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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-K
ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
(Mark One)
[_] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT
OF 1934
[Fee Required]
For the fiscal year ended December 31,1998
-------------------------------------------------------
or
[_] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES EXCHANGE
ACT OF 1934
[No Fee Required]
For the transition period from _________________________ to____________________
COMMISSION FILE NUMBER: 22-25144
FIRST STATE BANCORPORATION
- --------------------------------------------------------------------------------
(EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER)
NEW MEXICO 85-0366665
- ----------------------------------- ---------------------------------
(STATE OR OTHER JURISDICTION OF (I.R.S. EMPLOYER
INCORPORATION OR ORGANIZATION) IDENTIFICATION NO.)
7900 JEFFERSON NE
ALBUQUERQUE, NEW MEXICO 87109
- ------------------------------------------ ---------------------------------
(ADDRESS OF PRINCIPAL EXECUTIVE OFFICES) (ZIP CODE)
REGISTRANT'S TELEPHONE NUMBER, INCLUDING AREA CODE: (505) 241-7500
Securities registered pursuant to Section 12(b) of the Act:
TITLE OF EACH CLASS NAME OF EACH EXCHANGE ON WHICH
REGISTERED
NONE NONE
- ------------------------------------------ ---------------------------------
Securities registered pursuant to Section 12(g) of the Act:
Common Stock
- --------------------------------------------------------------------------------
(TITLE OF CLASS)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act
of 1934 during the preceding 12 months (or for such shorter period that the
registrant was required to file such reports), and (2) has been subject to such
filing requirements for the past 90 days. Yes X No .
--- ---
Indicate by check mark if disclosure of the delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of the registrant's knowledge, in definitive proxy or information
statements incorporated by reference in Part III of this Form 10-K or any
amendment of this Form 10-K. [_]
The aggregate market value of the voting stock held by non-affiliates as of
March 23, 1999 was $59,594,764 based upon a price of $19.3125 per share.
As of March 23, 1999, there were 3,424,992 shares of common stock issued and
outstanding.
Documents incorporated by reference - none
TABLE OF CONTENTS
-----------------
PART I Page
- ------ ------
Item 1: Business ................................................................ 3
Item 2: Properties .............................................................. 8
Item 3: Legal Proceedings ....................................................... 8
Item 4: Submission of Matters to a Vote of Securities Holders ................... 9
PART II
- -------
Item 5: Market for Registrant's Common Equity and Related Stockholder Matters.... 9
Item 6: Selected Financial Data ................................................. 10
Item 7: Management's Discussion and Analysis of Financial Condition and
Results of Operations ................................................... 10
Item 7A: Quantitative and Qualitative Disclosures About Market Risk .............. 10
Item 8: Financial Statements and Supplementary Data ............................. 10
Item 9: Changes in and Disagreements With Accountants on
Accounting and Financial Disclosure ..................................... 10
PART III
- --------
Item 10: Directors and Executive Officers of the Registrant ...................... 10
Item 11: Executive Compensation .................................................. 12
Item 12: Security Ownership of Certain Beneficial Owners and Management .......... 17
Item 13: Certain Relationships and Related Transactions .......................... 18
PART IV
- -------
Item 14: Exhibits, Financial Statement Schedules, and Reports on Form 8-K ........ 19
FORWARD-LOOKING STATEMENTS
Statements which are forward-looking are not historical facts, and involve risks
and uncertainties that could cause the Company's results to differ materially
from those in any forward-looking statements. These risks include the possible
loss of key personnel, need for additional capital should the Company experience
faster than anticipated growth, changes in economic conditions, interest rate
risk, factors which could affect the company's ability to compete in its trade
areas, changes in regulations and governmental policies, and the risks described
in the Company's Securities and Exchange Commission filings.
PART 1
ITEM 1: BUSINESS.
THE COMPANY
First State Bancorporation is a New Mexico-based bank holding company that
provides commercial banking services to small- and medium-sized businesses
through its subsidiary bank, First State Bank of Taos ("First State Bank" which,
together with First State Bancorporation, is referred to herein as the "Company"
unless the content indicates otherwise). The Company operates three offices in
Taos, five offices in Albuquerque, two offices in Santa Fe, and one office each
in Rio Rancho, Los Lunas, Bernalillo, Questa, Placitas, and Moriarty, New
Mexico. First State Bank, the largest bank in Taos County, has operated in the
county since 1922. The Company acquired three Albuquerque branches in 1991 by
merging the business operations of First State Bank with an affiliated bank. The
Company entered the Santa Fe market with the acquisition of First State Bank of
Santa Fe (the "Santa Fe Bank") on December 1, 1993. The Santa Fe Bank was merged
into First State Bank on June 5, 1994. See " -- History." At December 31, 1998,
the Company had total assets, total deposits, and total stockholders' equity of
$493.7 million, $409.0 million, and $44.2 million, respectively.
Management's strategy is to provide a business culture in which customers are
provided individualized customer service. As part of its operating and growth
strategies, the Company is working to (i) place greater emphasis on attracting
core deposits from, and providing financial services to, small and medium-sized
businesses; (ii) expand operations in the Albuquerque metropolitan area, which
consists of Albuquerque, Rio Ranchos, and Los Lunas; Santa Fe, and other
strategic areas in New Mexico; (iii) improve asset quality through reductions in
nonperforming assets and strict adherence to credit administration standards;
(iv) manage interest rate risk; (v) continue to improve internal operating
systems; and (vi) manage non-interest expenses.
Management believes that the Company is well qualified to pursue an aggressive
growth strategy throughout New Mexico due to its responsive customer service,
its streamlined management structure, the strong community involvement of the
Company's management and employees, and recent trends in the New Mexico banking
environment. Continued consolidation in the banking industry has led to the
acquisition of banks with significant market share in New Mexico by large
out-of-state institutions. See "--Growth Strategy." Management believes that, in
many cases, the acquiring institutions have shifted the focus of the acquired
banks away from the small- and medium-sized businesses that are at the core of
the Company's marketing efforts. The Company intends to capitalize on this
environment by expanding internally and through de novo branching opportunities,
and select acquisitions.
Management believes that the changes in the competitive environment have created
expansion opportunities for the Company. These opportunities are primarily
centered in the Albuquerque metropolitan area, and Santa Fe markets. The Company
has added staff to service the additional volume of loans and deposits obtained
as a result of expansion in these marketplaces. The level of any additional
staffing and related expenses will depend on the magnitude of continued growth.
In addition, the Company will consider potential acquisition targets that
complement the Company's existing operations and provide economies of scale when
combined with its existing locations. See "--Growth Strategy."
At December 31, 1998, First State Bank was "well capitalized" under regulatory
capital guidelines.
The Company's executive offices are located at 7900 Jefferson NE., Albuquerque,
New Mexico 87109, and its telephone number is (505) 241-7500.
3
HISTORY
The Company and an affiliated company, New Mexico Bank Corporation, were formed
in 1988 to acquire banking institutions in New Mexico. In December 1988, the
Company acquired First State Bank, and New Mexico Bank Corporation acquired
National Bank of Albuquerque ("NBA"). After a change in New Mexico banking laws
in 1991, the Company and New Mexico Bank Corporation merged, and the operations
of NBA were merged into First State Bank in December 1991.
At the time of its acquisition, First State Bank had high levels of non-interest
expense and problem assets relative to total assets and an unacceptable record
of loan charge-offs. To address these problems, Michael R. Stanford, who had
been appointed President of First State Bank in April 1988 and is President of
the Company, and his management team focused on (i) strengthening underwriting
standards and increasing senior management involvement in loan approvals, (ii)
pursuing an aggressive policy of foreclosing upon nonperforming loans and
selling the underlying collateral, and (iii) implementing expense and overhead
reductions, including eliminating two unprofitable branch offices and one
redundant branch and reducing staffing levels in the remaining three branches.
On December 1, 1993, the Company purchased 94.5% of the outstanding shares of
common stock of the Santa Fe Bank. These selling shareholders included members
of the current management and directors of the Company, and two officers of
First State Bank.
Since its initial public offering in 1993, the Company has made significant
investments in expansion and technology. Since 1993, First State Bank has opened
eight new branches which have contributed $158.8 million in deposits and $101.9
million in loans.
OPERATING STRATEGY
The Company's operating strategies include:
. Providing responsive, personal customer service
. Attracting new account relationships
. Emphasizing community involvement
. Developing new business opportunities
. Increasing efficiency
. Optimizing asset/liability management
Customer service. The Company's objective is to increase market share in both
lending volume and deposits by providing responsive customer service that is
tailored to its customers' needs. By maximizing personal contact with customers,
maintaining low employee turnover, and endeavoring to understand the needs and
preferences of its customers, the Company is working to maintain and further
enhance its reputation of providing excellent customer service, allowing it to
achieve its growth and earnings goals.
The Company has developed a streamlined management structure that allows it to
make credit and other banking decisions rapidly. Management believes that this
structure, when compared to other competing institutions, enables the Company to
provide a higher degree of service and increased flexibility to creditworthy
customers.
4
New account relationships. The Company's strategy is to increase its emphasis on
relationship banking with small- and medium-sized businesses and individual
customers across all product lines. The acquisition of most of the Company's
local competitors by out-of-state banking companies has reduced the service
level offered to customers of those banks and has created an opportunity for the
Company to expand its customer base. The Company intends to capitalize on this
opportunity by targeting its marketing efforts to those businesses and
individuals who prefer the personalized customer service emphasized by the
Company.
Community Involvement. First State Bank management and other employees
participate actively in a wide variety of civic and community activities and
organizations, including local chambers of commerce, a board of education,
United Way, Boys and Girls Clubs, and Habitat for Humanity. First State Bank
also sponsors a number of community-oriented events each year. The Company
believes that these activities assist First State Bank through increased
visibility and through development and maintenance of customer relationships.
New Business Opportunities. The Company has and will continue to consider a
variety of new banking opportunities, whether through the opening of de novo
branches, acquisition of an existing commercial bank or bank holding company, or
other opportunities permissible under state and federal banking regulations.
Expansion efforts will be focused in areas or markets that are complementary to
First State Bank's existing customer base and areas of operation. See "--Growth
Strategy."
Increasing Efficiency. Management believes that investments in technology and
facilities made since 1993 will allow the Company to grow revenues significantly
faster than expenses over the next few years. Management believes these
investments will allow the Company to expand its asset base without a
commensurate increase in non-interest expense.
Asset/Liability Management. The Company's asset/liability management policy is
designed to provide stable net interest income growth by protecting its earnings
from undue interest rate risk. The Company maintains a strategy of keeping the
rate adjustment period on the majority of both assets and liabilities to an
earning neutral position, with a substantial amount of these assets and
liabilities adjustable in 90 days or less. See Item 7: "Management's Discussion
and Analysis of Financial Condition and Results of Operations--Asset/Liability
Management."
GROWTH STRATEGY
The Company expects to pursue an aggressive growth strategy through a
combination of internal growth, de novo branching, and select acquisitions.
Several banks that compete with the Company have been acquired by large
out-of-state financial institutions since 1993. Management believes that these
changes in the competitive environment have caused the acquired banks to
significantly alter their operating procedures and their approach to customer
service, affording the Company an opportunity to gain profitable new account
relationships and to expand existing relationships.
In addition, management believes that there may be attractive opportunities to
open new branches and acquire branches of existing or merged institutions in New
Mexico. Consolidation in the banking industry and increased regulatory burdens
on existing institutions provide a favorable environment for such openings and
acquisitions. Management considers a variety of criteria when evaluating
potential branch expansion, including (i) the short- and long-term growth
prospects for the location, (ii) the management and other resources required to
integrate the operations, if desirable, (iii) the degree to which the branch
would enhance the geographic diversification of the Company, (iv) the degree to
which the branch would enhance the Company's presence in an existing market, and
(v) the costs of operating the branch. The Company plans to open two new
branches in 1999, one on Albuquerque's westside in the second quarter and one in
Belen, a community approximately
5
35 miles south of Albuquerque, early in the third quarter. An additional future
branch site has been acquired in Santa Fe.
The Company's goal over the next five years is to create a broad-based,
well-capitalized, customer-focused New Mexico financial institution with assets
of $600.0 million to $1.0 billion. Management believes that a financial
institution of this size is large enough to meet the needs of most customers,
yet small enough to deliver personal, high-quality service. To accommodate the
Company's anticipated growth, management intends to further develop the existing
management of the Company and further develop its management information systems
and other appropriate internal management systems. There can be no assurance,
however, that the Company will achieve its growth objectives.
MARKET AREAS AND BANKS
Markets. First State Bank serves three distinct market areas within New Mexico:
Taos County, the Albuquerque metropolitan area, and Santa Fe. Taos County is a
popular year-round recreation and tourist area. Ski and golf resorts in the area
attract visitors from throughout the southwestern and western United States.
Taos also has an active art community catering to the tourist trade.
The Albuquerque metropolitan area is the largest metropolitan area in New Mexico
and is the financial center of the state. It has a diverse economy centered
around federal and state government, military, service, and industries of
technology. Military facilities include Kirtland Air Force Base and Sandia
National Laboratories. A number of companies, including Intel, Lockheed Martin,
Taco Bell, Sumitomo, General Mills, America On Line and Victoria's Secret, have
initiated or expanded operations in the area in the past several years.
Santa Fe is the state capital of New Mexico. Its principal industries are
government and tourism. Like Taos, Santa Fe is widely known for its southwestern
art galleries and amenities, including the Santa Fe Opera. Santa Fe is one of
the largest art markets in the United States, attracting visitors from all parts
of the United States and many foreign countries.
First State Bank. The following table sets forth certain information concerning
the banking offices of First State Bank as of December 31, 1998:
Total
Number of Total Loans and
Location facilities Deposits Leases
- ---------------------------------- ------------ ---------- -----------
(Dollars in the thousands)
First State Bank:
Taos ........................ 4 $ 91,658 $ 41,335
Santa Fe .................... 2 82,948 47,152
Albuquerque.................. 5 159,456 174,821
Los Lunas ................... 2 24,429 34,970
Rio Rancho .................. 3 58,604 36,741
------------ ---------- -----------
Total.................. 16 $417,095 $335,019
============ ========== ===========
First State Bank offers a full range of financial services to commercial and
individual customers, including checking accounts, short- and medium-term loans,
revolving credit facilities, inventory and accounts receivable financing,
equipment financing, residential and small commercial construction lending,
commercial leases, various savings programs, installment and personal loans,
safe deposit services, and credit cards.
6
The Taos locations provide conventional commercial and SBA loans to established
commercial businesses and businesses that support the tourism and skiing
industries. The Taos branches also provide a broad range of consumer banking
services, including a full complement of deposit and residential construction
and other loan services.
The Albuquerque metropolitan area locations primarily serve established
commercial businesses and individuals who may require a full range of banking
services. In addition to an emphasis on conventional commercial and SBA lending,
these locations are active in residential construction lending in the
Albuquerque metropolitan area.
The Santa Fe locations primarily serve a diverse group of small- to medium-sized
business and individual customers, including commercial businesses that support
the tourism industry.
The following is a summary of the Company's percentage of its deposits to total
deposits of FDIC insured institutions in the counties in which it does business
as of June 30, 1998:
Taos..................... 40.33%
Bernalillo............... 3.19%
Santa Fe................. 6.89%
Sandoval................. 15.32%
Valencia ................ 6.01%
Torrance ................ 2.03%
Management believes that its greatest opportunity for growth is in Bernalillo,
Santa Fe, Valencia, and Sandoval counties. First State Bank is the largest bank
in Taos County, and growth in that market is expected to come from economic
growth and not as a result of increased market share.
COMPETITION
First State Bank competes for loans, leases, and deposits with other commercial
banks, savings banks, savings and loan associations, credit unions, finance
companies, mutual funds, insurance companies, brokerage and investment banking
firms, asset-based non-bank lenders, governmental organizations, and other
institutions with respect to the scope and type of services offered, interest
rates paid on deposits, and pricing of loans, among other things. Many of these
competitors have significantly greater financial and other resources than the
Company. First State Bank also faces significant competition for investors'
funds from sellers of short-term money market securities and other corporate and
government securities.
First State Bank competes for loans and leases principally through the range and
quality of its services, interest rates, and loan fees. First State Bank
believes its personal-service philosophy enables it to compete favorably with
other financial institutions in its focus market of small- and medium-sized
businesses. First State Bank actively solicits deposit-related clients and
competes for deposits by offering customers personal attention and professional
service.
EMPLOYEES
As of December 31, 1998, the Company had 226 full-time equivalent employees. The
Company places a high priority on staff development, training, and selective
hiring. New hires are selected on the basis of both technical skills and
customer-service capabilities. Staff development involves intensive training in
marketing,
7
customer service, and regulatory compliance. None of the Company's employees is
covered by a collective bargaining agreement with the Company, and management
believes that its relationship with its employees is good.
OTHER
For a discussion of asset/liability management, the investment portfolio, loan
portfolio, nonperforming assets, allowance for loan losses, and deposits see
Item 7: "Management's Discussion and Analysis of Financial Condition and Results
of Operations."
ITEM 2: PROPERTIES.
With the exception of its Main and Southside facilities in Taos, the Journal
Center facility in Albuquerque, and the Bernalillo facility, which are owned by
First State Bank, the Company leases its banking facilities. See Item 13:
"Certain Relationships and Related Transactions." The following table shows the
size and age of each of the banking facilities owned or leased by the Company:
Approximate
building area now
Approximate Approximate utilized for banking
land area building area services Year constructed or
(sq. ft.) (sq. ft.) (sq. ft.) last renovated
---------------------------------------------------------------------------------------------
Facilities:
Taos
Main ...................... 19,800 8,940 8,940 Renovated 6-93
Northside ................. 45,215 2,239 2,239 Renovated 9-95
Questa .................... 17,947 1,050 1,050 Renovated 8-93
Southside ................. 36,590 5,550 5,550 Renovated 9-92
Santa Fe
San Mateo ................. 62,334 6,955 6,955 Renovated 11-95
Downtown .................. 5,100 2,116 2,116 Constructed 12-95
Albuquerque
Lomas ..................... 9,199 9,199 9,199 Renovated 3-95
Carlisle .................. 16,256 1,880 1,880 Constructed 9-95
Montgomery ................ 14,514 3,742 3,742 Renovated 11-93
Sycamore .................. 45,834 5,164 5,164 Constructed 9-94
Journal Center ............ 158,384 18,390 18,390 Renovated 3-98
Rio Rancho
Rio Rancho ................ 50,214 5,500 4,000 Constructed 3-95
Placitas .................. 807 807 807 Constructed 9-94
Bernalillo ................ 43,539 4,610 4,610 Constructed 8-96
Los Lunas
Los Lunas ................. 57,243 4,327 4,327 Constructed 8-95
Moriarty .................. 1,900 1,900 1,900 Constructed 12-97
ITEM 3: LEGAL PROCEEDINGS
Periodically and in the ordinary course of business, various claims and lawsuits
are brought against the
8
Company, such as claims to enforce liens, condemnation proceedings on
properties in which the Company holds security interests, claims involving the
making and servicing of real property loans, and other issues incident to the
Company's business. In the opinion of the Company's management, the ultimate
liability, if any, resulting from such claims or lawsuits will not have a
material adverse effect on the financial position or results of operations of
the Company.
ITEM 4: SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS.
No matters were submitted to a vote of the Company's security holders during the
fourth quarter of 1998.
PART II
ITEM 5: MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS.
PRICE RANGE OF COMMON STOCK
The Company's Common Stock is traded on The Nasdaq Stock Market's National
Market under the symbol "FSNM." The following table sets forth, for the periods
indicated, the high and low closing sale prices on The Nasdaq Stock Market's
National Market as reported by Nasdaq. The Company's Common Stock commenced
trading on November 3, 1993. The quotations in the over-the-counter market
reflect inter-dealer prices, without retail markup, markdown, or commissions and
may not necessarily represent actual transactions.
High Low
-----------------------------------
1998
----
First Quarter............. $27.75 $18.75
Second Quarter............ 27.38 22.75
Third Quarter............. 25.00 17.00
Fourth Quarter............ 21.00 16.50
1997
----
First Quarter............. $16.13 $14.50
Second Quarter............ 17.50 12.88
Third Quarter............. 20.50 16.50
Fourth Quarter............ 21.63 17.00
1996
----
First Quarter............. $12.75 $11.25
Second Quarter............ 13.00 10.88
Third Quarter............. 14.00 12.25
Fourth Quarter............ 15.25 13.25
The last reported sale price of the Company's Common Stock on March 15,1999, was
$19.313 per share. As of March 15,1999, there were approximately 88 shareholders
of record, not including shareholders who beneficially own Common Stock held in
nominee or street name.
