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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
For the Fiscal Year Ended December 31, 2001
OR
Transition Report Pursuant to Section 13 or 15(d) of the Securities
Exchange Act of 1934
For the transition period from to
----------- ------------
Commission File Number: 000-21167
CHESTER BANCORP, INC.
(Exact name of registrant as specified in its charter)
Delaware 37-1359570
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
1112 State Street, Chester, Illinois 62233
(Address of Principal Executive Offices)
(618) 826-5038
(Registrant's telephone number, including area code)
Securities Registered Pursuant to Section 12(b) of the Act:
None
Securities Registered Pursuant to Section 12(g) of the Act:
Common Stock, par value $.01 per share
(Title of Class)
Indicate by check mark whether the Registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding twelve months (or for such shorter period that the
Registrant was required to file such reports) and (2) has been subject to such
requirements for the past 90 days. YES [ ] NO [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to Item
405 of Regulation S-K is not contained herein, and will not be contained, to the
best of Registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [ ].
The aggregate market value of the voting stock held by non-affiliates of
the Registrant, computed by reference to the last sale price February 1, 2002,
as reported by the Nasdaq SmallCap Market, was approximately $6,889,974.
As of February 1, 2002 there were 2,182,125 shares issued, of which 977,970
shares were outstanding, of the Registrant's Common Stock.
1
Table of Contents
Page
----
PART I ................................................................................ 1
ITEM 1. Business........................................................................ 1
ITEM 2. Properties...................................................................... 35
ITEM 3. Legal Proceedings............................................................... 35
ITEM 4. Submission of Matters to a Vote of the Security Holders......................... 35
PART II ................................................................................ 36
ITEM 5. Market for Registrant's Common Equity and Related Stockholder Matters........... 36
ITEM 6. Selected Financial Data......................................................... 36
ITEM 7. Management's Discussion and Analysis of Financial Condition
and Results of Operations..................................................... 36
ITEM 7A. Quantitative and Qualitative Disclosures About Market Risks..................... 36
ITEM 8. Financial Statements and Supplementary Data..................................... 37
ITEM 9. Changes in and Disagreements with Accountants on Accounting
and Financial Disclosure...................................................... 37
PART III ................................................................................ 38
ITEM 10. Directors and Executive Officers of the Registrant.............................. 38
ITEM 11. Executive Compensation.......................................................... 38
ITEM 12. Security Ownership of Certain Beneficial Owners and Management.................. 38
ITEM 13. Certain Relationships and Related Transactions.................................. 38
PART IV ................................................................................ 38
Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K................ 38
SIGNATURES ................................................................................ 41
2
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the registrant's Annual Report to Stockholders for the year
ended December 31, 2001, are incorporated by reference in Part I and Part II.
Portions of the registrant's proxy statement for its April 5, 2002, annual
meeting of stockholders (the "2002 Proxy Statement") are incorporated by
reference in Part III.
PART I
ITEM 1. Business
This annual report on Form 10-K contains forward-looking statements regarding
the Company, its business, prospects and results of operations that involve
risks and uncertainties. The Company's actual results could differ materially
from the results that may be anticipated by such forward-looking statements and
discussed elsewhere herein. Factors that could cause or contribute to such
differences include, but are not limited to, those discussed herein as well as
those discussed under the captions "Risk Factors" and "Management's Discussion
and Analysis of Financial Condition and Results of Operations" as well as those
discussed elsewhere throughout this annual report and on Form 10-K. Readers are
cautioned not to place undue reliance on these forward-looking statements, which
speak only as of the date of this report. The Company undertakes no obligation
to revise any forward-looking statements in order to reflect events or
circumstances that may subsequently arise. Readers are urged to carefully review
and consider the various disclosures made by the Company in this report and in
the Company's other reports filed with the Securities and Exchange Commission
that attempt to advise interested parties of the risks and factors that my
affect the Company's business, prospects and results of operations.
Chester Bancorp, Inc.
Chester Bancorp, Inc. (the "Company") is a Delaware corporation that was
organized in October 1996. The only significant assets of the Company are the
outstanding capital stock of Chester National Bank ("Chester National Bank") and
Chester National Bank of Missouri ("Chester National Bank of Missouri")
(collectively the "Banks"). The Company is regulated as a bank holding company
by the Federal Reserve System ("Federal Reserve").
