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FORM 10-K
SECURITIES AND EXCHANGE COMMISSION
Washington, D. C. 20549
(Mark One)
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the fiscal year ended June 30, 1999
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE
SECURITIES EXCHANGE ACT OF 1934
For the transition period from __________ to __________
COMMISSION FILE NUMBER 0-23533
MYSTIC FINANCIAL, INC.
(Exact name of registrant as specified in its charter)
Delaware 04-3401049
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification No.)
60 High Street, Medford, Massachusetts 02155
(Address of principal executive office-zip code)
Telephone (781) 395-2800
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 twelve months (or for such
shorter period that the registrant was required to file such reports), and
(2) has been subject to such filing requirements for the past 90 days.
Yes X No .
--- ---
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 [X]
As of August 27, 1999, the aggregate market value of the voting and
non-voting common equity held by non-affiliates of the Registrant was
approximately $30,866,585.
As of August 27, 1999, 2,444,878 shares of Registrant's common stock
were outstanding.
Documents Incorporated by Reference:
Portions of the Registrant's Proxy Statement for its 1999 Annual Meeting of
Stockholders are incorporated by reference in Part III.
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MYSTIC FINANCIAL, INC.
ANNUAL REPORT ON FORM 10-K
FOR THE FISCAL YEAR ENDED
JUNE 30, 1999
TABLE OF CONTENTS
PART I
ITEM 1. Business 1
ITEM 2. Properties 27
ITEM 3. Legal Proceedings 27
ITEM 4. Submission of Matters to a Vote of Security Holders 27
PART II
ITEM 5. Market for Registrant's Common Equity and Related
Stockholder Matters 28
ITEM 6. Selected Financial Data 29
ITEM 7. Management's Discussion and Analysis of Financial Condition
and Results of Operations 31
ITEM 7A. Quantitative and Qualitative Disclosures About Market Risk 44
ITEM 8. Financial Statements and Supplementary Data 46
ITEM 9. Changes in and Disagreements with Accountants on Accounting
and Financial Disclosure 46
PART III
ITEM 10. Directors and Executive Officers of the Registrant 47
ITEM 11. Executive Compensation 47
ITEM 12. Security Ownership of Certain Beneficial Owners
and Management 47
ITEM 13. Certain Relationships and Related Transactions 47
PART IV
ITEM 14. Exhibits, Financial Statement Schedules and Reports
on Form 8-K 48
PART I
ITEM 1. BUSINESS
General
On January 8, 1998, Medford Co-operative Bank (the "Bank") completed
its conversion from mutual to stock form and became a wholly-owned
subsidiary of Mystic Financial, Inc. ("Mystic" or the "Company"). On such
date, the Company sold 2,711,125 shares of its common stock, par value
$0.01 per share (the "Common Stock"), to the public, at a per share price
of $10.00. The conversion of the Bank from mutual to stock form, the
formation of the Company as the holding company for the Bank and the
issuance and sale of the Common Stock are herein referred to collectively
as the "Conversion." The Conversion raised $25.7 million in net proceeds.
Mystic used $3.2 million of retained net proceeds to fund a loan to its
Employee Stock Ownership Plan ("ESOP") to purchase 216,890 shares of the
Common Stock in open-market purchases following completion of the
Conversion.
The Company's principal business activity consists of the ownership
of the Bank. The Company also invests in short-term investment grade
marketable securities and other liquid investments. The Company has no
significant liabilities (other than those of the Bank). The Company neither
owns nor leases any property but instead uses the premises and equipment of
the Bank. At the present time, the Company does not employ any persons
other than certain officers of the Bank who do not receive any extra
compensation as officers of the Company. The Company utilizes the support
staff of the Bank from time to time, as needed. Additional employees may be
hired as deemed appropriate by the management of the Company. Unless
otherwise disclosed, the information presented in this Annual Report on
Form 10-K represents the activity of the Bank for the period prior to
January 8, 1998 and the consolidated activity of Mystic and the Bank
thereafter.
The Bank is a Massachusetts chartered stock co-operative bank founded
in 1886 with three full-service offices and one educational branch office
in Medford, Massachusetts and another full-service office in Lexington,
Massachusetts. The Bank's deposits have been federally insured since 1986
and are currently insured by the Bank Insurance Fund ("BIF") of the Federal
Deposit Insurance Corporation ("FDIC") and the Share Insurance Fund of the
Co-operative Central Bank. The Bank has been a member of the Co-operative
Central Bank since 1932 and a member of the Federal Home Loan Bank ("FHLB")
since 1988. The Bank is subject to comprehensive examination, supervision
and regulation by the Commissioner of Banks of the Commonwealth of
Massachusetts (the "Commissioner") and the FDIC. This regulation is
intended primarily for the protection of depositors and borrowers. The Bank
exceeded all of its regulatory capital requirements at June 30, 1999.
The business of the Bank consists of attracting deposits from the
general public and using these funds to originate various types of loans
primarily in eastern Middlesex County, Massachusetts, including mortgage
loans secured by one- to four-family residences, commercial loans secured
by general business assets and commercial real estate loans secured by
commercial property, and to invest in U.S. Government and Federal Agency
and other securities. To a lesser extent, the Bank engages in various forms
of consumer and home equity lending. The Bank's profitability depends
primarily on its net interest income, which is the difference between the
interest income it earns on its loans and investment portfolio and its cost
of funds, which consists mainly of interest paid on deposits and on
borrowings from the FHLB. Net interest income is affected by the relative
amounts of interest-earning assets and interest-bearing liabilities and the
interest rates earned or paid on these balances. When interest-earning
assets approximate or exceed interest-bearing liabilities, any positive
interest rate spread will generate net interest income.
The Bank has one active subsidiary, Mystic Securities Corporation,
which was established for the sole purpose of acquiring and holding
investment securities. All securities held by Mystic Securities Corporation
are investments which are permissible for banks to hold under Massachusetts
law.
Market Area
The Bank's main office and three branch offices are located in
Medford, Middlesex County, Massachusetts. The Bank has a full-service
office in Lexington, Middlesex County, Massachusetts, which it opened in
November, 1998. The city of Medford, containing approximately 60,000
residents, is located approximately seven miles from downtown Boston in the
northern suburbs of Boston, bounded by the towns of Malden, Everett,
Somerville, Stoneham, Winchester and Arlington. The City of Medford is
easily accessible from downtown Boston via Interstate 93 and is accessible
via other state roads connecting the communities within the Route 128
corridor surrounding Boston. As an established metropolitan suburb, Medford
consists mostly of developed single- and multi-family properties within a
network of well-maintained neighborhoods. The city of Medford represents
the primary market area for deposit and loan generation as most of the
Bank's depositors and loan customers live in the areas surrounding the
Bank's office locations. The Bank considers its primary market area to be
the communities of Medford, Malden, Everett, Stoneham, Arlington,
Winchester, Somerville, Melrose, Lexington and Bedford, Massachusetts. The
economic base of the Bank's market area is diversified and includes a
number of financial service institutions, industrial and manufacturing
companies, hospitals and other health care facilities and educational
institutions. The major employers in the Medford area are Tufts University,
Lawrence Memorial Hospital, the City of Medford and Meadow Glen Mall, with
approximately 1,600, 1,300, 1,200 and 1,000 employees each, respectively.
Management believes that the housing vacancy rate in Medford is very low.
The majority of the Bank's lending and deposit activity has historically
been in Medford, although the commercial loan department has been largely
responsible for expanded business throughout eastern Middlesex County.
Middlesex County, located in eastern Massachusetts to the north and west of
the city of Boston, is part of the Boston metropolitan area. Based on 1997
Bureau of Labor Statistics, the median household income for Middlesex
County was $49,414.
Management believes that the Bank's success as a home lender has been
due, in part, to the favorable income, population and housing demographics
in Medford and in the Bank's market area. At the same time, the growth of
the market area and delineated lending area and their proximity to Boston
has resulted in a highly competitive environment among the many financial
institutions competing for deposits and loans.
Competition
The Bank experiences competition both in attracting and retaining
savings deposits and in the making of mortgage, commercial and other loans.
Direct competition for savings deposits primarily comes from larger
commercial banks and other savings institutions located in or near the
Bank's primary market area which often have significantly greater financial
and technological resources than the Bank. Additional significant
competition for savings deposits comes from credit unions, money market
funds and brokerage firms.
With regard to lending competition in the local market area, the Bank
experiences the most significant competition from the same institutions
providing deposit services, most of whom have placed an emphasis on real
estate lending as a line of business. In addition, the Bank competes with
local and regional mortgage companies, independent mortgage brokers and
credit unions in originating mortgage and non-mortgage loans. The primary
factors in competing for loans are interest rates and loan origination fees
and the range of services offered by the various financial institutions.
Competition from other financial institutions operating in the Bank's
local community includes a number of both large and small commercial banks
and savings institutions. The Bank has experienced growth in deposits in
recent years primarily due to an increased emphasis on marketing products
and services. However, competition remains high in the marketplace.
Lending Activities
The Bank originates loans through its three offices located in
Medford, and its office in Lexington, Massachusetts. The principal lending
activities of the Bank are the origination of conventional mortgage loans
for the purpose of purchasing or refinancing owner-occupied, one- to four-
family residential properties in its designated community reinvestment
area, consisting of the Massachusetts communities of Medford, Malden,
Everett, Stoneham, Arlington, Winchester, Somerville, Lexington and
Melrose, and the origination of commercial loans secured by commercial real
estate and commercial assets within eastern Middlesex County. To a lesser
extent, the Bank also originates consumer loans including home equity and
passbook loans.
In the past several years, the Bank has made a major commitment to
small business commercial lending. The Bank has expanded its commercial
lending department with the addition of senior officers with considerable
commercial lending expertise and has developed a support staff to run the
commercial loan department.
The Bank's ten largest loans, outstanding as of June 30, 1999, ranged
from $873,000 to $2.1 million.
Loan Portfolio. The following table presents selected data relating
to the composition of the Bank's loan portfolio by type of loan on the
dates indicated.
At June 30,
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1999 1998 1997
------------------ ------------------ ------------------
Amount Percent Amount Percent Amount Percent
------ ------- ------ ------- ------ -------
(Dollars in thousands)
Residential mortgage loans $107,216 69.3% $106,412 76.8% $ 90,203 78.7%
Commercial real estate loans 33,980 22.0 24,475 17.7 17,847 15.6
Commercial loans 7,109 4.6 4,579 3.3 3,677 3.2
Consumer loans 1,546 1.0 1,787 1.3 1,655 1.4
Home equity loans 2,076 1.3 1,716 1.2 1,564 1.4
Construction loans 7,021 4.6 1,260 0.9 976 0.9
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Total Loans 158,948 102.8 140,229 101.2 115,922 101.2
Less:
Deferred loan origination fees 12 --- 17 --- 37 ---
Unadvanced principal 2,899 1.9 383 0.3 340 0.3
Allowance for loan losses 1,348 0.9 1,236 0.9 977 0.9
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Loans, net $154,689 100.0% $138,593 100.0% $114,568 100.0%
=============================================================
One- to Four-Family Residential Real Estate Lending. The primary
emphasis of the Bank's lending activity is the origination of conventional
mortgage loans on one- to four-family residential dwellings located in the
Bank's primary market area. As of June 30, 1999, loans on one- to four-
family residential properties accounted for 69.3% of the Bank's loan
portfolio.
The Bank's mortgage loan originations are for terms of up to 30
years, amortized on a monthly basis with interest and principal due each
month. Residential real estate loans often remain outstanding for
significantly shorter periods than their contractual terms as borrowers may
refinance or prepay loans at their option, without penalty. Conventional
residential mortgage loans granted by the Bank customarily contain "due-on-
sale" clauses which permit the Bank to accelerate the indebtedness of the
loan upon transfer of ownership of the mortgaged property.
The Bank makes conventional mortgage loans and uses standard Federal
National Mortgage Association ("FNMA") documents, to allow for the sale of
qualifying loans in the secondary mortgage market. The Bank's lending
policies generally limit the maximum loan-to-value ratio on mortgage loans
secured by owner-occupied properties to 95% of the lesser of the appraised
value or purchase price of the property, with the condition that private
mortgage insurance is required on loans with a loan-to-value ratio in
excess of 80%.
Since the early 1980s the Bank has offered adjustable-rate mortgage
loans with terms of up to 30 years. Adjustable-rate loans offered by the
Bank include loans which reprice every one or three years and provide for
an interest rate which is based on the interest rate paid on U.S. Treasury
securities of a corresponding term, plus a margin of up to 250 basis
points, or 2.5%. Additionally, the Bank offers an adjustable-rate loan
product with an interest rate fixed for seven years which then reprices
annually for its remaining term thereafter. The Bank currently offers
adjustable-rate loans with initial rates below those which would prevail
under the foregoing computations, based upon the Bank's determination of
market factors and competitive rates for adjustable-rate loans in its
market area. For adjustable-rate loans, borrowers are qualified at the
initial rate.
Historically, the Bank has retained all adjustable-rate mortgages it
originates. However, in recent years, in order to generate liquidity, the
Bank has sold some of these loans. The Bank's adjustable-rate mortgages
include limits on increases or decreases of the interest rate of the loan.
The interest rate may increase or decrease by 2% per year and 5% over the
life of the loan for the Bank's one-year adjustable rate mortgages, by 3%
per adjustment period and 6% over the life of the loan for the Bank's
three-year adjustable rate mortgages and, by 2% per adjustment period and
5% over the life of the loan for the Bank's five-year adjustable rate
mortgages. The Bank also offers an adjustable rate mortgage on which the
rate is fixed for the first seven years; thereafter, the loan converts to a
one-year adjustable-rate mortgage. The retention of adjustable-rate
mortgage loans in the Bank's loan portfolio helps reduce the Bank's
exposure to increases in interest rates. However, there are unquantifiable
credit risks resulting from potential increased costs to the borrower as a
result of the repricing of adjustable-rate mortgage loans. During periods
of rising interest rates, the risk of default on adjustable-rate mortgage
loans may increase due to the upward adjustment of interest cost to the
borrower.
During the year ended June 30, 1999, the Bank originated $10.7
million in adjustable-rate mortgage loans and $36.9 million in fixed-rate
mortgage loans. Of the fixed-rate loans originated, the Bank sold $13.1
million of fixed-rate loans with terms of greater than 15 years and
retained $23.8 million of fixed-rate loans, a majority of which had terms
of 15 years or less. Approximately 27% of all loan originations during
fiscal 1999 were refinances of loans already in the Bank's loan portfolio.
At June 30, 1999, the Bank's loan portfolio included $47.1 million in
adjustable-rate one- to four-family residential mortgage loans or 30.5% of
the Bank's net loan portfolio, and $60.1 million in fixed-rate one- to
four-family residential mortgage loans, or 38.8% of the Bank's net loan
portfolio.
Commercial Real Estate Loans. At June 30, 1999, the Bank's commercial
real estate loan portfolio consisted of 115 loans, totaling $34.0 million,
or 22.0% of net loans. The Bank's largest loan is a commercial real estate
loan with an outstanding balance of $2.1 million at June 30, 1999 secured
by 78 residential apartment units in Medford and Malden, Massachusetts.
Commercial real estate loans are administered by the commercial loan
department as described below under "Commercial Loans."
In May 1995, the Bank hired a commercial loan officer with over 20
years of experience in commercial lending in the Boston market area for the
purpose of expanding the commercial lending program of the Bank. In 1996,
the Bank added a second commercial loan officer with over 15 years of
experience with commercial lending in the Bedford/Lexington area. With the
help of these two officers, the Bank is originating commercial real estate
loans and commercial loans to satisfy the working capital and short-term
financing needs of established local businesses.
Commercial real estate lending entails additional risks compared with
one- to four-family residential lending. Because payments on loans secured
by commercial real estate properties are often dependent on the successful
operation or management of the properties, repayment of such loans may be
subject, to a greater extent, to adverse conditions in the real estate
market or the economy. Also, commercial real estate loans typically involve
large loan balances to single borrowers or groups of related borrowers and
the payment experience on such loans is typically dependent on the
successful operation of a real estate project and/or the collateral value
of the commercial real estate securing the loan.
Commercial Loans. In the past several years, the Bank has made a
major commitment to small business commercial lending. The Bank has worked
to develop a niche of making commercial loans to companies which have from
$500,000 to $15 million in sales and has recently become an approved lender
of the Small Business Administration. At June 30, 1999, the Bank's
commercial loan portfolio consisted of 143 loans, totaling $7.1 million, or
4.6% of net loans.
Commercial loans are expected to comprise a growing portion of the
Bank's loan portfolio in the future. Unless otherwise structured as a
mortgage on commercial real estate, such loans generally are limited to
terms of five years or less. Substantially all such commercial loans have
variable interest rates tied to the prime rate as reported in The Wall
Street Journal. Whenever possible, the Bank collateralizes these loans with
a lien on commercial real estate, or alternatively, with a lien on business
assets and equipment and the personal guarantees from principals of the
borrower.
Commercial business loans are generally considered to involve a
higher degree of risk than residential mortgage loans because the
collateral may be in the form of intangible assets and/or inventory subject
to market obsolescence. Commercial loans may also involve relatively large
loan balances to single borrowers or groups of related borrowers, with the
repayment of such loans typically dependent on the successful operation and
income stream of the borrower. Such risks can be significantly affected by
economic conditions. In addition, commercial business lending generally
requires substantially greater oversight efforts compared to residential
real estate lending.
Consumer Loans. The Bank's consumer loans consist of share secured
loans, and other consumer loans, including automobile loans and credit card
loans. At June 30,1999, the consumer loan portfolio totaled $1.5 million or
1.0% of net loans. Consumer loans are generally offered for terms of up to
five years at fixed interest rates. Consumer loans generally do not exceed
$25,000 individually.
The Bank makes share secured loans up to 90% of the amount of the
depositor's savings account balance. The interest rate on the loan is 4%
higher than the rate being paid on the account. The Bank also makes other
consumer loans, which may or may not be secured. The terms of such loans
usually depend on the collateral.
The Bank makes loans for automobiles, both new and used, directly to
the borrowers. The loans are generally limited to 90% of the purchase price
or the retail value listed by the National Automobile Dealers Book. The
terms of the loans are determined by the age and condition of the
collateral. Collision insurance policies are required on all these loans.
The Bank makes unsecured credit card loans generally up to $5,000 at
fixed rates of interest. At June 30, 1999, the Bank had 796 unsecured
credit card loans totaling $367,000.
Consumer loans are generally originated at higher interest rates than
residential mortgage loans but also tend to have a higher credit risk than
residential loans due to the loan being unsecured or secured by rapidly
depreciable assets. Despite these risks, the Bank's level of consumer loan
delinquencies generally has been low. No assurance can be given, however,
that the Bank's delinquency rate on consumer loans will continue to remain
low in the future, or that the Bank will not incur future losses on these
activities.
Home Equity Loans. The Bank also originates home equity loans which
are loans secured by available equity based on the appraised value of
owner-occupied one- to four-family residential property. Home equity loans
will be made for up to 80% of the appraised value of the property (less the
amount of the first mortgage). Home equity loans are offered at adjustable
rates and fixed rates. The adjustable interest rate is the prime rate as
reported in the Wall Street Journal. Fixed rate home equity loans have
terms of ten years or less and adjustable rate home equity loans have terms
of 15 years or less with up to a five year final payment if the loan is not
fully amortized at the end of the 15 year term. At June 30, 1999, the Bank
had $2.1 million in home equity loans with unused credit available to
existing borrowers of $2.2 million.
Construction Loans. In November 1998, the Bank hired an experienced
commercial loan officer who specializes in construction lending. The Bank
engages in construction lending for the construction of single family
residences and commercial properties. Most are construction loans to
developers for the construction of single family housing developments.
There are also three loans for the construction of two day care centers and
an addition to a commercial building, totaling $4.0 million. All
construction loans are secured by first liens on the property. Loan
proceeds are disbursed as construction progresses and inspections warrant.
Loans involving construction financing present a greater risk than loans
for the purchase of existing homes, since collateral values and
construction costs can only be estimated at the time the loan is approved.
Because payment on loans secured by construction properties are dependent
upon the sale of completed homes or the successful operation of the
completed property, repayment of such loans may be subject, to a greater
extent, to adverse conditions in the real estate market or the economy.
Loan Commitments. The Bank generally makes loan commitments to
borrowers not exceeding 60 days. At June 30, 1999, the Bank had $6.9
million in loan commitments outstanding, all for the origination of one- to
four-family residential real estate loans, home equity loans, commercial
loans and commercial real estate loans. In addition, unadvanced funds on
lines of credit and credit card loans were $7.9 million on June 30, 1999.
Loan Solicitation and Loan Fees. Loan originations are derived from a
number of sources, including the Bank's existing customers, referrals,
realtors, advertising and "walk-in" customers at the Bank's office.
Additionally, the Bank has two residential loan originators, both of whom
actively cover the local community, working with local real estate brokers
and agents to identify and contact potential new customers.
Upon receipt of a loan application from a prospective borrower, a
credit report and verifications are ordered to verify specific information
relating to the loan applicant's employment, income and credit standing.
For all mortgage loans, an appraisal of real estate intended to secure the
proposed loan is obtained from an independent appraiser who has been
approved by the Bank's board of directors. Fire and casualty insurance are
required on all loans secured by improved real estate. Insurance on other
collateral is required unless waived by the loan committee. The Board of
Directors of the Bank has the responsibility and authority for the general
supervision over the loan policies of the Bank. The Board has established
written lending policies for the Bank. All residential and commercial real
estate mortgages and commercial business loans must be ratified by the
Bank's board of directors. In addition, certain designated officers of the
Bank have authority to approve loans not exceeding specified levels, while
the board of directors must approve loans in excess of (a) $300,000 for
commercial real estate loans; (b) $100,000 for commercial loans; (c) loans
over the current FNMA limit for residential mortgage loans; and (d) $20,000
for consumer loans.
Interest rates charged by the Bank on all loans are primarily
determined by competitive loan rates offered in its market area and
interest rate costs of the source of funding for the loan. The Bank may
charge an origination fee on new mortgage loans. The origination fees, net
of direct origination costs, are deferred and amortized into income over
the life of the loan. At June 30, 1999, the amount of net deferred loan
origination fees was $12,000.
Loan Maturities. The following table sets forth certain information
at June 30, 1999 regarding the dollar amount of loans maturing in the
Bank's portfolio based on their contractual terms to maturity, including
scheduled repayments of principal. Demand loans and loans having no stated
schedule of repayments and no stated maturity are reported as due in one
year or less.
At June 30, 1999
-----------------------------------------------------------------------------------
Residential Commercial
Mortgage Real Estate Construction Commercial Consumer
Loans(1) Loans Loans Loans Loans Total Loans
----------- ----------- ------------ ---------- -------- -----------
(In thousands)
Total loans scheduled to mature:
In one year of less $ 38 $ --- $5,806 $3,249 $ 44 $ 9,137
After 1 year through 5 years 1,580 395 1,215 2,554 1,053 6,797
Beyond 5 years 107,674 33,585 --- 1,306 449 143,014
--------------------------------------------------------------------------------
Total $109,292 $33,980 $7,021 $7,109 $1,546 $158,948
================================================================================
Loan balance by type scheduled
to mature after 1 year:
Fixed-rate $ 60,789 $ 2,997 $ --- $2,554 $1,502 $ 67,842
Adjustable rate 48,465 30,983 1,215 1,306 --- 81,969
- --------------------
For purposes of this schedule, home equity loans, revolving and fixed
rate, have been included in residential mortgage loans.
Originations and Sales of Loans. The Bank is a qualified
seller/servicer for FNMA. Beginning in 1987, the Bank began to sell a
portion of its fixed-rate loans with terms in excess of 15 years to FNMA.