DIVIDEND POLICY
The Company paid cash dividends of $790,306 or $0.25 per share in 1998, $522,870
or $0.21 per share in 1997, and $408,489 or $0.20 per share in 1996, which
amounted to 18.76% , 15.70%, and 19.82% of net income in 1998, 1997, and 1996,
respectively. The declaration and payment of cash dividends are determined by
the Board of Directors in light of the earnings, capital requirements, and
financial condition of the Company, and other relevant factors. The ability of
the Company to pay cash dividends depends on the amount of cash dividends paid
to it by First State Bank and the capital position of the Company. Capital
distributions, including dividends, by First State Bank are subject to federal
and state regulatory restrictions tied to its earnings and capital.
9
ITEM 6: SELECTED FINANCIAL DATA.
Selected Financial Data are filed as part of this report and appear immediately
following the signature page.
ITEM 7: MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS. Management's Discussion and Analysis of Financial Condition and
Results of Operations are filed as part of this report and appear immediately
following Selected Financial Data.
ITEM 7A: QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK.
Quantitative and Qualitative Disclosures About Market Risk are filed as part of
this report and appear within Management Discussion and Analysis of Financial
Condition and Results of Operations under the caption Asset/Liability
Management.
ITEM 8: FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA.
The Company's financial statements are filed as a part of this report and appear
immediately following the Management's Discussion and Analysis of Financial
Condition and Results of Operations.
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 table sets forth information concerning the directors and
executive officers of the Company.
Name Age Company
---- --- -------
Michael R. Stanford (1) 46 President, Chief Executive Officer, and Director
H. Patrick Dee 44 Executive Vice President, Chief Operating Officer,
Secretary, Treasurer, and Director
Brian C. Reinhardt 40 Senior Vice President and Chief Financial Officer
Eloy A. Jeantete (1) 71 Chairman of the Board and Director
Leonard J. DeLayo, Jr. (2) 50 Director
Bradford M. Johnson (1)(2) 48 Director
Douglas M. Smith, M.D.(1)(2) 65 Director
Herman N. Wisenteiner (1)(3) 68 Director
Marshall G. Martin 60 Director
Kevin L. Reid (3) 38 Director
_________________
(1) Member of Executive Committee
(2) Member of Audit Committee
(3) Member of Compensation Committee
Each officer of the Company serves at the discretion of the Board of Directors.
There are no family relationships among any of the directors, officers, or key
employees of the Company. The current authorized number of directors of the
Company is ten.
Michael R. Stanford, a Director of the Company since its organization in 1988,
is President and Chief Executive Officer of the Company and First State Bank.
Mr. Stanford's entire career has been in the banking
10
industry. Prior to joining First State Bank in 1987, Mr. Stanford spent five
years with New Mexico Banquest Corporation as Senior Vice President in charge of
loan administration. Mr. Stanford is a past director of the New Mexico Bankers
Association. In addition, Mr. Stanford is involved in a variety of civic
organizations.
H. Patrick Dee has been a Director of the Company since 1991 and presently
serves as Executive Vice President, Chief Operating Officer, and
Secretary/Treasurer of the Company, and Executive Vice President and Chief
Operating Officer of First State Bank, a position he has held since December
1991. Prior to joining the Company, Mr. Dee spent four years with New Mexico
Banquest Corporation and, after its acquisition by Livingston & Co. Southwest,
LP in 1988, with NBA. In 1989, Mr. Dee became Senior Vice President and Chief
Financial Officer of Livingston & Co. Southwest, LP. Mr. Dee is a certified
public accountant.
Brian C. Reinhardt, a Senior Vice President and Chief Financial Officer of the
Company since 1995, joined First State Bank in September 1994. Prior to joining
First State Bank, Mr. Reinhardt was a Senior Manager with KPMG, LLP. Mr.
Reinhardt joined KPMG, LLP in 1984.
Eloy A. Jeantete, a Director of the Company since August 1993 and Chairman of
the Board since January 1994, joined First State Bank 50 years ago as a
bookkeeper and has spent his entire working career with First State Bank rising
to his present position of Chairman of the Board of the Company. As a lifetime
resident of Taos, N.M., Mr. Jeantete has accumulated a long list of civic
achievements and community involvement, culminating with his election in 1990 as
Mayor of Taos, New Mexico, a position he held until March 1994.
Leonard J. DeLayo, Jr., a Director of the Company since November 1993, served as
a director of First State Bank from 1988 to January 1992. Mr. DeLayo has been
engaged in a general corporate and commercial law practice in New Mexico since
1974 and is the President and sole shareholder of Leonard J. DeLayo, Jr., P.C.,
which currently provides legal services to the Company and First State Bank as
outside counsel. Mr. DeLayo serves on the Albuquerque Board of Education. See
"Certain Business Relationships--Legal Services."
Bradford M. Johnson, a Director of the Company since November 1993, is President
of Heron Hill Corporation, a private company engaged in investments and
financial consulting. From 1991 to November 1993, Mr. Johnson was a partner and
Director of Research of Sterne, Agee & Leach, Inc., an investment banking firm
in Atlanta, Georgia. Mr. Johnson studied at the University of Paris-Sorbonne
from 1987 to 1991.
Douglas M. Smith, M.D., a Director of the Company since November 1993, is a
Board Certified radiologist and the owner/general partner of The Historic Taos
Inn, Taos, New Mexico. Dr. Smith is the co-founder and former President of Palm
Beach Imaging, Inc., West Palm Beach, Florida, and a former member of the Board
of Directors of the PIE Medical Insurance Co., a physician-owned medical
malpractice insurance company headquartered in Cleveland, Ohio.
Herman N. Wisenteiner, a Director of the Company since November 1993, is
President and Chief Executive Officer of Horn Distributing Company, a real
estate holding company which he founded in 1971 in Santa Fe, New Mexico. In
addition to his many civic activities in northern New Mexico, from 1984 to 1993
Mr. Wisenteiner was also Chairman and Chief Executive Officer of CLX Exploration
Inc., a publicly traded oil and natural gas exploration and production company
headquartered in Denver, Colorado and served as a Director of First Interstate
Bank, Santa Fe, New Mexico from 1980 to 1993. See "Certain Business
Relationships--Santa Fe Branch Location."
Marshall G. Martin, a Director of the Company since June 1997, is a senior
partner with the law firm of Hinkle, Cox, Eaton, Coffield & Hensley LLP, a
position he has held since June 1997, and prior to January of 1997. For the
period from January 1997 through June 1997 Mr. Martin was Vice President-General
Counsel of Solv-Ex Corporation which filed for chapter 11 bankruptcy
reorganization in August 1997 and which emerged from bankruptcy in 1998. Hinkle,
Cox, Eaton, Coffield & Hensley LLP, is the Company's corporate counsel. See
"Certain Business Relationships--Legal Services." Mr. Martin is involved in a
variety of civic organizations.
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Kevin L. Reid, was appointed by the Board of Directors to fill a vacancy created
by the resignation of Manuel Lujan, Jr. Mr. Reid will complete the term created
by that resignation which runs until the 1999 annual meeting. Mr. Reid is
President and Owner of Reid & Associates, a design/build construction company, a
position he has held since 1997, when he assumed the presidency of Reid &
Elliott and changed the name of the Company to Reid & Associates. Mr. Reid co-
founded Reid and Elliott in 1991.
COMMITTEES
The Board of Directors has an Executive Committee, an Audit Committee and a
Compensation Committee. The members of the Audit Committee and Compensation
Committee are outside directors.
COMPLIANCE WITH SECTION 16(A) OF THE EXCHANGE ACT
Section 16(a) of the Securities Exchange Act of 1934 requires the Company's
officers, directors, and persons who own more than 10% of a registered class of
the Company's equity securities and certain other affiliated persons to file
reports of ownership and changes in ownership with the Securities and Exchange
Commission and the National Association of Securities Dealers, Inc. Officers,
directors, and greater than 10% shareholders are required by SEC regulations to
furnish the Company with copies of all Section 16(a) forms they file.
Based solely on review of the copies of such forms furnished to the Company, or
written representations that no other forms were required, the Company believes
that during the fiscal year ended December 31, 1998, all Section 16(a) filing
requirements applicable to its officers, directors, and greater than 10%
beneficial owners were complied with.
ITEM 11: EXECUTIVE COMPENSATION.
The following tables set forth the compensation paid by the Company to the three
executive officers of the Company and one officer of the bank subsidiary who
received in excess of $100,000 in cash compensation.
Long Term Compensation
------------------------------
Name and Annual Compensation Stock
---------------------------------------------
Principal Position Year Salary ($) Bonus ($) Other ($)(1) Options Granted (#)
- ------------------------------ -------- ------------- -------------- ---------------- ------------------------------
Michael R. Stanford 1998 $250,000 $50,000 $50,370 0
President and Chief 1997 $220,833 -- $50,405 20,000
Executive Officer 1996 $183,333 $24,000 $41,621 0
H. Patrick Dee 1998 $175,000 $35,000 $47,538 0
Secretary and 1997 $154,583 -- $46,097 10,000
Treasurer 1996 $130,000 $16,000 $42,836 0
W. Gary Millhollon
Senior Vice President 1998 $70,000 $157,146 $8,100 0
Bank 1997 $70,000 $126,874 $8,100 0
Subsidiary 1996 $86,575 $20,830 $6,000 0
Leasing division
Brian C. Reinhardt
Senior Vice President 1998 $106,000 $6,000 $9,795 0
and Chief Financial 1997 $86,563 $3,000 $8,540 10,000
Officer 1996 $70,750 $1,000 $8,303 0
- ------------------------------
(1) Represents insurance premiums paid by the Company on behalf of the
employee, amounts contributed by the Company to the employee's Section
401(k) plan, auto allowance, and dues.
12
Aggregated Option Exercises in Fiscal Year
and Fiscal Year-End Options Value
Number of Unexercised Value of In-the-Money
Shares Value Options at 12/31/98 (#) Options at 12/31/98 ($)
Acquired on Realized ($) Exercisable / (1) Exercisable /
Name Exercise (#) Un-exercisable Un-exercisable
- ------------------------------- --------------- -------------- ------------------------- ---------------------------
Michael R. Stanford -- -- 77,112 $903,998
12,000 $42,000
H. Patrick Dee -- -- 47,750 $554,313
6,000 $21,000
Brian C. Reinhardt -- -- 6,000 $38,700
6,500 $27,175
- -------------------------------
(1) The closing price of the Company's Common Stock on December 31, 1998, was
$20.75 per share.
Option/SAR Grants in Last Fiscal Year
[Individual Grants]
- --------------------------------------------------------------------------------------------------------------------
Number of securities Percent of total
underlying options/SARs
options/SARs granted granted to
(#) employees in Exercise or base Expiration date
Name fiscal year price ($/Sh)
- -------------------------- ---------------------- ------------------ ------------------- -----------------
Michael R. Stanford None
H. Patrick Dee None
Brian C. Reinhardt None
- --------------------------
EXECUTIVE INSURANCE
First State Bank has key-person insurance policies on each of Messrs. Stanford
and Dee. Under these policies, First State Bank is named as beneficiary of
$577,865 of term life insurance on Mr. Stanford and $321,516 of term life
insurance on Mr. Dee (the "Term Life Policies"). In addition, First State Bank
also pays the premiums on $922,135 of additional whole life insurance for Mr.
Stanford and $878,484 for Mr. Dee under which each of these individuals is able
to name the beneficiary (the "Whole Life Policies"). Under the provisions of the
Term Life Policies the amount of term insurance under each policy is gradually
decreased over a period of 10 years. However, First State Bank's premium
payments are kept level during the entire 10 year period with the excess
premiums from the Term Life Policies being applied to the Whole Life Policies.
As a result of the increasing portion of the premiums which are allocated to the
Whole Life Policies, at the end of the 10 year period the Whole Life Policies
are fully paid. Upon termination of employment, the Whole Life Policies would be
transferable to Messrs. Stanford or Dee, as the case may be, who could elect to
continue making the premium payment if such termination occurred prior to the
tenth year of the policy. The annual premium which will be paid for the Whole
Life Policies will constitute compensation to such individuals.
STOCK OPTION AGREEMENT
Under the terms of a stock option agreement, Michael R. Stanford can exercise
an option to purchase 6,612 shares of Common Stock at a price of $5.01 per
share. As originally granted, the option allowed Mr. Stanford to purchase up
to 10% of the common stock of New Mexico Bank Corporation ("NMBC"), the parent
holding company of NBA, at the book value of the NMBC common stock as of
November 19, 1990. In December 1991, the option was converted to an option to
purchase the Company's Common Stock when
13
NMBC was merged into the Company. The option may be exercised at any time by Mr.
Stanford and will expire on October 12, 2003.
EXECUTIVE INCOME PROTECTION PLAN
The Company has an Executive Income Protection Plan (the "Plan") with the
following participants: H. Patrick Dee, Brian C. Reinhardt, and Michael R.
Stanford, which provides for benefits upon a Control Change. Following a Control
Change (as defined in the Plan), the Plan provides for a three-year employment
term and specifies the employee's position, salary, bonus, and benefits payable
during that period. If the employee (i) resigns; (ii) is discharged for any
reason other than cause, death, or disability; (iii) experiences a Reduction in
Position (as defined in the Plan) within a three-year period beginning on the
date of the Control Change, then the employee shall have income protection
benefits consisting of (a) a compensation benefit, payable in a single sum,
equal to three times his Compensation (as defined in the Plan) in the case of
Messrs. Dee and Stanford and two times his Compensation in the case of Mr.
Reinhardt; (b) the same level of fringe benefits as existed on the date of the
Control Change for a period ending three years after the Control Change
including, without limitation, any plan or arrangement to receive and exercise
stock options and/or stock appreciation rights, restricted stock or grants
thereof in which the employee is participating on the date of the Control Change
(or plans or arrangements providing him with substantially similar benefits);
(c) an amount equal to the employee's non-vested accrued benefit in the
Company's retirement plans, determined as of the last valuation date under such
plans, if the employee is not fully vested under the terms of such plans; (d) up
to a maximum of 30 percent of his Compensation for out-placement services for
the employee; and (e) a lump sum payment at the same time as the compensation
payment described in (a) above, if the Company has purchased a split-dollar life
insurance policy on the life of an employee.
"Control Change" is defined in the Plan as (i) a sale or sales (including an
exchange) of shares of the Company, other than pursuant to a public offering, at
one or more times by the Company, a stockholder or stockholders of the Company,
or by any combination of the foregoing, which in the aggregate results in the
beneficial ownership of more than 50% of the combined voting power of the
Company's outstanding securities after the sale or sales by one or more
stockholders who were not stockholders of the Company on April 19, 1996 (the
effective date of the Plan), and who were not controlled after the sale or
sales, directly or indirectly, by one or more of the stockholders of the Company
on April 19, 1996; (ii) a sale or sales by the Company of all or substantially
all of its assets to one or more persons or entities who were not stockholders
of the Company on April 19, 1996, and who are not controlled after the sale or
sales, directly or indirectly, by one or more of such stockholders; or (iii) a
merger or other combination in which the Company is either the surviving or
disappearing corporation, which results in the beneficial ownership of more than
50% of the combined voting power of the outstanding securities of the surviving
corporation by one or more persons or entities which were not stockholders of
the Company on April 19, 1996, and which are not controlled after such merger or
other combination, directly or indirectly, by one or more of such stockholders;
(iv) the approval by the stockholders of the Company of any plan or proposal to
liquidate or dissolve the Company; or (v) during any period of two consecutive
years, individuals who at the beginning of the period constitute the entire
Board of Directors of the Company cease for any reason to constitute a majority
thereof, unless the election or the nomination for election by the Company's
stockholders of each new director was approved by a vote of at least two-thirds
of the directors then still in office who were directors at the beginning of the
period.
"Compensation" means the sum of; (i) the employee's average taxable compensation
from the Company; (ii) the employee's average elective salary reduction
contributions to plans under Internal Revenue Code (the "Code") Sections 401(k)
and/or 125; and (iii) the productof the average percentage of covered payroll
contributed by the Company to the Company's 401(k) profit sharing plan
multiplied by the sum of (i) and (ii) in each case for the five calendar years
preceding the Control Change.
"Reduction in Position" shall occur if an employee (i) is removed as an officer
or director; (ii) experiences a significant decrease in managerial or
supervisory authority; (iii) experiences a reduction in salary or bonus;
14
(iv) is required by the Company to relocate to an office more than 50 miles from
his location before the Control Change; (v) is reduced in the rate of his awards
under any stock option plan in effect before the Control Change; (vi)
experiences a material adverse change in his terms and conditions of employment.
The Plan provides that the employees will be entitled to a gross-up payment if
it is determined that any payment would be subject to the excise tax imposed by
Section 4999 of the Code. The Plan also provides for the Company to pay the
employee's legal fees incurred in any contest relating to the Plan and certain
other indemnifications to the extent permitted under applicable New Mexico or
federal law and under the Company's Bylaws and Articles of Incorporation.
The aggregate cost to the Company of the requirements for payments to employees
covered under the Plan (including the cost of early vesting under employee
plans) would not exceed $2.5 million.
COMPENSATION OF DIRECTORS
Each director who is not an employee of the Company (the "Outside Directors") is
paid an annual fee of $3,000 and a per meeting fee of $500 and will be
reimbursed for expenses incurred in attending meetings of the Board of Directors
and the committee meetings of the Board of Directors.
SECTION 401(K) PLAN
In 1991 the Company adopted a tax-qualified profit sharing 401(k) plan (the
"Saving Plan") covering all employees who have attained 21 years of age and have
completed one year of service with the Company. Each participant in the Saving
Plan may reduce his or her salary by as much as the lesser of 20% of his or her
compensation or $10,000, in 1998. The dollar limit is adjusted each year for
inflation. The Company is required to make matching contributions of up to 50%
of the first 6% of a participant's deferred compensation up to a maximum of 3%.
The Company may, but is not required to, contribute additional amounts to the
Saving Plan. Any such additional amounts are allocated to the accounts of
participants who were active participants on the last day of the plan year or
who retired or died or were disabled during the plan year. The allocation is in
proportion to the eligible participants' compensation. During 1998, 1997, and
1996, First State Bank made contributions to the Saving Plan of approximately
$146,000, $125,000, and $106,000, respectively.
All contributions by a participant are 100% vested and non-forfeitable at all
times. The Company's contributions become 100% vested after three years of
service with the Company. A participant may direct the investment of his or her
account pursuant to the investment options offered by the trustee of the Saving
Plan. Distribution of a participant's account under the Saving Plan normally
occurs upon the participant's retirement or the participant's termination of
employment with the Company.
15
INCENTIVE PLANS
Effective October 5, 1993, the Company adopted the First State Bancorporation
1993 Stock Option Plan (the "Stock Option Plan"), which provides for the
granting of options to purchase up to 400,000 shares of the Company's common
stock. Exercise dates and prices for the options are set by a committee of the
Board of Directors. The Stock Option Plan also provides that options other than
those qualifying as incentive stock options may be granted.
The Stock Option Plan is administered by a committee composed of disinterested
members of the Board of Directors (the "Committee"). Subject to the terms of the
Stock Option Plan, the Committee determines the persons to whom awards are
granted, the type of award granted, the number of shares granted, the vesting
schedule, the type of consideration to be paid to the Company upon exercise of
options, and the term of each option (not to exceed ten years).
Under the Stock Option Plan, the Company may grant both incentive stock options
("incentive stock options") intended to qualify under Section 422 of the
Internal Revenue Code of 1986, as amended (the "Code"), and options which are
not qualified as incentive stock options ("non-qualified stock options").
Incentive stock options must be granted at an exercise price equal to or greater
than the fair market value of the Common Stock on the date of grant. The
exercise price of non-qualified stock options granted under the Stock Option
Plan will be determined by the Committee on the date of grant. The exercise
price of incentive stock options granted to holders of more than 10% of the
Common Stock must be at least 110% of the fair market value of the Common Stock
on the date of grant, and the term of these options may not exceed five years.