The Company employs executive officers and a support staff if and as the
need arises. Such personnel are provided by the Banks and are not paid separate
remuneration for such services. The Company reimburses the Banks for the use of
their personnel. At December 31, 2001, the Company had total consolidated assets
of $111.8 million, total consolidated deposits of $91.4 million, and
consolidated stockholders' equity of $14.9 million. The Company's principal
office is located at 1112 State Street, Chester, Illinois 62233 and its
telephone number is (618) 826-5038.
1
Chester National Bank and Chester National Bank of Missouri
Chester National Bank and Chester National Bank of Missouri are national
banks headquartered in Chester, Illinois and Perryville, Missouri, respectively.
The predecessor entity to the Banks was originally chartered in 1919 as an
Illinois-chartered mutual savings and loan association under the name "Chester
Building and Loan Association." In 1989, Chester Building and Loan Association
acquired Heritage Federal Savings and Loan Association ("Heritage Federal")
which at the time of acquisition had assets of approximately $50 million and
offices in Sparta, Red Bud, and Pinckneyville, Illinois. In 1990, Chester
Building and Loan Association converted to a federal charter and adopted the
name "Chester Savings Bank, FSB." In 1996, Chester Savings Bank, FSB converted
from mutual to stock ownership and converted from a federal savings bank into
two national banks, Chester National Bank and Chester National Bank of Missouri.
Chester National Bank conducts its business from its main office and two
full-service branches located in Sparta and Red Bud, Illinois. Chester National
Bank's principal executive office is located at 1112 State Street, Chester,
Illinois, and its telephone number at that address is (618) 826-5038. Chester
National Bank of Missouri conducts its business from its main office in
Perryville, Missouri. Chester National Bank of Missouri's principal executive
office is located at 1010 N. Main, Perryville, Missouri 63775, and its telephone
number at that address is (573) 547-7611. The Banks' deposits are insured by the
Federal Deposit Insurance Corporation ("FDIC") and the Banks are regulated by
the Office of the Comptroller of the Currency ("OCC").
The Banks primarily engage in the business of attracting retail deposits
from the general public in the Banks' respective market areas and using such
funds together with borrowings and funds from other sources to primarily
originate mortgage loans secured by one-to-four family residential real estate.
The Banks also originate consumer loans, commercial real estate loans, land
loans, multi-family loans, and commercial loans. At December 31, 2001, the
Banks' gross loan portfolio totaled $41.7 million, of which 78.3% were
one-to-four family residential mortgage loans, 6.6% were consumer loans, 9.7%
were commercial real estate, multi-family loans, agriculture and land loans, and
5.4% were commercial loans. In addition, the Banks have maintained a significant
portion of their assets in marketable securities. The Banks' investment
portfolios have been weighted toward United States government and agency
securities. The portfolios also have included a significant amount of tax exempt
state and municipal securities. In addition, the Banks have invested in
mortgage-backed securities to supplement their lending operations. Investment
and mortgage-backed securities totaled $39.8 million and $7.1 million,
respectively, at December 31, 2001.
Market Area/Local Economy
The Banks offer a range of retail banking services to residents of their
market areas. The Banks' market areas include Randolph, Jackson, Williamson and
Perry counties in Illinois as well as Perry and Cape Girardeau counties in
Missouri.
2
The local market area is primarily rural and covers a fairly large
geographic area in southwestern Illinois and southeastern Missouri. The closest
major metropolitan area is the St. Louis area, approximately 60 miles to the
north. The largest town served is Carbondale, which has a population of
approximately 27,000, while the smallest town served, Red Bud, has a population
of approximately 3,000. Perryville, Missouri has a population of approximately
7,000.
The economy in southwestern Illinois is historically based in coal mining
and agriculture, although both industries have declined in recent decades. The
decline of mining employment has had a significant adverse impact on the economy
of the market area, particularly in Randolph and Perry counties, Illinois. Loan
demand in these counties has been limited as unemployment is high and the
population has been declining. The Perryville market is rural and small, and
economic stability is supported by its largest employer, Gilster-Mary Lee. The
economic environment in Perryville has generally been more favorable than
Randolph and Perry Counties, Illinois.
