69
PENNFED FINANCIAL SERVICES, INC. AND SUBSIDIARIES
- -------------------------------------------------------------------------------
Notes to Consolidated Financial Statements -- Continued
Interest Rate Swaps -- For this off-balance sheet financial instrument, fair
value represents the amount the Company would have to pay to terminate the
agreements based upon quoted market prices as provided by financial institutions
which are counter parties to the agreements.
S. Related Party Transactions
In the ordinary course of business, the Company at times has made loans to and
engaged in other financial transactions with its directors, officers and
employees. Such transactions are generally made on substantially the same terms
as those prevailing at the time for comparable transactions with others and do
not involve more than normal risk of collectibility.
The following sets forth an analysis of loans, all of which are current, to
directors, officers and employees:
June 30,
------------------------
1998 1997
------------------------
(In thousands)
Balance, beginning of year...................... $3,870 $3,260
New loans granted............................... 961 1,178
Repayments/reductions........................... (868) (568)
----------------------
Balance, end of year............................ $3,963 $3,870
======================
In addition to the above amount of loans, at June 30, 1998 and 1997, there was
$38,000 and $33,000 of outstanding balances on overdraft checking lines for
directors, officers and employees, respectively.
T. Recently Issued Accounting Standards
In June 1997, the FASB issued Statement No. 130, "Reporting Comprehensive
Income" ("SFAS 130"). SFAS 130 establishes standards to reporting and display of
comprehensive income and its components. SFAS 130 requires that all items that
are required to be recognized under accounting standards as components of
comprehensive income be reported in a financial statement that is displayed with
the same prominence as other financial statements. The Company will be required
to classify items of other comprehensive income by their nature in a financial
statement and display the accumulated balance of other comprehensive income
separately from retained earnings and additional paid-in capital in the equity
section of the statement of financial condition. SFAS 130 is effective for
fiscal years beginning after December 15, 1997, with reclassification of earlier
periods. The adoption of SFAS 130 is not expected to have a material effect on
the Company's financial condition or results of operations.
In June 1997, the FASB issued Statement No. 131, "Disclosure About Segments of
an Enterprise and Related Information" ("SFAS 131"). SFAS 131 is effective for
fiscal years beginning after December 15, 1997. Management has determined that
this Statement has no effect on the Company's financial condition or results of
operations.
In February 1998, the FASB issued Statement No. 132, "Employer's Disclosures
about Pensions and Other Postretirement Benefits" ("SFAS 132"). SFAS 132 revises
and standardizes pension and other benefit plan disclosures that are to be
included in the employer's financial statements. SFAS 132 is effective for
fiscal years beginning after December 15, 1997. This Statement will not change
the measurement or recognition of these costs. Management has determined that
this Statement has no effect on the Company's financial condition or results of
operations.
In June 1998, the FASB issued Statement No.133, "Accounting for Derivative
Instruments and Hedging Activities" ("SFAS 133"). SFAS 133 establishes
accounting and reporting standards for derivative instruments, including certain
derivative instruments embedded in other contracts and for hedging purposes.
SFAS 133 requires that an entity recognize all derivatives as either assets or
liabilities in the statement of financial condition and measure those
instruments at fair value. The accounting for changes in the fair value of a
derivative depends on the intended use of the derivative. SFAS 133 is effective
for all fiscal quarters of fiscal years beginning after June 15, 1999.
Management has not yet evaluated the impact of the adoption of SFAS 133 on the
Company's financial condition or results of operations.
70
PENNFED FINANCIAL SERVICES, INC. AND SUBSIDIARIES
- -------------------------------------------------------------------------------
Notes to Consolidated Financial Statements -- Continued
U. Condensed Financial Information of PennFed Financial Services, Inc. (Parent
Company Only)
The following are the condensed financial statements for PennFed, parent company
only, as of June 30, 1998 and 1997 and for the years ended June 30, 1998, 1997
and 1996 and should be read in conjunction with the Notes to Consolidated
Financial Statements.