The Stock Option Plan provides that the total number of shares covered by the
plan, the number of shares covered by each option, and the exercise price per
share may be proportionately adjusted by the Board of Directors or the Committee
in the event of a stock split, reverse stock split, stock dividend, or similar
capital adjustment effected without receipt of consideration by the Company.
Upon a change in control of the Company, stock options outstanding under the
Stock Option Plan immediately become fully vested and exercisable. Also, in the
event of a merger or consolidation in which the Company is not the surviving
corporation, the sale of all or substantially all of the Company's assets,
certain reorganizations or the liquidation of the Company, each option granted
under the Stock Option Plan may, at the election of the holder, become
immediately exercisable.
16
ITEM 12: SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT.
The following table sets forth certain information regarding beneficial
ownership of the Company's Common Stock as of March 15, 1999, by (i) each
shareholder known by the Company to be the beneficial owner of more than 5% of
the outstanding Common Stock, (ii) each director of the Company, and (iii) all
directors and executive officers as a group. Unless otherwise indicated, based
on information furnished by such owners, the Company believes that the
stockholders listed below have sole investment and voting power with respect to
their shares. Unless otherwise indicated, the address of such person is the
Company's address, 7900 Jefferson NE., Albuquerque, New Mexico 87109.
Name Number of Shares Owned Percentage of Shares Owned
- ------------------------------------------------------------------------------------------------------------
Hovde Capital, Inc.
1826 Jefferson Place, NW
Washington, DC 20036 245,010 (1) 7.17%
John Hancock Advisors, Inc.
101 Humington Avenue
Boston, MA 02199 190,125 5.56%
First Union Corporation
One First Union Center
Charlottee, NC 28288-0137 250,761 7.33%
Michael R. Stanford 114,363 (2) 3.27%
H. Patrick Dee 62,160 (3) 1.79%
Eloy A. Jeantete 1,023 *
Leonard J. DeLayo, Jr. 87,111 (4) 2.54%
Bradford M. Johnson 164,008 4.80%
Douglas M. Smith, M.D. 23,750 *
Herman N. Wisenteiner 9,829 *
Marshall G. Martin 699 *
Kevin L. Reid 3,000 *
Brian C. Reinhardt 7,848 (5) *
All executive officers and directors as
a group (11 persons) 515,459 14.34%
- ------------------------------------------
* Less than 1%
(1) Represents the aggregate shares held by Hovde Capital, Inc. and its
affiliates: Financial Institution Partners, LP, Financial Institution
Partners II, LP, Hovde Capital, LLC, and Hovde Acquisition, LLC.
(2) Includes 6,612 shares that are subject to an option exercisable at $5.01
per share, 62,500 shares that are subject to an option which is exercisable
at $8.40 per share, and 8,000 shares that are subject to an option
exercisable at $17.25 per share.
(3) Includes 43,750 shares that are subject to an option which is exercisable
at $8.40 per share, and 4,000 shares that are subject to an option
exercisable at $17.25 per share.
(4) Includes 12,500 shares that are subject to an option which is exercisable
at $8.40 per share.
(5) Includes 2,000 shares that are subject to an option which is exercisable at
$8.40 per share, and 4,000 shares that are subject to an option exercisable
at $17.25 per share.
17
ITEM 13: CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS.
CREDIT TRANSACTIONS
The executive officers, directors and principal stockholders of the Company and
the Bank, and members of their immediate families and businesses in which these
individuals hold controlling interests, are customers of the Bank and it is
anticipated that such parties will continue to be customers of the Bank in the
future. Credit transactions with these parties are subject to review by the
Bank's Board of Directors. All outstanding loans and extensions of credit by the
Bank to these parties were made in the ordinary course of business on
substantially the same terms, including interest rates and collateral, as those
prevailing at the time for comparable transactions with other persons, and in
the opinion of management did not involve more than the normal risk of
collectability or present other unfavorable features. At December 31, 1998, the
aggregate balance of the Bank's loans and advances under existing lines of
credit to these parties was $1,157,068, or 0.35% of the Bank's total loans. All
payments of principal and interest on these loans are current. These loans
represented 2.62% of the Company's equity as of December 31, 1998.
LEGAL SERVICES
Mr. DeLayo was a director of First State Bank from 1988 through January 1992,
was a director of the Santa Fe Bank from March 1993 to June 1994 and was
appointed as a director of the Company in November 1993. Mr. DeLayo acts as
general counsel to the Company and First State Bank. Mr. DeLayo and his firm,
Leonard J. DeLayo, P.C., are involved in representing the Company in numerous
collection matters. The Company paid Mr. DeLayo's firm approximately $219,000,
$205,000, and $146,000 for its services in 1998, 1997 and 1996.
Marshall G. Martin was elected to the Board as a director in June 1997. Mr
Martin is a partner in the firm of Hinkle, Cox, Eaton, Coffield & Hensley, LLP,
which serves as the Company's corporate counsel. The Company paid Hinkle, Cox,
Eaton, Coffield & Hensley, LLP, approximately $32,000 and $85,000 for its
services in 1998 and 1997, respectively.
SANTA FE BRANCH LOCATION
The Downtown Santa Fe location was constructed on land owned by Herman
Wisenteiner, a Director of the Company. The Company is leasing the site from Mr.
Wisenteiner for an initial term of 15 years. Lease payments made to Mr.
Wisenteiner were $63,700 for 1998, $61,800 in 1997, and $60,000 in 1996,
respectively. In the opinion of management, the lease is on terms similar to
other third-party commercial transactions in the ordinary course of business.
18
PART IV
ITEM 14: EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K.
EXHIBITS.
Number Description of Exhibits
- ------ -----------------------
3.1 Restated Articles of Incorporation of First State Bancorporation. (1)
3.2 Articles of Amendment to the Restated Articles of Incorporation of
First State Bancorporation. (5)
3.3 Bylaws of First State Bancorporation. (5)
4.1 Shareholder Protection Rights Agreement dated October 25, 1996. (3)
10.1 Stock Option Plan of the Company. (2)
10.2 Stock Option Agreement with Michael R. Stanford. (2)
10.3 Executive Income Protection Plan. (4)
22 Subsidiaries of the Small Business Issuer. (1)
23 Consent of KPMG, LLP. (6)
27 Financial Data Schedule. (6)
- --------------------
(1) Incorporated by reference from the Company's Registration Statement on Form
S-2, Commission File No. 333-24417, declared effective April 25, 1997.
(2) Incorporated by reference from the Company's Registration Statement on Form
SB-2, Commission File No.33-68166, declared effective November 3, 1993.
(3) Incorporated by reference from the Company's Form 10-QSB for the quarter
ended September 30, 1996.
(4) Incorporated by reference from the Company's Form 10-QSB for the quarter
ended June 30, 1996.
(5) Incorporated by reference from the Company's 10-
KSB for the year ended December 31, 1997.
(6) Filed Herwith.
FINANCIAL STATEMENT SCHEDULES
Exhibit 27
REPORTS ON FORM 8-K.
None
19
SIGNATURES
In accordance with Section 13 or 15(d) of the Exchange Act, the registrant has
caused this report to be signed on its behalf by the undersigned, thereunto duly
authorized.
FIRST STATE BANCORPORATION
By: /s/ Michael R. Stanford
----------------------------------
Michael R. Stanford, President
In accordance with the Exchange Act, this report has been signed by the
following persons in the capacities and on the dates stated.
Signatures Title Date
- --------------------------------------------- -------------------------------------------------- -------------------
President and Chief Executive Officer
Michael R. Stanford and a Director (Principal Executive Officer) March 24, 1999
- --------------------------------------------- -------------------
Michael R. Stanford
Leonard J. DeLayo, Jr. Director March 24, 1999
- --------------------------------------------- -------------------
Leonard J. DeLayo, Jr.
Douglas M. Smith, M.D. Director March 24, 1999
- --------------------------------------------- -------------------
Douglas M. Smith, M.D.
Herman N. Wisenteiner Director March 24, 1999
- --------------------------------------------- -------------------
Herman N. Wisenteiner
H. Patrick Dee Secretary, Treasurer and a Director March 24, 1999
- --------------------------------------------- -------------------
H. Patrick Dee
Brian C. Reinhardt Senior Vice President & CFO March 24, 1999
- --------------------------------------------- -------------------
Brian C. Reinhardt
Marshall G. Martin Director March 24, 1999
- --------------------------------------------- -------------------
Marshall G. Martin
Kevin L. Reid Director March 24, 1999
- --------------------------------------------- -------------------
Kevin L. Reid
20
FIRST STATE BANCORPORATION AND SUBSIDIARY
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS
PAGE
----
Financial Highlights.............................................................................. 1
Management's Discussion and Analysis of Financial Condition and Results of Operations............. 3
Independent Auditors' Report...................................................................... 15
Consolidated Balance Sheets as of December 31, 1998, and 1997..................................... 16
Consolidated Statements of Operations for the Years Ended December 31, 1998, 1997, and 1996....... 17
Consolidated Statements of Comprehensive Income for the Years Ended December 31, 1998, 1997,and
1996.............................................................................................. 18
Consolidated Statements of Stockholders' Equity for the Years Ended December 31, 1998, 1997, and
1996.............................................................................................. 19
Consolidated Statements of Cash Flows for the Years Ended December 31, 1998, 1997, and 1996....... 20
Notes to Consolidated Financial Statements........................................................ 21
FINANCIAL HIGHLIGHTS
Years ended December 31,
----------------------------------------------------------------
1998 1997 1996 1995 1994
------------- ----------- ----------- ----------- -----------
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA)
INCOME STATEMENT DATA:
Interest income................................... $ 36,542 $ 31,765 $ 25,681 $ 20,692 $ 15,623
Interest expense.................................. 13,142 12,272 9,617 7,385 4,666
---------- ---------- ---------- ---------- ----------
Net interest income............................... 23,400 19,493 16,064 13,307 10,957
Provision for loan and lease losses............... 2,322 1,537 1,231 418 248
---------- ---------- ---------- ---------- ----------
Net interest income after provision for loan and
lease losses..................................... 21,078 17,956 14,833 12,889 10,709
Net gain (loss) on call or sale of securities..... -- -- 10 (19) (3)
Other non-interest income......................... 5,053 4,474 2,924 1,702 1,708
Loss from credit card processing operation........ -- -- -- (1,208) (158)
Non-interest expense.............................. 19,674 17,426 14,590 10,926 9,615
---------- ---------- ---------- ---------- ----------
Income before income taxes and minority interest.. 6,457 5,004 3,177 2,438 2,641
Income tax expense................................ 2,245 1,674 1,116 763 240
---------- ---------- ---------- ---------- ----------
Income before minority interest................... 4,212 3,330 2,061 1,675 2,401
Minority interest................................. -- -- -- -- (10)
---------- ---------- ---------- ---------- ----------
Net income........................................ $ 4,212 $ 3,330 $ 2,061 $ 1,675 $ 2,391
========== ========== ========== ========== ==========
PER SHARE DATA:
Net income per diluted share...................... $ 1.28 $ 1.21 $ 0.90 $ 0.78 $ 1.06
Book value........................................ 12.92 10.73 9.69 8.88 8.04
Tangible book value............................... 12.71 10.40 9.26 8.27 7.50
Dividends paid.................................... 0.250 0.210 0.200 0.154 0.064
Market price end of period........................ 20.750 21.375 15.000 12.125 9.600
Average diluted common shares outstanding......... 3,509,757 3,203,084 2,605,282 2,570,231 2,569,051
AVERAGE BALANCE SHEET DATA:
Total assets...................................... $ 431,358 $ 361,970 $ 285,628 $ 229,382 $ 186,886
Loans and leases.................................. 308,338 272,816 218,776 164,172 133,685
Investment securities............................. 74,857 48,795 35,611 34,250 32,211
Federal funds sold................................ 8,724 5,500 2,770 6,717 3,842
Deposits.......................................... 363,294 309,767 242,366 195,079 160,226
Stockholders' equity.............................. 37,315 24,683 18,313 16,817 14,723
PERFORMANCE RATIOS:
Return on average assets.......................... 0.98% 0.92% 0.72% 0.73% 1.28%
Return on average common equity................... 11.29 13.49 11.25 9.96 16.24
Net interest margin............................... 5.97 5.96 6.25 6.49 6.46
Efficiency ratio.................................. 69.15 72.71 76.84 72.80 76.00
Earnings to fixed charges:
Including interest on deposits............... 1.49x 1.40x 1.33x 1.49x 1.60x
Excluding interest on deposits............... 5.41 4.30 3.56 4.76 5.34
ASSET QUALITY RATIOS:
Nonperforming assets to total loans, leases and
other estate owned............................... 2.19% 1.57% 1.17% 1.60% 1.17%
Net charge-offs to average loans and leases....... 0.56 0.28 0.26 0.02 0.17
Allowance for loan and lease losses to total
loans............................................ 1.16 1.14 1.00 1.01 0.98
Allowance for loan and lease losses to
nonperforming loans.............................. 58.00 101.52 153.52 81.58 290.12
CAPITAL RATIOS:
Leverage ratio.................................... 8.75% 6.65% 6.17% 6.55% 7.06%
Average stockholders' equity to average total
assets........................................... 8.65 6.82 6.41 7.33 7.88
Tier 1 risk-based capital ratio................... 11.41 8.30 7.40 7.80 9.04
Total risk-based capital ratio.................... 12.43 13.38 8.30 8.70 9.90
1
SELECTED QUARTERLY FINANCIAL DATA
1998
--------------------------------------------------------------------------------------
FOURTH QTR THIRD QTR SECOND QTR FIRST QTR
------------ ----------- ---------- -------------
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA)
INCOME STATEMENT DATA:
Interest income............................. $ 9,693 $ 9,388 $ 8,999 $ 8,462
Interest expense............................ 3,364 3,292 3,240 3,245
------------ ---------- ---------- ----------
Net interest income......................... 6,329 6,096 5,759 5,217
Provision for loan and lease losses......... 570 642 555 555
------------ ---------- ---------- ----------
Net interest income after provision
for loan and lease losses.................. 5,759 5,454 5,204 4,662
------------ ---------- ---------- ----------
Other non-interest income................... 1,318 1,365 1,254 1,116
Non-interest expense........................ 5,218 5,112 4,865 4,480
Income tax expense.......................... 616 610 560 459
------------ ---------- ---------- ----------
Net income.................................. $ 1,243 $ 1,097 $ 1,033 $ 839
============ ========== ========== ==========
Net interest margin......................... 5.81% 6.15% 6.19% 5.92%
============ ========== ========== ==========
PER SHARE DATA:
Net income per diluted share................ $ 0.36 $ 0.31 $ 0.32 $ 0.29
Book Value.................................. 12.92 12.65 12.35 11.01
Tangible book value......................... 12.71 12.40 12.13 10.70
Dividends paid.............................. 0.07 0.06 0.06 0.06
Average diluted common shares outstanding... 3,497,647 3,511,638 3,519,510 3,508,521
1997
----------------------------------------------------------------------------------
FOURTH QTR THIRD QTR SECOND QTR FIRST QTR
---------- --------- ---------- ---------
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE DATA)
INCOME STATEMENT DATA:
Interest income............................. $ 8,511 $ 8,215 $ 7,828 $ 7,211
Interest expense............................ 3,290 3,145 3,040 2,798
------------ ---------- --------- --------
Net interest income......................... 5,221 5,070 4,788 4,413
Provision for loan and lease losses......... 449 428 397 263
------------ ---------- --------- --------
Net interest income after provision for
loan and lease losses...................... 4,772 4,642 4,391 4,150
------------ ---------- --------- --------
Other non-interest income................... 1,267 1,190 1,039 978
Non-interest expense........................ 4,516 4,582 4,242 4,084
Income tax expense.......................... 539 384 417 334
------------ ---------- --------- -------
Net income.................................. 984 $ 866 $ 771 $ 710
============ ========== ========= =======
Net interest margin......................... 6.01% 6.13% 6.00% 5.87%
============ ========== ========= =======
PER SHARE DATA:
Net income per diluted share................ 0.33 $ 0.30 $ 0.28 $ 0.29
Book value.................................. 10.73 10.34 10.05 9.98
Tangible book value......................... 10.40 10.00 9.71 9.63
Dividends paid.............................. 0.06 0.05 0.05 0.05
Average diluted common shares outstanding... 3,492,590 3,480,772 3,137,141 2,637,978
2
MANAGEMENT'S DISCUSSION AND ANALYSIS OF
FINANCIAL CONDITION AND RESULTS OF
OPERATIONS FOR THE YEARS ENDED DECEMBER 31, 1998, 1997, AND 1996
GENERAL
The Company's net income increased to $4.2 million in 1998, from $3.3 million
in 1997, and $2.1 million in 1996. The increase in net income was primarily due
to an increase in net interest income to $23.4 million in 1998, from $19.5
million in 1997, and $16.1 million in 1996. The increase in net interest income
was due to increases in loans and leases, and increases in investment
securities. The increase in net interest income was partially offset by
increases in non-interest expense to $19.7 million in 1998, from $17.4 million
in 1997, and $14.6 million in 1996. The increases in net interest income and
non-interest expense resulted from the Company's expansion strategy which is to
increase market share by capitalizing on the dislocation of customers caused by
continued consolidation in the banking industry. Total assets have grown to
$493.7 million in 1998, from $401.0 million in 1997. Total deposits have grown
to $409.0 million in 1998, from $345.6 million in 1997.
NET INTEREST INCOME
The primary component of earnings for financial institutions is net interest
income. Net interest income is the difference between interest income,
principally from loan, lease, and investment securities portfolios, and interest
expense, principally on customer deposits and borrowings. Changes in net
interest income result from changes in volume, spread, and margin. Volume refers
to the average dollar level of interest-earning assets and interest-bearing
liabilities. Spread refers to the difference between the average yield on
interest-earning assets and the average cost of interest-bearing liabilities.
Margin refers to net interest income divided by average interest-earning assets
and is influenced by the level and relative mix of interest-earning assets and
interest-bearing liabilities. During the years ended December 31, 1998, 1997,
and 1996, the Company's average interest-earning assets were $392.0 million,
$327.1 million, and $257.2 million, respectively. For the same periods, the
Company's net interest margins were 5.97%, 5.96%, and 6.25%.
During the years ended December 31, the Company's net interest income
increased by $3.9 million to $23.4 million or 20.05% in 1998 from $19.5 million
in 1997, which was an increase of $3.4 million or 21.12% from $16.1 million in
1996. These increases were due to a $35.5 million or 13.0% increase in average
loans to $308.3 million in 1998, from $272.8 million in 1997, a $54.0 million or
24.68% increase from $218.8 million in 1996. This increase in volume was
partially offset by a decrease in the average yield on earning assets and the
increase in investment securities as a percentage of total assets. The Company's
average yield on earning assets decreased to 9.32% in 1998, from 9.71% in 1997,
and 9.99% in 1996. The decrease in average yields on commercial and real estate
loans is due to increased competition, and the decrease in prime rate
precipitated by the Federal Reserve Bank's interest rate reductions in the
fourth quarter of 1998. Net interest margin for the fourth quarter of 1998 was
5.81% compared to 6.15% for the previous quarter.
The following tables set forth, for the periods indicated, information with
respect to average balances of assets and liabilities, as well as the total
dollar amounts of interest income from interest-earning assets and interest
expense from interest-bearing liabilities, resultant yields or costs, net
interest income, net interest spread, net interest margin, and the ratio of
average interest-earning assets to average interest-bearing liabilities for the
Company. No tax equivalent adjustments were made and all average balances are
daily average balances. Non-accruing loans have been included in the table as
loans carrying a zero yield.