Lending Activities
GENERAL. The principal lending activity of the Banks is the origination of
conventional mortgage loans for the purpose of purchasing, constructing or
refinancing owner-occupied, one-to-four family residential property. To a
significantly lesser extent, the Banks also originate multi-family, commercial
real estate, commercial loans, land and consumer loans. The Banks' net loans
receivable totaled $41.1 million at December 31, 2001, representing 36.8% of
total assets.
LOAN PORTFOLIO ANALYSIS. The following table sets forth the composition of
the Banks' consolidated loan portfolio by type of loan and type of security as
of the dates indicated. The Banks had no concentration of loans exceeding 10% of
total loans other than as set forth below.
3
At December 31,
----------------------------------------------------------------------------
2001 2000 1999
--------------------- --------------------- -----------------------
Amount Percent Amount Percent Amount Percent
-------- ------- -------- ------- -------- -------
(Dollars in Thousands)
Type of Loan:
Commercial loans: ................... $ 2,236 5.36% $ 2,434 5.08% $ 2,632 5.38%
Mortgage loans: .....................
Conventional ...................... 32,206 77.25 36,298 75.70 36,083 73.81
Commercial ........................ 4,052 9.72 5,300 11.05 5,574 11.41
Construction ...................... 454 1.09 690 1.44 1,292 2.64
-------- ------ -------- ------ -------- ------
Total mortgage loans ............ 36,712 88.06 42,288 88.19 42,949 87.86
-------- ------ -------- ------ -------- ------
Consumer loans:
Automobile ........................ 681 1.63 834 1.74 767 1.57
Home improvement .................. 679 1.63 744 1.55 806 1.65
Credit cards ...................... 618 1.49 785 1.64 780 1.60
Savings account ................... 410 0.98 551 1.15 491 1.00
Other ............................. 355 0.85 311 0.65 459 0.94
-------- ------ -------- ------ -------- ------
Total consumer loans ............ 2,743 6.58 3,225 6.73 3,303 6.76
-------- ------ -------- ------ -------- ------
Total loans ..................... 41,691 100.00% 47,947 100.00% 48,884 100.00%
====== ====== ======
Less:
Loans in process .................. (2) 2 3
Deferred fees (costs) and discounts 5 6 (1)
Allowance for losses .............. 591 598 605
-------- -------- --------
Loans receivable, net ......... $ 41,097 $ 47,341 $ 48,277
======== ======== ========
Type of Security:
Residential real estate:
One-to-four family ................ $ 32,660 78.34% $ 36,988 77.14% $ 36,302 74.26%
Multi-family ...................... 377 0.90 423 0.88 587 1.20
Commercial real estate .............. 3,308 7.94 4,669 9.74 5,815 11.90
Commercial loans .................... 2,236 5.36 2,434 5.08 2,633 5.38
Agriculture and land ................ 367 0.88 208 0.43 244 0.50
Consumer loans ...................... 2,743 6.58 3,225 6.73 3,303 6.76
-------- ------ -------- ------ -------- ------
Total loans ..................... 41,691 100.00% 47,947 100.00% 48,884 100.00%
====== ====== ======
Less:
Loans in process .................. (2) 2 3
Deferred fees (costs) and discounts 5 6 (1)
Allowance for losses .............. 591 598 605
-------- -------- --------
Loans receivable, net ............. $ 41,097 $ 47,341 $ 48,277
======== ======== ========
4
RESIDENTIAL REAL ESTATE LENDING. The primary lending activity of the Banks
is the origination of mortgage loans to enable borrowers to purchase or
refinance existing one-to-four family homes. Management believes that this
policy of focusing on one-to-four family residential mortgage loans located in
its market area has been successful in contributing to interest income while
keeping credit losses low. At December 31, 2001, $32.7 million, or 78.3% of the
Banks' gross consolidated loan portfolio, consisted of loans secured by
one-to-four family residential real estate. The average principal balance of the
loans in the Banks' one-to-four family portfolio was approximately $41,202 at
December 31, 2001. The Banks presently originate for retention in their
portfolio both adjustable rate mortgage ("ARM") loans with terms of up to 25
years and fixed-rate mortgage loans with terms of up to 20 years. Borrower
demand for ARM loans versus fixed-rate mortgage loans is a function of the level
of interest rates, the expectations of changes in the level of interest rates
and the difference between the initial interest rates and fees charged for each
type of loan. The relative amount of fixed-rate mortgage loans and ARM loans
that can be originated at any time is largely determined by the demand for each
in a competitive environment. At December 31, 2001, $11.2 million, or 26.8% of
the Banks' gross loans, were subject to periodic interest rate adjustments.