All of the Bank's sales to FNMA have been made with servicing retained on
the loans. At June 30, 1999, the Bank was servicing $22.6 million in loans
for FNMA. Depending upon market conditions, the Bank retains a portion of
its fixed rate loans from time to time. In addition, the Bank has also sold
loans to other private investors. At June 30, 1999, the Bank was servicing
$2.3 million of such loans.
Originations for the year ended June 30, 1999 have continued to
increase due to the addition of a mortgage loan originator and a second
commercial lending officer. Loan sales were reduced during the same period
as the Bank borrowed from the FHLB to fund loan originations. Historically,
the Bank has not purchased loans. However, the Bank may in the future
consider making limited loan purchases, including purchases of commercial
loans and commercial real estate loans.
The following table sets forth information with respect to
originations and sales of loans during the periods indicated.
Years Ended June 30,
--------------------------------
1999 1998 1997
---- ---- ----
(In thousands)
Beginning balance $138,593 $114,568 $ 94,760
--------------------------------
Mortgage originations 47,662 43,141 28,423
Consumer loan originations 2,494 2,218 959
Commercial real estate loan originations 13,713 6,338 10,573
Commercial loan originations 5,313 3,680 4,771
Commercial construction loan originations 3,080 --- ---
Loan participations repurchased --- 1,914 ---
--------------------------------
Total loans originated and purchased 72,262 57,291 44,726
--------------------------------
Less:
Amortization and payoffs 42,901 27,675 15,055
Provision for loan losses 145 245 272
Total loans sold 13,120 5,346 8,750
Loan participations sold --- --- 841
--------------------------------
Ending balance $154,689 $138,593 $114,568
================================
Non-Performing Assets, Asset Classification and Allowances for
Losses. Management and the Security Committee of the Board of Directors
perform a monthly review of all delinquent loans and loans are placed on a
non-accrual status when loans are 90 days past due or, in the opinion of
management, the collection of principal and interest are doubtful. One of
the primary tools used to manage and control problem loans is the Bank's
"Watch-List," a listing of all loans or commitments larger than $25,000,
that are considered to have characteristics that could result in loss to
the Bank if not properly supervised. The list is managed by the Senior
Lending Officer for Commercial Loans, Senior Loan Officer for Mortgage
Lending, Chief Financial Officer, Chief Executive Officer, and Mortgage
Servicing Officer (the "Watch-List Committee"), who meet periodically to
discuss the status of the loans on the Watch-List and to add or delete
loans from the list. The Directors can request that a loan relationship be
placed on Watch-List status.
Real estate acquired by the Bank as a result of foreclosure is
classified as real estate owned until such time as it is sold. When such
property is acquired, it is recorded at the lower of the unpaid principal
balance or its fair value. Any required write-down of the loan to its fair
value is charged to the allowance for loan losses.
The following table sets forth the Bank's problem assets and loans at
the dates indicated.
Years Ended June 30,
----------------------------
1999 1998 1997
---- ---- ----
(Dollars in thousands)
Loans 30-89 days past due
(Not included in non-performing loans) $1,685 $1,374 $1,708
Loans 30-89 days past due as a percentage of net loans 1.09% .99% 1.49%
Non-performing loans (90 days past due) $ --- $ 150 $ 365
Foreclosed real estate --- --- ---
----------------------------
Total non-performing assets $ --- $ 150 $ 365
============================
Non-performing loans as a percent of net loans 0.00% 0.11% 0.32%
Non-performing assets as a percent of total assets 0.00% 0.08% 0.24%
At June 30, 1999, management was not aware of any loans not currently
classified as non-accrual, 90 days past due or restructured but which may
be so classified in the near future because of concerns over the borrower's
ability to comply with repayment terms.
Federal regulations require each banking institution to classify its
asset quality on a regular basis. In addition, in connection with
examinations of such banking institutions, federal and state examiners have
authority to identify problem assets and, if appropriate, classify them. An
asset is classified substandard if it is determined to be inadequately
protected by the current net worth and paying capacity of the obligor or of
the collateral pledged, if any. As a general rule, the Bank will classify a
loan as substandard if the Bank can no longer rely on the borrower's income
as the primary source for repayment of the indebtedness and must look to
secondary sources such as guarantors or collateral. An asset is classified
as doubtful if full collection is highly questionable or improbable. An
asset is classified as loss if it is considered uncollectible, even if a
partial recovery could be expected in the future. The regulations also
provide for a special mention designation, described as assets which do not
currently expose a banking institution to a sufficient degree of risk to
warrant classification but do possess credit deficiencies or potential
weaknesses deserving management's close attention. Assets classified as
substandard or doubtful require a banking institution to establish general
allowances for loan losses. If an asset or portion thereof is classified as
a loss, a banking institution must either establish specific allowances for
loan losses in the amount of the portion of the asset classified as a loss,
or charge off such amount. Examiners may disagree with a banking
institution's classifications and amounts reserved. If a banking
institution does not agree with an examiner's classification of an asset,
it may appeal this determination to the Regional Director of the FDIC. At
June 30, 1999, the Bank had no assets classified as doubtful, loss, or
substandard.
In originating loans, the Bank recognizes that credit losses will
occur and that the risk of loss will vary with, among other things, the
type of loan being made, the creditworthiness of the borrower over the term
of the loan, general economic conditions and, in the case of a secured
loan, the quality of the security for the loan. It is management's policy
to maintain an adequate general allowance for loan losses based on, among
other things, evaluation of economic conditions and regular reviews of
delinquencies and loan portfolio quality. Further, after properties are
acquired following loan defaults, additional losses may occur with respect
to such properties while the Bank is holding them for sale. The Bank
increases its allowances for loan losses and losses on real estate owned by
charging provisions for losses against the Bank's income. Specific reserves
are also recognized against specific assets when management believes it is
warranted.
While the Bank believes it has established its existing allowances
for loan losses in accordance with GAAP there can be no assurance that
regulators, in reviewing the Bank's loan portfolio, will not request the
Bank to increase its allowance for loan losses, thereby negatively
affecting the Bank's financial condition and earnings. Alternately, there
can be no assurance that increases in the Bank's allowance for loan losses
will occur.
The FDIC has adopted a policy statement regarding maintenance of an
adequate allowance for loan and lease losses and an effective loan review
system. This policy includes an arithmetic formula for checking the
reasonableness of an institution's allowance for loan loss estimate
compared to the average loss experience of the industry as a whole.
Examiners will review an institution's allowance for loan losses and
compare it against the sum of (i) 50% of the portfolio that is classified
doubtful; (ii) 15% of the portfolio that is classified as substandard; and
(iii) estimated credit losses for the portions of the portfolio that have
not been classified (including those loans designated as special mention).
This amount is considered neither a "floor" nor a "safe harbor" of the
level of allowance for loan losses an institution should maintain, but
examiners will view a shortfall relative to the amount as an indication
that they should review management's policy on allocating these allowances
to determine whether it is reasonable based on all relevant factors.
The following table analyzes activity in the Bank's allowance for
loan losses for the periods indicated.
Years Ended June 30,
----------------------------------
1999 1998 1997
---- ---- ----
(Dollars in thousands)
Average loans, net $144,663 $124,971 $103,223
==================================
Period-end net loans $154,689 $138,593 $114,568
==================================
Allowance for loan losses at beginning of period $ 1,236 $ 977 $ 742
Provision charged to operations 145 245 272
Recoveries:
Real estate mortgage:
Residential --- --- ---
Commercial --- --- ---
Commercial loans --- --- ---
Consumer and home equity 3 16 20
Construction --- --- ---
----------------------------------
Total recoveries 3 16 20
----------------------------------
Loans charged-off:
Real estate-mortgage:
Residential --- --- ---
Commercial --- --- (24)
Commercial loans (2) --- ---
Consumer and home equity (34) (2) (33)
Construction --- --- ---
----------------------------------
Loans charged-off (36) (2) (57)
----------------------------------
Allowance for loan losses at end of period $ 1,348 $ 1,236 $ 977
==================================
Ratios:
Allowance for loan losses to period end net loans 0.87% 0.89% 0.85%
Allowance for loan losses to non-performing loans N/A 824.00% 267.67%
Net charge-offs (recoveries) to average loans, net 0.02% (0.01)% 0.04%
Net charge-offs (recoveries) to allowance for loan losses 2.45% (1.13)% 3.79%
The following table sets forth a breakdown of the allowance for loan
losses by loan category at the dates indicated. Management believes that
the allowance can be allocated by category only on an approximate basis.
These allocations are not necessarily indicative of future losses and do
not restrict the use of the allowance to absorb losses in any other loan
category.
At June 30,
-----------------------------------------------------------------------------
1999 1998 1997
----------------------- ----------------------- -----------------------
Percent of Percent of Percent of
Loans in Each Loans in Each Loans in Each
Category to Category to Category to
Amount Total Loans Amount Total Loans Amount Total Loans
------ ------------- ------ ------------- ------ -------------
(Dollars in thousands)
Real estate - mortgage:
Residential $ 563 67.4% $ 559 75.8% $542 77.8%
Commercial 592 21.4 531 17.5 338 15.4
Commercial loans 133 4.5 100 3.3 75 3.2
Consumer and home equity 15 2.3 46 2.5 22 2.8
Construction 45 4.4 --- 0.9 --- 0.8
------------------------------------------------------------------------
Total allowance for loan losses $1,348 100.0% $1,236 100.0% $977 100.0%
========================================================================
Investment Activities
General. The Bank is required to maintain an amount of liquid assets
appropriate for its level of net savings withdrawals and current
borrowings. It has generally been the Bank's policy to maintain a liquidity
portfolio in excess of regulatory requirements. At June 30, 1999, the
Bank's liquidity ratio was 32.2%. Liquidity levels may be increased or
decreased depending upon the yields on investment alternatives,
management's judgment as to the attractiveness of the yields then available
in relation to other opportunities, management's expectations of the level
of yield that will be available in the future and management's projections
as to the short-term demand for funds to be used in the Bank's loan
origination and other activities.
Interest income from investments in various types of liquid assets
provides a significant source of revenue for the Bank. As the New England
economy experienced a severe downturn in the late 1980's, the Bank chose to
invest excess liquidity in its investment portfolio. The Bank invests in
U.S. Treasury and Federal Agency securities, bank certificates of deposits,
equity securities, corporate debt securities and overnight federal funds.
The balance of investment securities maintained by the Bank in excess of
regulatory requirements reflects management's historical objective of
maintaining liquidity at a level that assures the availability of adequate
funds, taking into account anticipated cash flows and available sources of
credit, for meeting withdrawal requests and loan commitments and making
other investments.
The Bank purchases securities through a primary dealer of U.S.
Government obligations or such other securities dealers authorized by the
Board of Directors and requires that the securities be delivered to a
safekeeping agent before the funds are transferred to the broker or dealer.
The Bank purchases investment securities pursuant to an investment policy
established by the board of directors.
Available for sale securities are reported at fair value with
unrealized gains or losses reported as a separate component of other
comprehensive income. Held-to-maturity securities are carried at amortized
cost. Substantially all purchases of investment securities conform to the
Company's interest rate risk policy. The following table sets forth the
Company's investment securities at the dates indicated.
At June 30,
-------------------------------------------------------------------
1999 1998 1997
------------------- ------------------- -------------------
Amortized Fair Amortized Fair Amortized Fair
Cost Value Cost Value Cost Value
--------- ----- --------- ----- --------- -----
(In thousands)
Securities available for sale:
- ------------------------------
Marketable equity securities $ 2,287 $ 3,247 $ 2,544 $ 3,222 $ 3,543 $ 3,819
U.S. Government and Federal
Agency obligations 24,323 24,027 11,540 11,527 --- ---
Other bonds and obligations 4,556 4,498 --- --- --- ---
-------------------------------------------------------------------
Total 31,166 31,772 14,084 14,749 3,543 3,819
-------------------------------------------------------------------
Securities held to maturity:
- ----------------------------
U.S. Government and Federal
Agency obligations 500 501 9,498 9,510 14,976 14,908
Other bonds and obligations 1,000 1,001 2,508 2,520 2,528 2,523
-------------------------------------------------------------------
Total 1,500 1,502 12,006 12,030 17,504 17,431
-------------------------------------------------------------------
Total $32,666 $33,274 $26,090 $26,779 $21,047 $21,250
===================================================================
The following table sets forth the scheduled maturities, carrying
values and average yields for the Company's debt securities at June 30,
1999.
June 30, 1999
--------------------------------------------------------------------------------------------
One Year or Less One to Five Years Five to Ten Years Totals
-------------------- -------------------- -------------------- --------------------
Amortized Average Amortized Average Amortized Average Amortized Average
Cost Yield Cost Yield Cost Yield Cost Yield
--------- ------- --------- ------- --------- ------- --------- -------
(Dollars in thousands)
Securities available for sale:
- ------------------------------
U.S. Government and Federal
Agency obligations $ --- --- $22,827 5.94% $1,496 6.97% $24,323 6.01%
Other bonds and obligations 677 7.16% 3,342 6.78% 537 7.53% 4,556 6.92%
------ ------- ------ -------
Total $ 677 7.16% $26,169 6.05% $2,033 6.92% $28,879 6.15%
====== ======= ====== =======
Securities held to maturity:
- ----------------------------
U.S. Government and Federal
Agency obligations $ 500 5.50% $ --- --- $ --- --- $ 500 5.50%
Other bonds and obligations 1,000 6.41% --- --- --- --- 1,000 6.41%
------ ------- ------ -------
Total $1,500 6.11% $ --- --- $ --- --- $ 1,500 6.11%
====== ======= ====== =======
Deposit Activity and Other Sources Of Funds
General. Deposits are the primary source of the Bank's funds for
lending and other investment purposes. In addition to deposits, the Bank
derives funds from principal repayments and interest payments on loans and
investments as well as other sources arising from operations in the
production of net earnings. Loan repayments and interest payments are a
relatively stable source of funds, while deposit inflows and outflows are
significantly influenced by general interest rates and money market
conditions. Borrowings may be used on a short-term basis to compensate for
reductions in the availability of funds from other sources, or on a longer
term basis for general business purposes.
Deposits. Deposits are attracted principally from within the Bank's
primary market area through the offering of a broad selection of deposit
instruments, including checking accounts, passbook savings, NOW accounts,
demand deposits, money market accounts and certificates of deposit. Deposit
account terms vary, with the principal differences being the minimum
balance required, the time periods the funds must remain on deposit and the
interest rate.
The Bank's policies are designed primarily to attract deposits from
local residents and businesses rather than to solicit deposits from areas
outside its primary market. The Bank does not accept deposits from brokers
due to the volatility and rate sensitivity of such deposits. Interest rates
paid, maturity terms, service fees and withdrawal penalties are established
by the Bank on a periodic basis. Determination of rates and terms are
predicated upon funds acquisition and liquidity requirements, rates paid by
competitors, growth goals and federal regulations.
During the past two years, there has been an increase in demand
deposit and NOW accounts, resulting from the increase in commercial
customers during this time period. NOW account balances are volatile due to
a large deposit relationship with a law firm which maintains short-term
deposits in real estate conveyancing accounts and has significant
fluctuations in deposit account balances, particularly at month-ends.
The following table sets forth the various types of deposit accounts
at the Bank and the balances in these accounts at the dates indicated.
At June 30,
-----------------------------------------------------------------
1999 1998 1997
------------------- ------------------- -------------------
Amount Percent Amount Percent Amount Percent
------ ------- ------ ------- ------ -------
(Dollars in thousands)
Savings deposits $ 40,903 25.4% $ 40,460 27.9% $ 40,794 31.6%
NOW accounts 29,361 18.3 34,208 23.6 17,975 13.9
Money market deposits 7,020 4.4 6,256 4.3 6,489 5.0
Demand deposits 8,556 5.3 6,603 4.6 4,910 3.8
Certificates of deposit 75,027 46.6 57,239 39.6 59,135 45.7
---------------------------------------------------------------
Total deposits $160,867 100.0% $144,766 100.0% $129,303 100.0%
===============================================================
For more information on the Bank's deposit accounts, see Note 6 of
Notes to Consolidated Financial Statements.
The following table indicates the amount of the Bank's certificates
of deposit of $100,000 or more by time remaining until maturity at June 30,
1999.
Maturity Period Certificates of Deposit Rate
--------------- ----------------------- ----
(Dollars in thousands)
0-3 months $ 3,488 4.77%
3-6 months 3,419 4.90
6-12 months 6,569 5.10
1-2 years 2,427 5.21
2-3 years 122 5.25
over 3 years 120 6.25
-------
Total $16,145 5.01%
=======
Borrowings. Savings deposits historically have been the primary
source of funds for the Bank's lending and investment activities and for
its general business activities. The Bank is authorized, however, to use
advances from the FHLB to supplement its supply of lendable funds and to
meet liquidity requirements. Due to recent lending activity and demand for
liquidity, the Bank has utilized this borrowing power, and has received
advances from the FHLB. Advances from the FHLB are secured by the Bank's
stock in the FHLB, the Bank's deposits at the FHLB and a portion of the
Bank's mortgage loans and investment securities. The Bank had FHLB advances
of $19.0 million outstanding at June 30, 1999.
The FHLB functions as a central reserve bank providing credit for
savings institutions and certain other financial institutions. As a member,
the Bank is required to own capital stock in the FHLB and is authorized to
apply for advances on the security of such stock and certain of its home
mortgages and other assets (principally, securities which are obligations
of, or guaranteed by the United States) provided certain standards related
to creditworthiness have been met.
Personnel
As of June 30, 1999, the Bank had 52 full-time employees and 21 part-
time employees. The employees are not represented by a collective
bargaining unit and the Bank considers its relationship with its employees
to be good.
FEDERAL AND STATE TAXATION
Federal Taxation
General. The following is intended only as a discussion of material
tax matters and does not purport to be a comprehensive description of the
tax rules applicable to the Bank or the Company. The Bank has not been
audited by the IRS during the last five years. For federal income tax
purposes, the Company and the Bank file consolidated income tax returns and
report their income on a fiscal year basis using the accrual method of
accounting and are subject to federal income taxation in the same manner as
other corporations with some exceptions, including particularly the Bank's
tax reserve for bad debts, discussed below.
Bad Debt Reserves. The Bank, as a "small bank" (one with assets
having an adjusted tax basis of $500 million or less) is permitted to
maintain a reserve for bad debts with respect to its loans and to make,
within specified formula limits, annual additions to the reserve which are
deductible for purposes of computing the Bank's taxable income. Pursuant to
the Small Business Job Protection Act of 1996, the Bank is now recapturing
(taking into income) over a multi-year period a portion of the balance of
its bad debt reserve as of June 30, 1997.
Distributions. To the extent that the Bank makes "non-dividend
distributions" to shareholders, such distributions will be considered to
result in distributions from the Bank's "base year reserve," i.e., its
reserve as of April 30, 1988, to the extent thereof and then from its
supplemental reserve for losses on loans, and an amount based on the amount
distributed will be included in the Bank's taxable income. Non-dividend
distributions include distributions in excess of the Bank's current and
accumulated earnings and profits, distributions in redemption of stock and
distributions in partial or complete liquidation. However, dividends paid
out of the Bank's current or accumulated earnings and profits, as
calculated for federal income tax purposes, will not constitute non-
dividend distributions and, therefore, will not be included in the Bank's
income.
The amount of additional taxable income created from a non-dividend
distribution is equal to the lesser of the Bank's base year reserve and
supplemental reserve for losses on loans; or an amount that, when reduced
by the tax attributable to the income, is equal to the amount of the
distribution. Thus, in certain situations approximately one and one-half
times the non-dividend distribution would be includable in gross income for
federal income tax purposes, assuming a 34% federal corporate income tax
rate.
Corporate Alternative Minimum Tax. The Internal Revenue Code of 1986,
as amended (the "Code"), imposes a tax ("AMT")on alternative minimum
taxable income ("AMTI") at a rate of 20%. Only 90% of AMTI can be offset by
net operating loss carryovers of which the Bank currently has none. AMTI is
also adjusted by determining the tax treatment of certain items in a manner
that negates the deferral of income resulting from the regular tax
treatment of those items. Thus, the Bank's AMTI is increased by an amount
equal to 75% of the amount by which the Bank's adjusted current earnings
exceeds its AMTI (determined without regard to this adjustment and prior to
reduction for net operating losses). The Bank does not expect to be subject
to the AMT.
Although the corporate environmental tax of 0.12% of the excess of
AMTI (with certain modifications) over $2.0 million has expired, under
current Administration proposals, such tax will be retroactively reinstated
for taxable years beginning after December 31, 1997 and before January
2009.
Elimination of Dividends; Dividends Received Deduction. The Company
may exclude from its income 100% of dividends received from the Bank as a
member of the same affiliated group of corporations. A 70% dividends
received deduction generally applies with respect to dividends received
from domestic corporations that are not members of such affiliated group,
except that an 80% dividends received deduction applies if the Company and
the Bank own more than 20% of the stock of a corporation paying a dividend.
State and Local Taxation
Prior to July, 1995, the Bank was subject to an annual Massachusetts
excise (income) tax equal to 12.54% of its pre-tax income. In 1995,
legislation was enacted to reduce the Massachusetts bank excise (income)
tax rate and to allow Massachusetts-based financial institutions to
apportion income earned in other states. Further, this legislation expands
the applicability of the tax to non-bank entities and out-of-state
financial institutions. The Massachusetts excise tax rate for co-operative
banks is currently 10.95% of federal taxable income, adjusted for certain
items. It is anticipated that this rate will be gradually reduced over the
next few years so that the Bank's tax rate will become 10.5% by June 30,
2000. Taxable income includes gross income as defined under the Code, plus
interest from bonds, notes and evidences of indebtedness of any state,
including Massachusetts, less deductions, but not the credits, allowable
under the provisions of the Code. No deductions, however, are allowed for
dividends received until July 1, 1999. In addition, carryforwards and
carrybacks of net operating losses are not allowed.
The Bank's active subsidiary, Mystic Securities Corporation, was
established solely for the purpose of acquiring and holding investments
which are permissible for banks to hold under Massachusetts law. Mystic
Securities Corporation is classified with the Massachusetts Department of
Revenue as a "security corporation" under Massachusetts law, qualifying it
to take advantage of the low 1.32% income tax rate on gross income
applicable to companies that are so classified.
State of Delaware. As a Delaware holding company not earning income
in Delaware, the Company is exempted from Delaware corporate income tax but
is required to file an annual report with and has paid an annual franchise
tax to the State of Delaware.
For additional information regarding taxation, see Note 8 of the
Notes to Consolidated Financial Statements.
REGULATION
General
As a co-operative bank chartered by the Commonwealth of
Massachusetts, the Bank is subject to extensive regulation under state law
with respect to many aspects of its banking activities; this state
regulation is administered by the Commissioner. In addition, as a bank
whose deposits are insured by the FDIC under the BIF, the Bank is subject
to deposit insurance assessments by the FDIC, and the FDIC has examination
and supervisory authority over the Bank, with a broad range of enforcement
powers. Finally, the Bank is required to maintain reserves against deposits
according to a schedule established by the Federal Reserve System. These
laws and regulations have been established primarily for the protection of
depositors and the deposit insurance funds, not bank stockholders.
The following references to the laws and regulations under which the
Bank is regulated are brief summaries thereof, do not purport to be
complete, and are qualified in their entirety by reference to such laws and
regulations.
Massachusetts Banking Laws and Supervision
Massachusetts co-operative banks such as the Bank are regulated and
supervised by the Commissioner. The Commissioner is required to regularly
examine each state-chartered bank. The approval of the Commissioner is
required to establish or close branches, to merge with another bank, to
form a bank holding company, to issue stock or to undertake many other
activities. Any Massachusetts bank that does not operate in accordance with
the regulations, policies and directives of the Commissioner is subject to
sanctions. The Commissioner may under certain circumstances suspend or
remove directors or officers of a bank who have violated the law, conducted
a bank's business in a manner which is unsafe, unsound or contrary to the
depositors' interests, or been negligent in the performance of their
duties.