Condensed Statements of Financial Condition
June 30,
--------------------------
1998 1997
--------------------------
(In thousands)
Assets
Cash........................................... $ 26 $ 27
Intercompany overnight investment.............. 3,748 8,628
--------------------------
Total cash and cash equivalents.............. 3,774 8,655
Investment securities held to
maturity, at amortized cost.................. 11,201 --
Investment in subsidiaries..................... 123,216 89,388
Prepaid Trust Preferred securities expenses.... 1,819 --
Accrued interest receivable.................... 271 --
--------------------------
$140,281 $98,043
==========================
Liabilities and Stockholders' Equity
Junior subordinated debentures................. $ 35,568 $ --
Accrued interest payable....................... 528 --
Other accrued expenses and other liabilities... 482 776
Stockholders' equity........................... 103,703 97,267
--------------------------
$140,281 $98,043
==========================
Condensed Statements of Operations
Year ended June 30,
--------------------------------------
1998 1997 1996
--------------------------------------
(In thousands)
Income:
Interest income on intercompany balances................. $ 860 $ 755 $1,210
Interest income on investment securities................. 582 -- --
Other income............................................. 4 -- --
--------------------------------------
1,446 755 1,210
Expenses:
Interest expense on Junior subordinated debentures....... 2,198 -- --
Other expenses........................................... 328 346 374
--------------------------------------
2,526 346 374
--------------------------------------
Income (loss) before undistributed net
income of subsidiaries................................. (1,080) 409 836
Equity in undistributed net income of subsidiaries....... 11,923 6,625 7,310
--------------------------------------
Income before income taxes............................... 10,843 7,034 8,146
Income tax expense (benefit)............................. (355) 148 305
--------------------------------------
Net income............................................... $11,198 $6,886 $7,841
======================================
71
PENNFED FINANCIAL SERVICES, INC. AND SUBSIDIARIES
- -------------------------------------------------------------------------------
Notes to Consolidated Financial Statements -- Continued
Condensed Statements of Cash Flows
Year ended June 30,
----------------------------
1998 1997 1996
----------------------------
(In thousands)
Cash Flows From Operating Activities:
Net income................................................................... $11,198 $6,886 $7,841
Adjustments to reconcile net income to net cash provided by
(used in) operating activities:
Equity in undistributed net income of subsidiaries...................... (11,923) (6,625) (7,310)
Amortization of investment securities discount.......................... 8 -- --
Amortization of cost of stock plans..................................... 534 716 438
Increase in accrued interest payable, net of accrued interest receivable 257 -- --
(Increase) decrease in other assets..................................... (1,819) (1) 142
Increase (decrease) in other liabilities................................ (294) 165 212
----------------------------
Net cash provided by (used in) operating activities................... (2,039) 1,141 1,323
----------------------------
Cash Flows From Investing Activities:
Investments in subsidiary bank............................................... (20,000) -- --
Investment in the Trust...................................................... (1,068) -- --
Purchase of investment securities............................................ (11,209) -- --
Proceeds from principal repayment on ESOP loan............................... 418 390 362
----------------------------
Net cash provided by (used in) investing activities................... (31,859) 390 362
----------------------------
Cash Flows From Financing Activities:
Proceeds from issuance of junior subordinated debentures..................... 35,568 -- --
Purchases of treasury stock, net of re-issuance.............................. (5,249) (644) (12,362)
Payment of cash dividends.................................................... (1,302) (987) --
----------------------------
Net cash provided by (used in) financing activities................... 29,017 (1,631) (12,362)
----------------------------
Net decrease in cash and cash equivalents.................................... (4,881) (100) (10,677)
Cash and cash equivalents, beginning of year................................. 8,655 8,755 19,432