3
YEARS ENDED DECEMBER 31,
------------------------------------------------------------------
1998 1997 1996
------------------------------- ------------------------------- -------------------------------
INTEREST AVERAGE INTEREST AVERAGE INTEREST AVERAGE
AVERAGE INCOME OR YIELD OR AVERAGE INCOME OR YIELD OR AVERAGE INCOME OR YIELD OR
BALANCE EXPENSE COST BALANCE EXPENSE COST BALANCE EXPENSE COST
-------- --------- --------- --------- --------- --------- --------- --------- ---------
(DOLLARS IN THOUSANDS)
ASSETS
Loans and leases:
Commercial...................... $ 48,275 $ 4,840 10.03% $ 41,771 $ 4,230 10.13% $ 31,164 $ 3,152 10.11%
Real estate--mortgage........... 158,832 16,084 10.13 152,387 15,487 10.16 130,347 13,500 10.36
Real estate--construction....... 46,863 5,306 11.32 40,603 4,830 11.90 36,320 4,533 12.48
Consumer........................ 16,668 1,992 11.95 14,789 1,748 11.82 12,017 1,413 11.76
Leases.......................... 37,231 3,514 9.44 22,868 2,133 9.33 8,607 725 8.42
Other........................... 469 -- -- 398 -- -- 321 -- --
-------- --------- -------- -------- --------- -------- -------- --------- --------
Total loans and leases......... 308,338 31,736 10.29 272,816 28,428 10.42 218,776 23,323 10.66
Allowance for loan and lease
losses.......................... (3,654) (2,981) (2,181)
Securities:
U.S. government................. 69,604 4,066 5.84 43,860 2,758 6.29 30,656 1,916 6.25
State and political
subdivisions:
Nontaxable..................... 3,380 168 4.97 3,196 172 5.38 3,607 198 5.49
Taxable........................ -- -- -- 26 2 7.69 35 3 8.57
Other.......................... 1,873 109 5.77 1,713 105 6.13 1,313 96 7.31
-------- --------- -------- -------- --------- -------- -------- --------- --------
Total securities.............. 74,857 4,343 5.80 48,795 3,037 6.22 35,611 2,213 6.21
Federal funds sold............... 8,724 463 5.31 5,500 300 5.45 2,770 145 5.23
-------- --------- -------- -------- --------- -------- -------- --------- --------
Total interest-earning assets. 391,919 36,542 9.32% 327,111 31,765 9.71% 257,157 25,681 9.99%
Non-interest-earning assets:
Cash and due from banks......... 20,198 16,066 13,158
Other .......................... 22,895 21,774 17,494
-------- -------- --------
Total non-interest-earning
assets......................... 43,093 37,840 30,652
-------- -------- --------
Total assets.................. $431,358 $361,970 $285,628
======== ======== ========
LIABILITIES AND STOCKHOLDERS'
EQUITY
Deposits:
Interest-bearing demand
accounts....................... $ 72,839 $ 1,573 2.16% $ 47,175 $ 1,150 2.44% $ 46,737 $ 1,097 2.35%
Certificates of deposit......... 139,272 7,609 5.46 133,105 7,466 5.61 102,078 5,777 5.66
Money market savings accounts... 51,087 1,730 3.39 51,881 1,584 3.05 31,210 1,023 3.28
Regular savings accounts........ 25,915 766 2.95 18,902 558 2.95 16,174 478 2.96
-------- --------- -------- -------- --------- -------- -------- --------- --------
Total interest-bearing
deposits...................... 289,113 11,678 4.04 251,063 10,758 4.28 196,199 8,375 4.27
Short-term borrowings............ 21,093 954 4.52 13,537 661 4.88 17,006 855 5.03
Notes payable.................... 1,216 113 9.29 916 83 9.06 226 19 8.41
Convertible subordinated debt.... 5,595 397 7.10 10,432 766 7.34 5,500 362 6.58
Capital leases................... -- -- -- 42 4 9.52 60 5 8.33
-------- --------- -------- -------- --------- -------- -------- --------- --------
Total interest-bearing
liabilities................... 317,017 13,142 4.15% 275,990 12,272 4.45% 218,991 9,616 4.39%
Non-interest-bearing demand
accounts........................ 74,181 58,704 46,167
Other non-interest-bearing
liabilities..................... 2,845 2,593 2,157
-------- -------- --------
Total liabilities.............. 394,043 337,287 267,315
Stockholders' equity............. 37,315 24,683 18,313
-------- -------- --------
Total liabilities and
stockholders' equity............ $431,358 $361,970 $285,628
======== --------- ======== --------- ======== ---------
Net interest income.............. $23,400 $19,493 $16,065
========= ========= =========
Net interest spread ............ 5.18% 5.26% 5.60%
Net interest margin.............. 5.97 5.96 6.25
Ratio of average
interest-earning assets
to average interest-bearing
liabilities..................... 123.63 118.52 117.43
Loan fees of $2.3 million, $1.9 million, and $1.9 million, are included in
interest income for the years ended December 31, 1998, 1997, and 1996,
respectively.
4
The following table illustrates the changes in the Company's net interest
income due to changes in volume and changes in interest rate. Changes
attributable to the combined effect of volume and interest rates have been
included in the changes due to volume.
YEAR ENDED DECEMBER 31,
-------------------------------------------------------
1998 VS. 1997 1997 VS. 1996
INCREASE (DECREASE) INCREASE (DECREASE)
DUE TO CHANGES IN DUE TO CHANGES IN
------------------------ ---------------------------
VOLUME RATE TOTAL VOLUME RATE TOTAL
------- ------ ------- ------- ------ ---------
(DOLLARS IN THOUSANDS)
INTEREST-EARNING ASSETS
Loans and leases:
Commercial.......................................... $ 659 ($49) $ 610 $1,073 $ 5 $1,078
Real estate--mortgage............................... 655 (58) 597 2,283 (296) 1,987
Real estate--construction........................... 745 (269) 476 535 (238) 297
Consumer............................................ 222 22 244 326 9 335
Leases.............................................. 1,340 41 1,381 1,201 207 1,408
------- ------ ------ ------ ------ ---------
Total loans and leases........................... 3,621 (313) 3,308 5,418 (313) 5,105
Securities:
U.S. government..................................... 1,619 (311) 1,308 825 17 842
States and political subdivisions:
Nontaxable....................................... 10 (14) (4) (23) (3) (26)
Taxable.......................................... (2) -- (2) (1) -- (1)
Other............................................... 10 (7) 3 29 (20) 9
------- ------ ------ ------ ------ ---------
Total securities................................. 1,637 (332) 1,305 830 (6) 824
Federal funds sold.................................. 176 (13) 163 143 12 155
------- ------ ------ ------ ------ ---------
Total interest-earning assets.................... 5,434 (658) 4,776 6,391 (307) 6,084
------- ------ ------ ------ ------ ---------
INTEREST-BEARING LIABILITIES
Deposits:
Interest-bearing demand accounts.................... 626 (203) 423 10 43 53
Certificates of deposit............................. 346 (203) 143 1,756 (67) 1,689
Money market savings accounts....................... (24) 170 146 678 (117) 561
Regular savings accounts............................ 207 -- 207 81 (1) 80
------- ------ ------ ------ ------ ---------
Total interest-bearing deposits.................. 1,155 (236) 919 2,525 (142) 2,383
Short-term borrowings................................. 369 (76) 293 (174) (20) (194)
Notes payable......................................... 27 3 30 58 6 64
Convertible subordinated debt......................... (355) (14) (369) 325 79 404
Capital leases........................................ (4) -- (4) (1) -- (1)
------- ------ ------ ------ ------ ---------
Total interest-bearing liabilities............... 1,192 (323) 869 2,733 (77) 2,656
------- ------ ------ ------ ------ ---------
Total increase (decrease) in net interest income. $4,242 ($335) $3,907 $3,658 ($230) $3,428
======= ====== ====== ====== ====== =========
ASSET/LIABILITY MANAGEMENT
The Company's results of operations depend substantially on its net
interest income. Like most financial institutions, the Company's interest
income and cost of funds are affected by general economic conditions and by
competition in the marketplace.
The purpose of asset/liability management is to provide stable net
interest income growth by protecting the Company's earnings from undue
interest rate risk. Exposure to interest rate risk arises from volatile
interest rates and changes in the balance sheet mix. The Company maintains
an asset/liability management policy that provides guidelines for
controlling exposure to interest rate risk. The Company's policy is to
control the exposure of its earnings to changing interest rates by
generally maintaining a position within a narrow range around an "earnings
neutral position," which is defined as the mix of assets and liabilities
that generates a net interest margin that is least affected by interest
rate changes.
To effectively measure and manage interest rate risk, the Company uses
gap analysis and simulation analysis to determine the impact on net
interest income under various interest rate scenarios, balance sheet
trends, and strategies. From
5
these analysis, interest rate risk is quantified and appropriate strategies are
developed and implemented. Additionally, duration and market value sensitivity
measures are utilized when they provide added value to the overall interest rate
risk management process. The overall interest rate risk position and strategies
are reviewed by management and the Bank's Board of Directors on an ongoing
basis.
Rising and falling interest rate environments can have various impacts on a
bank's net interest income, depending on the short-term interest rate gap that
the bank maintains, the relative changes in interest rates that occur when the
bank's various assets and liabilities reprice, unscheduled repayments of loans,
early withdrawals of deposits and other factors. As of December 31, 1998, the
Company's cumulative interest rate gap for the period up to three months was a
negative $53.2 million and for the period up to one year was a negative $48.9
million. Based solely on the Company's interest rate gap of twelve months or
less, net income of the Company could be unfavorably impacted by an increase in
interest rates or favorably impacted by a decrease in interest rates.
The following table sets forth the estimated maturity or repricing, and the
resulting interest rate gap of the Company's interest-earning assets and
interest-bearing liabilities at December 31, 1998. The amounts are based upon
regulatory reporting formats and, therefore, may not be consistent with
financial information appearing elsewhere in this report that has been prepared
in accordance with generally accepted accounting principles. The amounts could
be significantly affected by external factors such as changes in prepayment
assumptions, early withdrawals of deposits, and competition.
THREE
MONTHS TO
LESS THAN LESS THAN
THREE ONE ONE TO FIVE OVER FIVE
MONTHS YEAR YEARS YEARS TOTAL
---------- ---------- ----------- --------- --------
(DOLLARS IN THOUSANDS)
Interest-earning assets:
Investment securities............................ $47,881 $ 9,424 $ 51,718 $ 13,081 $122,104
Federal funds sold....................... -- -- -- -- --
Loans and leases:
Commercial.................................... 30,786 13,227 8,552 1,376 53,941
Real estate................................... 110,475 64,139 34,013 6,709 215,336
Consumer...................................... 3,768 6,302 7,809 210 18,089
Leases........................................ 1,774 5,735 40,141 -- 47,650
--------- --------- ----------- --------- --------
Total interest-earning assets.............. 194,684 98,827 142,233 21,376 457,120
--------- --------- ----------- --------- --------
Interest-bearing liabilities:
Savings and NOW accounts......................... 184,604 -- -- -- 184,604
Certificates of deposit of $100,000 or more...... 10,518 42,663 6,204 -- 59,385
Other time accounts.............................. 16,058 51,915 17,837 46 85,856
Other interest-bearing liabilities............... 36,692 -- -- -- 36,692
--------- --------- ----------- --------- --------
Total interest-bearing liabilities......... 247,872 94,578 24,041 46 366,537
--------- --------- ----------- --------- --------
Interest rate gap.................................. ($53,188) $ 4,249 $ 118,192 $ 21,330 $ 90,583
========= ========= =========== ========= ========
Cumulative interest rate gap at December 31, 1998.. ($53,188) ($48,939) $ 69,253 $ 90,583
========= ========= =========== =========
Cumulative gap ratio at December 31, 1998.......... 0.79 0.86 1.19 1.25
========= ========= =========== =========
The following table presents an analysis of the sensitivity inherent in the
Company's net interest income and market value of portfolio equity (market value
of assets, less the market value of liabilities.) The interest rate scenarios
presented in the table include interest rates at December 31, 1998, and as
adjusted by instantaneous parallel rate changes upward and downward of up to 200
basis points. Each rate scenario reflects unique prepayment and repricing
assumptions.
Since there are limitations inherent in any methodology used to estimate the
exposure to changes in market interest rates, this analysis is not intended to
be a forecast of the actual effect of a change in market interest rates on the
Company. This analysis is based on the Company's assets and liabilities, at
December 31, 1998.
CHANGE IN INTEREST RATES NET INTEREST INCOME MARKET VALUE OF PORTFOLIO EQUITY
------------------------ ------------------- --------------------------------
+200 +2% +3%
+100 +1% +2%
0 0 0
-100 -1% -1%
-200 -3% -5%
6
INVESTMENT PORTFOLIO
The following table provides the carrying value of the Company's investment
portfolio at each of the dates indicated. At December 31, 1998, the carrying
value exceeded the market value by approximately $25,000. At December 31, 1997
and 1996, the market value exceeded the carrying value by approximately $56,000,
and $50,000, respectively.
AS OF DECEMBER 31,
-----------------------------
1998 1997 1996
----------- ------- -------
(DOLLARS IN THOUSANDS)
U.S. Treasury securities.......................... $ 5,669 $12,986 $ 9,789
U.S. government agency securities................. 109,753 43,442 25,994
Obligations of states and political subdivisions.. 4,982 3,145 3,271
Other securities.................................. 1,700 1,936 1,542
---------- ------- -------
Total investment securities.................... $122,104 $61,509 $40,596
========== ======= =======
The table below provides the carrying values, maturities and weighted average
yield of the investment portfolio of the Company as of December 31, 1998.
AVERAGE WEIGHTED
CARRYING MATURITY AVERAGE
VALUE (YEARS) YIELDS
----------- -------- ---------
(DOLLARS IN THOUSANDS)
U.S. Treasury securities
One year or less..................................... $ 5,125 0.48 6.10%
After one through five years......................... 544 1.86 4.00
---------- ------- ------
Total U.S. Treasury securities.................... 5,669 0.61 5.90
U.S. government agency securities
One year or less..................................... 51,832 0.07 5.05
After one through five years......................... 50,014 3.70 5.77
After five through ten years......................... 7,907 5.37 6.00
---------- ------- ------
Total U.S. government agency securities........... 109,753 2.11 5.44
Obligations of states and political subdivisions
One year or less..................................... 350 0.64 4.89
After one through five years......................... 1,159 2.35 5.16
After five through ten years......................... 2,418 7.22 4.50
After ten years...................................... 1,055 13.70 5.13
---------- ------- ------
Total states and political subdivisions securities 4,982 7.00 4.82
Other securities........................................ 1,700 -- 5.78
---------- ------- ------
Total investment securities....................... $122,104 2.24 5.45%
========== ======= ======
LOAN AND LEASE PORTFOLIO
The following table presents the amount of loans and leases of the Company, by
category, at the dates indicated.
AS OF DECEMBER 31,
-----------------
1998 1997 1996 1995 1994
---- ---- ---- ---- ----
AMOUNT PERCENT AMOUNT PERCENT AMOUNT PERCENT AMOUNT PERCENT AMOUNT PERCENT
-------- -------- -------- -------- -------- -------- -------- -------- -------- --------
(DOLLARS IN THOUSANDS)
Commercial................... $ 53,942 16.1% $ 45,480 15.8% $ 36,578 14.6% $ 23,204 12.6% $ 21,711 14.5%
Real estate--mortgage........ 167,980 50.1 153,550 53.3 148,715 59.3 115,640 62.9 80,293 53.5
Real estate--construction.... 47,357 14.1 41,943 14.5 35,737 14.2 34,924 19.0 39,372 26.3
Consumer and other........... 18,089 5.5 16,809 5.8 13,238 5.3 10,091 5.5 8,632 5.7
Leases....................... 47,651 14.2 30,587 10.6 16,658 6.6 -- -- -- --
======== ======= ======== ======= ======== ======= ======== ======= ======== =======
Total loans and
leases.................... $335,019 100% $288,369 100% $250,926 100% $183,859 100% $150,008 100%
======== ==== ======== ==== ======== ==== ======== ==== ======== ====
7
The following table presents the aggregate maturities of loans and leases in
each major category of the Company's loan and lease portfolio at December 31,
1998. Actual maturities may differ from the contractual maturities shown as a
result of renewals and prepayments.
AS OF DECEMBER 31,
------------------------------------------
ONE TO
LESS THAN FIVE OVER FIVE
ONE YEAR YEARS YEARS TOTAL
--------- ------- --------- --------
(DOLLARS IN THOUSANDS)
Fixed-rate loans and leases:
Commercial............................ $ 7,687 $ 6,366 $1,275 $ 15,328
Real estate........................... 8,768 10,821 6,709 26,298
Consumer.............................. 8,150 7,809 210 16,169
Leases................................ 7,510 40,141 -- 47,651
--------- ------- ------- --------
Total fixed-rate loans and leases.. 32,115 65,137 8,194 105,446
--------- ------- ------- --------
Variable-rate loans:
Commercial............................ 36,327 2,186 101 38,614
Real estate........................... 165,847 23,192 -- 189,039
Consumer.............................. 1,920 -- -- 1,920
--------- ------- ------- --------
Total variable-rate loans.......... 204,094 25,378 101 229,573
--------- -------- ------- --------
Total loans and leases............. $236,209 $90,515 $8,295 $335,019
========= ======== ======= ========
NONPERFORMING ASSETS
Nonperforming assets consist of loans and leases past due 90 days or more,
non-accrual loans and leases, restructured loans and leases, and other real
estate owned. The Company generally places a loan on non-accrual status and
ceases accruing interest when loan payment performance is deemed unsatisfactory.
All loans past due 90 days, however, are placed on non-accrual status, unless
the loan is both well collateralized and in the process of collection. Cash
payments received while a loan is classified as non-accrual are recorded as a
reduction of principal as long as doubt exists as to collection. The following
table sets forth information with respect to these assets at the dates
indicated.
AS OF DECEMBER 31,
------------------
1998 1997 1996 1995 1994
------- -------- -------- ------- --------
(DOLLARS IN THOUSANDS)
Loans and leases past due 90 days or more.............. $ 79 $ 107 $ 689 $ 289 $ 190
Non-accrual loans and leases........................... 6,566 3,123 946 1,808 64
Restructured loans..................................... -- -- -- 172 252
--------- -------- -------- ------- -------
Total nonperforming loans and leases................. 6,645 3,230 1,635 2,269 506
Other real estate owned................................ 697 1,327 1,362 678 1,271
--------- -------- -------- ------- -------
Total nonperforming assets........................... $7,342 $ 4,557 $ 2,997 $2,947 $ 1,777
========= ======== ======== ======= =======
Allowance for loan and lease losses.................... $3,875 $ 3,279 $ 2,510 $1,851 $ 1,468
========= ======== ======== ======= =======
Potential problem assets $3,289 $ 3,873 -- -- --
========= ======== ======== ======= =======
Ratio of total nonperforming assets to total assets.... 1.49% 1.14% 0.92% 1.16% 0.87%
Ratio of total nonperforming loans and leases to total loans
and leases............................................ 1.98 1.12 0.65 1.23 0.35
Ratio of allowance for loan and lease losses to total
nonperforming loans and leases........................ 58.31 101.52 153.52 81.58 290.12
ANALYSIS OF THE ALLOWANCE FOR LOAN AND LEASE LOSSES
The allowance for loan and lease losses represents management's recognition
of the risks of extending credit and its evaluation of the quality of the loan
and lease portfolios. The allowance is maintained at a level considered
8
adequate to provide for anticipated loan and lease losses based on management's
assessment of various factors affecting the loan and lease portfolios, including
a review of problem loans and leases, business conditions and loss experience
and an overall evaluation of the quality of the underlying collateral, holding
and disposing costs, and costs of capital. The allowance is increased by
provisions charged to operations and reduced by loans and leases charged off,
net of recoveries.
The following table sets forth information regarding changes in the allowance
for loan and lease losses of the Company for the periods indicated.
AS OF DECEMBER 31,
-------------------------------------------
1998 1997 1996 1995 1994
------- ------- ------- ------- -------
(DOLLARS IN THOUSANDS)
Allowance for loan and lease losses, beginning of period..... $3,280 $2,510 $1,851 $1,468 $1,441
Charge-offs:
Commercial and other....................................... 1,083 462 438 98 388
Real estate loans.......................................... 389 72 70 162 30
Consumer loans............................................. 98 95 246 85 19
Credit cards......................................... 171 253 -- -- --
Leases............................................... 180 90 -- -- --
------ ------ ------ ------ ------
Total charge-offs....................................... 1,921 972 754 345 437
------ ------ ------ ------ ------
Recoveries:
Commercial and other....................................... 109 56 13 197 135
Real estate loans.......................................... 3 35 40 85 43
Consumer loans............................................. 68 76 129 28 38
Credit cards......................................... 14 4 -- -- --
Leases............................................... -- 33 -- -- --
------ ------ ------ ------ ------
Total recoveries........................................ 194 204 182 310 216
------ ------ ------ ------ ------
Net charge-offs.............................................. 1,727 768 572 35 221
Provision for loan and lease losses.......................... 2,322 1,537 1,231 418 248
------ ------ ------ ------ ------
Allowance for loan and lease losses, end of period........... $3,875 $3,279 $2,510 $1,851 $1,468
====== ====== ====== ====== ======
As a percentage of average total loans and leases:
Net charge-offs............................................ 0.56% 0.28% 0.26% 0.02% 0.17%
Provision for loan and lease losses........................ 0.75 0.56 0.56 0.25 0.19
Allowance for loan and lease losses........................ 1.26 1.20 1.15 1.13 1.10
As a percentage of total loans and leases at year-end:
Allowance for loan and lease losses........................ 1.16 1.14 1.00 1.01 0.98
As a multiple of net charge-offs:
Allowance for loan and lease losses........................ 2.24 4.27 4.39 52.89 6.64
Income before income taxes and provision for loan
and lease losses......................................... 5.08 8.52 7.71 81.61 13.07
9
Specific reserves are provided for individual loans and leases where ultimate
collection is considered questionable by management after reviewing the current
status of loans and leases that are contractually past due and considering the
net realizable value of the security and of the loan and lease guarantees, if
applicable. The following table sets forth the allowance for loan and lease
losses by category, based upon management's assessment of the risk associated
with these categories at the dates indicated and summarizes the percentage of
gross loans and leases in each category as a percentage of total loans and
leases.