The loan fees charged, interest rates and other provisions of the Banks'
ARM loans are determined by the Banks based on their own pricing criteria and
competitive market conditions. The Banks originate one-year ARM loans secured by
owner-occupied residences whose interest rates and payments generally are
adjusted annually to a rate typically equal to 2.75% above the one-year or,
occasionally the three-year, constant maturity United States Treasury ("CMT")
index. The Banks occasionally offer ARM loans with initial rates below those
which would prevail under the foregoing terms, determined by the Banks based on
market factors and competitive rates for loans having similar features offered
by other lenders for such initial periods. At December 31, 2001, the initial
interest rate on ARM loans offered by the Banks ranged from 6.00% to 6.50% per
annum. The periodic interest rate cap (the maximum amount by which the interest
rate may be increased or decreased in a given period) on the Banks' ARM loans is
generally 2% per year and the lifetime interest rate cap is generally 6% over
the initial interest rate of the loan.
The Banks do not originate negative amortization loans. The terms and
conditions of the ARM loans offered by the Banks, including the index for
interest rates, may vary from time to time. The Banks believe that the
adjustment features of their ARM loans provide flexibility to meet competitive
conditions as to initial rate concessions while preserving the Banks' objectives
by limiting the duration of the initial rate concession.
The retention of ARM loans in the Banks' consolidated loan portfolio helps
reduce the Banks' exposure to changes in interest rates There are, however,
unquantifiable credit risks resulting from the potential of increased costs due
to changed rates to be paid by the customer. It is possible that during periods
of rising interest rates the risk of default on ARM loans may increase as a
result of repricing and the increased costs to the borrower. Furthermore,
because the ARM loans originated by the Banks generally provide, as a marketing
incentive, for initial rates of interest below the rate which would apply were
the adjustment index used for pricing initially (discounting), these loans are
subject to increased risks of default or delinquency. Another consideration is
that although ARM loans allow the Banks to increase the sensitivity of
5
their asset base to changes in the interest rates, the extent of this interest
sensitivity is limited by the periodic and lifetime interest rate adjustment
limits. Because of these considerations, the Banks have no assurance that yields
on ARM loans will be sufficient to offset increases in the Banks' cost of funds.
While fixed-rate single-family residential real estate loans are normally
originated with five to seven year balloon payments or terms up to 20 years,
such loans typically remain outstanding for substantially shorter periods. This
is because borrowers often prepay their loans in full upon sale of the property
pledged as security or upon refinancing the original loan. In addition,
substantially all mortgage loans in the Banks' consolidated loan portfolio
contain due-on-sale clauses providing that the Banks may declare the unpaid
amount due and payable upon the sale of the property securing the loan.
Typically, the Banks enforce these due-on-sale clauses to the extent permitted
by law and as business judgment dictates. Thus, average loan maturity is a
function of, among other factors, the level of purchase and sale activity in the
real estate market, prevailing interest rates and the interest rates payable on
outstanding loans.
The Banks generally require title insurance insuring the status of their
liens on all of the real estate secured loans. The Banks also require
earthquake, fire and extended coverage casualty insurance and, if appropriate,
flood insurance in an amount at least equal to the outstanding loan balance.
Appraisals are obtained on all properties and are conducted by independent
fee appraisers approved by the Board of Directors. The Banks' lending policies
generally limit the maximum loan-to-value ratio on mortgage loans secured by
owner-occupied properties to 80% of the lesser of the appraised value or the
purchase price, with the condition that the loan-to-value ratio may be increased
to 95% provided that private mortgage insurance coverage is obtained for the
amount in excess of 80%.
COMMERCIAL REAL ESTATE AND MULTI-FAMILY LENDING: Historically, the Banks
have engaged in limited amounts of commercial real estate and multi-family
lending. At December 31, 2001, commercial real estate loans aggregated $3.3
million, or 7.9% of the total consolidated loan portfolio and multi-family loans
aggregated $377,000 or .9% of the total consolidated loan portfolio. The
principal balance of such loans in the Banks' consolidated loan portfolio ranged
from approximately $1,000 to $969,000 at December 31, 2001. Substantially all of
these loans are secured by properties located in the Banks' market area. Such
properties include churches, a library, golf courses and professional offices.