----------------------------
Cash and cash equivalents, end of year....................................... $ 3,774 $8,655 $8,755
============================
Supplemental Disclosures of Cash Flow Information:
Cash paid during the year for:
Income taxes............................................................. $ 85 $ 131 $ 363
============================
Supplemental Schedule of Non-Cash Activities:
Issuance of treasury stock for MRP................................... $ -- $ 423 $ --
============================
V. Subsequent Event
In 1987, the New Jersey Department of Environmental Protection ("NJDEP")
conducted an environment contamination investigation of the Orange Road branch
site of First Federal Savings and Loan Association of Montclair ("First
Federal"). Prior to the acquisition by First Federal, the location was used as a
gasoline service station. On August 16, 1989, the New Jersey Department of
Environmental Protection issued a "no further action" letter to First Federal
with regard to this site. The Bank acquired First Federal effective September
11, 1989. Not withstanding the earlier "no further action" letter, on June 25,
1997, the NJDEP issued a letter demanding that Penn Federal Savings Bank develop
a remedial action work plan for the Orange Road branch site as a result of an
investigation conducted on behalf of an adjacent property owner. The Bank
disputed the NJDEP's position that Penn Federal Savings Bank was a responsible
party. On July 1, 1998, the NJDEP issued a letter determining that Penn Federal
Savings Bank, Mobil Oil Corporation and the former gasoline service station
owner were all responsible parties for the clean up at the subject site.
Responsible parties may ultimately have full or partial obligation for the cost
of remediation. As of this date, the apportionment of the remediation costs to
the Bank, if any, is not determinable. The Bank intends to vigorously contest
this determination and to seek contribution or indemnification from the other
named responsible parties.
72
W. Quarterly Financial Data (Unaudited)
Quarter ended
-------------------------------------------------
1997 1998
-------------------------------------------------
September 30 December 31 March 31 June 30
-------------------------------------------------
(In thousands, except per share amounts)
Total interest income................ $23,827 $25,034 $25,925 $26,019
Total interest expense............... 15,665 16,942 17,511 17,925
----------------------------------------------
Net interest income.................. 8,162 8,092 8,414 8,094
Provision for loan losses............ 150 150 150 150
Non-interest income.................. 485 604 949 629
Non-interest expenses................ 4,221 4,265 4,503 4,400
Income tax expense................... 1,590 1,539 1,662 1,451
----------------------------------------------
Net income......................... $ 2,686 $ 2,742 $ 3,048 $ 2,722
==============================================
Net income per common share:
Basic.............................. $ 0.30 $ 0.31 $ 0.34 $ 0.30
==============================================
Diluted............................ $ 0.28 $ 0.28 $ 0.31 $ 0.28
==============================================
Quarter ended
-------------------------------------------------
1997 1998
-------------------------------------------------
September 30 December 31 March 31 June 30
-------------------------------------------------
(In thousands, except per share amounts)
Total interest income................ $19,716 $20,979 $22,001 $22,705
Total interest expense............... 11,830 12,971 13,697 14,575
----------------------------------------------
Net Interest income.................. 7,886 8,008 8,304 8,130
Provision for loan losses............ 175 152 154 154
Non-interest income.................. 409 405 469 500
Non-interest expenses................ 9,235 4,381 4,403 4,366
Income tax expense (benefit)......... (346) 1,482 1,590 1,479
----------------------------------------------
Net income (loss).................. $ (769) $ 2,398 $ 2,626 $ 2,631
==============================================
Net income (loss) per common share:
Basic.............................. $ (0.09) $ 0.27 $ 0.30 $ 0.30
==============================================
Diluted............................ $ (0.08) $ 0.25 $ 0.28 $ 0.28
==============================================
73
Item 9. Changes in and Disagreements With Accountants on Accounting and
Financial Disclosure
There has been no Current Report on Form 8-K filed reporting a change of
accountants and/or reporting disagreements on any matter of accounting principle
or financial statement disclosure.