AS OF DECEMBER 31,
1998 1997 1996 1995 1994
------------ ----------- ----------- ----------- ------------
(DOLLARS IN THOUSANDS)
PERCENT OF PERCENT OF PERCENT OF PERCENT OF PERCENT OF
LOANS AND LOANS AND LOANS AND LOANS AND LOANS AND
LEASES TO LEASES TO LEASES TO LEASES TO LEASES TO
AMOUNT OF TOTAL LOANS AMOUNT OF TOTAL LOANS AMOUNT OF TOTAL LOANS AMOUNT OF TOTAL LOANS AMOUNT OF TOTAL LOANS
ALLOWANCE AND LEASES ALLOWANCE AND LEASES ALLOWANCE AND LEASES ALLOWANCE AND LEASES ALLOWANCE AND LEASES
--------- --------- --------- --------- --------- ---------- --------- ---------- --------- ----------
Commercial and
unallocated
portion........ $2,187 16.10% $ 829 15.77% $ 600 14.57% $ 402 12.62% $1,027 14.48%
Real estate...... 867 64.28 1,700 67.79 1,560 73.51 1,269 81.89 294 79.77
Leases ......... 404 14.22 150 10.61 150 6.64 -- -- -- --
Consumer......... 417 5.40 600 5.83 200 5.28 180 5.49 147 5.75
------ ------ ------ ----- ------ ----- ------ ----- ------ -----
Total allowance for
loan and lease
losses....... $3,875 100.00% $3,279 100% $2,510 100% $1,851 100% $1,468 100%
====== ====== ====== ===== ====== ===== ====== ===== ====== =====
DEPOSITS
The following table presents the average balances outstanding for each major
category of the Company's deposits and weighted average interest rate paid for
interest-bearing deposits for the periods indicated.
YEAR ENDED DECEMBER 31,
----------------------------------------------------------------------------
1998 1997 1996
------------------------ ------------------------ ------------------------
WEIGHTED WEIGHTED WEIGHTED
AVERAGE AVERAGE AVERAGE AVERAGE AVERAGE AVERAGE
BALANCE INTEREST RATE BALANCE INTEREST RATE BALANCE INTEREST RATE
-------- -------------- -------- -------------- -------- --------------
(DOLLARS IN THOUSANDS)
Interest-bearing demand accounts.. $ 72,839 2.16% $ 47,175 2.44% $ 46,737 2.35%
Certificates of deposit........... 139,272 5.46 133,105 5.61 102,078 5.66
Money market savings accounts..... 51,087 3.39 51,881 3.05 31,210 3.28
Regular savings accounts.......... 25,915 2.95 18,902 2.95 16,174 2.96
Non-interest-bearing demand
accounts......................... 74,181 -- 58,704 -- 46,167 --
-------- ---- -------- ---- -------- ----
Totals.......................... $363,294 4.04% $309,767 4.28% $242,366 4.27%
======== ==== ======== ==== ======== ====
The following table shows the amount and maturity of certificates of deposit
that had balances of $100,000 or more and the percentage of the total for each
maturity.
AS OF DECEMBER 31,
----------------------------------------------------
1998 1997 1996
---------------- ---------------- ----------------
(DOLLARS IN THOUSANDS)
Three months or less.......... $10,518 17.71% $11,710 21.00% $11,654 22.09%
Three through twelve months... 42,663 71.84 33,096 59.35 34,764 65.90
Over twelve months............ 6,204 10.45 10,960 19.65 6,333 12.01
------- ------ ------- ------ ------- ------
Totals...................... $59,385 100.00% $55,766 100.00% $52,751 100.00%
======= ====== ======= ====== ======= ======
10
SECURITIES SOLD UNDER AGREEMENTS TO REPURCHASE
Securities sold under agreements to repurchase totaled $36.7 million, $10.1
million, and $14.0 million at December 31, 1998, 1997, and 1996, respectively.
The weighted average interest rate on securities sold under agreements to
repurchase was 4.07%, 4.88%, and 5.34% at December 31, 1998, 1997, and 1996,
respectively.
Securities sold under agreements to repurchase are summarized as follows:
YEARS ENDED DECEMBER 31,
----------------------------------------
1998 1997 1996
------------ ------------ ------------
Balance........................................... $36,692,999 $10,105,190 $13,928,515
Weighted average interest rate.................... 4.07% 4.88% 5.34%
Maximum amount outstanding at any month end....... $36,692,999 $12,582,073 $13,928,515
Average balance outstanding during the period..... $20,978,000 $11,213,000 $11,843,000
Weighted average interest rate during the period.. 4.53% 4.71% 4.74%
RETURN ON EQUITY AND ASSETS
The following table shows the return on average assets, return on average
equity, dividend payout ratio, and ratio of average equity to average assets,
for the periods indicated.
FOR THE YEARS ENDED DECEMBER 31,
-----------------------------------
1998 1997 1996
----------- ---------- ----------
Return on average assets.......... 0.98% 0.92% 0.72%
Return on average equity.......... 11.29 13.49 11.25
Dividend payout ratio............. 18.76 15.70 19.81
Average equity to average assets.. 8.65 6.82 6.41
RESULTS OF OPERATIONS--YEARS ENDED DECEMBER 31, 1998, 1997, AND 1996
Overview. The Company's net income increased to $4.2 million from $3.3 million
in 1997, and from $2.1 million in 1996. Net interest income increased to $23.4
million in 1998, compared to $19.5 million in 1997, and $16.1 million in 1996.
This increase was offset by non-interest expenses that increased to $19.7
million in 1998, compared to $17.4 million in 1997, and $14.6 million in 1996.
Income tax expense increased to $2.2 million in 1998, from $1.7 million in 1997,
and $1.1 million in 1996.
Interest Income. Interest income increased to $36.5 million in 1998, from
$31.8 million in 1997, and $25.7 million in 1996. This increase was due to an
increase in average interest-earning assets. Average interest-earning assets
were $391.9 million in 1998, compared to $327.1 million in 1997, and $257.2
million in 1996. Average yield on interest-earning assets decreased to 9.32% in
1998, from 9.71% in 1997, and from 9.99% in 1996. The increase in average
interest-earning assets occurred in investment securities, and loans and leases,
and was funded by an increase in interest-bearing liabilities. The average
balance in investment securities increased to $74.9 million in 1998, from $48.8
million in 1997, and $35.6 million in 1996. The average balance in loans and
leases increased to $308.3 million in 1998, from $272.8 million in 1997, and
$218.8 million in 1996. The average yield on loans and leases decreased to
10.29% in 1998, from 10.42% in 1997, and from 10.66% in 1996. The decrease in
average yields on loans is due to increased competition and the decrease in the
prime rate precipitated by the Federal Reserve Bank's interest rate reductions
in the fourth quarter of 1998. Because a significant portion of the Company's
loans are tied to the prime rate management believes that the average yield on
both loans and investment securities will continue to decrease during 1999.
Interest Expense. Interest expense increased to $13.1 million in 1998, from
$12.3 million in 1997, and $9.6 million in 1996. This increase was due to
increases in average interest-bearing liabilities. Average interest-bearing
liabilities increased to $317.0 million in 1998, from $276.0 million in 1997,
and $219.0 million in 1996. The increase
11
in average interest-bearing liabilities was due to an increase in average
interest-bearing deposits of $38.0 million, an increase in average short term
borrowings of $7.6 million, offset by a decrease in average long-term debt of
$4.5 million. The increase in interest-bearing deposits is a result of the
Company's success in increasing its market share. The increase in short term
borrowings is the result of an increase in securities sold under agreements to
repurchase. These are agreements with customers with high dollar short-term
balances which the Company invests in like-termed securities. The decrease in
long-term debt is the result of the Company calling for redemption of its 7.5%
convertible subordinated debentures which were due 2017. All of the debenture
holders exercised the conversion privilege resulting in the extinguishment of
the debt and the issuance of 823,869 shares of common stock and $12.9 million
being added to common equity. The average cost of interest-bearing liabilities
decreased to 4.15% in 1998, from 4.45% in 1997, and 4.39% in 1996. The decrease
in the average cost of interest-bearing liabilities was the result of decreased
rates paid on interest-bearing deposit due to the general decline in interest
rates and the Federal Reserve Banks rate reductions in the fourth quarter of
1998. The average cost of deposits decreased to 4.04% in 1998, from 4.28% in
1997, and 4.27% in 1996. The increase in the cost of interest-bearing
liabilities in 1997, was primarily due to the increase in average long-term
debt.
Net Interest Income. Net interest income increased to $23.4 million in 1998,
from $19.5 million in 1997, and $16.1 million in 1996. This increase was due to
increases in average loans and leases of $35.5 million and average investment
securities of $26.1 million. Net interest margin was virtually unchanged at
5.97% in 1998, from 5.96% in 1997. While the margin was mostly unchanged in 1998
from 1997 the average yield on interest earning assets decreased to 9.32% in
1998, from 9.71% in 1997, and the cost of interest-bearing liabilities decreased
to 4.15% in 1998, from 4.45% in 1997, as a result of general decrease in
interest rates and the Federal Reserve Bank Board's interest rate reductions in
the fourth quarter of 1998. The Company's net interest margin for the fourth
quarter of 1998 was 5.81% compared to 6.01% for the fourth quarter of 1997. The
net interest margin decreased in 1997 from 6.25% in 1996, as a result of
decreased average yields on loans and leases, increased cost of interest-bearing
liabilities, and the increase in the ratio of investment securities to loans and
leases. Management believes that any additional rate reductions will depress the
net interest margin further.
Provision for Loan and Lease Losses. The provision for loan and lease losses
increased to $2.3 million in 1998, from $1.5 million in 1997, and $1.2 million
in 1996. This increase was necessitated by the increase in loans and leases
outstanding and increased charge-offs. Management anticipates growth in the
provision for loan and lease losses at least proportional to loan and lease
growth. Charge-offs net of recoveries of loans and leases were $1.7 million in
1998, $768,000 in 1997, and $572,000 in 1996. The percentage of total
charge-offs to average loans and leases was 0.56% in 1998 and 0.28% in 1997.
Non-interest Income. Non-interest income was $5.1 million in 1998, compared to
$4.5 million in 1997, and $2.9 million in 1996. The increase for 1998 from 1997
was due to increased service charges on deposit accounts, resulting from
increased deposits, increased credit card merchant fees, off-set by a reduction
in operating lease income. The increase for 1997 from 1996 was due to increased
service charges on deposit accounts, increased rental income from operating
leases, and increased credit card merchant fees. Service charges on deposit
accounts were $1.7 million in 1998, $1.5 million in 1997, and $1.1 million in
1996. Rental income from operating leases was $821,000 in 1998, and $1.0 million
in 1997. The decrease in operating lease income was the result of leases
classified as operating leases maturing or being paid off early, while new lease
volume was in leases classified as loans. Credit card transaction income was
$1.3 million in 1998, $1.2 million in 1997, and $797,000 in 1996.
Non-interest Expense. Non-interest expense increased to $19.7 million in 1998,
from $17.4 million in 1997, and $14.6 million in 1996. This increase was due
largely to increases in salaries and employee benefits, occupancy, equipment,
and marketing expense as a result of the Company's growth. Salaries and employee
benefits increased to $8.9 million in 1998, from $7.5 million in 1997, and $6.4
million in 1996. Occupancy expense increased to $2.3 million in 1998, from $2.1
million in 1997, and $1.9 million in 1996. Equipment expense increased to $1.5
million in 1998, from $1.2 million in 1997, and $1.1 million in 1996. Marketing
expense increased to $856,000 in 1998, compared to $760,000 in 1997, and
$637,000 in 1996. The increases in salary and occupancy expense are due to
growth in assets and deposits. The growth in marketing expense is a result of
the Company's efforts to capture market
12
share and capitalize on the opportunity to do so as a result of acquisitions of
banks with New Mexico operations by companies outside New Mexico.
Management anticipates that non-interest expense will continue to increase
with additional growth. The Company also has plans to open two new branch
locations in 1999, one late in the first quarter, and one early in the third
quarter. The addition of these new branches will cause non-interest expense to
rise in 1999.
Income Tax Expense. Income tax expense increased to $2.2 million in 1998,
from $1.7 million in 1997, and $1.1 million in 1996. In 1998, the Company began
paying state income taxes in New Mexico to which it was not subject in previous
years due to state tax net operating loss carry-forwards. Management anticipates
that the Company's marginal tax rate will be slightly higher in 1999.
LIQUIDITY AND SOURCES OF FUNDS
The Company's primary sources of funds are customer deposits, loan and lease
repayments. These funds are used to make loans and leases, acquire investment
securities and other assets, and fund continuing operations. Scheduled loan and
lease repayments are a relatively stable source of funds, while deposit inflows
and unscheduled loan and lease prepayments, which are influenced by general
interest rate levels, interest rates available on other investments,
competition, economic conditions, and other factors, are not a relatively stable
source of funds. Deposits of the Company increased to $409.0 million at December
31, 1998, from $345.6 million at December 31, 1997. Growth in deposits has
occurred primarily as a result of the Company's efforts to increase market share
by taking advantage of market dislocations caused by the acquisition of local
competitors and growth in the economy of the Company's trade area.
Net loans of the Company increased to $331.1 million at December 31, 1998,
from $285.1 million as of December 31, 1997. During 1998, real estate loans
increased by $19.8 million, leases increased by $17.1 million, commercial loans
increased by $8.5 million, and consumer loans increased by $1.3 million. The
increase in loans is due to the Company's successful efforts to increase its
market share by taking advantage of market dislocations caused by the
acquisition of local competitors and growth in the economy of the Company's
market area.
Management anticipates that the Company will continue to rely primarily on
customer deposits and loan and lease repayments, as well as retained earnings,
to provide liquidity and will use funds so provided primarily to make loans and
leases and to purchase securities. The Company believes that its customer
deposits provide a strong source of liquidity because of the high percentage of
core deposits. Borrowings are used to compensate for reductions in other sources
of funds. Borrowings may also be used on a longer-term basis to support expanded
lending activities and to match the maturity or repricing intervals of assets.
The sources of such borrowings are federal funds sold, securities sold under
agreements to repurchase, and borrowings from the Federal Home Loan Bank
("FHLB.")
CAPITAL RESOURCES
The Company's total stockholders' equity increased to $44.1 million at
December 31, 1998, from $27.7 million at December 31, 1997. Of the $16.4 million
increase, $4.2 million was produced by earnings and $12.9 million was produced
by the conversion of the 7.5% convertible subordinated debentures. This increase
was partially offset by dividend payments of $790,000. Management currently
intends to continue to retain a major portion of the Company's earnings to
support anticipated growth. As of December 31, 1998, the Company and First State
Bank met the fully phased-in regulatory capital requirements as further
disclosed in note 10 to the consolidated financial statements.
IMPACT OF INFLATION
The consolidated financial statements and related financial data and notes
presented herein have been prepared in accordance with generally accepted
accounting principles, which require the measurement of financial position and
operating results in terms of historical dollars, without considering changes in
the relative purchasing power of money over time due to inflation.
Unlike most industrial companies, virtually all of the assets and liabilities
of the Company are monetary in nature. As a result, interest rates have a more
significant impact on the Company's performance than the effects of general
price levels.
13
YEAR 2000
The Company began its Year 2000 planning and evaluation process in 1997.
Early on, the awareness stage was completed by management and the Board of
Directors. The various systems (hardware and software) of the Company have been
assigned into the various categories of critical, essential and moderate
importance. The assessment stage is essentially complete for the critical and
essential systems and substantially complete for the systems of moderate
importance.
All of the Company's systems are provided by third party vendors, with only
very minor programming changes made internally. Sixteen systems have been
identified as critical to the Company's daily processing. Of those, thirteen
have been certified by the provider to be Year 2000 compliant, while one has
been certified by the provider to not be date sensitive. The other two critical
systems have been determined by Company personnel to not be date sensitive.
Twenty-seven systems have been identified as essential to the Company's daily
operations. Twenty-six of the essential systems have been certified by the
provider as being Year 2000 compliant. One essential system is scheduled for
full compliance by March 1999. One other system previously considered essential
was down graded and is now considered of moderate importance, with a reasonable
alternative process which can easily be done manually.
The Company's Year 2000 testing began in the second quarter of 1998 and is
progressing on schedule to be complete by March 31, 1999, with critical system
testing scheduled to be complete by March 31, 1999. To date, no significant
problems have been encountered in the testing process.
Many of the Company's larger loan and deposit customers have been contacted
regarding their readiness for the Year 2000, to determine if the Company has
significant credit risk or exposure to declining liquidity, due to potential
problems of customers related to Year 2000 issues. Information is being gathered
on most of these larger customers and determinations made regarding the relative
risk to these customers. To date, significant loss or liquidity exposure has not
been identified among the Company's customer base, but additional evaluation is
being performed on an ongoing basis.
The direct costs to date of the Company's Year 2000 effort have totaled
approximately just under $200,000. These include allocated salary costs of
approximately $59,000 and equipment costs of approximately $120,000. There are
indirect costs related to significant amounts of time being spent by existing
Company personnel, for development of test plans, test scripts, and for actual
testing. Most of this time is spent as part of their normal job
responsibilities, with no additional direct cost incurred.
The major risks of the Company's Year 2000 issues are its ability to
provide consistent daily processing of customer information and the soundness of
the Company's loan portfolio. The Company is managing this risk by performing
extensive analysis and testing to identify potential problem areas for its
systems and throughout its customer base. The possible impacts on the Company
would include a substantial loss of customers and the related revenue on those
customers' relationships, as well as possible loan losses resulting from the
inability of the Company's customers to repay their loans on a timely basis.
The Company is developing contingency plans which are anticipated to be
completed by June 30, 1999. These plans include plans for replacement of non-
compliant systems, other processing alternatives, and liquidity matters.
FORWARD-LOOKING STATEMENTS
Statements which are forward-looking are not historical facts, and involve
risks and uncertainties that could cause the Company's results to differ
materially from those in any forward-looking statements. These risks include the
possible loss of key personnel, need for additional capital should the Company
experience faster than anticipated growth, changes in economic conditions,
interest rate risk, factors which could affect the Company's ability to compete
in its trade areas, changes in regulations and governmental policies, and the
risks described in the Company's Securities and Exchange Commission filings.
Forward-looking statements with respect to the Year 2000 may differ materially
if commitments or representations from third parties are not fulfilled.
14
INDEPENDENT AUDITORS' REPORT
The Board of Directors and Stockholders
First State Bancorporation:
We have audited the accompanying consolidated balance sheets of First State
Bancorporation and subsidiary as of December 31, 1998 and 1997, and the related
consolidated statements of operations, comprehensive income, stockholders'
equity, and cash flows for each of the years in the three year period ended
December 31, 1998. 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 presentations.
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 First State
Bancorporation and subsidiary as of December 31, 1998 and 1997, and the results
of their operations and their cash flows for each of the years in the three year
period ended December 31, 1998 in conformity with generally accepted accounting
principles.