All Massachusetts-chartered co-operative banks are required to be
members of the Co-operative Central Bank and are subject to its
assessments. The Co-operative Central Bank maintains the Share Insurance
Fund, a private deposit insurer, which insures all deposits in member banks
in excess of FDIC deposit insurance limits. In addition, the Co-operative
Central Bank acts as a source of liquidity to its members in supplying them
with low-cost funds, and purchasing certain qualifying obligations from
them.
Major changes in Massachusetts law in 1982 and 1983 substantially
expanded the powers of co-operative banks, and made their powers virtually
identical to those of state-chartered commercial banks. The powers which
Massachusetts-chartered co-operative banks can exercise under these laws
are summarized below.
Lending Activities. A Massachusetts chartered co-operative bank may
make a wide variety of mortgage loans. Fixed-rate loans, adjustable-rate
loans, variable-rate loans, participation loans, graduated payment loans,
construction loans, condominium and co-operative loans, second mortgage
loans and other types of loans may be made in accordance with applicable
regulations. Mortgage loans may be made on real estate in Massachusetts or
in another New England state if the bank making the loan has an office
there or under certain other circumstances. In addition, certain mortgage
loans may be made on improved real estate located anywhere in the United
States. Commercial loans may be made to corporations and other commercial
enterprises with or without security. With certain exceptions, such loans
may be made without geographic limitation. Consumer and personal loans may
be made with or without security and without geographic limitation. Loans
to individual borrowers generally will be limited to 20% of the total of
the Bank's capital accounts and stockholders' equity.
Investments Authorized. Massachusetts-chartered co-operative banks
have broad investment powers under Massachusetts law, including so-called
"leeway" authority for investments that are not otherwise specifically
authorized. The investment powers authorized under Massachusetts law are
restricted by federal law to permit, in general, only investments of the
kinds that would be permitted for national banks. The Bank has authority to
invest in all of the classes of loans and investments that are permitted by
its existing loan and investment policies.
Payment of Dividends. A co-operative bank may only pay dividends on
its capital stock if such payment would not impair the bank's capital stock
and surplus account. No dividends may be paid to stockholders of a bank if
such dividends would reduce stockholders' equity of the bank below the
amount of the liquidation account required by Massachusetts conversion
regulations.
Branches. With the approval of the Commissioner, bank branches may be
established in any city or town in Massachusetts; in addition, co-operative
banks may operate automated teller machines at any of their offices or,
with the Commissioner's approval, anywhere in Massachusetts. Sharing of
ATMs or "networking" is also permitted with the Commissioner's approval.
Massachusetts chartered co-operative banks may also operate ATMs outside of
Massachusetts if permitted to do so by the law of the jurisdiction in which
the ATM is located.
Interstate Acquisitions. An out-of-state bank may (subject to various
regulatory approvals and to reciprocity in its home state) establish and
maintain bank branches in Massachusetts by (i) merging with a Massachusetts
bank that has been in existence for at least three years, (ii) acquiring a
branch or branches of a Massachusetts bank without acquiring the entire
bank, or (iii) opening such branches de novo. Massachusetts banks' ability
to exercise similar interstate banking powers in other states depends upon
the laws of the other states. For example, according to the law of the
bordering state of New Hampshire, out-of-state banks may acquire New
Hampshire banks by merger, but may not establish de novo branches in New
Hampshire.
Other Powers. Massachusetts-chartered co-operative banks may also
lease machinery and equipment, act as trustee or custodian for tax
qualified retirement plans, establish trust departments and act as
professional trustee or fiduciary, provide payroll services for their
customers, issue or participate with others in the issuance of mortgage-
backed securities and establish mortgage banking companies and discount
securities brokerage operations. Some of these activities require the prior
approval of the Commissioner.
Post-conversion Oversight. The Commissioner continues to oversee the
Bank following the Conversion on a number of matters specifically relating
to the Conversion. For example, the Bank has agreed to submit written
quarterly progress reports to the Division for three years following the
Conversion which detail the implementation of the Bank's conversion
business plan's objectives and goals.
Federal Banking Regulations
Capital Requirements. Under FDIC regulations, state-chartered banks
that are not members of the Federal Reserve System ("state non-member
banks"), such as the Bank, are required to comply with minimum leverage
capital requirements. For an institution determined by the FDIC to not be
anticipating or experiencing significant growth and to have well
diversified risk, including no undue interest rate risk exposure, excellent
asset quality, high liquidity, good earnings and to be in general a strong
banking organization, rated composite 1 under the Uniform Financial
Institutions Ranking System (the CAMELS rating system) established by the
Federal Financial Institutions Examination Council, the minimum capital
leverage requirement is a ratio of Tier 1 capital to total assets of 3%.
For all other institutions, the minimum leverage capital ratio is 3% plus
an additional "cushion" amount of at least 100 to 200 basis points and
therefore are required to have a ratio of Tier 1 capital to total assets of
not less than 4%. Tier 1 capital is the sum of common stockholders' equity,
non-cumulative perpetual preferred stock (including any related surplus)
and minority investments in certain subsidiaries, less most intangible
assets.
The FDIC has also adopted risk-based capital guidelines to which the
Bank is subject. The guidelines establish a systematic analytical framework
designed to make regulatory capital requirements sensitive to differences
in risk profiles among banking organizations. The FDIC guidelines require
state non-member banks to maintain certain levels of regulatory capital in
relation to regulatory risk-weighted assets. The ratio of such regulatory
capital to regulatory risk-weighted assets is referred to as the Bank's
"risk-based capital ratio." Risk-based capital ratios are determined by
allocating assets and specified off-balance sheet items to four risk-
weighted categories ranging from 0% to 100%, with higher levels of capital
being required for the categories perceived as representing greater risk.
Under the FDIC's risk-weighting system, cash and securities backed by the
full faith and credit of the U.S. government are given a 0% risk weight.
Mortgage-backed securities that qualify under the Secondary Mortgage
Enhancement Act, including those issued, or fully guaranteed as to
principal and interest, by the FNMA or the Federal Home Loan Mortgage
Corporation ("FHLMC"), are assigned a 20% risk weight. Single-family first
mortgages not more than 90 days past due with loan-to-value ratios under
80%, multi-family mortgages (maximum 36 dwelling units) with loan-to-value
ratios under 80% and average annual occupancy rates over 80%, and certain
qualifying loans for the construction of one- to four-family residences
pre-sold to home purchasers, are assigned a risk weight of 50%. Consumer
loans and commercial real estate loans, repossessed assets and assets more
than 90 days past due, as well as all other assets not specifically
categorized, are assigned a risk weight of 100%.
State non-member banks must maintain a minimum ratio of qualifying
total capital to risk-weighted assets of at least 8%, of which at least
one-half must be Tier 1 capital. Qualifying total capital consists of Tier
1 capital plus Tier 2 or supplementary capital items, which include
allowances for loan losses in an amount of up to 1.25% of risk-weighted
assets, cumulative preferred stock, preferred stock with a maturity of over
20 years, and certain other capital instruments. The includable amount of
Tier 2 capital cannot exceed the amount of the institution's Tier 1
capital. Qualifying total capital is further reduced by the amount of the
bank's investments in banking and finance subsidiaries that are not
consolidated for regulatory capital purposes, reciprocal cross-holdings of
capital securities issued by other banks and certain other deductions.
The Federal Deposit Insurance Corporation Improvement Act ("FDICIA")
required each federal banking agency to revise its risk-based capital
standards for insured institutions to ensure that those standards take
adequate account of interest-rate risk ("IRR"), concentration of credit
risk, and the risk of nontraditional activities, as well as to reflect the
actual performance and expected risk of loss on multi-family residential
loans. In August 1995, the FDIC, along with the other federal banking
agencies, adopted a regulation providing that the agencies will take
account of the exposure of a bank's capital and economic value to the risks
of changes in interest rates in assessing a bank's capital adequacy.
According to the agencies, applicable considerations include the quality of
the bank's interest rate risk management process, the overall financial
condition of the bank, and the level of other risks at the bank for which
capital is needed. Institutions with significant interest rate risk may be
required to hold additional capital. The agencies also issued a joint
policy statement providing guidance on interest rate risk management,
including a discussion of the critical factors affecting the agencies'
evaluation of interest rate risk in connection with capital adequacy. The
agencies have determined not to proceed with a previously issued proposal
to develop a supervisory framework for measuring interest rate risk and to
require an explicit capital component for interest rate risk.
The following table shows the Company's and the Bank's leverage
ratio, its Tier 1 risk-based capital ratio, and its total risk-based
capital ratio, at June 30, 1999.
Minimum
To Be Well
Minimum Capitalized Under
Capital Prompt Corrective
Actual Requirement Action Provisions
---------------- ---------------- -----------------
Amount Ratio Amount Ratio Amount Ratio
------ ----- ------ ----- ------ -----
(Dollars in thousands)
Total Capital to Risk Weighted Assets
Consolidated $35,006 27.3% $10,255 8.0% N/A N/A
Bank 24,388 19.2 10,143 8.0 $12,679 10.0%
Tier I Capital to Risk Weighted Assets
Consolidated 33,658 26.2 5,127 4.0 N/A N/A
Bank 23,040 18.1 5,072 4.0 7,609 6.0
Tier I Capital to Average Assets
Consolidated 33,658 16.0 8,387 4.0 N/A N/A
Bank 23,040 11.4 8,046 4.0 10,057 5.0
As the preceding table shows, the Company and the Bank exceeded the
minimum capital adequacy requirements at the date indicated.
Enforcement. The FDIC has extensive enforcement authority over
insured co-operative banks, including the Bank. This enforcement authority
includes, among other things, the ability to assess civil money penalties,
to issue cease and desist orders and to remove directors and officers. In
general, these enforcement actions may be initiated in response to
violations of laws and regulations and to unsafe or unsound practices.
The FDIC has authority under federal law to appoint a conservator or
receiver for an insured bank under certain circumstances. The FDIC is
required, with certain exceptions, to appoint a receiver or conservator for
an insured state bank if that bank was "critically undercapitalized" on
average during the calendar quarter beginning 270 days after the date on
which the bank became "critically undercapitalized." For this purpose,
"critically undercapitalized" means having a ratio of tangible equity to
total assets equal to or less than 2%. See "-Prompt Corrective Action." The
FDIC may also appoint a conservator or receiver for a state bank on the
basis of the institution's financial condition or upon the occurrence of
certain events, including: (i) insolvency (whereby the assets of the bank
are less than its liabilities to depositors and others); (ii) substantial
dissipation of assets or earnings through violations of law or unsafe or
unsound practices; (iii) existence of an unsafe or unsound condition to
transact business; (iv) likelihood that the bank will be unable to meet the
demands of its depositors or to pay its obligations in the normal course of
business; and (v) insufficient capital, or the incurring or likely
incurring of losses that will deplete substantially all of the
institution's capital with no reasonable prospect of replenishment of
capital without federal assistance.
Deposit Insurance. The FDIC has adopted a risk-based deposit
insurance assessment system. The FDIC assigns an institution to one of
three capital categories based on the institution's financial information,
as of the reporting period ending seven months before the assessment
period, consisting of (1) well capitalized, (2) adequately capitalized or
(3) undercapitalized, and one of three supervisory subcategories within
each capital group. The supervisory subgroup to which an institution is
assigned is based on a supervisory evaluation provided to the FDIC by the
institution's primary federal regulator and information that the FDIC
determines to be relevant to the institution's financial condition and the
risk posed to the deposit insurance funds. An institution's assessment rate
depends on the capital category and supervisory category to which it is
assigned. Assessment rates for BIF deposits currently range from 0 basis
points to 27 basis points. The Bank's assessment rate is currently 0 basis
points. The FDIC is authorized to raise the assessment rates in certain
circumstances, including to maintain or achieve the designated reserve
ratio of 1.25%, which requirement the BIF currently meets. The FDIC has
exercised its authority to raise rates in the past and may raise insurance
premiums in the future. If such action is taken by the FDIC, it could have
an adverse effect on the earnings of the Bank. In addition, recent
legislation requires BIF-insured institutions like the Bank to assist in
the payment of FICO bonds.
Under the Deposit Insurance Funds Act of 1996 (the "Funds Act"), the
assessment base for the payments on the FICO bonds was expanded to add,
beginning January 1, 1997, the deposits of BIF-insured institutions, such
as the Bank. Until December 31, 1999, or such earlier date on which the
last savings association ceases to exist, the rate of assessment for BIF-
assessable deposits shall be one-fifth of the rate imposed on SAIF-
assessable deposits. For the third and fourth quarter of 1999, the rates of
assessment for the FICO bonds is 0.0116% and 0.0184% for BIF-assessable
deposits and 0.0588% and 0.0580% for SAIF-assessable deposits. For the
third and fourth quarters of 1999, the rates of assessment for FICO bonds
is 0.0116% and 0.0184% for BIF-assessable deposits and 0.0588 for SAIF-
assessable deposits.
Under the Federal Deposit Insurance Act (the "FDI Act"), insurance of
deposits may be terminated by the FDIC upon a finding that the institution
has engaged in unsafe or unsound practices, is in an unsafe or unsound
condition to continue operations or has violated any applicable law,
regulation, rule, order or condition imposed by the FDIC or the Division.
The management of the Bank does not know of any practice, condition or
violation that might lead to termination of deposit insurance.
Transactions with Affiliates and Insiders of the Bank. Transactions
between an insured bank, such as the Bank, and any of its affiliates is
governed by Sections 23A and 23B of the Federal Reserve Act. An affiliate
of a bank is any company or entity which controls, is controlled by or is
under common control with the bank. Currently, a subsidiary of a bank that
is not also a depository institution is not treated as an affiliate of the
bank for purposes of Sections 23A and 23B, but the FRB has proposed
treating any subsidiary of a bank that is engaged in activities not
permissible for bank holding companies under the Bank Holding Company Act,
as an affiliate for purposes of Sections 23A and 23B. Generally, Sections
23A and 23B (i) limit the extent to which the bank or its subsidiaries may
engage in "covered transactions" with any one affiliate to an amount equal
to 10% of such institution's capital stock and surplus, and limit all such
transactions with all affiliates to an amount equal to 20% of such capital
stock and surplus and (ii) require that all such transactions be on terms
that are consistent with safe and sound banking practices. The term
"covered transaction" includes the making of loans, purchase of assets,
issuance of guarantees and similar other types of transactions. In
addition, any covered transaction and certain other transactions, including
the sale of assets or purchase of services, between a bank and any of its
affiliates must be on terms that are substantially the same, or at least as
favorable, to the bank as those that would be provided to a non-affiliate.
Further, most loans by a bank to its affiliate must be supported by
collateral in amounts ranging from 100 to 130 percent of the loan amounts.
A bank's loans to its executive officers, directors, any owner of 10%
or more of its stock and any of certain entities affiliated to any such
person (each an "insider") are subject to the conditions and limitations
imposed by Section 22(h) of the Federal Reserve Act and the Federal Reserve
Board's Regulation O thereunder. Under Section 22(h), loans to an insider
may not exceed, together with all other outstanding loans to such person
and affiliated interests, the loans-to-one-borrower limit applicable to
national banks (generally 15% of the institution's unimpaired capital and
surplus), and all loans to all such persons in the aggregate may not exceed
the institution's unimpaired capital and unimpaired surplus. Regulation O
also prohibits the making of loans in an amount greater than either (a)
$500,000 or (b) the greater of $25,000 or 5% of the bank's unimpaired
capital and surplus, unless such loans are approved in advance by a
majority of the Board of Directors of the bank, with any "interested"
director not participating in the voting. Further, Regulation O requires
that loans to insiders be made on terms substantially the same as those
that are offered in comparable transactions to other persons. Regulation O
also prohibits a depository institution from paying the overdrafts over
$1,000 of any of its executive officers or directors unless they are paid
pursuant to written pre-authorized extension of credit or transfer of funds
plans. Also, loans to an executive officer, other than loans for the
education of the officer's children and certain loans secured by the
officer's residence, may not exceed the lesser of (a) $100,000 or (b) the
greater of $25,000 or 2.5% of the bank's capital stock, surplus fund and
undivided profits.
State chartered non-member banks are further subject to the
requirements and restrictions of 12 U.S.C. [SECTION]1972 on certain tying
arrangements and extensions of credit by correspondent banks. Specifically,
this statute (i) prohibits a depository institution from extending credit
to or offering any other service, or fixing or varying the consideration
for such extension of credit or service, on the condition that the customer
obtain some additional service from the institution or certain of its
affiliates or not obtain services of a competitor of the institution,
subject to certain exceptions, and (ii) also prohibits extensions of credit
to executive officers, directors, and greater than 10% stockholders of a
depository institution by any other institution which has a correspondent
banking relationship with the institution, unless such extension of credit
is on substantially the same terms as those prevailing at the time for
comparable transactions with other persons and does not involve more than
the normal risk of repayment or present other unfavorable features.
Real Estate Lending Policies. FDIC regulations require that state-
chartered non-member banks must adopt and maintain written policies that
establish appropriate limits and standards for extensions of credit that
are secured by liens or interest in real estate or are made for the purpose
of financing permanent improvements to real estate. These policies must
establish loan portfolio diversification standards, prudent underwriting
standards, including loan-to-value limits, that are clear and measurable,
loan administration procedures and documentation, approval and reporting
requirements. The real estate lending policies must reflect consideration
of the Interagency Guidelines for Real Estate Lending Policies (the
"Interagency Guidelines") that have been adopted by the federal bank
regulators.
The Interagency Guidelines, among other things, call upon a
depository institution to establish internal loan-to-value limits for real
estate loans that are not in excess of the following supervisory limits:
(i) for loans secured by raw land, the supervisory loan-to-value limit is
65% of the value of the collateral; (ii) for land development loans (i.e.,
loans for the purpose of improving unimproved property prior to the
erection of structures), the supervisory limit is 75%; (iii) for loans for
the construction of commercial, multi-family or other nonresidential
property, the supervisory limit is 80%; (iv) for loans for the construction
of one- to four-family properties, the supervisory limit is 85%; and (v)
for loans secured by other improved property (e.g., farmland, completed
commercial property and other income-producing property including non owner
occupied, one- to four-family property), the limit is 85%. Although no
supervisory loan-to-value limit has been established for owner-occupied,
one to four-family and home equity loans, the Interagency Guidelines state
that for any such loan with a loan-to-value ratio that equals or exceeds
90% at origination, an institution should require appropriate credit
enhancement in the form of either mortgage insurance or readily marketable
collateral.
Safety and Soundness Standards. Pursuant to the requirements of
FDICIA, as amended by the Riegle Community Development and Regulatory
Improvement Act of 1994, each federal banking agency, including the FDIC,
has adopted guidelines establishing general standards relating to internal
controls, information and internal audit systems, loan documentation,
credit underwriting, interest rate exposure, asset growth, asset quality,
earnings, and compensation, fees and benefits. In general, the guidelines
require, among other things, appropriate systems and practices to identify
and manage the risks and exposures specified in the guidelines. The
guidelines prohibit excessive compensation as an unsafe and unsound
practice and describe compensation as excessive when the amounts paid are
unreasonable or disproportionate to the services performed by an executive
officer, employee, director, or principal shareholder. In addition, the
FDIC adopted regulations to require a bank that is given notice by the FDIC
that it is not satisfying any of such safety and soundness standards to
submit a compliance plan to the FDIC. If, after being so notified, a bank
fails to submit an acceptable compliance plan or fails in any material
respect to implement an accepted compliance plan, the FDIC may issue an
order directing corrective and other actions of the types to which a
significantly undercapitalized institution is subject under the "prompt
corrective action" provisions of FDICIA. If a bank fails to comply with
such an order, the FDIC may seek to enforce such an order in judicial
proceedings and to impose civil monetary penalties.
Prompt Corrective Action. FDICIA also established a system of prompt
corrective action to resolve the problems of undercapitalized institutions.
The FDIC, as well as the other federal banking regulators, adopted
regulations governing the supervisory actions that may be taken against
undercapitalized institutions. The regulations establish five categories,
consisting of "well capitalized," "adequately capitalized,"
"undercapitalized," "significantly undercapitalized" and "critically
undercapitalized." The FDIC's regulations defines the five capital
categories as follows: Generally, an institution will be treated as "well
capitalized" if its ratio of total capital to risk-weighted assets is at
least 10%, its ratio of core capital to risk-weighted assets is at least
6%, its ratio of core capital to total assets is at least 5%, and it is not
subject to any order or directive by the FDIC to meet a specific capital
level. An institution will be treated as "adequately capitalized" if its
ratio of total capital to risk-weighted assets is at least 8%, its ratio of
core capital to risk-weighted assets is at least 4%, and its ratio of core
capital to total assets is at least 4% (3% if the bank receives the highest
rating on the CAMELS financial institutions rating system) and it is not a
well-capitalized institution. An institution that has total risk-based
capital of less than 8%, Tier 1 risk-based-capital of less than 4% or a
leverage ratio that is less than 4% (or less than 3% if the institution is
rated a composite "1" under the CAMELS rating system) would be considered
to be "undercapitalized." An institution that has total risk-based capital
of less than 6%, core capital of less than 3% or a leverage ratio that is
less than 3% would be considered to be "significantly undercapitalized,"
and an institution that has a tangible capital to assets ratio equal to or
less than 2% would be deemed to be "critically undercapitalized." At June
30, 1999, the Bank was categorized as "well capitalized."
The severity of the action authorized or required to be taken under
the prompt corrective action regulations increases as a bank's capital
deteriorates within the three undercapitalized categories. All banks are
prohibited from paying dividends or other capital distributions or paying
management fees to any controlling person if, following such distribution,
the bank would be undercapitalized. The FDIC is required to monitor closely
the condition of an undercapitalized bank and to restrict the growth of its
assets. An undercapitalized bank is required to file a capital restoration
plan within 45 days of the date the bank receives notice that it is within
any of the three undercapitalized categories, and the plan must be
guaranteed by any parent holding company. The aggregate liability of a
parent holding company is limited to the lesser of: (i) an amount equal to
the five percent of the bank's total assets at the time it became
"undercapitalized," and (ii) the amount which is necessary (or would have
been necessary) to bring the bank into compliance with all capital
standards applicable with respect to such bank as of the time it fails to
comply with the plan. If a bank fails to submit an acceptable plan, it is
treated as if it were "significantly undercapitalized." Banks that are
significantly or critically undercapitalized are subject to a wider range
of regulatory requirements and restrictions.
The FDIC has a broad range of grounds under which it may appoint a
receiver or conservator for an insured depositary bank. If one or more
grounds exist for appointing a conservator or receiver for a bank, the FDIC
may require the bank to issue additional debt or stock, sell assets, be
acquired by a depository bank holding company or combine with another
depository bank. Under FDICIA, the FDIC is required to appoint a receiver
or a conservator for a critically undercapitalized bank within 90 days
after the bank becomes critically undercapitalized or to take such other
action that would better achieve the purposes of the prompt corrective
action provisions. Such alternative action can be renewed for successive
90-day periods. However, if the bank continues to be critically
undercapitalized on average during the quarter that begins 270 days after
it first became critically undercapitalized, a receiver must be appointed,
unless the FDIC makes certain findings that the bank is viable.
Community Reinvestment. Under the Community Reinvestment Act ("CRA"),
as implemented by FDIC regulations, a bank savings association has a
continuing and affirmative obligation consistent with its safe and sound
operation 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 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 the CRA. The CRA requires the FDIC, in connection with its
examination of a bank, to assess the bank's record of meeting the credit
needs of its community and to take such record into account in its
evaluation of certain applications by such bank. The CRA also requires all
institutions to make public disclosure of their CRA ratings. The Bank
received an "Outstanding" CRA rating in its most recent examinations from
both the FDIC and Commonwealth of Massachusetts.