Commercial real estate and multi-family loans are generally made for balloon
terms of 5 to 10 years with a maximum amortization of 20 years.
Commercial real estate and multi-family loans generally involve greater
risks than one-to-four family residential mortgage loans. Payments on loans
secured by such properties often depend on successful operation and management
of the properties. Repayment of such loans may be subject to a greater extent to
adverse conditions in the real estate market or the economy. The Banks seek to
minimize these risks in a variety of ways, including limiting the size of such
loans, limiting the maximum loan-to-value ratio to 75% and strictly scrutinizing
the financial condition of the borrower, the quality of the collateral and the
management of the
6
property securing the loan. All of the properties securing the Banks' income
property loans are inspected by the Banks' lending personnel before the loan is
made. The Banks also obtain appraisals on each property in accordance with
applicable regulations.
CONSTRUCTION LENDING. The Banks originate residential construction loans to
individuals to construct one-to-four family homes. The Banks generally do not
originate speculative construction loans (i.e., loans to builders to construct
homes for which there are no contracts for sale in place). At December 31, 2001,
construction loans totaled $454,000, or 1.1% of the gross consolidated loan
portfolio.
Substantially all construction loans made to individuals provide for the
Banks to originate a permanent loan upon the completion of construction, which
is generally an ARM loan as described under "Residential Real Estate Lending,"
above. The origination fee for construction loans is generally 1.0% of the
principal amount. Construction loans are generally made for terms of up to six
months.
Construction lending is generally considered to involve a higher level of
risk as compared to one-to-four family residential permanent lending because of
the inherent difficulty in estimating both a property's value at completion of
the project and the estimated cost of the project. The nature of these loans is
such that they are generally more difficult to evaluate and monitor. If the
estimate of value proves to be inaccurate, the Banks may be confronted at, or
prior to, the maturity of the loan, with a project whose value is insufficient
to assure full repayment.
AGRICULTURE AND LAND LENDING. The Banks originate loans secured by farm
residences and combinations of farm residences and farm real estate. The Banks
also originate loans for the acquisition of land upon which the purchaser can
then build. At December 31, 2001, the agriculture and land consolidated loan
portfolio totaled $367,000 or .9% of total loans, substantially all of which
were secured by properties located in the Banks' market area. Agriculture and
land loans are generally made for the same terms and at the same interest rates
as those offered on commercial real estate and multi-family loans, with a
loan-to-value ratio which is generally limited to 75%.
Loans secured by farm real estate generally involve greater risks than
one-to- four family residential mortgage loans. Payments on loans secured by
such properties may, in some instances be dependent on farm income from the
properties. To address this risk, the Banks historically have not considered
farm income when qualifying borrowers. In addition, such loans are more
difficult to evaluate. If the estimate of value proves to be inaccurate, the
Banks may be confronted with a property the value of which is insufficient to
assure full repayment in the event of default and foreclosure.
COMMERCIAL BUSINESS LENDING. The Banks became active in the origination of
small commercial business loans in order to diversify their credit risk and
increase the average yield and repricing speed of their interest-earning assets.
At December 31, 2001, the commercial business loans aggregated $2.2 million, or
5.4%, of the loan portfolio. The principal balance of such loans in the Banks'
loan portfolio ranged from approximately $1,000 to $1.0 million at
7
December 31, 2001. Substantially all of these loans were made with borrowers
located within the Banks' market area. Such loans are generally secured by
equipment inventory, stock, and commercial real estate. Commercial business
loans are generally made for one year or less, with the rate tied to prime,
repricing accordingly.
CONSUMER AND OTHER LOANS. The Banks offer a variety of secured or
guaranteed consumer loans, including automobile loans, home improvement loans,
unsecured loans and loans secured by savings deposits. Consumer loans are made
at fixed interest rates and for varying terms. At December 31, 2001 the Banks'
consumer loans totaled $2.7 million, or 6.6% of total loans. The Banks view
consumer lending as an important component of their business operations because
consumer loans generally have shorter terms and higher yields than one-to-four
family real estate loans, thus reducing exposure to changes in interest rates.