KPMG LLP
Albuquerque, New Mexico
January 28, 1999
15
FIRST STATE BANCORPORATION AND SUBSIDIARY
CONSOLIDATED BALANCE SHEETS
AS OF DECEMBER 31,
--------------------------
1998 1997
------------ ------------
ASSETS
Cash and due from banks (note 2).................................................. $ 18,093,685 $ 20,999,596
Federal funds sold................................................................ -- 11,000,000
------------ ------------
Total cash and cash equivalents....................................... 18,093,685 31,999,596
Investment securities (note 3):
Available for sale (at market, amortized cost of $61,105,643 and
$46,212,050 at December 31, 1998 and 1997)................................. 61,147,174 46,274,195
Held to maturity (at amortized cost, market of $60,932,276 and
$15,291,473 at December 31, 1998 and 1997)................................. 60,957,141 15,235,174
------------ ------------
Total investment securities............................................ 122,104,315 61,509,369
Loans and leases net of unearned interest (note 4)................................ 335,019,140 288,368,847
Less allowance for loan and lease losses.......................................... 3,874,688 3,279,457
------------ ------------
Net loans and leases................................................... 331,144,452 285,089,390
Premises and equipment, net (note 5).............................................. 14,791,656 14,056,096
Accrued interest receivable....................................................... 2,513,957 2,278,376
Other real estate owned........................................................... 697,204 1,327,192
Goodwill, less accumulated amortization of $922,335 and $818,129 at
December 31, 1998 and 1997................................................. 673,469 777,675
Other assets...................................................................... 3,635,623 4,006,630
------------ ------------
Total assets........................................................... $493,654,361 $401,044,324
============ ============
LIABILITIES AND STOCKHOLDERS' EQUITY
Liabilities:
Deposits (note 6):
Non-interest-bearing..................................................... $ 87,246,490 $ 72,773,120
Interest-bearing......................................................... 321,774,705 272,817,577
------------ ------------
Total deposits......................................................... 409,021,195 345,590,697
Securities sold under agreements to repurchase (note 7)...................... 36,692,999 10,105,190
Other liabilities............................................................ 2,590,480 2,597,599
Long-term debt (note 7)...................................................... 1,195,569 15,036,463
------------ ------------
Total liabilities..................................................... 449,500,243 373,329,949
Stockholders' equity (note 10):
Preferred stock, no par value, 1,000,000 shares authorized, none issued or
outstanding................................................................ -- --
Common stock, no par value, 20,000,000 shares authorized, 3,418,741 and
2,583,867 issued and outstanding at December 31, 1998 and 1997............. 29,107,146 16,075,878
Retained earnings............................................................ 15,019,562 11,597,484
Accumulated other comprehensive gains -
Unrealized gains on investment securities (notes 1, 3 and 9)............... 27,410 41,013
------------ ------------
Total stockholders' equity............................................. 44,154,118 27,714,375
Commitments and contingencies (note 12)........................................... -- --
------------ ------------
Total liabilities and stockholders' equity............................. $493,654,361 $401,044,324
============ ============
See accompanying notes to consolidated financial statements.
16
FIRST STATE BANCORPORATION AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF OPERATIONS
YEARS ENDED DECEMBER 31,
-------------------------------------
1998 1997 1996
----------- ----------- -----------
Interest income:
Interest and fees on loans and leases........................... $31,736,094 $28,428,332 $23,322,817
Interest on marketable securities:
Taxable.................................................... 4,174,411 2,864,591 2,015,497
Nontaxable................................................. 168,286 171,982 197,736
Federal funds sold.............................................. 463,225 300,387 145,246
----------- ----------- -----------
Total interest income...................................... 36,542,016 31,765,292 25,681,296
Interest expense:
Deposits........................................................ 11,677,836 10,757,772 8,375,055
Short-term borrowings (note 7).................................. 953,412 660,887 855,443
Long-term debt and capital leases............................... 510,257 853,979 386,120
----------- ----------- -----------
Total interest expense..................................... 13,141,505 12,272,638 9,616,618
----------- ----------- -----------
Net interest income........................................ 23,400,511 19,492,654 16,064,678
Provision for loan and lease losses (note 4)......................... 2,322,000 1,536,597 1,231,403
----------- ----------- -----------
Net interest income after provision for loan and lease
losses.................................................... 21,078,511 17,956,057 14,833,275
----------- ----------- -----------
Other income:
Service charges on deposit accounts............................. 1,736,309 1,451,666 1,138,239
Other banking service fees...................................... 352,971 231,388 129,640
Credit card transaction fees.................................... 1,275,674 1,154,511 797,224
Operating lease income.......................................... 820,915 1,018,944 286,090
Gain on call or sale of investment securities, net.............. -- -- 10,156
Check imprint income............................................ 466,021 400,156 328,704
Other........................................................... 401,150 218,285 244,464
----------- ----------- -----------
Total other income......................................... 5,053,040 4,474,950 2,934,517
----------- ----------- -----------
Other expenses:
Salaries and employee benefits.................................. 8,919,743 7,505,937 6,388,350
Occupancy....................................................... 2,252,850 2,106,871 1,854,447
Data processing................................................. 761,459 635,276 698,228
Credit card interchange......................................... 724,584 688,986 504,179
Equipment....................................................... 1,502,127 1,224,517 1,113,365
Leased equipment depreciation................................... 572,522 660,368 148,470
Legal, accounting, and consulting............................... 559,574 426,510 454,090
Marketing....................................................... 856,035 759,830 636,704
Supplies........................................................ 385,903 393,446 356,969
Other real estate owned......................................... 124,688 256,137 65,496
FDIC insurance premiums......................................... 41,515 119,740 2,000
Amortization of intangibles..................................... 104,206 190,755 185,286
Check imprint expense........................................... 400,484 350,992 269,368
Other........................................................... 2,468,121 2,106,927 1,913,811
----------- ----------- -----------
Total other expenses....................................... 19,673,811 17,426,292 14,590,763
----------- ----------- -----------
Income before income taxes........................................... 6,457,740 5,004,715 3,177,029
Income tax expense (note 9).......................................... 2,245,356 1,674,347 1,115,892
----------- ----------- -----------
Net income........................................................... $ 4,212,384 $ 3,330,368 $ 2,061,137
=========== =========== ===========
Earnings per share (note 1):
Basic earnings per share........................................ $ 1.36 $ 1.35 $ 1.02
=========== =========== ===========
Diluted earnings per share...................................... $ 1.28 $ 1.21 $ 0.90
=========== =========== ===========
See accompanying notes to consolidated financial statements.
17
FIRST STATE BANCORPORATION AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME
YEARS ENDED DECEMBER 31,
------------------------
1998 1997 1996
---- ---- ----
Net income...................................... $4,212,384 $3,330,368 $2,061,137
Other comprehensive loss, net of tax-
Unrealized holding losses on securities
available for sale arising during period........ (13,603) (4,932) (70,027)
---------- --------- ----------
Total comprehensive income...................... $4,198,781 $3,325,436 $1,991,110
========== ========= ==========
See accompanying notes to consolidated financial statements
18
FIRST STATE BANCORPORATION AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
YEARS ENDED DECEMBER 31, 1998, 1997, AND 1996
---------------------------------------------
ACCUMULATED
COMMON COMMON OTHER TOTAL
STOCK STOCK RETAINED COMPREHENSIVE STOCKHOLDERS'
SHARES AMOUNT EARNINGS GAINS EQUITY
----- ------ -------- ----- ------
Balance at December 31, 1995...................... 1,962,067 $ 9,864,598 $ 7,445,338 $ 115,972 $ 17,425,908
Net income.................................... -- -- 2,061,137 -- 2,061,137
Dividends ($0.20) per share................... -- -- (408,489) -- (408,489)
Common shares issued from
exercise of options (note 10)............... 19,600 98,196 -- -- 98,196
Common shares issued pursuant to
conversion of subordinated
debentures (note 7)......................... 186,838 1,888,224 -- -- 1,888,224
Common shares issued in employee
benefit plan................................ 3,852 55,563 -- -- 55,563
Net change in market value.................... -- -- -- (70,027) (70,027)
--------- ----------- ----------- ------------ ------------
Balance at December 31, 1996...................... 2,172,357 11,906,581 9,097,986 45,945 21,050,512
--------- ----------- ----------- ------------ ------------
Net income.................................... -- -- 3,330,368 -- 3,330,368
Dividends ($0.21) per share................... -- -- (522,870) -- (522,870)
Common shares issued from exercise of
options (note 10)........................... 43,000 389,581 -- -- 389,581
Common shares issued pursuant to
conversion of subordinated
debentures (note 7)......................... 359,285 3,675,078 -- -- 3,675,078
Common shares issued in employee
benefit plan................................ 8,146 84,765 -- -- 84,765
Common shares issued pursuant to
dividend reinvestment plan.................. 1,079 19,873 -- -- 19,873
Redemption of warrants (note 10).............. -- -- (308,000) -- (308,000)
Net change in market value.................... -- -- -- (4,932) (4,932)
--------- ----------- ----------- ------------ ------------
Balance at December 31, 1997...................... 2,583,867 16,075,878 11,597,484 41,013 27,714,375
--------- ----------- ----------- ------------ ------------
Net income.................................... -- -- 4,212,384 -- 4,212,384
Dividends ($0.25) per share................... -- -- (790,306) -- (790,306)
Common shares issued from exercise of
options (note 10)........................... 5,550 58,690 -- -- 58,690
Common shares issued pursuant to
conversion of subordinated
debentures (note 7)......................... 823,869 12,856,028 -- -- 12,856,028
Common shares issued in employee
benefit plan................................ 3,653 76,563 -- -- 76,563
Common shares issued pursuant to
dividend reinvestment plan.................. 1,802 39,987 -- -- 39,987
Net change in market value.................... -- -- -- ($13,603) ($13,603)
========= =========== =========== ============ ============
Balance at December 31, 1998...................... 3,418,741 $29,107,146 $15,019,562 $ 27,410 $ 44,154,118
========= =========== =========== ============ ============
See accompanying notes to consolidated financial statements.
19
FIRST STATE BANCORPORATION AND SUBSIDIARY
CONSOLIDATED STATEMENTS OF CASH FLOWS
YEARS ENDED DECEMBER 31,
------------------------
1998 1997 1996
---- ---- ----
Operating activities:
Net income........................................................................ $ 4,212,384 $ 3,330,368 $ 2,061,137
------------- ------------ ------------
Adjustments to reconcile net income to cash provided by operating activities:
Provision for loan and lease losses.............................................. 2,322,000 1,536,597 1,231,403
Provision for decline in value of other real estate owned........................ 22,550 85,500 12,500
Depreciation and amortization.................................................... 2,338,102 2,335,490 1,595,687
Net gain on call or sale of investment securities................................ -- -- (10,156)
Net gain on sale of premises and equipment....................................... -- (56,737) --
Net loss on sales of other real estate owned..................................... -- 16,327 20,294
Increase in accrued interest receivable.......................................... (235,581) (276,698) (557,115)
(Increase) decrease in other assets, net......................................... (670,266) (1,765,981) 62,334
Increase (decrease) in other liabilities, net.................................... (7,119) 437,623 366,191
------------- ------------ ------------
Total adjustments.............................................................. 3,769,686 2,312,121 2,721,138
------------- ------------ ------------
Net cash provided by operating activities...................................... 7,982,070 5,642,489 4,782,275
------------- ------------ ------------
Cash flows from investing activities:
Net increase in loans............................................................. (48,382,496) (39,591,220) (68,626,889)
Purchases of investment securities carried at amortized cost...................... (53,564,809) (4,500,000) (14,877,176)
Maturities of investment securities carried at amortized cost..................... 38,738,500 8,825,000 10,750,000
Purchases of investment securities carried at market.............................. (296,200,753) (40,995,968) (6,243,339)
Maturities of investment securities carried at market............................. 250,568,000 15,725,000 7,890,000
Sales of investment securities available for sale................................. -- -- 500,156
Purchases of premises and equipment............................................... (3,021,014) (2,320,692) (5,803,732)
Sales of premises and equipment................................................... -- 812,737 2,537,649
Additions to other real estate owned.............................................. (50,539) -- (245,312)
Payments received on loans classified as other real estate owned.................. -- 12,890 1,518
Proceeds from sale of other real estate owned..................................... 662,784 1,301,686 555,156
------------- ------------ ------------
Net cash used in investing activities.......................................... (111,250,327) (60,730,567) (73,561,969)
------------- ------------ ------------
Cash flows from financing activities:
Net increase in interest-bearing deposits......................................... 48,957,128 47,503,101 48,494,253
Net increase in non-interest-bearing deposits..................................... 14,473,370 20,734,273 10,012,202
Net increase (decrease) in securities sold under agreements to repurchase......... 26,587,809 (3,823,325) 5,015,042
Common stock issued............................................................... 175,240 494,219 153,759
Proceeds from Federal Home Loan Bank borrowings................................... -- 9,153,500 8,970,000
Payments on Federal Home Loan Bank borrowings..................................... -- (14,123,500) (4,000,000)
Dividends paid.................................................................... (790,306) (522,870) (408,489)
Issuance of long-term debt........................................................ -- 13,800,000 --
Payments on long-term debt........................................................ (40,895) (31,656) (32,407)
Federal funds purchased, net...................................................... -- (1,500,000) 1,500,000
Redemption of put warrants........................................................ -- (308,000) --
------------- ------------ ------------
Net cash provided by financing activities...................................... 89,362,346 71,375,742 69,704,360
------------- ------------ ------------
Increase (decrease) in cash and cash equivalents.................................. (13,905,911) 16,287,664 924,666
Cash and cash equivalents at beginning of year..................................... 31,999,596 15,711,932 14,787,266
------------- ------------ ------------
Cash and cash equivalents at end of year........................................... $ 18,093,685 $ 31,999,596 $ 15,711,932
============= ============ ============
Supplemental disclosure of additional noncash investing and financing
activities:
Additions to other real estate owned in settlement of loans...................... $ 96,313 $ 1,381,101 $ 988,783
Additions to loans in settlement of other real estate owned...................... 74,387 -- --
Issuance of long-term debt for purchase of premises and equipment................ -- $ 1,050,000 --
Issuance of common stock pursuant to conversion of subordinated debentures,
net (note 7).................................................................. $ 12,856,028 $ 3,675,078 $ 1,888,224
============= ============ ============
Supplemental disclosure of cash flow information:
Cash paid for interest........................................................... $ 13,351,761 $ 12,047,450 $ 9,426,618
============= ============ ============
Cash paid for income taxes....................................................... $ 2,190,000 $ 1,983,000 $ 1,010,000
============= ============ ============
See accompanying notes to consolidated financial statements.
20
FIRST STATE BANCORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
1. Summary of Significant Accounting Policies
(a) Organization, Basis of Presentation and Principles of Consolidation
First State Bancorporation ("FSNM") is a New Mexico-based holding company
that is focused on New Mexico markets. In 1988, FSNM acquired First State Bank
of Taos ("FSBT"). In December 1993, FSNM acquired First State Bank of Santa Fe
("the Santa Fe Bank"). On June 5, 1994, the Santa Fe Bank was merged into FSBT.
As a result of the merger, FSNM purchased the interest of the minority
stockholders of the Santa Fe Bank. FSBT is a state chartered bank with locations
in Taos, Albuquerque, Santa Fe, Rio Rancho, Los Lunas, Bernalillo, Placitas,
Questa, and Moriarty, New Mexico. First State Bancorporation and its wholly
owned subsidiary FSBT are collectively referred to as "the Company."
All significant intercompany accounts and transactions have been eliminated
in the consolidated financial statements.
In preparing the financial statements, management is required to make
estimates and assumptions that affect the reported amounts of assets and
liabilities as of the date of the balance sheet and revenues and expenses for
the period. Actual results could differ significantly 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 and lease
losses and the valuation of real estate acquired in satisfaction of loans. In
connection with the determination of the allowances for loan and lease losses
and real estate owned, management obtains independent appraisals for significant
properties.
Management believes that the estimates and assumptions it uses to prepare
the financial statements, particularly as they relate to the allowances for
losses on loans and leases, and real estate owned, are adequate. However, future
additions to these allowances may be necessary based on changes in economic
conditions. Further, regulatory agencies, as an integral part of their
examination process, periodically review the allowances for losses on loans and
leases, and real estate owned and may require the Company to recognize additions
to these allowances based on their judgments about information available to them
at the time of their examinations.
The Company's results of operations depend on its net interest income. The
components of net interest income, interest income and interest expense, are
affected by general economic conditions and by competition in the marketplace.
Interest rate risk arises from volatile interest rates and changes in the
balance sheet mix. The Company maintains an asset/liability management policy
that provides guidelines for controlling exposure to interest rate risk. The
Company's policy is to control the exposure of its earnings to changing interest
rates by generally maintaining a position within a narrow range around an
"earnings neutral position," which is defined as the mix of assets and
liabilities that generates a net interest margin that is least affected by
interest rate changes.
(b) Investment Securities
The Company accounts for investment securities under Statement of Financial
Accounting Standards No. 115, "Accounting for Certain Investments in Debt and
Equity Securities" (FAS 115). FAS 115 requires that investment securities be
classified in one of three categories and accounted for as follows: (i) debt
securities that the Company has the positive intent and ability to hold to
maturity are classified as held to maturity and carried at amortized cost; (ii)
debt
21
FIRST STATE BANCORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
and equity securities that are bought and held primarily for the purpose of
selling them in the near term are classified as trading securities and carried
at fair value, with unrealized gains and losses included in earnings; and (iii)
debt and equity securities not classified as either held to maturity securities
or trading securities are classified as available for sale securities. These are
securities which the Company will hold for an indefinite period of time and may
be used as a part of the Company's asset/liability management strategy and may
be sold in response to changes in interest rates, prepayments, or similar
factors. Available for sale securities are carried at estimated market value,
with unrealized gains and losses excluded from earnings and reported as a
separate component of stockholders' equity, net of related deferred income
taxes. Upon purchase of investment securities, management designates securities
as either held to maturity or available for sale. The Company does not maintain
a trading portfolio.
(c) Loans, Leases, and Allowance for Loan and Lease Losses
Interest on loans is recognized as income based upon the daily principal
amount outstanding. Interest on non-accrual loans is recognized as income when
the loan is returned to accrual status. When a loan is placed on non-accrual,
any uncollected interest accrued in the current year is charged against income,
with prior years' accruals charged to the allowance for loan and lease losses
unless in management's opinion the loan is well secured and in the process of
collection. Interest accrued on loans is discontinued in most instances when a
loan becomes 90 days past due and/or management believes the borrower's
financial condition is such that collection of future principal and interest
payments is doubtful. Loans are removed from non-accrual status when they become
current as to both principal and interest, and concern no longer exists as to
the collectibility of principal or interest.
Leases which meet the criteria to be classified as direct financing leases
are carried at the gross investment in the lease, less unearned income. Unearned
income is recognized in a manner to produce a constant periodic rate of return.
The gross investment in the lease includes the minimum lease payment due under
the term of the lease, plus initial direct costs and the estimated residual
value of the collateral underlying the lease. Initial direct costs are amortized
using the level yield method. The value of unguaranteed residuals are reviewed
periodically and any necessary adjustments are charged against operations. For
leases which meet the operating lease criteria, income is recognized as rental
payments are earned. The equipment leased under operating leases is carried as
property and equipment at cost, less accumulated depreciation. Depreciation
expense is calculated using the straight-line method over the estimated useful
life of the equipment, generally three to five years.
The allowance for loan and lease losses is that amount which, in
management's judgment, is considered adequate to provide for potential losses in
the loan and lease portfolios. Management's determination of the allowance for
loan and lease losses is made with consideration of such factors as
delinquencies, changing collateral values, previous charge-off experience, local
and national economic conditions and other factors which, in management's
opinion, deserve current recognition in the allowance.
22
FIRST STATE BANCORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
First State Bank's loan portfolio is concentrated in Albuquerque, Santa Fe,
Los Lunas, Rio Rancho, and Taos, New Mexico. A significant portion of the loan
portfolio is secured by real estate in those communities. Accordingly, the
ultimate collectibility of First State Bank's loan portfolio is dependent upon
real estate values in those markets.
Loan origination fees and certain direct loan origination costs are
deferred and amortized to income over the contractual life of the loan using the
interest method. Any unamortized balance of the deferred fees is recognized as
income if the loans are sold, participated or repaid prior to maturity.
The Company accounts for impaired loans under Statement of Financial
Accounting Standards No. 114 and 118, "Accounting by Creditors for Impairment of
a Loan" (FAS 114 and 118).
(d) Premises and Equipment
Premises and equipment are stated at cost, less accumulated depreciation
and amortization. Depreciation and amortization are computed by the straight-
line method over the estimated useful lives of the related assets.