The CRA regulations establish an assessment system that bases a
bank's rating on its actual performance in meeting community needs. In
particular, the assessment system focuses on three tests: (a) a lending
test, to evaluate the institution's record of making loans in its service
areas; (b) an investment test, to evaluate the institution's record of
investing in community development projects, affordable housing, and
programs benefitting low or moderate income individuals and businesses; and
(c) a service test, to evaluate the institution's delivery of services
through its branches, ATMs, and other offices. Small banks would be
assessed pursuant to a streamlined approach focusing on a lesser range of
information and performance standards. The term "small bank" is defined as
including banks with less than $250 million in assets or an affiliate of a
holding company with banking and thrift assets of less than $1 billion,
which would include the Bank.
Holding Company Regulation
Federal Regulation. The Company is subject to examination, regulation
and periodic reporting under the Bank Holding Company Act (the "BHCA"), as
administered by the Federal Reserve Board (the "FRB"). The FRB has adopted
capital adequacy guidelines for bank holding companies on a consolidated
basis substantially similar to those of the FDIC for the Bank. As of June
30, 1999, the Company's total capital and Tier 1 capital ratios exceeded
these minimum capital requirements.
The Company will be required to obtain the prior approval of the FRB
to acquire all, or substantially all, of the assets of any bank or bank
holding company. Prior FRB approval will be required for the Company to
acquire direct or indirect ownership or control of any voting securities of
any bank or bank holding company if, after giving effect to such
acquisition, it would, directly or indirectly, own or control more than 5%
of any class of voting shares of such bank or bank holding company.
The Company will be required to give the FRB prior written notice of
any purchase or redemption of its outstanding equity securities if the
gross consideration for the purchase or redemption, when combined with the
net consideration paid for all such purchases or redemptions during the
preceding 12 months, will be equal to 10% or more of the Company's
consolidated net worth. The FRB may disapprove such a purchase or
redemption if it determines that the proposal would constitute an unsafe
and unsound practice, or would violate any law, regulation, FRB order or
directive, or any condition imposed by, or written agreement with, the FRB.
Such notice and approval is not required for a bank holding company that
would be treated as "well capitalized" under applicable regulations of the
FRB, that has received a composite "1" or "2" rating at its most recent
bank holding company inspection by the FRB, and that is not the subject of
any unresolved supervisory issues.
The status of the Company as a registered bank holding company under
the BHCA does not exempt it from certain federal and state laws and
regulations applicable to corporations generally, including, without
limitation, certain provisions of the federal securities laws.
In addition, a bank holding company is generally prohibited from
engaging in, or acquiring direct or indirect control of any company engaged
in, non-banking activities. One of the principal exceptions to this
prohibition is for activities found by the FRB to be so closely related to
banking or managing or controlling banks as to be a proper incident
thereto. Some of the principal activities that the FRB has determined by
regulation to be so closely related to banking as to be a proper incident
thereto are: (i) making or servicing loans; (ii) performing certain data
processing services; (iii) providing discount brokerage services; (iv)
acting as fiduciary, investment or financial advisor, (v) leasing personal
or real property; (vi) making investments in corporations or projects
designed primarily to promote community welfare; and (vii) acquiring a
savings and loan association.
Under FIRREA, depository institutions are liable to the FDIC for
losses suffered or anticipated by the FDIC in connection with the default
of a commonly controlled depository institution or any assistance provided
by the FDIC to such an institution in danger of default. This law would
have potential applicability if the Company ever acquired as a separate
subsidiary a depository institution in addition to the Bank. There are no
current plans for such an acquisition.
Subsidiary banks of a bank holding company are subject to certain
quantitative and qualitative restrictions imposed by the Federal Reserve
Act on any extension of credit to, or purchase of assets from, or letter of
credit on behalf of, the bank holding company or its subsidiaries, and on
the investment in or acceptance of stocks or securities of such holding
company or its subsidiaries as collateral for loans. In addition,
provisions of the Federal Reserve Act and FRB regulations limit the amounts
of, and establish required procedures and credit standards with respect to,
loans and other extensions of credit to officers, directors and principal
shareholders of the Bank, the Company, any subsidiary of the Company and
related interests of such persons. Moreover, banks are prohibited from
engaging in certain tie-in arrangements (with the bank's parent holding
company or any of the holding company's subsidiaries) in connection with
any extension of credit, lease or sale of property or furnishing of
services.
Federal Home Loan Bank System
The Bank is a member of the FHLB System, which consists of 12
regional Federal Home Loan Banks subject to supervision and regulation by
the Federal Housing Finance Board ("FHFB"). The Federal Home Loan Banks
provide a central credit facility primarily for member institutions. As a
member of the FHLB, the Bank is required to acquire and hold shares of
capital stock in the FHLB in an amount equal to 1% of the aggregate unpaid
principal of its home mortgage loans, home purchase contracts, and similar
obligations, but not less than $500. The Bank was in compliance with this
requirement with an investment in FHLB stock at June 30, 1999, of
$1,080,000.
The FHLB serves as a reserve or central bank for its member
institutions within its assigned region. It is funded primarily from
proceeds derived from the sale of consolidated obligations of the FHLB
System. It offers advances to members in accordance with policies and
procedures established by the FHFB and the Board of Directors of the FHLB.
Long-term advances may only be made for the purpose of providing funds for
residential housing finance.
Federal Reserve System
Pursuant to regulations of the FRB, a bank must maintain average
daily reserves equal to 3% on the first $46.5 million of net transaction
accounts (subject to an exemption for the first $4.9 million), plus 10% on
the remainder. This percentage is subject to adjustment by the FRB. Because
required reserves must be maintained in the form of vault cash or in a non-
interest bearing account at a Federal Reserve Bank, the effect of the
reserve requirement is to reduce the amount of the institution's interest-
earning assets. As of June 30, 1999, the Bank met its reserve requirements.
Federal Securities Laws
The Company's Common Stock is registered with the SEC under Section
12(g) of the Securities Exchange Act of 1934, as amended (the "Exchange
Act"). Accordingly, the Company is subject to the information, proxy
solicitation, insider trading restrictions and other requirements of the
Exchange Act.
ITEM 2. PROPERTIES
The following table sets forth certain information at June 30, 1999
regarding the Bank's office facilities, which are owned by the Bank, with
the exception of the High School Educational Branch and Lexington office,
which are leased, and certain other information relating to its property at
that date.
Year Square Net Book
Completed Footage Value
--------- ------- --------
(In thousands)
Main Office 60 High Street 1931 7,000 $1,098
Medford, MA 02155
West Medford Office 430 High Street 1970 2,500 22
Medford, MA 0215
Salem Street Office 201 Salem Street 1995 3,500 920
Medford, MA 02155
Lexington Office 1793 Massachusetts Avenue 1998 2,500 138
Lexington, MA 02420
High School 489 Winthrop Street 1986 500 ---
Educational Branch Medford, MA 02155 ------
Net Book Value $2,178
======
The Bank also owns an office building adjacent to its main office,
located at 66 High Street, Medford, MA 02155, which had a net book value of
$1.7 million at June 30, 1999. The Bank uses a portion of the top floor of
this building to house some of its administrative and clerical services and
leases the remaining space to third-party tenants.
At June 30, 1999, the net book value of the Bank's computer equipment
and other furniture, fixtures and equipment at its existing offices totaled
$479,000. For more information, see Note 4 of the Notes to Consolidated
Financial Statements.
ITEM 3. LEGAL PROCEEDINGS
The Company is not involved in any pending legal proceedings other
than routine legal proceedings occurring in the ordinary course of
business. Such routine legal proceedings in the aggregate are believed by
management to be immaterial to the Company's financial condition and
results of operations.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
None.
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER
MATTERS
The Company's common stock is traded on the Nasdaq National Market
under the symbol "MYST." The table below shows the high and low sales price
during the periods indicated. The Bank's common stock began trading on
January 8, 1998, the date of the Conversion and initial public offering. At
June 30, 1999, the last trading date in the Company's fiscal year, the
Company's common stock closed at $11.875. At September 3, 1999, there were
2,444,878 shares of the Company's common stock outstanding, which were held
of record by approximately 1,014 stockholders, not including persons or
entities who hold the stock in nominee or "street" name through various
brokerage firms.
On July 14, 1999, the Board of Directors of the Company declared a
quarterly cash dividend of $.06 per share of common stock, which was paid
on August 17, 1999 to shareholders of record on July 30, 1999. On April 14,
1999, the Board of Directors of the Company declared a quarterly cash
dividend of $.06 per share of common stock, which was paid on May 17, 1999
to shareholders of record on April 30, 1999. On January 13, 1999, the Board
of Directors of the Company declared a quarterly cash dividend of $.05 per
share of common stock, which was paid on February 17, 1999 to shareholders
of record on January 29, 1999. On October 14, 1998, the Board of Directors
of the Company declared a quarterly cash dividend of $.05 per share of
common stock, which was paid on November 18, 1998 to shareholders of record
on October 30,1998. On July 8, 1998, the Board of Directors of the Company
declared a quarterly cash dividend of $.05 per share of common stock, which
was paid on August 14, 1998 to shareholders of record on July 30, 1998. On
April 8, 1998 the Board of Directors of the Company declared a quarterly
cash dividend of $.05 per share of common stock, which was paid on May 15,
1998 to shareholders of record on April 30, 1998.
The Board of Directors considers paying dividends, dependent on the
results of operations and financial condition of the Company, tax
considerations, industry standards, economic conditions, regulatory
restrictions and other factors. There are significant regulatory
limitations on the Company's ability to pay dividends depending on the
dividends it receives from its subsidiary, Medford Co-operative Bank, which
are subject to regulations and the Bank's continued compliance with all
regulatory capital requirements and the overall health of the institution.
Price Range Dividends
------------------ ---------
Quarter Ended High Low
------------- ---- ---
Fiscal year ended June 30, 1998:
Fourth Quarter ended June 30, 1998 $18.750 $13.875 $0.05
Third Quarter ended March 31, 1998 (1) 18.625 14.500 ---
Fiscal year ended June 30, 1999:
Fourth Quarter ended June 30, 1999 12.875 10.000 0.06
Third Quarter ended March 31, 1999 12.250 11.625 0.05
Second Quarter ended December 31, 1998 13.875 9.688 0.05
First Quarter ended September 30, 1998 14.875 10.750 0.05
- --------------------
Third quarter data is for the period of January 8, 1998 to March 31,
1998.
ITEM 6. SELECTED FINANCIAL DATA
The following table sets forth selected financial data concerning the
Company at the dates and for the years indicated. The following data is
qualified in its entirety by the detailed information and consolidated
financial statements appearing elsewhere in this Annual Report on Form 10-
K.
At or for the Years Ended June 30,
----------------------------------------------------------
1999 1998 1997 1996 1995
---- ---- ---- ---- ----
(Dollars in thousands, except per share data)
Balance sheet data:
Total assets $ 215,214 $199,049 $149,653 $131,366 $124,966
Loans, net 154,689 138,593 114,568 94,760 80,217
Investment securities:
Available for sale 31,772 14,749 3,819 1,568 1,463
Held to maturity 1,500 12,006 17,504 16,926 25,051
Deposits 160,867 144,766 129,303 119,634 113,825
Borrowings 18,978 16,505 7,532 --- ---
Total stockholders' equity 34,052 36,127 11,940 10,949 10,366
Asset quality data:
Non-performing loans --- 150 365 622 868
Allowance for loan losses 1,348 1,236 977 742 757
Foreclosed real estate $ --- $ --- $ --- $ --- $ 104
Number of:
Mortgage loans outstanding 1,626 1,548 1,384 1,329 1,236
Deposit accounts 19,644 18,920 18,809 18,465 17,753
Full-service offices 4 3 3 3 2
Number of employees:
Full-time 52 48 44 42 40
Part-time 21 21 22 22 15
Statement of income data:
Interest and dividend income $ 13,745 $ 12,210 $ 9,899 $ 8,928 $ 8,165
Interest expense 6,221 5,648 4,911 4,569 3,885
----------------------------------------------------------
Net interest income 7,524 6,562 4,988 4,359 4,280
Provision for loan losses 145 245 272 100 100
----------------------------------------------------------
Net interest income after provision
for loan losses 7,379 6,317 4,716 4,259 4,180
Other income 1,136 1,035 882 658 536
Operating expenses 6,042 4,774 4,330 3,878 3,576
----------------------------------------------------------
Income before income taxes 2,473 2,578 1,268 1,039 1,140
Provision for income taxes 971 1,031 527 440 480
----------------------------------------------------------
Net income $ 1,502 $ 1,547 $ 741 $ 599 $ 660
==========================================================
Per share data:
Weighted average shares outstanding 2,375,440 N/A N/A N/A N/A
Basic earnings per share $ 0.63 N/A N/A N/A N/A
Cash dividends paid per share 0.21 $ 0.05 N/A N/A N/A
Book value per share 15.06 14.50 N/A N/A N/A
Selected operating ratios:
Interest rate spread(1) 3.26% 3.54% 3.63% 3.48% 3.57%
Net interest margin(2) 3.96 4.05 3.84 3.67 3.73
Return on average assets 0.75 0.90 0.54 0.48 0.55
Return on average equity 4.29 6.70 6.40 5.53 6.46
Operating expenses as a percent of
average total assets 3.01 2.79 3.15 3.08 2.97
Efficiency ratio(3) 69.77 62.84 73.76 77.30 74.25
Asset quality ratios:
Non-performing loans as a percent
of net loans 0.00 0.11 0.32 0.66 1.08
Non-performing assets as a percent
of total assets 0.00 0.08 0.24 0.47 0.78
Allowance for loan losses as a percent
of non-performing loans N/A 824.00 267.67 119.29 87.21
Net charge-offs (recoveries) to
average loans 0.02 (0.01) 0.04 0.13 0.12
Capital ratios:
Average equity to average assets 17.48 13.48 8.42 8.60 8.47
Regulatory Tier I leverage capital ratio 16.05 19.07 8.08 8.51 8.45
Total equity to total assets 15.82 18.15 7.98 8.33 8.30
- --------------------
Interest rate spread represents the difference between weighted
average yield on interest-earning assets and the weighted average
cost of interest-bearing liabilities.
Net interest margin represents net interest income divided by average
interest-earning assets.
Operating expenses divided by the sum of net interest income and
other income.
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND
RESULTS OF OPERATIONS
General
Medford Co-operative Bank (the "Bank") completed its conversion from
a mutual to a stock institution and was simultaneously acquired by Mystic
Financial, Inc. ("Mystic" or the "Company") on January 8, 1998. The
following discussion and analysis should be read in conjunction with the
consolidated financial statements and related notes thereto included within
this report.
The Private Securities Litigation Reform Act of 1995 contains safe
harbor provisions regarding forward-looking statements. When used in this
discussion, the words "believes", "anticipates", "contemplates", "expects",
and similar expressions are intended to identify forward-looking
statements. Such statements are subject to certain risks and uncertainties
which could cause actual results to differ materially from those projected.
Those risks and uncertainties include changes in interest rates generally
and changes in real estate values and other economic conditions in eastern
Massachusetts, the Bank's principal market area. The Company undertakes no
obligation to publicly release the results of any revisions to those
forward-looking statements which may be made to reflect events or
circumstances after the date hereof or to reflect the occurrence of
unanticipated events.
The business of the Bank consists of attracting deposits from the
general public and using these funds to originate various types of loans
primarily in eastern Middlesex County, Massachusetts, including mortgage
loans secured by one- to four-family residences, commercial loans secured
by general business assets, commercial real estate loans secured by
commercial property, and to invest in U.S. Government and Federal Agency
and other securities. To a lesser extent, the Bank engages in various forms
of consumer and home equity lending.
The Company's profitability depends primarily on its net interest
income, which is the difference between the interest income it earns on its
loans and investment portfolio and its cost of funds, which consists mainly
of interest paid on deposits and on borrowings from the Federal Home Loan
Bank of Boston (the "FHLB"). Net interest income is affected by the
relative amounts of interest-earning assets and interest-bearing
liabilities and the interest rates earned or paid on these balances. When
interest-earning assets approximate or exceed interest-bearing liabilities,
any positive interest rate spread will generate net interest income.
The Company's profitability is also affected by the level of other
(noninterest) income and operating expenses. Other income consists
primarily of service fees, loan servicing and other loan fees and gains on
sales of investment securities. Operating expenses consist of salaries and
benefits, occupancy related expenses, and other general operating expenses.
The operations of the Bank, and banking institutions in general, are
significantly influenced by general economic conditions and related
monetary and fiscal policies of financial institution's regulatory
agencies. Deposit flows and the cost of funds are influenced by interest
rates on competing investments and general market rates of interest.
Lending activities are affected by the demand for financing real estate and
other types of loans, which in turn are affected by the interest rates at
which such financing may be offered and other factors affecting loan demand
and the availability of funds.
Business Strategy
The Bank's business strategy is to operate as a well-capitalized,
profitable and independent community bank dedicated to financing home
ownership, small business and consumer needs in its market area and
providing quality service to its customers. The Bank has implemented this
strategy by: (i) monitoring the needs of customers and providing quality
service; (ii) emphasizing consumer-oriented banking by originating
residential mortgage loans and consumer loans, and by offering various
deposit accounts and other financial services and products; (iii) recently
increasing its emphasis on commercial banking and lending by originating
loans for small businesses and providing greater services in its commercial
and commercial real estate loan department; (iv) maintaining high asset
quality through conservative underwriting; and (v) producing stable
earnings.
Asset/Liability Management
A principal operating objective of the Bank is to produce stable
earnings by achieving a favorable interest rate spread that can be
sustained during fluctuations in prevailing interest rates. Since the
Bank's principal interest-earning assets have longer terms to maturity than
its primary source of funds, i.e., deposit liabilities, increases in
general interest rates will generally result in an increase in the Bank's
cost of funds before the yield on its asset portfolio adjusts upward. The
Bank has sought to reduce its exposure to adverse changes in interest rates
by attempting to achieve a closer match between the periods in which its
interest-bearing liabilities and interest-earning assets can be expected to
reprice through the origination of adjustable-rate mortgages and loans with
shorter terms and the purchase of other shorter term interest-earning
assets.
The term "interest rate sensitivity" refers to those assets and
liabilities which mature and reprice periodically in response to
fluctuations in market rates and yields. As noted above, one of the
principal goals of the Bank's asset/liability program is to maintain and
match the interest rate sensitivity characteristics of the asset and
liability portfolios.
In order to properly manage interest rate risk, the Bank's Board of
Directors has established an Asset/Liability Management Committee ("ALCO")
made up of members of management to monitor the difference between the
Bank's maturing and repricing assets and liabilities and to develop and
implement strategies to decrease the "negative gap" between the two. The
primary responsibilities of the committee are to assess the Bank's
asset/liability mix, recommend strategies to the Board that will enhance
income while managing the Bank's vulnerability to changes in interest rates
and report to the Board the results of the strategies used.
Since the early 1980s, the Bank has stressed the origination of
adjustable-rate residential mortgage loans and adjustable-rate home equity
loans. The Bank regularly sells fixed rate loans with terms in excess of 15
years. Since 1995, the Bank has also emphasized commercial loans with
short-term maturities or repricing intervals as well as commercial real
estate mortgages with short-term repricing intervals. In addition, the Bank
has used borrowings from the FHLB to match-fund the maturity or repricing
interval of several larger commercial real estate mortgages. At June 30,
1999, the Bank's loan portfolio included $47.1 million of adjustable-rate
one-to four-family mortgage loans, $30.9 million of adjustable-rate
commercial real estate loans, $3.1 million of adjustable-rate or short-term
commercial loans, and $2.1 million of adjustable-rate home equity loans.
Together, these loans represent 53.8% of the Bank's net loans at June 30,
1999. See "Business-Lending Activities."
In the future, in managing its interest rate sensitivity, the Bank
intends to continue to stress the origination of adjustable-rate mortgages
when possible and loans with shorter maturities and the maintenance of a
consistent level of short-term securities.
Interest Rate Sensitivity Analysis
The matching of assets and liabilities may be analyzed by examining
the extent to which such assets and liabilities are "interest rate
sensitive" and by monitoring an institution's interest rate sensitivity
"gap." An asset or liability is said to be interest rate sensitive within a
specific time period if it will mature or reprice within that period. The
interest rate sensitivity gap is defined as the difference between the
amount of interest-earning assets maturing or repricing within a specific
time period and the amount of interest-bearing liabilities maturing or
repricing within that same time period. A gap is considered positive when
the amount of interest rate sensitive assets exceeds the amount of interest
rate sensitive liabilities, and is considered negative when the amount of
interest rate sensitive liabilities exceeds the amount of interest rate
sensitive assets. Generally, during a period of rising interest rates, a
negative gap would adversely affect net interest income while a positive
gap would result in an increase in net interest income, while conversely,
during a period of falling interest rates, a negative gap would result in
an increase in net interest income and a positive gap would negatively
affect net interest income.
The following table sets forth the amounts of interest-earning assets
and interest-bearing liabilities outstanding at June 30, 1999 which are
expected to mature or reprice in each of the time periods shown. In the
table, investment securities held to maturity are presented at amortized
cost; other interest-earning assets include marketable equity securities,
FHLB stock, due from Co-operative Central Bank, federal funds sold and
other short-term investments; fixed rate one-to four-family loans,
adjustable rate one-to four-family loans, commercial real estate loans, and
commercial loans do not include any amortization or prepayment amounts.
Money market accounts, NOW accounts, regular and other deposits are shown
to mature or reprice within a three month time period based on the
contractual status of each type of account.
At June 30, 1999
---------------------------------------------------------------------------------------------------
Over Three Over Six Months Over One Over Three
Three Months Through Six Through One Through Three Through Seven Over Seven
or less Months Year Years Years Years Total
------------ ----------- --------------- ------------- ------------- ---------- -----
(Dollars in thousands)
Interest-earning assets:
Investment securities held
to maturity $ 500 $ 500 $ 500 $ --- $ --- $ --- $ 1,500
Investment securities
available for sale,
at fair value 10,456 2,481 5,413 6,475 3,700 --- 28,525
Other interest-earning
assets 17,535 --- --- --- --- --- 17,535
Adjustable-rate one- to
four-family loans 1,525 2,702 4,041 12,298 26,557 --- 47,123
Fixed-rate one- to four-
family loans 16 1 21 263 1,901 57,891 60,093
Commercial real estate
loans 485 1,809 4,084 7,918 17,764 1,920 33,980
Commercial loans 4,068 4 64 1,128 1,845 --- 7,109
Home equity loans 2,076 --- --- --- --- --- 2,076
Consumer loans 510 685 351 --- --- --- 1,546
Construction loans, net --- --- 2,907 1,215 --- --- 4,122
--------------------------------------------------------------------------------------------------
Total interest-earning
assets 37,171 8,182 17,381 29,297 51,767 59,811 203,609
--------------------------------------------------------------------------------------------------
Interest-bearing liabilities:
Certificates of deposit 16,703 17,033 28,364 12,485 442 --- 75,027
Money market accounts 7,020 --- --- --- --- --- 7,020
NOW accounts 29,361 --- --- --- --- --- 29,361
Regular and other deposits 40,903 --- --- --- --- --- 40,903
FHLB borrowings --- 1,200 1,200 2,950 7,500 6,128 18,978
--------------------------------------------------------------------------------------------------
Total interest-bearing
liabilities 93,987 18,233 29,564 15,435 7,942 6,128 171,289
--------------------------------------------------------------------------------------------------
Interest rate sensitivity
gap $(56,816) $(10,051) $(12,183) $ 13,862 $ 43,825 $53,683 $ 32,320
==================================================================================================
Cumulative interest rate
sensitivity gap $(56,816) $(66,867) $(79,050) $(65,188) $(21,363) $32,320 $ 32,320
==================================================================================================
Cumulative ratio of
interest-earning assets to
interest-bearing liabilities 39.5% 40.4% 44.2% 58.5% 87.1% 118.9% 118.9%
Ratio of cumulative interest
rate sensitivity gap to
total interest-earning
assets (27.9)% (32.8)% (38.8)% (32.0)% (10.5)% 15.9% 15.9%
Ratio of cumulative interest
rate sensitivity gap to
total assets (26.4)% (31.1)% (36.7)% (30.3)% (9.9)% 15.0% 15.0%
Management believes the current one-year gap of negative 36.7%
presents a risk to the net interest income should a sustained increase
occur in the current level of interest rates. If interest rates increase,
the Bank's negative one-year gap should cause the net interest margin to
decrease. A conservative interest rate risk-gap policy provides a stable
net interest income margin. Accordingly, management emphasizes a structured
schedule of investment securities with greater emphasis on maturities and
repricings within one year. It is possible that the actual interest rate
sensitivity of the Bank's assets and liabilities could vary significantly
from the information set forth in the table due to market and other
factors.