PART III
Item 10. Directors and Executive Officers of the Registrant
Information Concerning Directors and Executive Officers
Information concerning Directors of the Registrant is incorporated herein by
reference from the Registrant's definitive Proxy Statement for the Annual
Meeting of Stockholders scheduled to be held on October 28, 1998, except for
information contained under the headings "Compensation Committee Report on
Executive Compensation" and "Stock Performance Presentation," a copy of which
will be filed not later than 120 days after the close of the fiscal year. For
information concerning Executive Officers of the Registrant who are not also
Directors, see "Executive Officers" in Part I of this Annual Report on Form
10-K.
Section 16(a) Beneficial Ownership Reporting Compliance
Information concerning compliance with the reporting requirements of Section
16(a) of the Securities Exchange Act of 1934 by Directors, Officers and ten
percent beneficial owners of the Registrant is incorporated herein by reference
from the Registrant's definitive Proxy Statement for the Annual Meeting of
Stockholders scheduled to be held on October 28, 1998.
Item 11. Executive Compensation
Information concerning executive compensation is incorporated herein by
reference from the Registrant's definitive Proxy Statement for the Annual
Meeting of Stockholders scheduled to be held on October 28, 1998, except for
information contained under the headings "Compensation Committee Report on
Executive Compensation" and "Stock Performance Presentation," a copy of which
will be filed not later than 120 days after the close of the fiscal year.
Item 12. Security Ownership of Certain Beneficial Owners and Management
Information concerning security ownership of certain beneficial owners and
management is incorporated herein by reference from the Registrant's definitive
Proxy Statement for the Annual Meeting of Stockholders scheduled to be held on
October 28, 1998, except for information contained under the headings
"Compensation Committee Report on Executive Compensation" and "Stock Performance
Presentation," a copy of which will be filed not later than 120 days after the
close of the fiscal year.
Item 13. Certain Relationships and Related Transactions
Information concerning certain relationships and related transactions is
incorporated herein by reference from the Registrant's definitive Proxy
Statement for the Annual Meeting of Stockholders scheduled to be held on October
28, 1998, except for information contained under the headings "Compensation
Committee Report on Executive Compensation" and "Stock Performance
Presentation," a copy of which will be filed not later than 120 days after the
close of the fiscal year.
74
PART IV
Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K
(a) (1) Financial Statements
The following information appearing in Part I, Item 8 of this Form 10-K
is incorporated herein by reference.
Independent Auditors' Report
Consolidated Statements of Financial Condition at June 30,
1998 and 1997
Consolidated Statements of Income for the Years Ended June 30,
1998, 1997 and 1996
Consolidated Statements of Changes in Stockholders' Equity for
the Years Ended June 30, 1998, 1997 and 1996
Consolidated Statements of Cash Flows for the Years Ended June
30, 1998, 1997 and 1996
Notes to Consolidated Financial Statements
(a) (2) Financial Statement Schedules:
All financial statement schedules have been omitted as the information
is not required under the related instructions or is not applicable.
75
(a) (3) Exhibits:
Regulation Reference to Attached Exhibits
S-K Prior Filing Are Located
Exhibit or Exhibit in This
Number Document Number Form 10-K Report
- -----------------------------------------------------------------------------------------------------------------------------------
2 Plan of acquisition, reorganization, arrangement, liquidation or succession None Not applicable
3 (i) Certificate of Incorporation * Not applicable
3 (ii) Bylaws 3.2 Page 79
4 Instruments defining the rights of security holders, including indentures * Not applicable
4 (i) Stockholder Protection Rights Agreement *** Not applicable
9 Voting trust agreement None Not applicable
10 Material contracts:
(a) Employee Stock Ownership Plan * Not applicable
(b) 1994 Stock Option and Incentive Plan **** Not applicable
(c) Management Recognition Plan * Not applicable
(d) Employment Agreement with Joseph L. LaMonica ** Not applicable
(e) Employment Agreement with Patrick D. McTernan ** Not applicable
(f) Employment Agreement with Lucy T. Tinker ** Not applicable
11 Statement re: computation of per share earnings 11 Page 91
12 Statements re: computation of ratios 12 Page 92
13 Annual Report to security holders Not required Not applicable
16 Letter re: change in certifying accountant Not required Not applicable
18 Letter re: change in accounting principles None Not applicable
19 Previously unfiled documents None Not applicable
21 Subsidiaries of the registrant 21 Page 93
22 Published report regarding matters submitted to vote of security holders None Not applicable
23 Consents of independent auditors and counsel 23 Page 94
24 Power of Attorney Not required Not applicable
27 Financial Data Schedule 27 Page 95
28 Information from reports furnished to state insurance regulatory authorities Not required Not applicable
99 Additional Exhibits Not applicable Not applicable
*Filed as exhibits to the Company's Registration Statement on Form S-1 under the
Securities Act of 1933, filed with the Securities and Exchange Commission on
March 25, 1994 (Registration No. 33-76854). All of such previously filed
documents are hereby incorporated herein by refer ence in accordance with Item
601 of Regulation S-K.