(e) Intangible Assets
The excess of cost over the fair value of the net assets of acquired banks
is recorded as goodwill, which is amortized on a straight-line basis over a
period of 15 years. Core deposit intangibles are amortized over a 10-year period
using the straight-line method. At December 31, 1998 and 1997, unamortized core
deposit intangibles included in other assets in the accompanying financial
statements, totaled zero and $28,916, respectively.
The Company assesses the recoverability of goodwill and core-deposit
intangibles by determining whether the amortization of the intangibles over
their remaining lives can be recovered through projected undiscounted future
results of operations.
(f) Other Real Estate Owned
Other real estate owned consists of loan-related properties acquired
through foreclosure and by deed-in-lieu of foreclosure.
Other real estate owned is carried at the lower of the investment in the
related loan or fair value of the assets received. Fair value of such assets is
determined based on independent appraisals minus estimated costs of disposition.
Declines in value subsequent to acquisition are accounted for within the
allowance for other real estate owned. Provisions for losses subsequent to
acquisition, operating expenses, and gain or losses from sales of other real
estate owned, are charged or credited to other operating costs.
(g) Income Taxes
The Company files a consolidated tax return with its wholly owned
subsidiary. The Company uses the asset and liability method prescribed in the
Statement of Financial Accounting Standards No. 109, "Accounting for Income
Taxes" (FAS 109). Under the asset and liability method, deferred tax assets and
liabilities are recognized for the future tax consequences attributable to
differences between the financial carrying amounts of existing assets and
liabilities and their respective tax bases. Deferred tax assets and liabilities
are measured using enacted tax rates expected to apply to taxable income in the
years in which those temporary differences are expected to be recovered or
settled. The effect on deferred tax assets and liabilities of a change in tax
rates is recognized in income in the period that includes the enactment date.
23
FIRST STATE BANCORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
(h) Statement of Cash Flows
For the purpose of reporting cash flows, cash and cash equivalents include
cash and due from banks and federal funds sold.
(i) Earnings per Common Share
In February 1997, the Financial Accounting Standards Board issued Statement
of Financial Accounting Standards No. 128, "Earnings per Share" (FAS 128). FAS
128 requires the computation of basic earnings per share and diluted earnings
per share. Basic earnings per share is computed by dividing income available to
common stockholders (the numerator) by the weighted-average number of common
shares outstanding during the period (the denominator). Diluted earnings per
share is calculated by increasing the basic earnings per share denominator by
the number of additional common shares that would have been outstanding if
dilutive potential common shares for options, warrants, and convertible
debentures had been issued and increasing the basic earnings per share numerator
by the after tax amount of interest and amortization associated with the
convertible debentures. FAS 128 is effective for years ended after December 31,
1997, and is required to be applied retroactively upon adoption. All previous
periods have been restated to conform to the requirements of FAS 128. The
following is a reconciliation of the numerators and denominators of basic and
diluted earnings per share.
YEARS ENDED DECEMBER 31,
------------------------
1998 1997 1996
----------------------------------------------------------------------------------------------------------
Income Shares Per Share Income Shares Per Share Income Shares Per Share
(Numerator) (Denominator) Amount (Numerator) (Denominator) Amount (Numerator) (Denominator) Amount
----------- ------------- ------ ----------- ------------- ------ ----------- ------------- ------
Basic EPS:
Net income available
to common stockholders.. $4,212,384 3,096,073 $1.36 $3,330,368 2,465,195 $1.35 $2,061,137 2,026,428 $1.02
===== ===== =====
Effect of dilutive
securities:...............
Options................. -- 95,329 -- 78,429 -- 66,418
Warrants................ -- -- -- 7,450 -- 8,862
Convertible debentures.. 276,436 318,356 540,258 652,010 295,876 503,574
---------- --------- ---------- --------- ---------- ---------
Diluted EPS:
Net income available to
common stockholders plus
interest on convertible
debentures.............. $4,488,820 3,509,758 $1.28 $3,870,626 3,203,084 $1.21 $2,357,013 2,605,282 $0.90
========== ========= ===== ========== ========= ===== ========== ========= =====
(j) Stock Options
Prior to January 1, 1996, the Company accounted for its stock option plan
in accordance with the provisions of Accounting Principles Board ("APB") Opinion
No. 25, "Accounting for Stock Issued to Employees and related interpretations."
As such, compensation expense was recorded on the date of grant only if the
current market price of the underlying stock exceeded the exercise price. On
January 1, 1996, the Company adopted Statement of Financial Accounting Standards
No. 123, "Accounting for Stock-Based Compensation" (FAS 123), which permits
entities to recognize as expense over the vesting period the fair value of all
stock-based awards on the date of grant. Alternatively, FAS 123 also allows
entities to continue to apply the provisions of APB Opinion No. 25 and provide
pro forma net income and pro forma earnings per share disclosures for employee
stock option grants made in 1995 and future years as if the fair-value-based
method defined in FAS 123 had been applied. The Company has elected to continue
to apply the provisions of APB Opinion No. 25.
(k) Reclassifications
Certain previous period balances have been reclassified to conform to the
1998 presentation.
(l) Reporting Comprehensive Income
In June 1997, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No. 130, "Reporting Comprehensive Income" (FAS
130). FAS 130 requires disclosure in the financial
24
FIRST STATE BANCORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
statements of comprehensive income that encompasses earnings and those items
currently required to be reported directly in the equity section of the balance
sheet, such as unrealized gains and losses on available-for-sale securities.
Management has adopted the provisions of FAS 130 effective January 1, 1998, and
all previous periods have been restated to conform to the provisions of FAS 130.
(m) Accounting Standards Issued but not yet Adopted
In June, 1998, the Financial Accounting Standards Board issued Statement of
Financial Accounting Standards No.133, Accounting for Derivative Instruments and
Hedging Activities (FAS 133). FAS 133 establishes accounting and reporting
standards for derivative instruments, including certain derivative instruments
embedded in the contracts, and for hedging activities. This Statement is
effective for all fiscal quarters of all fiscal years beginning after June 15,
1999. The impact of FAS 133 is not expected to be material in relation to the
consolidated financial statements.
2. CASH AND DUE FROM BANKS
First State Bank is required to maintain certain daily reserve balances on
hand in accordance with Federal Reserve Board requirements. The consolidated
reserve balances maintained in accordance with these requirements were
approximately $714,000 and $9,415,000 at December 31, 1998 and 1997,
respectively.
3. INVESTMENT SECURITIES
Following is a summary of amortized costs and approximate market values of
investment securities:
GROSS GROSS ESTIMATED
AMORTIZED UNREALIZED UNREALIZED MARKET
COST GAINS LOSSES VALUE
---- ----- ------ -----
As of December 31, 1998
Obligations of the U.S. Treasury:
Available for sale.............................. $ 3,997,878 $ 27,122 -- $ 4,025,000
Held to maturity................................ 1,643,816 10,898 247 1,654,467
Obligations of U.S. government agencies:
Available for sale.............................. 55,407,515 111,930 97,521 55,421,924
Held to maturity................................ 54,331,503 1,170 87,765 54,244,908
Obligations of states and political subdivisions--
Held to maturity................................ 4,981,822 70,416 19,337 5,032,901
Federal Home Loan Bank stock......................... 1,239,300 -- -- 1,239,300
Federal Reserve Bank stock........................... 460,950 -- -- 460,950
------------ -------- -------- ------------
$122,062,784 $221,536 $204,870 $122,079,450
============ ======== ======== ============
As of December 31, 1997
Obligations of the U.S. Treasury:
Available for sale.............................. $ 10,867,133 $ 28,563 $ 458 $ 10,895,238
Held to maturity................................ 2,090,535 16,121 -- 2,106,656
Obligations of U.S. government agencies:
Available for sale.............................. 33,408,867 49,239 15,199 33,442,907
Held to maturity................................ 9,999,106 14,062 36,930 9,976,238
Obligations of states and political subdivisions--
Held to maturity................................ 3,145,533 63,466 420 3,208,579
Federal Home Loan Bank stock......................... 1,475,100 -- -- 1,475,100
Federal Reserve Bank stock........................... 460,950 -- -- 460,950
------------ -------- -------- ------------
$ 61,447,224 $171,451 $ 53,007 $ 61,565,668
============ ======== ======== ============
25
FIRST STATE BANCORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
The amortized cost and estimated market value of investment securities at
December 31, 1998, by contractual maturity, are shown below. Expected maturities
will differ from contractual maturities because borrowers may have the right to
call or prepay obligations.
ESTIMATED
AMORTIZED MARKET
COST VALUE
------------ ------------
Within one year:
Available for sale........... $ 3,997,878 $ 4,025,000
Held to maturity............. 53,280,754 53,208,107
One through five years:
Available for sale........... 47,467,654 47,514,262
Held to maturity............. 4,203,636 4,233,618
Five through ten years:
Available for sale........... 7,939,861 7,907,662
Held to maturity............. 2,417,751 2,435,551
After ten years -
Held to maturity............. 1,055,000 1,055,000
Federal Reserve Bank stock..... 460,950 460,950
Federal Home Loan Bank stock... 1,239,300 1,239,300
------------ ------------
Total.................. $122,062,784 $122,079,450
============ ============
Marketable securities with an amortized cost of approximately $104,630,000 and
$56,515,000 were pledged to collateralize deposits as required by law and for
other purposes at December 31, 1998 and 1997, respectively.
Proceeds from sales of investments in debt securities for the years ended
December 31 were zero in 1998, zero in 1997, and $500,156 in 1996. Gross losses
realized were zero in 1998, zero in 1997, and zero in 1996. Gross gains realized
were zero in 1998, zero in 1997, and $156 in 1996. The Company calculates gain
or loss on sale of securities based on the specific identification method.
4. LOANS AND LEASES
Following is a summary of loans and leases by major categories:
AS OF DECEMBER 31,
--------------------------
1998 1997
------------ ------------
Commercial................. $ 53,941,596 $ 45,479,576
Consumer and other......... 18,089,867 16,809,338
Lease financing............ 47,650,734 30,587,116
Real estate--mortgage...... 167,979,538 153,550,262
Real estate--construction.. 47,357,405 41,942,555
------------ ------------
Total............... $335,019,140 $288,368,847
============ ============
26
FIRST STATE BANCORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
The Company's leasing operations consist principally of the leasing of various
types of transportation equipment, construction equipment, industrial and
manufacturing equipment, and data processing equipment. The majority of the
Company's leases are classified as direct financing leases.
Future minimum lease receivables under noncancellable leasing arrangements as
of December 31, 1998 are as follows:
DIRECT
FINANCING OPERATING
LEASES LEASES
------------ ----------
Years ending December 31:
1999 .................................... $14,328,899 $ 642,141
2000 .................................... 13,091,139 565,767
2001 .................................... 9,765,796 380,721
2002 .................................... 5,836,446 119,390
2003 .................................... 3,788,812 43,808
Thereafter .............................. 469,067 --
----------- ----------
Net minimum future lease receipts ......... 47,280,159 $1,751,827
==========
Less unearned income ...................... (8,353,927)
Unamortized initial indirect costs ........ 388,110
Estimated residual value .................. 8,336,392
-----------
Net investment in direct financing leases... $47,650,734
===========
Following is a summary of changes to the allowance for loan and lease losses:
YEARS ENDED DECEMBER 31,
--------------------------------------
1998 1997 1996
------------ ----------- -----------
Balance at beginning of year ...... $ 3,279,457 $ 2,510,155 $ 1,850,605
Provision charged to operations ... 2,322,000 1,536,597 1,231,403
Loans and leases charged-off ...... (1,921,440) (972,047) (753,512)
Recoveries ........................ 194,671 204,752 181,659
----------- ----------- -----------
Balance at end of year ............ $ 3,874,688 $ 3,279,457 $ 2,510,155
=========== =========== ===========
The recorded investment in loans which are considered impaired under the
provisions of Statement of Financial Accounting Standards No. 114, "Accounting
by Creditors for Impairment of a Loan," as amended by the Statement of Financial
Accounting Standards No. 118, "Accounting by Creditors for Impairment of a
Loan-Income Recognition and Disclosures," was $6,262,498 at December 31, 1998,
$3,122,765 at December 31, 1997, and $1,057,802 at December 31, 1996. The
average investment in loans for which impairment has been recognized was
$5,452,000 in 1998 and $2,090,000 in 1997. The allowance for loan losses related
to these loans was $96,000 at December 31, 1998, $395,000 at December 31, 1997,
and zero at December 31, 1996. The allowance for impaired loans is included in
the allowance for loan and lease losses. Interest income recognized on impaired
loans was zero in 1998, $6,218 in 1997, and $18,293 in 1996.
Loans on which the accrual of interest has been discontinued amounted to
$6,262,498, $3,122,765, and $946,408 at December 31, 1998, 1997, and 1996,
respectively. If interest on such loans had been accrued, such income would have
been approximately $409,000 in 1998, $144,978 in 1997, and $12,000 in 1996.
Actual interest income on those loans, which is recorded only when received,
amounted to zero in 1998, $6,218 in 1997, and zero in 1996.
27
FIRST STATE BANCORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
Activity during 1998 and 1997 regarding outstanding loans to certain
related-party loan customers of the subsidiary bank's (executive officers,
directors and principal shareholders of First State Bank including their
families and companies in which they are principal owners) was as follows:
1998 1997
----------- ------------
Balance at beginning of year........ $1,180,868 $ 1,946,119
Advances............................ 268,488 532,085
Loans to parties no longer related.. -- (163,869)
Repayments.......................... (292,288) (1,133,467)
---------- -----------
Balance at end of year.............. $1,157,068 $ 1,180,868
========== ===========
5. PREMISES AND EQUIPMENT
Following is a summary of premises and equipment, at cost:
ESTIMATED
USEFUL AS OF DECEMBER 31,
--------------------------
LIFE (YEARS) 1998 1997
------------ ------------ ------------
Land............................................. -- 2,484,977 $ 1,959,655
Building and leasehold improvements.............. 15-30 9,945,070 8,650,082
Equipment........................................ 5 6,572,889 5,591,891
Equipment subject to operating lease financing:.. 3-5
Transportation.............................. 1,292,624 1,600,000
Construction................................ 1,729,535 1,296,797
Other....................................... 352,861 814,534
Assets under capital leases...................... 5 -- 78,781
----------- -----------
22,377,956 19,991,740
Less accumulated depreciation and amortization... (7,586,300) (5,935,644)
----------- -----------
$14,791,656 $14,056,096
=========== ===========
Depreciation and amortization expense on premises and equipment in 1998, 1997,
and 1996 was $2,040,832, $1,911,497, and $1,331,147, respectively.
6. DEPOSITS
Following is a summary of interest-bearing deposits:
AS OF DECEMBER 31,
--------------------------
1998 1997
------------ ------------
Interest-bearing checking accounts.. $ 86,340,829 $ 69,566,283
Money market savings................ 53,195,823 47,223,074
Regular savings..................... 36,992,637 21,231,515
Time:
Denominations $100,000 and over... 61,197,296 55,766,974
Denominations under $100,000...... 84,048,120 79,029,731
------------ ------------
$321,774,705 $272,817,577
============ ============
28
FIRST STATE BANCORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
7. BORROWINGS
Securities sold under agreements to repurchase
Securities sold under agreements to repurchase are comprised of customer
deposit agreements with overnight maturities. The obligations are not federally
insured but are collateralized by a security interest in U.S. Treasury or U.S.
government agency securities. These securities are segregated and safekept by
third-party banks. These securities had a market value of $36,692,999 and
$10,105,190, at December 31, 1998 and 1997, respectively. Interest expense
included in the statement of operations was $947,181, $527,746, and $561,541 for
the years ended December 31, 1998, 1997, and 1996.
Securities sold under agreements to repurchase are summarized as follows:
YEARS ENDED DECEMBER 31,
--------------------------
1998 1997
------------ ------------
Balance........................................... $36,692,999 $10,105,190
Weighted average interest rate.................... 4.07% 4.88%
Maximum amount outstanding at any month end....... $36,692,999 $12,582,073
Average balance outstanding during the period..... $20,978,000 $11,213,000
Weighted average interest rate during the period.. 4.53% 4.71%
Subordinated Debentures
On April 28, 1998, the Company notified the holders of its 7.5% convertible
subordinated debentures due 2017 that the debentures would be called for
redemption at 100% of the original principal plus accrued interest on May 29,
1998. The Indenture allowed management to redeem the debentures at par when the
Company's common stock closed at 140% of the exercise price ($16.75) for 30
consecutive trading days. As of April 24, 1998 this condition was met. All of
the debenture holders exercised the conversion privilege, resulting in 823,869
shares of common stock being issued and $12.9 million being added to common
equity.
On April 30, 1997, the Company called for redemption of its 7% convertible
subordinated debentures due November 3, 2003, with a balance of $3,788,000 at
December 31, 1996. Prior to the redemption date, $3,773,000 principal amount of
the debentures were converted into the Company's common stock at a conversion
rate of $10.50 per share or 359,285 shares. The remaining $15,000 were redeemed
at 101% of the original principal balance plus accrued interest.
Federal Home Loan Bank advance
First State Bank has a note payable to the Federal Home Loan Bank of Dallas
included in long-term debt, dated January 30, 1995, with an outstanding balance
of $177,394 and $198,594 at December 31, 1998, and 1997, respectively. The note
is payable in monthly installments of principal and interest at 8.26% through
February 1, 2005.
29
FIRST STATE BANCORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
Note Payable
On April 30, 1997, the Company purchased its main banking facility in Taos,
New Mexico subject to a real estate contract with an original balance of
$1,050,000 which bears interest at 9.50% adjustable every five years through
2017, payable $9,787 monthly. The balance at December 31, 1998, was $1,018,175
with principal payments of $21,648 in 1999, $23,797 in 2000, $26,159 in 2001,
$28,755 in 2002, $31,609 in 2003, and $886,207 thereafter.
8. LEASES
First State Bank leases certain of its premises and equipment under
noncancellable operating leases from unrelated parties. Rent expense for the
years ended December 31, 1998, 1997, and 1996, totaled approximately $968,000,
$949,000 and $829,000, respectively. Minimum future payments under these leases
at December 31, 1998, are as follows:
YEARS ENDING
DECEMBER 31,
--------------
1999...................................... $ 1,217,262
2000...................................... 1,206,322
2001...................................... 1,180,023
2002...................................... 1,111,391
2003...................................... 1,092,911
Thereafter................................ 7,044,364
-----------
$12,852,273
===========
9. INCOME TAXES
Income tax expense (benefit) consisted of the following:
YEARS ENDED DECEMBER 31,
-------------------------------------
1998 1997 1996
----------- ----------- -----------
Federal........................... $2,259,595 $1,905,234 $1,124,780
State............................. 251,042 -- --
Deferred.......................... (265,281) (230,887) (8,888)
---------- ---------- ----------
Total expense..................... $2,245,356 $1,674,347 $1,115,892
========== ========== ==========
30
FIRST STATE BANCORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
Actual income tax expense from continuing operations differs from the
"expected" tax expense for 1998, 1997, and 1996 (computed by applying the U.S.
federal corporate tax rate of 34 percent to income from continuing operations
before income taxes) as follows:
YEARS ENDED DECEMBER 31,
-------------------------------------
1998 1997 1996
----------- ----------- -----------
Computed "expected" tax expense.......................... $2,196,000 $1,702,000 $1,080,000
Increase (reduction) in income taxes resulting from:
Tax-exempt interest.................................... (185,000) (119,000) (76,000)
State tax.............................................. 129,000 -- --
Amortization of intangibles............................ 46,000 48,000 92,000
Change in valuation allowance for deferred tax assets.. -- -- (120,000)
Other.................................................. 59,356 43,347 139,892
---------- ---------- ----------
Total income tax expense............................ $2,245,356 $1,674,347 $1,115,892
========== ========== ==========
Components of deferred income tax assets and liabilities are as follows:
AS OF DECEMBER 31,
----------------------
1998 1997
---------- ----------
Deferred tax assets:
Allowance for loan losses................................ $1,013,935 $ 854,506
Allowance for other real estate owned.................... 54,060 58,820
Depreciation............................................. 234,304 175,946
Deferred compensation expense............................ 143,355 38,564
Other.................................................... 25,928 29,404
---------- ----------
Total gross deferred tax assets....................... 1,471,582 1,157,240
Deferred tax liabilities:
Leases............................................. 207,931 158,870
Tax effect of unrealized gains on investment securities.. 14,120 21,127
---------- ----------
Total gross deferred tax liabilities.................. 222,051 179,997
---------- ----------
Net deferred tax asset................................ $1,249,531 $ 977,243
========== ==========
In order to fully realize the deferred tax asset on the Company's balance
sheet at December 31, 1998, of $1,471,582, the Company will need to generate
future taxable income of approximately $4,328,000. Based on the Company's
historical and current pre-tax income, management believes it is more likely
than not that the Company will realize the benefit of the temporary differences
prior to the expiration of the carry-forward period and further believes that
the existing net deductible temporary differences will reverse during periods in
which the Company generates net taxable income. There can be no assurance,
however, that the Company will generate taxable income or any specific level of
continuing taxable income.