Certain shortcomings are inherent in the method of analysis presented
above. Although certain assets and liabilities may have similar maturity or
periods of repricing, they may react in different degrees to changes in the
market interest rates. The interest rates on certain types of assets and
liabilities may fluctuate in advance of changes in market interest rates,
while rates on other types of assets and liabilities may lag behind changes
in market interest rates. Certain assets, such as adjustable-rate
mortgages, generally have features which restrict changes in interest rates
on a short-term basis and over the life of the asset. In the event of a
change in interest rates, prepayments and early withdrawal levels would
likely deviate significantly from those assumed in calculating the table.
Additionally, an interest rate increase may make it more difficult for
borrowers to service their debt, thereby increasing the credit risk in the
Bank's loan portfolio.
Average Balances, Interest and Average Yields
The following tables set forth certain information relating to the
Company's average balance sheet and reflect the average yield on assets and
average cost of liabilities for the periods indicated and the average
yields earned and rates paid for the periods indicated. Such yields and
costs are derived by dividing income or expense by the average monthly
balances of assets and liabilities, respectively, for the periods
presented. Average balances are derived from daily balances. Loans on
nonaccrual status are included in the average balances of loans shown in
the table. Interest earned on loan portfolios is net of reserves for
uncollected interest. The investment securities in the following table are
presented at amortized cost.
Years Ended June 30,
---------------------------------------------------------------------------------------------
1999 1998 1997
----------------------------- ----------------------------- -----------------------------
Interest Average Interest Average Interest Average
Average Earned Yield/ Average Earned Yiled/ Average Earned Yield/
Balance or Paid Rate Balance or Paid Rate Balance or Paid Rate
------- -------- ------- ------- -------- ------- ------- ------- -------
(Dollars in thousands)
Interest-earning assets:
Loans, net $144,663 $11,377 7.86% $124,971 $10,183 8.15% $103,223 $8,397 8.13%
Investments 25,077 1,388 5.53% 22,318 1,248 5.59% 20,686 1,208 5.84%
Other earning assets(1) 20,282 980 4.83% 14,886 779 5.23% 5,896 294 4.99%
------------------ ------------------ -----------------
Total interest-earning assets 190,022 13,745 7.23% 162,175 12,210 7.53% 129,805 9,899 7.63%
------- ------- ------
Cash and due from banks 3,999 2,908 2,188
Other assets 6,438 6,151 5,638
-------- -------- --------
Total assets $200,459 $171,234 $137,631
======== ======== ========
Interest-bearing liabilities:
Regular and other deposits $ 40,630 991 2.44% $ 43,108 1,118 2.59% $ 40,419 1,114 2.76%
Now accounts 23,297 379 1.63% 21,608 349 1.62% 15,710 281 1.79%
Money market deposits 6,745 172 2.55% 6,577 173 2.63% 6,070 157 2.59%
Certificates of deposit 67,464 3,575 5.30% 57,990 3,258 5.62% 57,223 3,148 5.50%
------------------ ------------------ -----------------
Total interest-bearing
deposits 138,136 5,117 3.70% 129,283 4,898 3.79% 119,422 4,700 3.94%
FHLB borrowings 18,620 1,104 5.93% 12,231 750 6.13% 3,289 211 6.42%
------- ------- ------
Total interest-bearing
liabilities 156,756 6,221 3.97% 141,514 5,648 3.99% 122,711 4,911 4.00%
Demand deposit accounts 7,530 5,763 3,056
Other liabilities 1,134 871 277
-------- -------- --------
Total liabilities 165,420 148,148 126,044
Stockholders' equity 35,039 23,086 11,587
-------- -------- --------
Total liabilities and
stockholders' equity $200,459 $171,234 $137,631
======== ======== ========
Net interest income $ 7,524 $ 6,562 $4,988
======= ======= ======
Interest rate spread 3.26% 3.54% 3.63%
Net interest margin 3.96% 4.05% 3.84%
Interest-earning assets/
interest-bearing liabilities 1.21x 1.15x 1.06x
- --------------------
Other earning assets include Bank Investment Fund Liquidity Fund,
FHLB overnight deposits, federal funds sold, the Co-operative Central
Reserve Fund and money market accounts.
Rate/Volume Analysis
The following table sets forth certain information regarding changes
in interest income and interest expense of the Company for the periods
indicated. For each category of interest-earning asset and interest-bearing
liability, information is provided on changes attributable to: (i) changes
in volume (changes in volume multiplied by old rate); and (ii) changes in
rates (change in rate multiplied by old volume). Changes in rate-volume
(changes in rate multiplied by the changes in volume) are allocated between
changes in rate and changes in volume.
Year Ended June 30, Year Ended June 30,
1999 vs 1998 1998 vs 1997
Increase (decrease) Increase (decrease)
------------------------- --------------------------
Due to Due to
------------------------- -------------------------
Rate Volume Total Rate Volume Total
---- ------ ----- ---- ------ -----
(In thousands)
Interest and dividend income:
Loans, net $(364) $1,558 $1,194 $ 21 $1,765 $1,786
Investments (12) 152 140 (53) 93 40
Other earning assets (63) 264 201 15 470 485
--------------------------------------------------------
Total (439) 1,974 1,535 (17) 2,328 2,311
--------------------------------------------------------
Interest expense:
Deposits (111) 330 219 (183) 381 198
Borrowed funds (26) 380 354 (9) 548 539
--------------------------------------------------------
Total (137) 710 573 (192) 929 737
--------------------------------------------------------
Change in net interest income $(302) $1,264 $ 962 $ 175 $1,399 $1,574
========================================================
Financial Condition and Results of Operations
The Company's operating results depend primarily upon its net
interest income, which is the difference between the interest income earned
on its interest-bearing assets (loans and investment securities), and the
interest expense paid on its interest-bearing liabilities (deposits and
FHLB borrowings). Operating results are also significantly affected by
provisions for loan losses, other income and operating expenses. Each of
these factors is significantly affected not only by the Company's policies,
but, to varying degrees, by general economic and competitive conditions and
by policies of state and federal regulatory authorities.
Comparison of Financial Condition at June 30, 1999 and June 30, 1998
The Company's total assets amounted to $215.2 million at June 30,
1999 compared to $199.0 million at June 30, 1998, an increase of $16.2
million or 8.1%. The increase in total assets is primarily attributable to
an increase in net loans of $16.1 million and an increase in investment
securities of $6.6 million, partially offset by a decrease in cash and cash
equivalents of $7.3 million.
Cash and cash equivalents was $18.7 million at June 30, 1999 compared
to $26.0 million at June 30, 1998. Cash and cash equivalents decreased at
June 30, 1999 due to a decrease of $5.1 million in federal funds sold to
$11.7 million at June 30, 1999 from $16.8 million at June 30, 1998. The
decrease in federal funds sold was caused by a decrease in the liquidity
needed for a large deposit relationship with a law firm which maintains
short-term deposits in real estate conveyancing accounts and has
significant fluctuations in its deposit account balances, particularly at
month-ends.
Net loans increased by $16.1million or 11.6% to $154.7 million or
71.9% of total assets at June 30, 1999 as compared to $138.6 million or
69.6% of total assets at June 30, 1998 as the Bank continued its emphasis
on originating and retaining residential mortgage loans and commercial and
commercial real estate loans. Investment securities held by the Company
increased by $6.6 million or 23.8% to $34.4 million at June 30, 1999 from
$27.8 million at June 30, 1998. The increase in the Company's investment
portfolio reflects the Company's decision to invest a greater portion of
its assets in short and medium term investment securities.
Total deposits increased by $16.1 million or 11.1% to $160.9 million
at June 30, 1999 from $144.8 million at June 30, 1998. The increase
occurred primarily in certificates of deposit as a result of deposit
promotions and the opening of the Bank's new office in Lexington,
Massachusetts in November 1998.
Total borrowings increased by $2.5 million to $19.0 million at June
30, 1999 from $16.5 million at June 30, 1998. The Company's continued use
of borrowed funds reflects additional funding needed to support its growth
in net loans. In addition, the Bank has secured longer-term borrowed funds
with original maturities ranging up to 15 years in order to fund longer-
term assets and improve its interest rate risk.
Stockholders' equity decreased by $2.1 million to $34.0 million at
June 30, 1999 from $36.1 million at June 30, 1998 because of an increase in
treasury stock of $3.5 million resulting from the repurchase of common
stock, dividends paid of $547,000, and a reduction in the net unrealized
gain on securities available for sale of $38,000, offset by net income of
$1.5 million and a reduction in unearned ESOP shares of $494,000.
Comparison of the Operating Results for the Years Ended June 30, 1999 and
1998
Net Income. Net income was $1,502,000 for the year ended June 30,
1999 as compared to $1,547,000 for the year ended June 30, 1998. This
$45,000 decrease in net income during the period was the result of an
increase of $1.1 million in net interest income after provision for loan
losses and an increase in other income of $101,000, offset by an increase
in operating expenses of $1.3 million. The return on average assets for
the year ended June 30, 1999 was .75% compared to .90% for the year ended
June 30, 1998. The return on average equity for the year ended June 30,
1999 was 4.29% compared to 6.70% for the year ended June 30, 1998.
Interest Income. Total interest and dividend income increased by $1.5
million or 12.6% to $13.7 million for the year ended June 30, 1999 from
$12.2 million for the year ended June 30, 1998. The increase in interest
income was primarily the result of a higher level of loans, investment
securities, and other earning assets. The average balance of net loans for
the year ended June 30, 1999 was $144.7 million compared to $125.0 million
for the year ended June 30, 1998. The average yield on net loans was 7.86%
for the year ended June 30, 1999 compared to 8.15% for the year ended June
30, 1998.
Interest Expense. Total interest expense increased by $573,000 or
10.1% to $6.2 million for the year ended June 30, 1999 from $5.6 million
for the year ended June 30, 1998. The reason for the increase in interest
expense was the increase in the overall deposit balances as well as an
increase in Federal Home Loan Bank of Boston borrowings. Average interest-
bearing deposits increased by $8.9 million or 6.8% to $138.1 million for
the year ended June 30, 1999. Average borrowings increased by $6.4 million
to $18.6 million for the year ended June 30, 1999 from $12.2 million for
the year ended June 30, 1998. The average rate on interest bearing deposits
decreased 9 basis points to 3.70% for the year ended June 30, 1999 from
3.79% for the year ended June 30, 1998, while the average rate on borrowed
funds decreased 20 basis points to 5.93% from 6.13% during the same period.
Net Interest Income. Net interest income for the year ended June 30,
1999 was $7.5 million as compared to $6.6 million for the year ended June
30, 1998. The $962,000 or 14.7% increase is attributed to the $1.5 million
increase in interest and dividend income partially offset by the $573,000
increase in interest expense on deposits and borrowed funds. The average
yield on interest earning assets decreased 30 basis points to 7.23% for the
year ended June 30, 1999 from 7.53% for the year ended June 30, 1998, while
the average cost on interest-bearing liabilities decreased by 2 basis
points to 3.97% for the year ended June 30, 1999 from 3.99% for the year
ended June 30, 1998. As a result, the interest rate spread decreased to
3.26% for the year ended June 30, 1999 from 3.54% for the year ended June
30, 1998. The interest rate spread declined due to interest rates on
interest-earning assets falling more quickly than interest rates on
interest-bearing liabilities during a period of generally falling interest
rates. The Company's net loans to total assets ratio increased to 71.9% at
June 30, 1999 from 69.6% at June 30, 1998 as a result of growth in loan
originations and an increase in loan portfolio retention.
Provision for Loan Losses. The provision for loan losses was $145,000
for the year ended June 30, 1999 as compared to $245,000 for the year ended
June 30, 1998. The decrease reflects the low amount of delinquent and non-
performing loans. At June 30, 1999, the balance of the allowance for loan
losses was $1,348,000 or .86% of total loans. During the year ended June
30, 1999, $36,000 was charged against allowance for loan losses while
$3,000 in recoveries was credited to the allowance for loan losses. At June
30, 1998, the balance of the allowance for loan losses was $1,236,000 or
.88% of total loans. During the year ended June 30, 1998, $2,000 was
charged against allowance for loan losses while $16,000 in recoveries was
credited to the allowance for loan losses. There were no non-performing
loans at June 30, 1999. At June 30, 1998, non-performing loans were
$150,000.
Other Income. Other income was $1.1 million for the year ended June
30, 1999 compared to $1.0 million for the year ended June 30, 1998. The
$101,000 or 9.8% increase was primarily the result of an increase in the
gain on the sale of mortgage loans of $65,000, an increase in the gain on
the sale of investment securities of $15,000, and an increase in
miscellaneous income of $28,000, partially offset by a decrease in net
rental income of $20,000.
Operating Expenses. Operating expenses increased by $1.3 million or
26.6% to $6.1 million for the year ended June 30, 1999 from $4.8 million
for the year ended June 30, 1998. Salaries and employee benefits increased
by $504,000, of which $116,000 was attributable to a full year's worth of
expense for the Company's Employee Stock Ownership Plan ("ESOP"), $94,000
was attributable to the Company's adoption of a Recognition and Retention
Plan in March 1999, and $74,000 was attributable to accrued expense for
supplemental benefits to the Company's Chief Executive Officer. Salaries
and benefits also increased because of the opening of a new full-service
office in Lexington, Massachusetts in November 1998 and normal salary
increases. Occupancy and equipment expense increased by $115,000 due to
rental expense, real estate taxes, and equipment depreciation costs
associated with the opening of the Lexington office. Data processing
expense increased by $72,000 due to higher loan and deposit activity, Year
2000 costs, and the opening of the Lexington office. Other general and
administrative expenses increased by $577,000 as a result of promotional
and other operating costs associated with the Lexington office, increased
marketing and advertising expenses, and higher professional fees and
liability insurance costs from operating as a public company. Annual
operating expenses are expected to increase in future periods due to the
increased cost of operating as a publicly held stock institution.
Comparison of Financial Condition at June 30, 1998 and June 30, 1997
The Company's total assets amounted to $199.0 million at June 30,
1998 compared to $149.7 million at June 30, 1997, an increase of $49.4
million or 33.0%. The increase in total assets is primarily attributable to
a $3.7 million increase in cash and due from banks, a $14.7 million
increase in federal funds sold, a $1.4 million increase in short-term
investments, a $5.4 million increase in investment securities, and an
increase in net loans of $24.0 million.
Cash and due from banks was $7.6 at June 30, 1998 compared to $4.0
million at June 30, 1997. Federal funds sold were $16.8 million at June 30,
1998 compared to $2.1 million at June 30, 1997. Short-term investments were
$1.6 million at June 30, 1998 compared to $197,000 at June 30, 1997. Cash
and due from banks, federal funds sold and short-term investments increased
at June 30, 1998 due to proceeds from the stock offering and the Company's
need to maintain liquidity for a large deposit relationship with a law firm
which maintains short-term deposits in real estate conveyancing accounts
and has significant fluctuations in its deposit account balances.
Net loans increased by $24.0 million or 21.0% to $138.6 million or
69.6% of total assets at June 30, 1998 as compared to $114.6 million or
76.6% of total assets at June 30, 1997 as the Bank continued its emphasis
on originating and retaining residential mortgage loans and commercial and
commercial real estate loans. The percentage of net loans to total assets
declined at June 30, 1998 despite the increase in net loans because of the
increase in the Company's total assets. Investment securities held by the
Company increased by $5.4 million or 25.5% to $26.8 million at June 30,
1998 from $21.3 million at June 30, 1997. The increase in the Company's
investment portfolio reflects the Company's decision to invest a portion of
the offering proceeds in short and medium term investment securities.
Total deposits increased by $15.5 million or 12.0% to $144.8 million
at June 30, 1998 from $129.3 million at June 30, 1997 as a result of a
general increase in deposit balances. A significant portion of the increase
in total deposits was due to a large deposit relationship with a law firm
which maintains short-term deposits in real estate conveyancing accounts.
Total borrowings increased by $9.0 million to $16.5 million at June
30, 1998 from $7.5 million at June 30, 1997. The Company's continued use of
borrowed funds reflects additional funding needed to support its growth in
net loans. Net loan growth exceeded the increase in total deposits by $8.6
million from June 30, 1997 through June 30, 1998. The Company and the Bank
each received approximately one-half of the net proceeds from the stock
offering and the Bank's portion of such proceeds was applied towards
funding the growth in net loans and improving the Bank's liquidity. In
addition, the Bank has secured longer-term borrowed funds with original
maturities ranging up to 15 years in order to fund longer-term assets and
improve its interest rate risk.
Stockholders' equity increased by $24.2 million to $36.1 million at
June 30, 1998 from $11.9 million at June 30, 1997 as a result of net
proceeds from the issuance of common stock of $25.7 million, net income of
$1,547,000 and an increase in the net unrealized gain on securities
available for sale of $253,000. These increases were partially offset by
the Company's $3.2 million loan to the Employee Stock Ownership Plan
("ESOP") and dividend payment of $135,000.
Comparison of the Operating Results for the Years Ended June 30, 1998 and
1997
Net Income. Net income was $1,547,000 for the year ended June 30,
1998 as compared to $741,000 for the year ended June 30, 1997. This
$806,000 increase in net income during the period was the result of an
increase of $1.6 million in net interest income after provision for loan
losses and an increase in other income of $153,000, partially offset by an
increase in operating expenses of $444,000 and an increase in income taxes
of $504,000. The return on average assets for the year ended June 30, 1998
was .90% compared to .54% for the year ended June 30, 1997. The return on
average equity for the year ended June 30, 1998 was 6.70% compared to 6.40%
for the year ended June 30, 1997.
Interest Income. Total interest and dividend income increased by $2.3
million or 23.3% to $12.2 million for the year ended June 30, 1998 from
$9.9 million for the year ended June 30, 1997. The increase in interest
income was primarily the result of a higher level of loans. The average
balance of net loans for the year ended June 30, 1998 was $125.0 million
compared to $103.2 million for the year ended June 30, 1997. The average
yield on net loans was 8.15% for the year ended June 30, 1998 compared to
8.13% for the year ended June 30, 1997.
Interest Expense. Total interest expense increased by $737,000 or
15.0% to $5.6 million for the year ended June 30, 1998 from $4.9 million
for the year ended June 30, 1997. The reason for the increase in interest
expense was the increase in the overall deposit balances as well as an
increase in Federal Home Loan Bank of Boston borrowings. Average interest-
bearing deposits increased by $9.9 million or 8.3% to $129.3 million for
the year ended June 30, 1998. Average borrowings increased by $8.9 million
to $12.2 million for the year ended June 30, 1998 from $3.3 million for the
year ended June 30, 1997. The average rate on interest bearing deposits
decreased 15 basis points to 3.79% for the year ended June 30, 1998 from
3.94% for the year ended June 30, 1997, while the average rate on borrowed
funds decreased 29 basis points to 6.13% from 6.42% during the same period.
Net Interest Income. Net interest income for the year ended June 30,
1998 was $6.6 million as compared to $5.0 million for the year ended June
30, 1997. The $1.6 million or 31.6% increase is attributed to $2.3 million
increase in interest and dividend income partially offset by the $737,000
increase in interest expense on deposits and borrowed funds. The average
yield on interest earning assets decreased 10 basis points to 7.53% for the
year ended June 30, 1998 from 7.63% for the year ended June 30, 1997, while
the average cost on interest-bearing liabilities decreased by 1 basis point
to 3.99% for the year ended June 30, 1998 from 4.00% for the year ended
June 30, 1997. As a result, the interest rate spread decreased to 3.54% for
the year ended June 30, 1998 from 3.63% for the year ended June 30, 1997.
The interest rate spread declined due to the receipt of net conversion
proceeds which have been invested in federal funds sold, short-term
investments and investment securities at interest rates lower than the
Company's average yield on loans. The Company's net loans to total assets
ratio declined to 69.6% at June 30, 1998 from 76.6% at June 30, 1997 as a
result of the conversion proceeds being invested in federal funds sold,
short-term investments and investment securities and the growth in total
assets.
Provision for Loan Losses. The provision for loan losses was $245,000
for the year ended June 30, 1998 as compared to $272,000 for the year ended
June 30, 1997. The decrease reflects the low amount of delinquent and non-
performing loans. At June 30, 1998, the balance of the allowance for loan
losses was $1,236,000 or .88% of total loans. During the year ended June
30, 1998, $2,000 was charged against allowance for loan losses while
$16,000 in recoveries was credited to the allowance for loan losses. At
June 30, 1997, the balance of the allowance for loan losses was $977,000 or
.85% of total loans. During the year ended June 30, 1997, $57,000 was
charged against allowance for loan losses while $20,000 in recoveries was
credited to the allowance for loan losses. Non-performing loans at June 30,
1998 and 1997 were $150,000 and $365,000, respectively.
Other Income. Other income was $1.0 million for the year ended June
30, 1998 compared to $882,000 for the year ended June 30, 1997. The
$153,000 or 17.3% increase was primarily the result of an increase in the
gain on the sale of mortgage loans of $27,000, an increase in the gain on
the sale of investment securities of $59,000, and an increase in
miscellaneous income of $31,000.
Operating Expenses. Operating expenses increased by $444,000 or 10.3%
to $4.8 million for the year ended June 30, 1998 from $4.3 million for the
year ended June 30, 1997. Salaries and employee benefits increased by
$214,000, of which $163,000 was attributable to the Company's adoption of
an Employee Stock Ownership Plan ("ESOP"). Occupancy and equipment expense
increased by $67,000 due to higher equipment depreciation costs. Data
processing expense increased by $50,000 due to higher loan and deposit
activity as well as Year 2000 costs. Other general and administrative
expenses increased by $113,000 as a result of higher professional fees and
liability insurance costs from operating as a public company. Annual
operating expenses are expected to increase in future periods due to the
increased cost of operating as a publicly held stock institution.
Liquidity and Capital Resources
The Bank's primary sources of funds consist of deposits, borrowings,
repayment and prepayment of loans, sales and participations of loans,
maturities of investments and interest-bearing deposits, and funds provided
from operations. While scheduled repayments of loans and maturities of
investment securities are predictable sources of funds, deposit flows and
loan prepayments are greatly influenced by the general level of interest
rates, economic conditions, and competition. The Bank uses its liquidity
resources primarily to fund existing and future loan commitments, to fund
net deposit outflows, to invest in other interest-earning assets, to
maintain liquidity and to meet operating expenses.
The Bank is required to maintain adequate levels of liquid assets.
This guideline, which may be varied depending upon economic conditions and
deposit flows, is based upon a percentage of deposits and short-term
borrowings. The Bank has historically maintained a level of liquid assets
in excess of regulatory requirements. The Bank's liquidity ratio at June
30, 1999 was 32.2%. The Bank began using FHLB borrowings in 1997 to augment
its liquidity as its loan originations have continued to increase since
1996.
A major portion of the Bank's liquidity consists of cash and cash
equivalents, short-term U.S. Government and Federal Agency obligations, and
corporate bonds. The level of these assets is dependent upon the Bank's
operating, investing, lending and financing activities during any given
period.