**Filed as exhibits to the Company's Form 10-K under the Securities Act of 1934,
filed with Securities and Exchange Commission on September 27, 1994. All of such
previously filed documents are hereby incorporated herein by reference in
accordance with Item 601 of Regulation S-K.
***Filed as an exhibit to the Company's Registration Statement on Form 8-A under
the Securities Act of 1934, filed with the Securities and Exchange Commission on
March 28, 1996. as amended on Form 8-A/A (the "Form 8-A/A") filed with the
Securities and Exchange Commission on February 11, 1998. The First Amendment to
the Stockholders Protection Rights Agreement is filed as an exhibit to the Form
8-A/A. This document is hereby incorporated by reference in accordance with Item
601 of Regulation S-K.
****Filed as an appendix to the Company's definitive proxy statement filed with
the Securities and Exchange Commission on September 26, 1997.
(b) Reports on Form 8-K:
There were no reports filed on Form 8-K for the three month period ended June
30, 1998.
76
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.
PENNFED FINANCIAL SERVICES, INC.
Date: September 25, 1998 By: /s/ Joseph L.LaMonica
-----------------------------------
Joseph L.LaMonica
President and Chief Executive Officer
(Duly Authorized Representative)
Pursuant to the requirements of the Securities Exchange Act of 1934, this report
has been signed below by the following persons on behalf of the Registrant and
in the capacities and on the dates indicated.
By: /s/ Joseph L. LaMonica By: /s/ William C.Anderson
----------------------------------- ----------------------------------
Joseph L. LaMonica William C.Anderson
President, Chief Executive Officer Chairman of the Board
and Director
(Principal Executive Officer)
Date: September 25, 1998 Date: September 25, 1998
By: /s/ Patrick D. McTernan By: /s/ Amadeu L.Carvalho
----------------------------------- ----------------------------------
Patrick D. McTernan Amadeu L. Carvalho
Executive Vice President, General Director
Counsel,
Secretary and Director
Date: September 25, 1998 Date: September 25, 1998
By: /s/ Marvin D. Schoonover Jr. By: /s/ Mario Teixeira
----------------------------------- ----------------------------------
Marvin D. Schoonover Mario Teixeira, Jr.
Director Director
Date: September 25, 1998 Date: September 25, 1998
By: /s/ Lucy T. Tinker By: /s/ Jeffrey J. Carfora
----------------------------------- ----------------------------------
Lucy T. Tinker Jeffrey J. Carfora
Executive Vice President and Senior Vice President and
Chief Operating Officer Chief Financial Officer
(Principal Financial Officer) (Principal Accounting Officer)
Date: September 25, 1998 Date: September 25, 1998
77
INDEX TO EXHIBITS
3.2 Bylaws
11 Computation of per share earnings
12 Computation of ratios of earnings to fixed charges
21 Subsidiaries of the registrant
23 Consent of Independent Auditors
27 Financial Data Schedule
78