31
FIRST STATE BANCORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
10. STOCKHOLDERS' EQUITY
At December 31, 1998, under terms of a stock option agreement, an officer of
First State Bank has an outstanding option to purchase 6,612 common shares of
the Company at a price of $5.01 per share. The options may be exercised at any
time and expire on October 12, 2003. The officer exercised 43,000 options for a
total of $215,000 in 1997.
Effective October 5, 1993, the Company adopted the First State Bancorporation
1993 Stock Option Plan, which provides for the granting of options to purchase
up to 400,000 shares of the Company's common stock. Exercise dates and prices
for the options are set by a committee of the Board of Directors. The plan also
provides that options other than those qualifying as incentive stock options may
be granted. Vesting of these options is 20% at the date of grant and 20% per
year thereafter until fully vested. A summary of options under this plan is as
follows:
`1998 1997
------- ------
WEIGHTED AVERAGE WEIGHTED AVERAGE
EXERCISE PRICE EXERCISE PRICE
---------------- ----------------
SHARES SHARES
------- -------
Outstanding at beginning of year...... 310,128 $11.64 $198,753 8.40
Granted.......................... -- -- 114,400 17.17
Exercised........................ (5,550) 10.63 (1,400) 8.40
Forfeited........................ (8,013) 15.14 (1,625) 8.40
------- ------ -------- -----
Outstanding at year end............... 296,565 $11.56 $310,128 11.64
======= ====== ======== =====
Options exercisable at year end....... 227,085 $10.05 $202,692 9.39
======= ====== ======== =====
Compensation expense of $308,208, $20,430, and $33,453 was recognized pursuant
to the grant of options in 1998, 1997, and 1996. Had the compensation costs been
determined consistent with the fair value method of FAS 123 at the grant dates
for awards, net income and earnings per common share would have changed to the
pro forma amounts indicated below.
In determining the following pro forma disclosures, the fair value of options
granted were estimated as of the grant date using the Black-Scholes option-
pricing model assuming a risk free interest rate of 5.50% for 1997 and 5.38% for
1995; dividend yield of 0.98% for 1997 and 1.27% for 1995; expected lives of 5
years for 1997 and 5 years for 1995; and volatility of 40.23% for 1997 and
45.27% for 1995. In June 1998, the Company's shareholders approved the addition
of 175,000 options available for grant. Of those options, 78,515 were granted
in 1997 subject to that approval. These options were measured at June 6, 1998,
assuming a risk free interest rate of 5.43%, dividend yield of 0.86%, expected
lives of five years, and volatility of 37.98%
YEARS ENDED DECEMBER 31,
-----------------------
1998 1997 1996
---------- ---------- ----------
Net income:
As reported........... $4,212,384 $3,330,368 $2,061,137
Proforma.............. $4,455,359 $3,107,656 $2,049,599
Basic earnings per share:
As reported........... $ 1.36 $ 1.35 $ 1.02
Proforma.............. $ 1.35 $ 1.26 $ 1.01
Diluted earnings per share:
As reported............ $ 1.28 $ 1.21 $ 0.90
Proforma............... $ 1.27 $ 1.14 $ 0.90
32
FIRST STATE BANCORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
On October 25, 1996, the Board of Directors approved a shareholder
protection rights agreement to protect the stockholders of the Company from
abusive or unfair take-over practices. The terms of the agreement provide one
right for each share of common stock held. The rights become exercisable only if
a person or a group accumulates ten percent or more of the Company's common
shares. The Company would be entitled to redeem the rights for $0.01 per right
until the tenth day following a public announcement of an acquisition of 10% of
its common shares. The rights expire on October 25, 2006.
On October 25, 1996, the Board of Directors approved a dividend
reinvestment plan. The plan allows any stockholder of record of 300 shares of
common stock to reinvest dividends on those shares in common shares issued by
the Company pursuant to the plan. Holders of 300 or more shares may also acquire
shares from the Company through the plan in an amount not to exceed $30,000
quarterly.
In connection with the common stock and 7% convertible debenture offering,
the Company sold to the underwriter for $100 a five-year warrant with a put
provision to purchase 48,125 shares of common stock. On June 30, 1997, the
underwriter exercised the put provision and the Company paid the underwriter
$308,000 for redemption of the warrants which was accounted for as a charge to
retained earnings.
Bank regulations specify the level of dividends that can be paid by First
State Bank. As of December 31, 1998, First State Bank had approximately $9.0
million in retained earnings, which were available for the payment of dividends
to the Company subject to regulatory capital requirements. Future dividend
payments will be dependent upon the level of earnings generated by First State
Bank and/or regulatory restrictions, if any.
On April 28, 1998, the Company notified the holders of its 7.5% convertible
debentures due 2017 that the debentures would be called for redemption at 100%
of the original principal plus accrued interest on May 29, 1998. The indenture
allowed management to redeem the debentures at par when the Company's common
stock closed at 140% of the exercise price ($16.75) for 30 consecutive trading
days. As of April 24, 1998 this condition was met. All of the debenture holders
exercised the conversion privilege, resulting in 823,869 shares of common stock
being issued and $12.9 million being added to common equity.
On April 30, 1997, the Company called for redemption of its 7% convertible
subordinated debentures due November 3, 2003, with a balance of $3,788,000 at
December 31, 1996. Prior to the redemption date, $3,773,000 principal amount of
the debentures were converted into the Company's common stock at a conversion
rate of $10.50 per share or 359,285 shares. The remaining $15,000 were redeemed
at 101% of the original principal balance plus accrued interest.
The Bank is subject to various regulatory capital requirements administered
by federal banking agencies. Failure to meet minimum capital requirements can
initiate certain mandatory--and possibly discretionary--actions by regulators
that, if undertaken, could have a direct material effect on the Company's
financial statements. Under capital adequacy guidelines and the regulatory
framework for prompt corrective action, the Company must meet specific capital
guidelines that involve quantitative measures of the Company's assets,
liabilities, and certain off balance sheet items as calculated under regulatory
accounting practices. The Company's capital amounts and classification are also
subject to qualitative judgments by the regulators about components, risk
weightings, and other factors.
Quantitative measures established by regulation to ensure capital adequacy
require the Company to maintain minimum amounts and ratios of total and Tier I
capital (as defined in regulations) to risk-weighted assets, and of Tier I
capital, and of Tier I capital to total assets. Management believes, as of
December 31, 1998, that the Company meets all capital adequacy requirements to
which it is subject.
33
FIRST STATE BANCORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
As of December 31, 1998, the most recent notification from the Federal
Reserve Bank of Kansas City 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 table. There are no
conditions or events since that notification that management believes have
changed the institution's category.
AS OF DECEMBER 31, 1998
------------------------------------------------------
FOR CAPITAL TO BE CONSIDERED
ACTUAL ADEQUACY PURPOSES WELL CAPITALIZED
--------------- ------------------ -----------------
AMOUNT RATIO AMOUNT RATIO AMOUNT RATIO
------- ------ --------- ------- -------- -------
(DOLLARS IN THOUSANDS)
Total capital to risk weighted assets:
Consolidated........................... $47,328 12.4% $30,466 8.0% $38,082 10.0%
Bank subsidiary........................ 39,582 10.4% 30,453 8.0% 38,067 10.0%
Tier I capital to risk weighted assets:
Consolidated........................... 43,453 11.4% 15,233 4.0% 22,849 6.0%
Bank subsidiary........................ 35,707 9.4% 15,227 4.0% 22,840 6.0%
Tier I capital to total assets:
Consolidated........................... 43,453 8.8% 19,875 4.0% 24,844 5.0%
Bank subsidiary........................ 35,707 7.2% 19,869 4.0% 24,836 5.0%
AS OF DECEMBER 31, 1997
-----------------------
FOR CAPITAL TO BE CONSIDERED
ACTUAL ADEQUACY PURPOSES WELL CAPITALIZED
------- ----------------- ----------------
AMOUNT RATIO AMOUNT RATIO AMOUNT RATIO
------- ----- --------- ------ -------- ------
(DOLLARS IN THOUSANDS)
Total capital to risk weighted assets:
Consolidated........................... $43,336 13.4% $25,893 8.0% $32,367 10.0%
Bank subsidiary........................ 33,971 10.5% 25,784 8.0% 32,230 10.0%
Tier I capital to risk weighted assets:
Consolidated........................... 26,867 8.3% 12,947 4.0% 19,420 6.0%
Bank subsidiary........................ 30,977 9.6% 12,892 4.0% 19,338 6.0%
Tier I capital to total assets:
Consolidated........................... 26,867 6.7% 16,042 4.0% 20,052 5.0%
Bank subsidiary........................ 30,977 7.8% 15,984 4.0% 19,981 5.0%
11. EMPLOYEE BENEFIT PLANS
Effective January 1, 1991, First State Bank adopted an employee tax-sheltered
savings plan for substantially all full-time employees which provides a
mandatory 50% matching by First State Bank of employee contributions up to a
maximum of 6% of gross annual wages. Full vesting occurs after three years.
Contributions to the plan totaled $146,114 in 1998, $125,171 in 1997, and
$105,788 in 1996.
12. COMMITMENTS AND CONTINGENCIES
In the normal course of business, various commitments and contingent
liabilities are outstanding, such as standby letters of credit and commitments
to extend credit. These financial instruments with off balance sheet risk are
not reflected in the financial statements. Financial instruments with off
balance sheet risk involve elements of credit risk, interest rate risk,
liquidity risk, and market risk. Management does not anticipate any significant
losses as a result of these transactions. The following table summarizes these
financial instruments:
AS OF DECEMBER 31
------------------------
1998 1997
----------- -----------
Commitments to extend credit.. $77,559,000 $62,059,000
Standby letters of credit..... 2,237,000 2,252,000
34
FIRST STATE BANCORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
The Bank's exposure to credit loss in the event of nonperformance by the
other party to the financial instrument for commitments to extend credit and
standby letters of credit is represented by the contractual notional amount of
those instruments. The Bank controls the credit risk of these transactions
through credit approvals, limits, and monitoring procedures.
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. Since many of the commitments are expected to
expire without being drawn upon, the total commitment amounts do not necessarily
represent future cash requirements.
Standby letters of credit are written conditional commitments issued by the
Bank to guarantee the performance of a customer to a third party. Those
guarantees are primarily issued to support public and private borrowing
arrangements. The credit risk involved in issuing letters of credit is
essentially the same as that involved in extending loan facilities to customers.
The Bank evaluates each customer's creditworthiness on a case-by-case
basis. The amount of collateral obtained, if deemed necessary by the Bank upon
extension of credit, is based on management's credit evaluation of the customer.
Collateral held varies but may include accounts receivable, inventory, property,
plant and equipment, and income-producing commercial properties.
In the normal course of business, the Company is involved in various legal
matters. After consultation with legal counsel, management does not believe the
outcome of these legal matters will have an adverse impact on the Company's
financial position.
13. CONDENSED FINANCIAL INFORMATION OF PARENT COMPANY
The assets of the Company, as parent company, consist primarily of the
investment in its subsidiary bank and a money market savings account held in the
subsidiary bank. The primary sources of the parent company's cash revenues are
dividends from its subsidiary bank along with interest received from the money
market account. Following are condensed financial statements of the parent
company.
CONDENSED STATEMENTS OF CONDITION
AS OF DECEMBER 31,
----------------------
1998 1997
---------- ----------
(DOLLARS IN THOUSANDS)
ASSETS:
Cash and due from banks............................. $ 8,076 $ 8,716
Investment in subsidiary............................ 36,088 31,473
Offering expenses-debentures........................ -- 1,024
Goodwill............................................ 320 352
Deferred tax asset.................................. 143 39
Other assets........................................ 10 305
------- -------
Total assets..................................... $44,637 $41,909
======= =======
LIABILITIES AND EQUITY CAPITAL:
Liabilities--accounts payable and accrued expenses.. $ 483 $ 395
Convertible debentures.............................. -- 13,800
Equity capital...................................... 44,154 27,714
------- -------
Total liabilities and equity capital............. $44,637 $41,909
======= =======
35
FIRST STATE BANCORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
CONDENSED STATEMENTS OF OPERATIONS
YEARS ENDED DECEMBER 31,
------------------------
1998 1997 1996
-------- -------- --------
(DOLLARS IN THOUSANDS)
Income:
Cash dividends from subsidiaries.................................... $ -- $ -- $ --
Other income........................................................ 415 301 67
------ ------ ------
Total income..................................................... 415 301 67
------ ------ ------
Expenses:
Interest expense.................................................... 397 766 362
Amortization........................................................ 54 84 158
Legal............................................................... 10 13 57
Consulting.......................................................... -- -- 65
Other............................................................... 558 258 173
------ ------ ------
Total expense.................................................... 1,019 1,121 815
------ ------ ------
Loss before income taxes and undistributed income of bank subsidiary.. (604) (820) (748)
Income tax benefit.................................................... 188 276 148
Undistributed income of bank subsidiary............................... 4,628 3,874 2,661
------ ------ ------
Net income............................................................ $4,212 $3,330 $2,061
====== ====== ======
CONDENSED STATEMENTS OF CASH FLOWS
YEARS ENDED DECEMBER 31,
------------------------
1998 1997 1996
-------- -------- --------
(DOLLARS IN THOUSANDS)
Cash flows from operating activities:
Net income....................................................... $ 4,212 $ 3,330 $ 2,061
------- ------- -------
Adjustments to reconcile net income to cash used by operations:
Amortization of goodwill...................................... 32 32 32
Undistributed income of bank subsidiaries..................... (4,628) (3,874) (2,661)
(Increase) decrease in other assets........................... 329 (1,170) 356
Increase (decrease) in other liabilities, net................. 30 254 (181)
------- ------- -------
Total adjustments.......................................... (4,237) (4,758) (2,454)
------- ------- -------
Net cash used by operating activities...................... (25) (1,428) (393)
------- ------- -------
Cash flows from investing activities -
Maturity of investment securities................................ -- -- 2,000
------- ------- -------
Net cash provided by investing activities.................. -- -- 2,000
------- ------- -------
Cash flows from financing activities:
Common stock issued.............................................. 175 495 154
------- ------- -------
Issuance of subordinated debentures.............................. -- 13,800 --
------- ------- -------
Capital contributions to subsidiary bank......................... -- (4,500) (1,250)
------- ------- -------
Dividends paid................................................... (790) (523) (409)
------- ------- -------
Redemption of put warrants....................................... -- (308) --
------- ------- -------
Net cash provided (used) by financing activities........... (615) 8,964 (1,505)
------- ------- -------
Increase (decrease) in cash and due from banks..................... (640) 7,536 102
------- ------- -------
Cash and due from banks at beginning of year....................... 8,716 1,180 1,078
------- ------- -------
Cash and due from banks at end of year............................. $ 8,076 $ 8,716 $ 1,180
======= ======= =======
36
FIRST STATE BANCORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
14. FAIR VALUE OF FINANCIAL INSTRUMENTS
Statement of Financial Accounting Standards No. 107, "Disclosures About
Fair Value of Financial Instruments" (FAS 107), requires disclosure of current
fair value of all financial instruments, both assets and liabilities recognized
and not recognized in the balance sheet, for which it is practicable to estimate
fair value. FAS 107 defines fair value as the amount at which a financial
instrument could be exchanged in a current transaction between willing parties
other than in a forced or liquidation sale.
Financial instruments are defined as cash, evidence of ownership in an
entity, or a contract that both imposes on one entity a contractual obligation:
(1) to deliver cash or another financial instrument to a second entity, or (2)
to exchange other financial instruments on potentially unfavorable terms with a
second entity, and conveys to the second entity a contractual right: (a) to
receive cash or another financial instrument from the first entity, or (b) to
exchange other financial instruments on potentially favorable terms with the
first entity.
Fair value estimates are made at a specific point in time based on
available relevant market information about the financial instrument. However, a
significant portion of the Company's financial instruments, such as commercial
real estate loans, do not currently have an active marketplace in which they can
be readily sold or purchased to determine fair value. Consequently, fair value
estimates for those financial instruments are based on assumptions made by
management regarding the financial instrument's credit risk characteristics,
prevailing interest rates, future estimated cash flows, expected loss
experience, current and future economic conditions and other factors which
affect fair value. As a result, these fair value estimates are subjective in
nature and involve uncertainties and matters of significant judgment, and
therefore, cannot be determined with precision. Accordingly, changes in
management's assumptions could cause the fair value estimates to deviate
substantially. Further, these estimates do not reflect any additional premium or
discount that could result from offering for sale, at one time, the Company's
entire holdings of a particular financial instrument or any estimated
transaction costs. Lastly, the tax ramifications related to the realization of
the unrealized gains and losses can have a significant effect on the fair value
estimates and have not been considered in the estimates.
The carrying values and estimated fair values of the Company's financial
instruments at December 31, are as follows:
1998 1997
CARRYING FAIR CARRYING FAIR
AMOUNT VALUE AMOUNT VALUE
(DOLLARS IN THOUSANDS)
Financial assets:
Cash and due from banks......................... $ 18,094 $ 18,094 $ 32,000 $ 32,000
Federal funds sold.............................. -- -- 11,000 11,000
Marketable securities available for sale........ 61,147 61,147 46,274 46,274
Marketable securities held to maturity.......... 60,957 60,932 15,235 15,291
Loans, net...................................... 335,019 340,231 288,369 288,459
Accrued interest receivable..................... 2,514 2,514 2,278 2,278
Financial liabilities:
Deposits........................................ 409,021 410,327 345,591 345,913
Securities sold under agreements to repurchase.. 36,693 36,693 10,105 10,105
Long-term debt.................................. 1,195 1,195 15,036 18,900
The following methods and assumptions were used to estimate the fair value
of each class of financial instruments:
Cash and due from banks. Carrying value approximates fair value since these
instruments are payable on demand and do not present credit concerns.
Federal funds sold. Carrying value approximates fair value since these
instruments have short-term maturities and do not present credit concerns.
37
FIRST STATE BANCORPORATION AND SUBSIDIARY
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED)
Marketable securities available for sale and held to maturity. The
estimated fair value of securities available for sale and held to maturity is
based on independent dealer quotations or published market price bid quotes.
Loans, net. The estimated fair value of the loan portfolio is calculated by
discounting scheduled cash flows over the estimated maturity of loans using the
current rates at which similar loans would be made to borrowers with similar
credit ratings and for the same remaining maturities or repricing terms. Credit
risk is accounted for through a reduction of contractual cash flows by loss
estimates of classified loans and as a component of the discount rate.
Accrued interest receivable. Carrying value of interest receivable
approximates fair value, since these instruments have short-term maturities.
Deposits. The estimated fair value of deposits with no stated maturity,
such as demand deposits, savings accounts and money market deposits,
approximates the amounts payable on demand at December 31, 1998 and 1997. The
fair value of fixed maturity certificates of deposit is estimated by discounting
the future contractual cash flows using the rates currently offered for deposits
of similar remaining maturities.
Securities sold under agreements to repurchase. The estimated fair value of
securities sold under agreements to repurchase, which reset frequently to market
interest rates, approximate fair value.
Long-term debt. In 1997, long-term debt consisted of 7.5% convertible
subordinated debentures which were traded on the Nasdaq Small Cap Market and
their fair value was their market price on December 31, 1997. Also included is
a real estate contract for purchase of a banking facility; its fair value is
determined based on future cash out flows at current interest rates.
Off Balance Sheet Items. The estimated fair values of the Company's off
balance sheet items are not material to the fair value of financial instruments
included in the statements of financial condition. Rates currently available to
the Company and subsidiary for items with similar terms and remaining maturities
are used to estimate fair value of existing debt.
38