The primary investing activities of the Bank include origination of
loans and purchase of investment securities. During the year ended June 30,
1999, loan originations and purchases totaled $72.3 million while purchases
of investment securities and FHLB stock totaled $25.5 million. These
investments were funded primarily from loan repayments and loan sales of
$56.0 million, investment security maturities and calls of $18.0 million,
net deposit increases of $16.1 million, a net increase in borrowings of
$2.5 million.
Liquidity management is both a daily and long-term function of
management. If the Bank requires funds beyond its ability to generate them
internally, the Bank believes it could borrow additional funds from the
FHLB. At June 30, 1999, the Bank had borrowings of $19.0 million from the
FHLB.
At June 30, 1999, the Bank had $14.8 million in outstanding
commitments to originate loans and unadvanced funds on lines of credit and
credit card loans. The Bank anticipates that it will have sufficient funds
available to meet its current loan commitments. Certificates of deposit
which are scheduled to mature in one year or less totaled $62.1 million at
June 30, 1999. Based upon historical experience, management believes that a
significant portion of such deposits will remain with the Bank.
At June 30, 1999, the Company and the Bank exceeded all of their
regulatory capital requirements. For further information regarding the
Company's and the Bank's regulatory capital at June 30, 1999, see
"Regulation-Federal Banking Regulations-Capital Requirements."
Impact of Inflation and Changing Prices
The consolidated financial statements and related data presented
herein have been prepared in accordance with generally accepted accounting
principles, which require the measurement of financial position and results
of operations in terms of historical dollars without considering changes in
the relative purchasing power of money over time because of inflation.
Unlike most industrial companies, virtually all of the assets and
liabilities of the Bank are monetary in nature. As a result, interest rates
have a more significant impact on the Bank's performance than the effects
of general levels of inflation. Interest rates do not necessarily move in
the same direction or in the same magnitude as the prices of goods and
services.
Impact of New Accounting Standards
In June of 1997, the Financial Accounting Standards Board ("FASB")
issued Statement of Financial Accounting Standards No. 130, "Reporting
Comprehensive Income" ("SFAS 130"). SFAS 130 is effective for fiscal years
beginning after December 15, 1997. Accounting principles generally require
all recognized revenue, expenses, gains and losses to be included in net
income. Various FASB statements, however, require companies to report
certain changes in assets and liabilities as a separate component of the
equity section of the balance sheet such as unrealized gains and losses on
available for sale securities. This such item, along with net income, is a
component of comprehensive income.
It is required under SFAS 130 that all items of comprehensive income
are to be reported in a "financial statement" that is displayed with the
same prominence as other financial statements. Additionally, SFAS 130
requires the classification of items comprising other comprehensive income
by their nature, and the accumulated balance of other comprehensive income
must be displayed separately from retained earnings and additional paid-in
capital in the equity section of the balance sheet. Management adopted this
new disclosure requirement as of July 1, 1998.
Also, in June of 1997, the FASB issued Statement of Financial
Accounting Standards No. 131, "Disclosures about Segments of an Enterprise
and Related Information," ("SFAS 131"). SFAS 131 is effective for financial
statements for periods beginning after December 15, 1997. SFAS 131
establishes standards for the way that public companies report information
about operating segments in annual financial statements and selected
information about operating segments in interim financial reports issued to
shareholders. It also establishes standards for related disclosures about
products and services, geographic areas and major customers. Generally,
financial information is required to be reported on the basis that it is
used internally for evaluating segment performance and deciding how to
allocate resources to segments.
SFAS 131 also requires companies to report information about the way
that the operating segments were determined, the product and services
provided by the operating segments, differences between the measurements
used in reporting segment information and those used by the company in its
general purpose financial statements, and changes in the measurement of
segment amounts from period to period. The Company's operations are managed
and financial performance is evaluated on a Company-wide basis.
Accordingly, all of the Company's banking operations are considered by
management to be aggregated in one reportable segment.
In June 1998, the FASB issued Statement of Financial Accounting
Standards No. 133, "Accounting for Derivative Instruments and Hedging
Activities" ("SFAS 133"). SFAS 133 requires that all derivatives be
recognized at fair value as either assets or liabilities on the
consolidated balance sheet. If certain conditions are met, a derivative may
be specifically designated as (a) a hedge of the exposure to changes in the
fair value of a recognized asset or liability or an unrecognized firm
commitment, (b) a hedge of the exposure to variable cash flows of a
forecasted transaction, or (c) a hedge of the foreign currency exposure of
a net investment in a foreign operation, an unrecognized firm commitment,
an available-for-sale security or a foreign-currency-denominated forecasted
transaction. The accounting for changes in fair value of a derivative
depends on the intended use of the derivative and the resulting
designation. SFAS 133 generally provides for matching the timing of a gain
or loss recognition on the hedging instrument with the recognition of (a)
the changes in the fair value of the hedged asset or liability that are
attributable to the hedged risk or (b) the earnings effect of the hedged
forecasted transaction. SFAS 133 was originally effective for all fiscal
quarters of fiscal years beginning after June 15, 1999, with earlier
application encouraged. In June 1999, FASB issued Statement of Financial
Accounting Standards No. 137 "Accounting for Derivative Instruments and
Hedging Activities - Deferral of the Effective Date of FASB Statement No.
133," ("SFAS 137"). SFAS 137 defers the effective date of SFAS 133 to all
fiscal quarters of all fiscal years, beginning after June 15, 2000.
Retroactive application to prior periods is prohibited. The Bank does not
generally use derivative instruments and therefore the adoption of the
Statement is not expected to have a material impact on the financial
statements of the Company.
Year 2000
The "Year 2000 Problem" centers on the inability of computer systems
to recognize the Year 2000. Many existing computer programs and systems
were originally programmed with six digit dates that provided only two
digits to identify the calendar year in the date field, without considering
the upcoming change in the century. With the impending millennium, these
programs and computers will recognize "00" as the year 1900 rather than the
year 2000. Like most financial service providers, the Bank and its
operations may be significantly affected by the Year 2000 problem due to
the nature of financial information. Software, hardware, and equipment both
within and outside the Bank's direct control and with whom the Bank
electronically or operationally interfaces (e.g. third party vendors
providing data processing, information system management, maintenance of
computer systems, and credit bureau information) are likely to be affected.
Furthermore, if computer systems are not adequately changed to identify the
Year 2000, many computer applications could fail or create erroneous
results. As a result, many calculations which rely on the date field
information, such as interest, payment or due dates and other operating
functions, will generate results which could be significantly misstated,
and the Bank could experience a temporary inability to process
transactions, send invoices or engage in similar normal business
activities. In addition, under certain circumstances, failure to
adequately addressthe Year 2000 problem could adversely affect the
viability of the Bank's suppliers and creditors and the creditworthiness of
its borrowers. Thus, if not adequately addressed, the Year 2000 problem
could result in a significant adverse impact on the Bank's products,
services and competitive condition.
In order to address the Year 2000 issue and to minimize its potential
adverse impact, in 1997 management began a process to identify areas that
will be affected by the Year 2000 Problem, assess its potential impact on
the operations of the Bank, monitor the progress of third party software
vendors in addressing the matter, test changes provided by these vendors,
and develop contingency plans for any critical systems which are not
effectively reprogrammed. The Bank's plan is divided into the five phases:
(1) awareness; (2) assessment; (3) renovation; (4) testing; and (5)
implementation.
Because the Bank outsources its data processing and item processing
operations, a significant component of the Year 2000 plan is working with
external vendors to test and certify their systems as Year 2000 compliant.
The Bank's external vendors surveyed their programs and have corrected the
applicable computer programs and replaced equipment so that the Bank's
information systems were Year 2000 compliant at the end of 1998. This
enabled the Bank to devote substantial time to the testing of the upgraded
systems by June 30, 1999 in order to comply with all applicable
regulations. The Bank has completed its timetable for addressing year 2000
issues. The Company presently believes that with the modifications to
existing software and conversions to new software, the Year 2000 problem
will be mitigated without causing a material adverse impact on the
operations of the Company. However, if such modifications and conversions
are not effective, the Year 2000 problem could have an impact on the
operations of the Company.
In addition, monitoring and managing the Year 2000 project has
resulted in additional direct and indirect costs to the Company and the
Bank. Direct costs include charges by third party software vendors for
product enhancements, costs involved in testing software products for Year
2000 compliance, and costs for developing and implementing contingency
plans for critical software products which are not enhanced. Indirect costs
principally consist of the time devoted by existing employees in monitoring
software vendor progress, testing enhanced software products and
implementing any necessary contingency plans. The Company has incurred
aggregate direct and indirect costs of approximately $110,600 and expects
to incur an additional $40,000 of costs. Both direct and indirect costs of
addressing the Year 2000 problem are charged to earnings as incurred.
The costs of the project and the date on which the Company plans to
complete the Year 2000 modifications are based on management's best
estimates, which were derived utilizing numerous assumptions of future
events including the continued availability of certain resources, third
party modification plans and other factors. However, there can be no
guarantee that these estimates will be achieved and actual results could
differ materially from those plans. Specific factors that might cause such
material differences include, but are not limited to, the availability and
cost of personnel trained in this area, the ability to locate and correct
all relevant computer codes, and similar uncertainties. The Company has
developed a contingency plan which would be implemented in the unforeseen
event Year 2000 problems occur. The Company will continue to closely
monitor its Year 2000 compliance plan.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
Market risk is the risk of loss in a financial instrument arising
from adverse changes in market rates/prices such as interest rates, foreign
currency exchange rates, commodity prices, and equity prices. The Company's
primary market risk exposure is interest rate risk. The ongoing monitoring
and management of this risk is an important component of the Company's
asset/liability management process which is governed by policies
established by its Board of Directors that are reviewed and approved
annually. The Board of Directors delegates responsibility for carrying out
the asset/liability management policies to the Asset/Liability Management
Committee ("ALCO"). In this capacity, ALCO develops guidelines and
strategies affecting the Company's asset/liability management related
activities based upon estimated market risk sensitivity, policy limits and
overall market interest rate levels and trends.
The ALCO Committee is composed of members of management to monitor
the difference between the Company's maturing and repricing assets and
liabilities and to develop and implement strategies to decrease the
"negative gap" between the two. The primary responsibilities of the
committee are to assess the Company's asset/liability mix, recommend
strategies to the Board that will enhance income while managing the
Company's vulnerability to changes in interest rates and report to the
Board the results of the strategies used.
Interest rate risk represents the sensitivity of earnings to changes
in market interest rates. As interest rates change the interest income and
expense streams associated with the Company's financial instruments also
change thereby affecting net interest income ("NII"), the primary component
of the Company's earnings. ALCO utilizes the results of a detailed and
dynamic simulation model to quantify the estimated exposure of NII to
sustained interest rate changes. While ALCO routinely monitors simulated
NII sensitivity over a rolling one-year horizon, it also utilizes
additional tools to monitor potential longer-term risk.
The simulation model captures the impact of changing interest rates
on the interest income received and interest expense paid on all assets and
liabilities reflected on the Company's balance sheet. This sensitivity
analysis is compared to Board and ALCO policy limits which specify a
maximum tolerance level for NII exposure over a one year horizon, assuming
no balance sheet growth, given both a 200 basis point upward and downward
shift in interest rates. A parallel and pro rata shift in rates over a 12
month period is assumed. The Company uses various other assumptions in its
sensitivity analysis. For investment securities, in the event of a call
provision, if the interest rate is lower than the contractual rate,
reinvestment is assumed at the lower rate. For residential mortgage loans,
the Company uses the PSA method to generate different prepayment
assumptions. Commercial loans and commercial real estate loans do not
include any amortization or prepayment amounts. For money market accounts,
NOW accounts, regular savings deposits, not all deposits within these
categories are assumed to increase by the full extent of the interest rate
shift based upon management's judgment as to deposit elasticity. The
following reflects the Company's NII sensitivity analysis as of June 30,
1999.
Estimated NII
Rate Change Sensitivity
----------- -------------
+200 basis points (8.90)%
-200 basis points (17.72)%
The preceding sensitivity analysis does not represent a Company
forecast and should not be relied upon as being indicative of expected
operating results. These hypothetical estimates are based upon numerous
assumptions including: the nature and timing of interest rate levels
including yield curve shape, prepayments on loans and securities, changes
in deposit levels, pricing decisions on loans and deposits, reinvestment of
asset and liability cash flows, and others. While assumptions are developed
based upon current economic and local market conditions, the Company cannot
make any assurances as to the predictive nature of these assumptions
including how customer preferences or competitor influences might change.
In addition, as market conditions vary from those assumed in the
sensitivity analysis, actual results will also differ due to: prepayment
and refinancing levels likely deviating from those assumed, the varying
impact of interest rate changes caps or floors on adjustable rate assets,
the potential effect of changing debt service levels on customers with
adjustable rate loans, depositor early withdrawals and product preference
changes, and other internal and external variables. Furthermore, the
sensitivity analysis does not reflect actions that ALCO might take in
responding to or anticipating changes in interest rates.
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
The Consolidated Financial Statements of Mystic Financial, Inc. and
subsidiary as of June 30, 1999 and 1998 are included in pages F-1 through
F-37 of this report.
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The following information included on pages 5 through 8, and page 16
of the Company's Proxy Statement for the 1999 Annual Meeting of
Stockholders (the "Proxy Statement") is incorporated herein by reference:
"Election of Directors," "Information as to Nominees and Continuing
Directors," "Nominees for Election as Director," "Executive Officers," and
" - Section 16(a) Beneficial Ownership Reporting Compliance."
ITEM 11. EXECUTIVE COMPENSATION
The following information included on pages 8 through 15 of the Proxy
Statement is incorporated herein by reference: "Compensation of Directors
and Executive Officers-Directors' Compensation," "-Executive Compensation,"
"-Employment Agreements," and "-Benefits."
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The following information included on pages 3 and 4 of the Proxy
Statement is incorporated herein by reference: "Security Ownership of
Certain Beneficial Owners and Management-Principal Stockholders of the
Company" and "-Security Ownership of Management."
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The following information included on page 15 of the Proxy Statement
is incorporated herein by reference: "Compensation of Directors and
Executive Officers-Transactions with Certain Related Persons."
PART IV
ITEM 14. EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
(a) Listed below are all financial statements and exhibits filed
as part of this report:
(1) The consolidated balance sheets of Mystic Financial, Inc. and
subsidiary as of June 30, 1999 and 1998 and the related
consolidated statements of income, changes in stockholders'
equity and cash flows for each of the years in the three-year
period ended June 30, 1999, together with the related notes
and the independent auditors' report of Wolf & Company, P.C.
independent certified public accountants.
(2) Schedules omitted as they are not applicable.
(3) Exhibits
3.1 Certificate of Incorporation of Mystic Financial, Inc.*
3.2 Bylaws of Mystic Financial, Inc.*
4.3 Specimen of Stock Certificate of Mystic Financial, Inc.*
10.1 Employee Stock Ownership Plan and Trust Agreement of Mystic
Financial, Inc.*
10.2 Employment Agreement between Medford Co-operative Bank and
Robert H. Surabian.*
10.3 Employment Agreement between Medford Co-operative Bank and
Ralph W. Dunham.*
10.4 Employment Agreement between Medford Co-operative Bank and
John O'Donnell.*
10.5 Employment Agreement between Medford Co-operative Bank and
Thomas G. Burke.*
21.1 Subsidiaries of the Registrant.*
23.1 Consent of Wolf & Company, P.C.
27.1 Financial Data Schedule (Submitted only with filing in
electronic format).
99.1 Proxy Statement for the 1999 Annual Meeting of Stockholders
of Mystic Financial, Inc. (previously filed with the
Securities and Exchange Commission on September 20, 1999).
- --------------------
Incorporated herein by reference to Registration Statement No.
333-34447 on Form S-1 of Mystic Financial, Inc. filed with the
Securities and Exchange Commission on August 27, 1997, as amended.
(b) The Company filed no reports on Form 8-K during the
fourth quarter of the fiscal year ended June 30, 1999.
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the Registrant certifies that it has duly caused this
report to be signed on its behalf by the undersigned, hereunto duly
authorized, in the City of Medford, Commonwealth of Massachusetts, on
September 8, 1999.
Mystic Financial, Inc.
By: /s/ Robert H. Surabian
-------------------------------------
Robert H. Surabian
President and Chief Executive Officer
Pursuant to the requirements of the Securities Exchange Act of 1934,
as amended, this report has been signed by the following persons in the
capacities and on the dates indicated.
Name Title Date
---- ----- ----
/s/ Robert H. Surabian Director, President and Chief Executive September 8, 1999
- ---------------------------- Officer (Principal executive officer)
Robert H. Surabian
/s/ Ralph W. Dunham Executive Vice President, Treasurer September 8, 1999
- ---------------------------- and Chief Financial Officer
Ralph W. Dunham (Principal financial and accounting
officer)
/s/ Julie Bernardin Director September 8, 1999
- ----------------------------
Julie Bernardin
/s/ Frederick N. Dello Russo Director September 8, 1999
- ----------------------------
Frederick N. Dello Russo
/s/ John A. Hackett Director September 8, 1999
John A. Hackett
/s/ Richard M. Kazanjian Director September 8, 1999
- ----------------------------
Richard M. Kazanjian
/s/ John W. Maloney Director September 8, 1999
- ----------------------------
John W. Maloney
/s/ John J. McGlynn Director, Chairman of the Board September 8, 1999
- ----------------------------
John J. McGlynn
/s/ Lorraine P. Silva Director September 8, 1999
- ----------------------------
Lorraine P. Silva
MYSTIC FINANCIAL, INC. AND SUBSIDIARY
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
Page
----
Independent Auditors' Report F-2
Consolidated Balance Sheets as of June 30, 1999 and 1998 F-3
Consolidated Statements of Income for each of the years
in the three-year period ended June 30, 1999 F-4
Consolidated Statements of Changes in Stockholders' Equity for
each of the years in the three-year period ended June 30, 1999 F-5
Consolidated Statements of Cash Flows for each of the years in
the three-year period ended June 30, 1999 F-6
Notes to Consolidated Financial Statements F-8
INDEPENDENT AUDITORS' REPORT
To the Board of Directors and Stockholders
of Mystic Financial, Inc.
We have audited the consolidated balance sheets of Mystic Financial, Inc.
and subsidiary as of June 30, 1999 and 1998, and the related consolidated
statements of income, changes in stockholders' equity and cash flows for
each of the years in the three-year period ended June 30, 1999. These
consolidated financial statements are the responsibility of the Company's
management. Our responsibility is to express an opinion on these
consolidated financial statements based on our audits.
We conducted our audits in accordance with 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 Mystic
Financial, Inc. and subsidiary as of June 30, 1999 and 1998, and the
results of their operations and their cash flows for each of the years in
the three-year period ended June 30, 1999 in conformity with generally
accepted accounting principles.
Boston, Massachusetts
July 23, 1999, except for Note 17 as to which
the date is September 8, 1999
MYSTIC FINANCIAL, INC. AND SUBSIDIARY
CONSOLIDATED BALANCE SHEETS
ASSETS
June 30,
----------------------
1999 1998
---- ----
(Dollars In Thousands)
Cash and due from banks $ 6,442 $ 7,626
Federal funds sold 11,674 16,773
Short-term investments 605 1,580
---------------------
Total cash and cash equivalents 18,721 25,979
Securities available for sale, at fair value 31,772 14,749
Securities held to maturity, at amortized cost 1,500 12,006
Federal Home Loan Bank stock, at cost 1,080 997
Loans, net of allowance for loan losses of
$1,348 and $1,236, respectively 154,689 138,593
Mortgage loans held for sale 406 80
Banking premises and equipment, net 2,657 2,559
Real estate held for investment, net 1,730 1,785
Accrued interest receivable 1,265 1,099
Due from Co-operative Central Bank 929 929
Other assets 465 273
---------------------
$215,214 $199,049
=====================
LIABILITIES AND STOCKHOLDERS' EQUITY
Deposits $160,867 $144,766
Federal Home Loan Bank borrowings 18,978 16,505
Mortgagors' escrow accounts 547 481
Accrued interest payable 334 288
Accrued expenses and other liabilities 436 882
---------------------
Total liabilities 181,162 162,922
---------------------
Commitments and contingencies
Stockholders' equity:
Preferred stock, $.01 par value, 1,000,000 shares
authorized; none issued - -
Common stock, $.01 par value, 5,000,000 shares
authorized; 2,711,125 shares issued 27 27
Additional paid-in capital 25,688 25,710
Retained earnings 14,128 13,173
Treasury stock, at cost - 266,247 shares and
2,120 shares at June 30, 1999 and 1998 (3,485) (21)
Accumulated other comprehensive income 394 432
Unearned ESOP shares (2,700) (3,194)
---------------------
Total stockholders' equity 34,052 36,127
---------------------
$215,214 $199,049
=====================
See accompanying notes to consolidated financial statements.
MYSTIC FINANCIAL, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF INCOME
Years Ended June 30,
-------------------------------
1999 1998 1997
---- ---- ----
(Dollars In Thousands,
Except Per Share Data)
Interest and dividend income:
Interest and fees on loans $ 11,377 $10,183 $8,397
Interest and dividends on investment securities 1,388 1,248 1,208
Other interest 980 779 294
-------------------------------
Total interest and dividend income 13,745 12,210 9,899
-------------------------------
Interest expense:
Deposits 5,117 4,898 4,700
Federal Home Loan Bank borrowings 1,104 750 211
-------------------------------
Total interest expense 6,221 5,648 4,911
-------------------------------
Net interest income 7,524 6,562 4,988
Provision for loan losses 145 245 272
-------------------------------
Net interest income, after provision for loan losses 7,379 6,317 4,716
-------------------------------
Other income:
Customer service fees 553 547 536
Loan servicing and other loan fees 64 59 56
Gain on sales of mortgage loans 100 35 8
Gain on sales of securities available for sale, net 242 227 168
Rental income, net of expenses 26 46 29
Co-operative Central Bank Share Insurance Fund
special dividend 51 49 44
Miscellaneous 100 72 41
-------------------------------
Total other income 1,136 1,035 882
-------------------------------
Operating expenses:
Salaries and employee benefits 3,452 2,948 2,734
Occupancy and equipment expenses 594 479 412
Data processing expenses 329 257 207
Other general and administrative expenses 1,667 1,090 977
-------------------------------
Total operating expenses 6,042 4,774 4,330
-------------------------------
Income before income taxes 2,473 2,578 1,268
Provision for income taxes 971 1,031 527
-------------------------------
Net income $ 1,502 $ 1,547 $ 741
===============================
Basic and diluted earnings per share $ 0.63 N/A N/A
Weighted average shares outstanding 2,375,440 N/A N/A
See accompanying notes to consolidated financial statements.
MYSTIC FINANCIAL, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
Years Ended June 30, 1999, 1998 and 1997
Accumulated
Additional Other Unearned
Common Paid-in Retained Treasury Comprehensive ESOP
Stock Capital Earnings Stock Income Shares Total
------ ---------- -------- -------- ------------- -------- -----
(In Thousands)
Balance at June 30, 1996 $ - $ - $11,020 $ - $ (71) $ - $10,949
-------
Comprehensive income:
Net income - - 741 - - - 741
Change in net unrealized loss on
securities available for sale,
net of reclassification
adjustment and tax effects - - - - 250 - 250
-------
Total comprehensive income - - 991
------------------------------------------------------------------------------------
Balance at June 30, 1997 - - 11,761 - 179 - 11,940
-------
Comprehensive income:
Net income - - 1,547 - - - 1,547
Change in net unrealized gain on
securities available for sale, net
of reclassification adjustment and
tax effects - - - - 253 - 253
-------
Total comprehensive income 1,800
-------
Net proceeds from sale of common stock 27 25,710 - - - - 25,737
Purchase of treasury stock - - - (21) - - (21)
Purchase of ESOP shares - - - - - (3,194) (3,194)
Cash dividends paid ($.05 per share) - - (135) - - - (135)
------------------------------------------------------------------------------------
Balance at June 30, 1998 27 25,710 13,173 (21) 432 (3,194) 36,127
-------
Comprehensive income:
Net income - - 1,502 - - - 1,502
Change in net unrealized gain on
securities available for sale, net
of reclassification adjustment and
tax effects - - - - (38) - (38)
-------
Total comprehensive income 1,464
-------
Cash dividends paid ($0.21 per share) - - (547) - - - (547)
Purchase of treasury stock - - - (3,464) - - (3,464)
Decrease in unearned ESOP shares - (22) - - - 494 472
------------------------------------------------------------------------------------
Balance at June 30, 1999 $ 27 $25,688 $14,128 $(3,485) $ 394 $(2,700) $34,052
====================================================================================
See accompanying notes to consolidated financial statements.
MYSTIC FINANCIAL, INC. AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS
Years Ended June 30,
--------------------------------
1999 1998 1997
---- ---- ----
(In Thousands)
Cash flows from operating activities:
Net income $ 1,502 $ 1,547 $ 741
Adjustments to reconcile net income to net cash
provided by operating activities:
Provision for loan losses 145 245 272
Net amortization (accretion) of investment securities 39 (2) (4)
(Gain) loss on sale of loans (3) - 18
Amortization of unearned ESOP shares 472 - -
Gain on sales of securities available for sale (242) (227) (168)
Depreciation expense 363 335 266
Deferred income tax benefit (63) (66) (87)
Net change in:
Loans held for sale (326) 130 922
Accrued interest receivable (166) (229) (48)
Other assets (108) 50 95
Accrued interest payable 46 39 54
Accrued expenses and other liabilities (446) 639 (7)
--------------------------------
Net cash provided by operating activities 1,213 2,461 2,054
--------------------------------
Cash flows from investing activities:
Net decrease in certificates of deposit - - 1,000
Activity in available for sale securities:
Sales 1,071 2,924 1,098
Maturities, prepayments and calls 7,505 - -
Purchases (25,453) (13,241) (2,834)
Activity in held to maturity securities:
Maturities, prepayments and calls 10,504 7,006 12,916
Purchases - (1,503) (13,490)
Purchase of Federal Home Loan Bank stock (83) (139) (70)
Loans originated, net of payments received (16,572) (24,270) (25,441)
Proceeds from sales of loans 334 - 5,343
Purchases of banking premises and equipment (405) (140) (369)
Additions to real estate held for investment (1) (2) (2)
Increase in due from Co-operative Central Bank - (260) -
--------------------------------
Net cash used by investing activities (23,100) (29,625) (21,849)
--------------------------------
Cash flows from financing activities:
Net increase in deposits 16,101 15,463 9,669
Proceeds from borrowings 3,600 33,100 7,550
Repayment of borrowings (1,127) (24,127) (18)
Net increase in mortgagors' escrow accounts 66 95 48
Net proceeds from sale of common stock - 25,737 -
Purchase of treasury stock (3,464) (21) -
Purchase of ESOP shares - (3,194) -
Cash dividends paid (547) (135) -
--------------------------------
Net cash provided by financing activities 14,629 46,918 17,249
--------------------------------
Net change in cash and cash equivalents (7,258) 19,754 (2,546)
Cash and cash equivalents at beginning of year 25,979 6,225 8,771
--------------------------------
Cash and cash equivalents at end of year $ 18,721 $ 25,979 $ 6,225
================================
Supplemental information:
Interest paid $ 6,175 $ 5,609 $ 4,857
Income taxes paid 1,232 984 693
See accompanying notes to consolidated financial statements.
MYSTIC FINANCIAL, INC. AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
Years Ended June 30, 1999, 1998 and 1997
l. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Basis of presentation and business
The consolidated financial statements include the accounts of Mystic
Financial, Inc. (the "Company") and its wholly-owned subsidiary,
Medford Co-operative Bank (the "Bank"). The Bank has two wholly-owned
subsidiaries, Mystic Securities Corp., which engages in the purchase
and sale of investment securities and Mystic Investment Inc. which is
inactive. Mystic Financial, Inc. became the Bank's holding company on
January 8, 1998 in connection with the Bank's conversion from mutual
to stock form. All significant intercompany accounts have been
eliminated in consolidation.
The Bank provides a variety of financial services to individuals and
businesses through its five offices in Medford and Lexington,
Massachusetts. Its primary deposit products are checking, savings and
term certificate accounts, and its primary lending products are
residential and commercial mortgage, commercial and consumer loans.
Use of estimates
In preparing consolidated financial statements in conformity with
generally accepted accounting principles, management is required to
make estimates and assumptions that affect the reported amounts of
assets and liabilities as of the balance sheet date and reported
amounts of revenues and expenses during the reporting period. Actual
results could differ from those estimates. Material estimates that
are particularly susceptible to significant change in the near term
relate to the determination of the allowance for loan losses and the
valuation reserve for deferred tax assets.
Reclassification
Certain amounts in the 1998 and 1997 consolidated financial
statements have been reclassified to conform to the 1999
presentation.
Cash equivalents
Cash equivalents include amounts due from banks, federal funds sold
and short-term investments with original maturities of three months
or less.
Short-term investments
Short-term investments are carried at cost, which approximates fair
value, and consist of money market funds and interest-bearing
deposits in the Bank Investment Fund-Liquidity Fund.
Investment securities
Investments in debt securities that management has the positive
intent and ability to hold to maturity are classified as "held to
maturity" and carried at amortized cost. Investments classified as
"available for sale" are carried at fair value, with unrealized gains
and losses excluded from earnings and reported in other comprehensive
income.
Purchase premiums and discounts are recognized in interest income by
the interest method over the terms of the securities. Declines in the
fair value of investment securities below their cost that are deemed
to be other than temporary are reflected in earnings as realized
losses. Gains and losses on the sale of securities are recorded on
the trade date using the specific identification method.
Loans
The Bank grants mortgage, commercial and consumer loans to customers.
A substantial portion of the loan portfolio consists of mortgage
loans in the Greater Boston area. The ability of the Bank's debtors
to honor their contracts is dependent upon the local real estate
market and economy in this area.
Loans that management has the intent and ability to hold for the
foreseeable future or until maturity or pay-off generally are
reported at their outstanding unpaid principal balances adjusted for
charge-offs, the allowance for loan losses, and any deferred fees or
costs on originated loans. Interest income is accrued on the unpaid
principal balance. Loan origination fees, net of certain direct
origination costs, are deferred and recognized as an adjustment of
the related loan yield using the interest method.
The accrual of interest on loans is discontinued at the time the loan
is 90 days delinquent. Loans are placed on nonaccrual or charged-off
at an earlier date if collection of principal or interest is
considered doubtful.
All interest accrued but not collected for loans that are placed on
nonaccrual or charged off is reversed against interest income. The
interest on these loans is accounted for on the cash-basis or cost-
recovery method, until qualifying for return to accrual. Loans are
returned to accrual status when all the principal and interest
amounts contractually due are brought current and future payments are
reasonably assured.
Allowance for loan losses
The allowance for loan losses is established as losses are estimated
to have occurred through a provision for loan losses charged to
earnings. Loan losses are charged against the allowance when
management believes the uncollectibility of the loan balance is
confirmed. Subsequent recoveries, if any, are credited to the
allowance.
The allowance for loan losses is evaluated on a regular basis by
management and is based upon management's periodic review of the
collectibility of the loans in light of historical experience, the
nature and volume of the loan portfolio, adverse situations that may
affect the borrower's ability to repay, estimated value of any
underlying collateral and prevailing economic conditions. This
evaluation is inherently subjective as it requires estimates that are
susceptible to significant revision as more information becomes
available.
A loan is considered impaired when, based on current information and
events, it is probable that a creditor will be unable to collect the
scheduled payments of principal or interest when due according to the
contractual terms of the loan agreement. Factors considered by
management in determining impairment include payment status,
collateral value, and the probability of collecting scheduled
principal and interest payments when due. Loans that experience
insignificant payment delays and payment shortfalls generally are not
classified as impaired. Management determines the significance of
payment delays and payment shortfalls on a case-by-case basis, taking
into consideration all of the circumstances surrounding the loan and
the borrower, including the length of the delay, the reasons for the
delay, the borrower's prior payment record, and the amount of the
shortfall in relation to the principal and interest owed. Impairment
is measured on a loan by loan basis by the fair value of the existing
collateral.
Large groups of smaller balance homogeneous loans are collectively
evaluated for impairment. Accordingly, the Company does not
separately identify individual consumer loans for impairment
disclosures.
Mortgage loans held for sale
Loans originated and intended for sale in the secondary market are
carried at the lower of cost or estimated fair value. Fair value is
based on commitments on hand from investors or prevailing market
prices. Net unrealized losses, if any, are recognized through a
valuation allowance by charges to income.
Banking premises and equipment and real estate held for investment
Land is carried at cost. Buildings, equipment and improvements are
stated at cost, less accumulated depreciation, computed on the
straight-line method over the estimated useful lives of the assets.
It is general practice to charge the cost of maintenance and repairs
to earnings when incurred; major expenditures for improvements are
capitalized and depreciated.
Pension plan
It is the Company's policy to fund pension plan costs in the year of
accrual.
Income taxes
Deferred tax assets and liabilities are reflected at currently
enacted income tax rates applicable to the period in which the
deferred tax assets or liabilities are expected to be realized or
settled. As changes in tax laws or rates are enacted, deferred tax
assets and liabilities are adjusted accordingly through the provision
for income taxes. The Bank's base amount of its federal income tax
reserve for loan losses is a permanent difference for which there is
no recognition of a deferred tax liability. However, the loan loss
allowance maintained for financial reporting purposes is a temporary
difference with allowable recognition of a related deferred tax
asset, if it is deemed realizable.
Employee stock ownership plan ("ESOP")
Compensation expense is recognized based on the current market price
of shares committed to be released to employees. All shares released
and committed to be released are deemed outstanding for purposes of
earnings per share calculations. Dividends declared on all allocated
shares held by the ESOP are charged to retained earnings. The value
of unearned shares to be allocated to ESOP participants for future
services not yet performed is reflected as a reduction of
stockholders' equity.
Stock compensation plans
Statement of Financial Accounting Standards ("SFAS") No. 123,
"Accounting for Stock-Based Compensation," encourages all entities to
adopt a fair value based method of accounting for employee stock
compensation plans, whereby compensation cost is measured at the
grant date based on the value of the award and is recognized over the
service period, which is usually the vesting period. However, it also
allows an entity to continue to measure compensation cost for those
plans using the intrinsic value based method of accounting prescribed
by Accounting Principles Board Opinion No. 25, "Accounting for Stock
Issued to Employees," whereby compensation cost is the excess, if
any, of the quoted market price of the stock at the grant date (or
other measurement date) over the amount an employee must pay to
acquire the stock. Stock options issued under the Company's stock
option plan have no intrinsic value at the grant date, and under
Opinion No. 25 no compensation cost is recognized for them. The
Company has elected to continue with the accounting methodology in
Opinion No. 25 and, as a result, has provided pro forma disclosures
of net income and earnings per share and other disclosures, as if the
fair value based method of accounting had been applied.
Earnings per common share
Basic earnings per share represents income available to common stock
divided by the weighted-average number of common shares outstanding
during the period. Diluted earnings per share reflects additional
common shares that would have been outstanding if dilutive potential
common shares had been issued, as well as any adjustment to income
that would result from the assumed conversion. Potential common
shares that may be issued by the Company relate solely to outstanding
stock options, and are determined using the treasury stock method.
Earnings per share data is not presented in these consolidated
financial statements for the years ended June 30, 1998 and 1997 as
shares of common stock were not issued until January 8, 1998.
Comprehensive income
The Company adopted SFAS No. 130, "Reporting Comprehensive Income,"
as of July 1, 1998. Accounting principles generally require that
recognized revenue, expenses, gains and losses be included in net
income. Although certain changes in assets and liabilities, such as
unrealized gains and losses on available-for-sale securities, are
reported as a separate component of the equity section of the balance
sheet, such items, along with net income, are components of
comprehensive income. The adoption of SFAS No. 130 had no effect on
the Company's net income or stockholders' equity.
The components of other comprehensive income and related tax effects
are as follows:
Years Ended June 30,
-----------------------
1999 1998 1997
---- ---- ----
(In Thousands)
Change in unrealized holding gains on
available-for-sale securities $ 183 $ 616 $ 515
Reclassification adjustment for gains
realized in income (242) (227) (168)
-----------------------
Change in net unrealized gains (losses) (59) 389 347
Tax effect 21 (136) (97)
-----------------------
Net-of-tax amount $ (38) $ 253 $ 250
=======================
2. INVESTMENT SECURITIES
The amortized cost and estimated fair value of investment securities
with gross unrealized gains and losses is as follows:
June 30, 1999
-----------------------------------------------
Gross Gross
Amortized Unrealized Unrealized Fair
Cost Gains Losses Value
--------- ---------- ---------- -----
(In Thousands)
Available for Sale
------------------
U.S. Government and
federal agency obligations $24,323 $ --- $(296) $24,027
Other bonds 4,556 --- (58) 4,498
Marketable equity securities 2,287 960 --- 3,247
-----------------------------------------------
Total $31,166 $ 960 $(354) $31,772
===============================================
Held to Maturity
----------------
U.S. Government and
federal agency obligations $ 500 $ 1 $ --- $ 501
Other bonds 1,000 1 --- 1,001
-----------------------------------------------
Total $ 1,500 $ 2 $ --- $ 1,502
===============================================
June 30, 1998
-----------------------------------------------
Gross Gross
Amortized Unrealized Unrealized Fair
Cost Gains Losses Value
--------- ---------- ---------- -----
(In Thousands)
Available for Sale
------------------
U.S. Government and
federal agency obligations $11,540 $ 3 $ (16) $11,527
Marketable equity securities 2,544 717 (39) 3,222
-----------------------------------------------
Total $14,084 $ 720 $ (55) $14,749
===============================================
Held to Maturity
----------------
U.S. Government and
federal agency obligations $ 9,498 $ 15 $ (3) $ 9,510
Other bonds 2,508 12 --- 2,520
-----------------------------------------------
Total $12,006 $ 27 $ (3) $12,030
===============================================
The amortized cost and estimated fair value of debt securities by
contractual maturity at June 30, 1999 is as follows:
Available for Sale Held to Maturity
------------------- -------------------
Amortized Fair Amortized Fair
Cost Value Cost Value
--------- ----- --------- -----
(In Thousands)
Within 1 year $ 677 $ 677 $1,500 $1,502
Over 1 year to 5 years 26,169 25,835 - -
Over 5 years 2,033 2,013 - -
------------------------------------------
Total $28,879 $28,525 $1,500 $1,502
==========================================
During the years ended June 30, 1999, 1998 and 1997, proceeds from
sales of securities available for sale amounted to $1,071,000,
$2,924,000 and $1,098,000, respectively. Gross realized gains for
1999, 1998 and 1997 amounted to $275,000, $363,000 and $172,000,
respectively and gross realized losses were $33,000, $136,000 and
$4,000, respectively.
3. LOANS
A summary of the balances of loans follows:
June 30,
--------------------
1999 1998
---- ----
(In Thousands)
Mortgage loans on real estate:
Fixed residential $ 60,093 $ 47,404
Adjustable residential 47,123 59,008
Commercial 33,980 24,475
Construction 7,021 1,260
Home equity lines of credit 2,076 1,716
--------------------
150,293 133,863
Less: Due to borrowers on incomplete loans (2,899) (383)
Net deferred loan fees (12) (17)
--------------------
147,382 133,463
--------------------
Other loans:
Commercial 5,026 3,033
Commercial lines of credit 2,083 1,546
Personal 1,104 1,327
Share secured 276 246
Home improvement 166 214
--------------------
8,655 6,366
--------------------
Total loans 156,037 139,829
Less allowance for loan losses (1,348) (1,236)
--------------------
Loans, net $154,689 $138,593
=====================
An analysis of the allowance for loan losses follows:
Years Ended June 30,
------------------------
1999 1998 1997
---- ---- ----
(In Thousands)
Balance at beginning of year $1,236 $ 977 $742
Provision for loan losses 145 245 272
Recoveries 3 16 20
Charge-offs (36) (2) (57)
------------------------
Balance at end of year $1,348 $1,236 $977
========================
The following is a summary of information pertaining to impaired and
non-accrual loans:
June 30,
--------------
1999 1998
---- ----
(In Thousands)
Impaired loans without a valuation allowance $ --- $144
==============
Non-accrual loans $ --- $150
==============
Years Ended June 30,
--------------------
1999 1998 1997
---- ---- ----
(In Thousands)
Average investment in impaired loans $191 $371 $589
====================
Interest income recognized on a cash basis
on impaired loans $ 23 $ 17 $ 31
====================
No additional funds are committed to be advanced in connection with
impaired loans.
On a fee basis, the Bank services loans it has originated and sold to
others. At June 30, 1999 and 1998, such loans amounted to $24,886,000
and $16,879,000, respectively. As of June 30, 1999 and 1998, the Bank
has no capitalized mortgage servicing rights. All loans serviced for
others were sold without recourse provisions.
4. BANKING PREMISES AND EQUIPMENT
A summary of the cost and accumulated depreciation of banking
premises and equipment and their estimated useful lives follows:
June 30,
---------------- Estimated
1999 1998 Useful Lives
---- ---- ------------
(In Thousands)
Banking premises:
Land $ 242 $ 242
Buildings and improvements 2,447 2,447 10 - 40 years
Equipment 2,030 1,625 3 - 10 years
----------------
4,719 4,314
Less accumulated depreciation (2,062) (1,755)
----------------
$2,657 $2,559
================
Depreciation expense for the years ended June 30, 1999, 1998 and 1997
amounted to $307,000, $278,000 and $210,000, respectively.
5. REAL ESTATE HELD FOR INVESTMENT
Real estate held for investment represents property adjacent to the
Bank's main office which is primarily leased as commercial retail and
office space. The Bank occupies a portion of the building for its own
activities. A summary of the cost and accumulated depreciation and
estimated useful life is as follows:
June 30,
---------------- Estimated
1999 1998 Useful Life
---- ---- -----------
(In Thousands)
Land $ 34 $ 34
Building 2,229 2,228 40 years
----------------
2,263 2,262
Less accumulated depreciation (533) (477)
----------------
$1,730 $1,785
================
Depreciation expense for the years ended June 30, 1999, 1998 and 1997
amounted to $56,000, $57,000 and $56,000, respectively.
The following is a schedule of minimum future rental income on
noncancelable leases:
Year Ending
June 30, Amount
----------- ------
(In Thousands)
2000 $37
2001 4
---
$41
===
The provisions of the lease agreements provide that the tenants are
responsible for utilities and certain repairs. Certain of the leases
also contain provisions that the tenants are responsible for a
percentage of real estate taxes and certain other costs.
Rental income for the years ended June 30, 1999, 1998 and 1997
amounted to $141,000, $149,000 and $135,000, respectively.
6. DEPOSITS
A summary of deposit balances by type is as follows:
June 30,
--------------------
1999 1998
---- ----
(In Thousands)
NOW accounts $ 29,361 $ 34,208
Demand deposits 8,556 6,603
Regular and other deposits 40,903 40,460
Money market deposits 7,020 6,256
--------------------
Total non-certificate accounts 85,840 87,527
--------------------
Term certificates less than $100,000 58,882 47,471
Term certificates of $100,000 or more 16,145 9,768
--------------------
Total certificate accounts 75,027 57,239
--------------------
Total deposits $160,867 $144,766
====================
A summary of certificate accounts by maturity, is as follows:
June 30, 1999 June 30, 1998
------------------- -------------------
Weighted Weighted
Average Average
Amount Rate Amount Rate
------ -------- ------ --------
(Dollars In Thousands)
Within 1 year $62,100 4.99% $44,019 5.35%
Over 1 year to 3 years 12,485 5.32 12,846 5.80
Over 3 years to 5 years 442 5.73 374 6.07
------- -------
$75,027 5.05% $57,239 5.45%
======= =======
7. FEDERAL HOME LOAN BANK BORROWINGS
Federal Home Loan Bank borrowings consist of the following:
Weighted Average
Interest Rate Amount
---------------- ------------------
Maturity 1999 1998 1999 1998
--------------------------- ---- ---- ---- ----
(In Thousands)
Year ending June 30, 1999 -% 5.70% $ - $ 1,100
Year ending June 30, 2000 6.30 6.30 2,400 2,400
Year ending June 30, 2002 6.31 6.31 2,950 2,950
Year ending June 30, 2003 5.85 5.85 2,300 2,300
Year ending June 30, 2004 5.30 - 3,600 -
Thereafter 5.54 5.54 6,800 6,800
Amortizing advance, due on
August 14, 2006, requiring
monthly payments of $7,793
including interest 6.97 6.97 928 955
------------------
$18,978 $16,505
==================
The following is a summary of maturities of borrowings at June 30,
1999:
Year Ending
June 30, Amount
----------- ------
(In Thousands)
2000 $ 2,428
2001 31
2002 2,983
2003 2,336
2004 3,638
Thereafter 7,562
-------
$18,978
=======
The Bank also has an available line of credit of $3,529,000 with the
Federal Home Loan Bank of Boston ("FHLB") at an interest rate that
adjusts daily. Borrowings under the line are limited to 2% of the
Bank's total assets. All borrowings from the Federal Home Loan Bank
of Boston are secured by a blanket lien on qualified collateral,
defined principally as 75% of the carrying value of first mortgage
loans on owner-occupied residential property and 90% of the market
value of U.S. Government and federal agency securities.
8. INCOME TAXES
Allocation of federal and state income taxes between current and
deferred portions is as follows:
Years Ended June 30,
------------------------
1999 1998 1997
---- ---- ----
(In Thousands)
Current tax provision:
Federal $ 776 $ 805 $444
State 258 292 170
------------------------
Total current 1,034 1,097 614
------------------------
Deferred tax benefit:
Federal (45) (49) (65)
State (18) (17) (22)
------------------------
Total deferred (63) (66) (87)
------------------------
Total provision $ 971 $1,031 $527
========================
The reasons for the differences between the statutory federal income
tax rate and the effective tax rates are summarized as follows:
Years Ended June 30,
-----------------------
1999 1998 1997
---- ---- ----
Statutory rate 34.0% 34.0% 34.0%
Increase (decrease) resulting from:
State taxes, net of federal tax benefit 6.4 7.0 7.7
Other, net (1.1) (1.0) (0.1)
----------------------
Effective tax rates 39.3% 40.0% 41.6%
======================
The components of the net deferred tax asset included in other assets
are as follows:
June 30,
--------------
1999 1998
---- ----
(In Thousands)
Deferred tax asset:
Federal $475 $399
State 164 138
--------------
639 537
Valuation reserve on asset (24) (24)
--------------
615 513
--------------
Deferred tax liability:
Federal (188) (243)
State (89) (16)
--------------
(277) (259)
--------------
Net deferred tax asset $338 $254
==============
The tax effects of each type of income and expense item that give
rise to deferred taxes are as follows:
June 30,
--------------
1999 1998
---- ----
(In Thousands)
Allowance for loan losses $545 $505
Net unrealized gain on securities available for sale (212) (233)
Other 29 6
------------
362 278
Valuation reserve (24) (24)
------------
Net deferred tax asset $338 $254
============
A summary of the change in the net deferred tax asset is as follows:
Years Ended June 30,
--------------------
1999 1998 1997
---- ---- ----
(In Thousands)
Balance at beginning of year $254 $324 $334
Deferred tax benefit 63 66 87
Deferred tax on net unrealized gain on
securities available for sale 21 (136) (97)
--------------------
Balance at end of year $338 $254 $324
====================
There was no change in the valuation reserve during the years ended
June 30, 1999, 1998 and 1997.
The federal income tax reserve for loan losses at the Bank's base
year amounted to $2,663,000. If any portion of the reserve is used
for purposes other than to absorb the losses for which established,
approximately 150% of the amount actually used (limited to the amount
of the reserve) would be subject to taxation in the fiscal year in
which used. As the Bank intends to use the reserve only to absorb
loan losses, a deferred income tax liability of $1,090,000 has not
been provided.
9. COMMITMENTS AND CONTINGENCIES
Loan commitments
The Bank 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 include commitments to
extend credit and advance funds under lines of credit and credit card
loans. These instruments involve, to varying degrees, elements of
credit and interest rate risk in excess of the amount recognized in
the accompanying consolidated financial statements.
The Bank's exposure to credit loss is represented by the contractual
amount of these instruments. The Bank uses the same credit policies
in making commitments as it does for on-balance-sheet instruments. A
summary of financial instruments outstanding whose contract amounts
represent credit risk is as follows:
June 30,
----------------
1999 1998
---- ----
(In Thousands)
Commitments to grant mortgage loans $3,741 $3,501
Commitments to grant commercial loans 3,114 2,898
Unadvanced funds on home equity lines of credit 2,170 1,749
Unadvanced funds on credit card loans 1,854 1,323
Unadvanced funds on commercial lines of credit 3,880 2,846
Standby letters of credit 252 210
Commitments to extend credit are agreements to lend to a customer as
long as there is no violation of any condition established in the
contract. Commitments generally have fixed expiration dates or other
termination clauses and may require payment of a fee. The commitments
for lines of credit and credit card loans may expire without being
drawn upon; therefore, the total commitment amounts do not
necessarily represent future cash requirements. The Bank evaluates
each customer's creditworthiness on a case-by-case basis. The
commitments for mortgage loans and home equity lines of credit are
collateralized by real estate. Commercial loans and lines of credit
are secured by various assets of the borrowers. Credit card loans are
generally unsecured.
Standby letters of credit are conditional commitments issued by the
Bank to guarantee the performance of a customer to a third party.
Those letters of credit are primarily issued to support public and
private borrowing arrangements. Letters of credit outstanding as of
June 30, 1999 have expiration dates within five years. The credit
risk involved in issuing letters of credit is essentially the same as
that involved in extending loan facilities to customers.
Employment agreements
The Company and the Bank have entered into employment agreements with
the President and three other officers. The agreements provide for
base salaries, participation in employee benefit plans and, in the
event of termination of employment, certain lump-sum severance
payments and continuation of benefits. However, such employment may
be terminated for cause, as defined in the agreements, without
incurring any continuing obligations.
In June 1998, the Company amended the President's employment
agreement to provide him with a special benefit on his retirement.
The President would be entitled to receive a lump sum benefit upon
retirement equal to the dollar value of the shares of common stock
expected to be allocated to the President under the ESOP over the ten
year term of the ESOP loan reduced by the value of the shares of
common stock actually allocated to the President's ESOP account.
During the year ended June 30, 1999, the Company accrued compensation
expense under this agreement amounting to $13,000.
Lease commitments
On July 28, 1998, the Bank entered into a lease agreement for its
branch located in Lexington, Massachusetts. Pursuant to the terms of
the noncancelable lease agreement in effect at June 30, 1999, the
future minimum rent commitments for leased premises are as follows:
Years Ending
June 30, Amount
------------ ------
(In Thousands)
2000 $ 121
2001 121
2002 121
2003 121
2004 121
Thereafter 514
------
Total $1,119
======
The lease contains an option to extend for two five-year periods and
also contains provisions for reimbursement of real estate taxes and
certain other costs. The costs of such rentals and reimbursements are
not included above. Rent expense for the year ended June 30, 1999
amounted to $91,000.
Contingencies
Various legal claims arise from time to time in the normal course of
business which, in the opinion of management, will have no material
effect on the Company's consolidated financial position or results of
operations.
10. STOCKHOLDERS' EQUITY
Stock conversion
On January 8, 1998, the Bank converted from a mutual to a stock
institution. Mystic Financial, Inc. became the Bank's holding company
in connection with the conversion and issued 2,711,125 shares of
common stock at $10.00 per share. Net proceeds were $25,737,000 after
conversion costs of $1,374,000.
During the years ended June 30, 1999 and 1998, the Company purchased
264,127 and 2,120 shares of common stock for $3,464,000 and $21,000,
respectively.
At the time of the conversion, the Bank established a liquidation
account in the amount of $11,761,000. In accordance with
Massachusetts statute, the liquidation account will be maintained for
the benefit of eligible account holders who continue to maintain
their accounts in the Bank after the conversion. The liquidation
account will be reduced annually to the extent that eligible account
holders have reduced their qualifying deposits. Subsequent increases
will not restore an eligible account holder's interest in the
liquidation account. In the event of a complete liquidation, each
eligible account holder will be entitled to receive a distribution in
an amount equal to their current adjusted liquidation account
balance, to the extent that funds are available.
Minimum regulatory capital requirements
The Company (on a consolidated basis) and the Bank are subject to
various regulatory capital requirements administered by the federal
banking agencies. Failure to meet minimum capital requirements can
initiate certain mandatory and possibly additional discretionary
actions by regulators that, if undertaken, could have a direct
material effect on the Company's and the Bank's consolidated
financial statements. Under capital adequacy guidelines and the
regulatory framework for prompt corrective action, the Company and
the Bank must meet specific capital guidelines that involve
quantitative measures of their assets, liabilities and certain off-
balance-sheet items as calculated under regulatory accounting
practices. The capital amounts and classification are also subject to
qualitative judgments by the regulators about components, risk
weightings, and other factors. Prompt corrective action provisions
are not applicable to bank holding companies.
Quantitative measures established by regulation to ensure capital
adequacy require the Company and the Bank to maintain minimum amounts
and ratios (set forth in the following tables) of total and Tier I
capital (as defined in the regulations) to risk weighted assets (as
defined) and of Tier I capital (as defined) to average assets (as
defined). Management believes, as of June 30, 1999 and 1998, that the
Company and the Bank meet all capital adequacy requirements to which
they are subject.
As of June 30, 1999, the most recent notification from the Federal
Deposit Insurance Corporation categorized the Bank as well
capitalized under the regulatory framework for prompt corrective
action. To be categorized as well capitalized, the Bank must maintain
minimum total risk-based, Tier I risk-based and Tier I leverage
ratios as set forth in the following tables. There are no conditions
or events that management believes have changed the Bank's category.
The Company's and the Bank's actual capital amounts and ratios are
also presented in the tables.
Minimum
To Be Well
Minimum Capitalized Under
Capital Prompt Corrective
Actual Requirement Action Provisions
---------------- ---------------- -----------------
Amount Ratio Amount Ratio Amount Ratio
------ ----- ------ ----- ------ -----
(Dollars In Thousands)
June 30, 1999:
Total Capital to Risk Weighted Assets
Consolidated $35,006 27.3% $10,255 8.0% N/A N/A
Bank 24,388 19.2 10,143 8.0 $12,679 10.0%
Tier I Capital to Risk Weighted Assets
Consolidated 33,658 26.2 5,127 4.0 N/A N/A
Bank 23,040 18.1 5,072 4.0 7,609 6.0
Tier I Capital to Average Assets
Consolidated 33,658 16.0 8,387 4.0 N/A N/A
Bank 23,040 11.4 8,046 4.0 10,057 5.0
June 30, 1998:
Total Capital to Risk Weighted Assets
Consolidated $36,931 34.1% $ 8,670 8.0% N/A N/A
Bank 25,653 24.4 8,412 8.0 $10,515 10.0%
Tier I Capital to Risk Weighted Assets
Consolidated 35,695 32.9 4,335 4.0 N/A N/A
Bank 24,417 23.2 4,206 4.0 6,309 6.0
Tier I Capital to Average Assets
Consolidated 35,695 19.1 7,486 4.0 N/A N/A
Bank 24,417 13.9 7,032 4.0 8,790 5.0
11. RELATED PARTY TRANSACTIONS
At June 30, 1999 and 1998, total loans to directors and officers of
the Company greater than $60,000 on an individual basis amounted to
$2,069,000 and $912,000, respectively. During the years ended June
30, 1999 and 1998, total principal additions were $1,783,000 and
$118,000, respectively, and total principal payments were $626,000
and $873,000, respectively.
12. EMPLOYEE BENEFIT PLANS
Pension plans
The Bank provides pension benefits for its employees through
membership in Plan C of the Defined Benefit Plan of the Co-operative
Banks Employees Retirement Association ("CBERA"). The plan is a
multi-employer plan where the contributions by each bank are not
restricted to provide benefits to the employees of the contributing
bank. Each employee reaching the age of 21 and having completed 1,000
hours of service in one consecutive twelve-month period beginning
with such employee's date of employment automatically becomes a
participant in the retirement plan. A participant in the plan is not
vested until they have performed two years of service, at which time
they become 20% vested. Participants become 100% vested when credited
with six years of service.
Total pension expense for the years ended June 30, 1999, 1998 and
1997 amounted to $115,000, $132,000 and $104,000, respectively.
In addition, the Bank has a savings and retirement plan, which
qualifies under Section 401(k) of the Internal Revenue Code, for its
employees through membership in Plan A of the Defined Benefit Plan of
CBERA. Each employee reaching the age of 21 and having completed
1,000 hours of service in one consecutive twelve-month period
beginning with such employee's date of employment automatically
becomes a participant in the savings and retirement plan. The plan
provides for voluntary contributions by participating employees
ranging from one percent to twelve percent of their compensation,
subject to certain limitations. The Bank matches 50% of an employee's
voluntary contribution up to ten percent of the employee's
compensation.
Total expense under the Section 401(k) plan for the years ended June
30, 1999, 1998 and 1997 amounted to $63,000, $68,000 and $58,000,
respectively.
Employee stock ownership plan
Effective January 8, 1998, the Company established and the Bank
adopted an ESOP, for the benefit of eligible employees who have
attained age 21 and have completed one year of service.
The Company loaned the ESOP $3,194,000 to fund the purchase of
216,890 shares of common stock of the Company in open-market
purchases following completion of the Bank's conversion from mutual
to stock form. The Bank intends to make annual contributions to the
ESOP in an aggregate amount at least equal to the principal and
interest requirements on the loan. The loan is for a term of 10
years, bears interest at 8% per annum and requires annual principal
payments of $319,000 plus interest.
Shares purchased by the ESOP are pledged as collateral for the loan,
and are held in a suspense account until released for allocation
among participants in the ESOP as the loan is repaid. The pledged
shares are released annually from the suspense account in an amount
proportional to the repayment of the ESOP loan for each plan year.
The released shares are allocated among the accounts of participants
on the basis of the participant's compensation for the year of
allocation. Benefits generally become vested at the rate of 20% per
year with vesting to begin after an employee's completion of three
years of service and full vesting to occur after seven years of
service. Participants also become immediately vested upon termination
of employment due to death, retirement at age 65 or older, permanent
disability or upon the occurrence of a change of control. Forfeitures
will be reallocated among remaining participating employees, in the
same proportion as contributions. Vested benefits may be paid in a
single sum or installment payments and are payable upon death,
retirement at age 65 or older, disability or separation from service.
Shares held by the ESOP include the following:
June 30,
------------------------
1999 1998
---- ----
(In Thousands)
Allocated 20,331 -
Committed to be allocated 12,954 -
Unallocated 183,605 216,890
------------------------
Total 216,890 216,890
========================
Fair value of unallocated ESOP shares $2,180,000 $3,145,000
========================
Cash dividends received on allocated shares are allocated to
participants and cash dividends received on shares held in suspense
are applied to repay the outstanding debt of the ESOP.
Total expense applicable to the ESOP amounted to $279,000 and
$163,000 for the years ended June 30, 1999 and 1998, respectively.
Stock option plan
On March 24, 1999, the Company's stockholders approved the 1999 Stock
Option Plan (the "Stock Option Plan"). Under the Stock Option Plan,
the Company may grant options to its directors, officers and
employees for up to 257,355 shares of common stock. Both incentive
stock options and non-qualified stock options may be granted under
the Stock Option Plan. The exercise price of each option equals the
market price of the Company's stock on the date of grant and an
option's maximum term is ten years. Options generally vest over a
five year period.
The Company applies APB Opinion 25 and related Interpretations in
accounting for the Stock Option Plan. Accordingly, no compensation
cost has been recognized. Had compensation cost for the Company's
Stock Option Plan been determined based on the fair value at the
grant dates for awards under the plan consistent with the method
prescribed by SFAS No. 123, the Company's net income and earnings per
share for the year ended June 30, 1999 would have been adjusted to
the pro forma amounts indicated below:
Net income As reported $1,502,000
Pro forma $1,466,000
Basic earnings per share As reported $ 0.63
Pro forma $ 0.62
The fair value of each option grant is estimated on the date of grant
using the Black-Scholes option-pricing model with the following
weighted-average assumptions used for grants during the year ended
June 30, 1999; dividend yield of 2.0%; expected life of 7 years;
expected volatility of 14%; and a risk-free interest rate of 5.2%.
During the year ended June 30, 1999, the Company granted options to
purchase 226,364 shares at an exercise price of $12.06 per share, all
of which were outstanding at June 30, 1999. The options vest over a
period of five years and expire in ten years. At June 30, 1999, none
of the options were exercisable. The weighted average fair value of
the options granted during the year was $2.67. The weighted average
remaining contractual life of the options outstanding at June 30,
1999 was 9.75 years.
Recognition and retention plan
On March 24, 1999, the Company's stockholders approved the Company's
adoption of the 1999 Recognition and Retention Plan (the "RRP"),
which allows the Company to grant restricted stock awards ("Awards")
to certain officers, employees and outside directors. The RRP is
authorized to acquire no more than 102,942 shares of Common stock in
the open market. Shares vest at a rate of 20% per year with the first
vesting period ending December 31, 1999. At June 30, 1999, Awards
were granted with respect to 96,342 shares. The aggregate purchase
price of all shares acquired by the RRP will be reflected as a
reduction of stockholders' equity and amortized to compensation
expense as the Company's employees and directors become vested in
their stock awards. There were no shares distributed to employees or
directors for the year ending June 30, 1999. Compensation expense
accrued relating to the RRP amounted to $94,000, for the year ended
June 30, 1999.
Benefit restoration plan
In June 1998, the Company adopted the Benefit Restoration Plan
("BRP") in order to provide the President with the benefits that
would be due to him under the defined benefit pension plan, the
401(k) Plan and the ESOP if such benefits were not limited under the
Internal Revenue Code. Total expense related to the BRP amounted to
$61,000 for the year ended June 30, 1999.
13. RESTRICTIONS ON DIVIDENDS, LOANS AND ADVANCES
Federal and state banking regulations place certain restrictions on
dividends paid and loans or advances made by the Bank to the Company.
The total amount of dividends which may be paid at any date is
generally limited to the retained earnings of the Bank, and loans or
advances are limited to 10% of the Bank's capital stock and surplus
on a secured basis.
At June 30, 1999, the Bank's retained earnings available for the
payment of dividends was $14,335,000 and funds available for loans or
advances amounted to $1,133,000. Accordingly, $11,143,000 of the
Company's equity in the net assets of the Bank was restricted at June
30, 1999.
In addition, dividends paid by the Bank to the Company would be
prohibited if the effect thereof would cause the Bank's capital to be
reduced below applicable minimum capital requirements.
14. FAIR VALUE OF FINANCIAL INSTRUMENTS
SFAS No. 107, "Disclosures about Fair Value of Financial Instruments"
requires disclosure of estimated fair values of all financial
instruments where it is practicable to estimate such values. In cases
where quoted market prices are not available, fair values are based
on estimates using present value or other valuation techniques. Those
techniques are significantly affected by the assumptions used,
including the discount rate and estimates of future cash flows.
Accordingly, the derived fair value estimates cannot be
substantiated by comparison to independent markets and, in many
cases, could not be realized in immediate settlement of the
instrument. SFAS No. 107 excludes certain financial instruments and
all nonfinancial instruments from its disclosure requirements.
Accordingly, the aggregate fair value amounts presented do not
represent the underlying value of the Company.
The following methods and assumptions were used by the Company in
estimating fair value disclosures for financial instruments:
Cash and cash equivalents: The carrying amounts of cash,
federal funds sold and short-term investments approximate fair
values.
Investment securities: Fair values for investment securities,
excluding Federal Home Loan Bank stock, are based on quoted
market prices. The carrying value of Federal Home Loan Bank
stock approximates fair value based on the redemption
provisions of the Federal Home Loan Bank.
Loans receivable: For variable-rate loans that reprice
frequently and with no significant change in credit risk, fair
values are based on carrying values. Fair values for loans held
for sale are based on quoted market prices. Fair values for all
other loans are estimated using discounted cash flow analyses,
using interest rates currently being offered for loans with
similar terms to borrowers of similar credit quality. Fair
values for non-performing loans are estimated using underlying
collateral values when applicable.
Deposit liabilities: Fair values for interest and non-interest
checking, passbook savings, and certain types of money market
accounts are, by definition, equal to the amount payable on
demand at the reporting date (i.e., their carrying amounts).
Fair values for term certificates of deposit are estimated
using a discounted cash flow calculation that applies interest
rates currently being offered on certificates to a schedule of
aggregated expected monthly maturities.
Federal Home Loan Bank borrowings: Fair values for borrowings
are estimated using discounted cash flow analysis based on the
Bank's current incremental borrowing rates for similar types of
borrowing arrangements.
Accrued interest: The carrying amounts of accrued interest
approximate fair value.
Off-balance-sheet instruments: Fair values for off-balance-
sheet lending commit-ments are based on fees currently charged
to enter into similar agreements, taking into account the
remaining terms of the agreements and the counterparties'
credit standing and are not material.
The estimated fair values, and related carrying amounts, of the
Company's financial instruments are as follows:
June 30,
--------------------------------------------
1999 1998
------------------ --------------------
Carrying Fair Carrying Fair
Amount Value Amount Value
-------- ----- -------- -----
(In Thousands)
Financial assets:
Cash and cash equivalents $ 18,721 $ 18,721 $ 25,979 $ 25,979
Securities available for sale 31,772 31,772 14,749 14,749
Securities held to maturity 1,500 1,502 12,006 12,030
Federal Home Loan Bank stock 1,080 1,080 997 997
Loans, net 154,689 154,598 138,593 141,418
Mortgage loans held for sale 406 406 80 80
Accrued interest receivable 1,265 1,265 1,099 1,099
Financial liabilities:
Deposits 160,867 161,664 144,766 145,116
Federal Home Loan Bank borrowings 18,978 18,619 16,505 16,341
Accrued interest payable 334 334 288 288
15. CONDENSED FINANCIAL STATEMENTS OF PARENT COMPANY
Condensed financial information pertaining only to Mystic Financial,
Inc., is as follows:
BALANCE SHEETS
--------------
June 30, 1999 and 1998
1999 1998
---- ----
(In Thousands)
Assets
------
Cash and due from banks $ 108 $ 178
Federal funds sold 1,054 1,003
Short-term investments - 1,522
------------------
Total cash and cash equivalents 1,162 2,703
Securities available for sale, at fair value 6,258 8,511
Investment in common stock of Bank 26,611 24,854
Other assets 123 159
------------------
Total assets $34,154 $36,227
==================
Liabilities and Stockholders' Equity
------------------------------------
Accrued expenses $ 102 $ 100
------------------
Stockholders' equity:
Preferred stock - -
Common stock 27 27
Additional paid-in capital 25,688 25,710
Retained earnings 14,128 13,173
Treasury stock, at cost (3,485) (21)
Accumulated other comprehensive income 394 432
Unearned compensation - ESOP (2,700) (3,194)
------------------
Total stockholders' equity 34,052 36,127
------------------
Total liabilities and stockholders' equity $34,154 $36,227
==================
STATEMENTS OF INCOME
--------------------
For the Year Ended June 30, 1999 and the Period January 8, 1998 to
June 30, 1998
1999 1998
---- ----
(In Thousands)
Income:
Interest on investments $ 516 $253
Interest on ESOP loan 188 126
Miscellaneous income 10 4
--------------
Total income 714 383
Operating expenses 307 8
--------------
Income before income taxes and equity in
undistributed income of Bank 407 375
Income tax provision 163 150
--------------
244 225
Equity in undistributed income of Bank 1,258 731
--------------
Net income $1,502 $956
==============
STATEMENTS OF CASH FLOWS
------------------------
For the Year Ended June 30, 1999 and the Period January 8, 1998 to
June 30, 1998
1999 1998
---- ----
(In Thousands)
Cash flows from operating activities:
Net income $1,502 $ 956
Adjustments to reconcile net income to net
cash provided by operating activities:
Equity in undistributed income of Bank (1,258) (731)
Amortization of investments 12 3
Other, net 16 (55)
----------------
Net cash provided by operating activities 272 173
----------------
Cash flows from investing activities:
Purchase of Bank common stock - (11,333)
Purchases of securities available for sale (5,307) (8,524)
Proceeds from sales of securities available for sale 7,505 -
----------------
Net cash provided (used) by investing activities 2,198 (19,857)
----------------
Cash flows from financing activities:
Net proceeds from sale of common stock - 25,737
Purchase of treasury stock (3,464) (21)
Purchase of ESOP shares - (3,194)
Cash dividends paid (547) (135)
----------------
Net cash provided (used) by financing activities (4,011) 22,387
----------------
Net change in cash and cash equivalents (1,541) 2,703
Cash and cash equivalents, beginning of period 2,703 -
----------------
Cash and cash equivalents, end of period $1,162 $2,703
================
16. SEGMENTS
The Company, through the branch network of its subsidiary, Medford
Co-operative Bank, provides a broad range of financial services to
individuals and businesses in the Greater Boston area. These services
include checking, savings and term certificate deposits; lending;
credit card servicing; and ATM processing services. While the
Company's chief decision-makers monitor the revenue streams of the
various Company products and services, operations are managed and
financial performance is evaluated on a Company-wide basis.
Accordingly, all of the Company's banking operations are considered
by management to be aggregated in one reportable operating segment.
17. SUBSEQUENT EVENT
On September 8, 1999, the Company's Recognition and Retention Plan
Trust completed the purchase of 102,942 shares of Common Stock in the
open market at an average price of $12.575 per share for the RRP
(Note 12).
18. QUARTERLY DATA (UNAUDITED)
Years Ended June 30,
------------------------------------------------------------------------------------
1999 1998
---------------------------------------- ----------------------------------------
Fourth Third Second First Fourth Third Second First
Quarter Quarter Quarter Quarter Quarter Quarter Quarter Quarter
------- ------- ------- ------- ------- ------- ------- -------
(In Thousands, Except Per Share Data)
Interest and dividend income $ 3,562 $ 3,510 $ 3,348 $ 3,325 $ 3,317 $ 3,171 $ 2,937 $ 2,785
Interest expense (1,634) (1,609) (1,496) (1,482) (1,435) (1,390) (1,432) (1,391)
------------------------------------------------------------------------------------
Net interest income 1,928 1,901 1,852 1,843 1,882 1,781 1,505 1,394
Provision for loan losses (55) - (30) (60) (30) (65) (80) (70)
------------------------------------------------------------------------------------
Net interest income, after provision
for loan losses 1,873 1,901 1,822 1,783 1,852 1,716 1,425 1,324
Other income 339 234 320 243 235 252 203 345
Operating expenses (1,736) (1,504) (1,461) (1,341) (1,278) (1,193) (1,233) (1,070)
------------------------------------------------------------------------------------
Income before income taxes 476 631 681 685 809 775 395 599
Provision for income taxes (192) (237) (272) (270) (320) (308) (159) (244)
------------------------------------------------------------------------------------
Net income $ 284 $ 394 $ 409 $ 415 $ 489 $ 467 $ 236 $ 355
====================================================================================
Basic earnings per share $ 0.12 $ 0.17 $ 0.16 $ 0.16 $ 0.18 N/A N/A N/A
====================================================================================
Diluted earnings per share $ 0.12 $ 0.17 $ 0.16 $ 0.16 $ 0.18 N/A N/A N/A
====================================================================================
N/A - Shares of common stock were not issued until January 8, 1998.