In addition, the Banks believe that offering consumer loans helps to expand and
create stronger ties to their customer base.
The largest category of consumer loans in the Banks' portfolio consists
principally of direct loans secured by automobiles. The Banks generally do not
originate loans secured by recreational vehicles. At December 31, 2001, consumer
loans secured by automobiles totaled $681,000, or 1.6% of the Banks' total
consolidated loan portfolio. Automobile loans are offered with maturities of up
to 60 months for new automobiles and up to 48 months for used automobiles. Loans
secured by used automobiles will have maximum terms which vary depending upon
the age of the automobile and will be made based on amounts as set forth in the
NADA "bluebook."
The second largest category of consumer loans in the Banks' portfolio
consists of home improvement loans. At December 31, 2001, home improvement loans
totaled $679,000, or 1.6% of the Banks' total consolidated loan portfolio. The
Banks' home improvement loans are secured by the borrower's principal residence.
The maximum amount of a home improvement loan is generally 80% of the appraised
value of a borrower's real estate collateral less the amount of any prior
mortgages or related liabilities. With respect to substantially all home
improvement loans, the Banks hold the first mortgage on the borrower's
residence. Home improvement loans are approved with fixed interest rates which
are determined by the Banks based upon market conditions. Such loans may be
fully amortized over the life of the loan or have a balloon feature. The maximum
term for a home improvement loan is five years.
The Banks began offering proprietary VISA credit cards during 1993 and, at
December 31, 2001, there were 1005 credit card accounts with a total balance of
$618,000. This program has been offered to residents of the Banks' primary
market area but card recipients need not otherwise be customers of the Banks.
The VISA card program currently provides an individual borrowing limit of $3,500
or less, a fixed rate of interest of 12.9% and a "rebate" feature. The Banks may
alter the general terms of this program as they seek to expand their credit card
program.
The Banks had $118,000, or .3% of total loans in unsecured consumer loans
at December 31, 2001. These loans are made for a maximum of 30 months or less
with fixed rates of interest and are offered primarily to existing customers of
the Banks.
8
The Banks employ strict underwriting standards for consumer loans. These
procedures include an assessment of the applicant's payment history on other
debts and ability to meet existing obligations and payments on the proposed
loans. Although the applicant's creditworthiness is a primary consideration, the
underwriting process also includes a comparison of the value of the security, if
any, to the proposed loan amount. The Banks underwrite and originate
substantially all of their consumer loans internally which management believes
limits exposure to audit risks relating to loans underwritten or purchased from
brokers or other outside sources.
Consumer loans may entail greater risk than do residential mortgage loans,
particularly in the case of consumer loans which are unsecured or secured by
assets that depreciate rapidly, such as automobiles. In the latter case,
repossessed collateral for a defaulted consumer loan may not provide an adequate
source of repayment for the outstanding loan and the remaining deficiency often
does not warrant further substantial collection efforts against the borrower. In
addition, consumer loan collections are dependent on the borrower's continuing
financial stability, and thus are more likely to be adversely affected by job
loss, divorce, illness or personal bankruptcy. Furthermore, the application of
various federal and state laws, including federal and state bankruptcy and
insolvency laws, may limit the amount which can be recovered on such loans. Such
loans may also give rise to claims and defenses by the borrower against the
Banks as the holder of the loan, and a borrower may be able to assert claims and
defenses which it has against the seller of the underlying collateral.
MATURITY OF CONSOLIDATED LOAN PORTFOLIO. The following table sets forth at
December 31, 2001 certain information regarding the dollar amount of loans
maturing in the Banks' portfolio based on their contractual terms to maturity.
Demand loans (loans having no stated repayment schedule and no stated maturity)
and overdrafts are reported as due in one year or less. Loan balances do not
include undisbursed loan proceeds, unearned discounts, and allowance for loan
losses.
9
During the Year After After After
Ending December 31, 3 Years 5 Years 10 Years
------------------------------- Through Through Through Beyond
2002 2003 2004 5 Years 10 Years 15 Years 15 Years Total
------- ------- ------- ------- -------- -------- -------- -------
(Dollars in Thousands)
Commercial loans ..... $ 2,004 $ 19 $ -- $ 102 $ -- $ -- $ 111 $ 2,236
Real estate mortgage . 655 1,032 1,083 6,781 7,572 6,086 8,997 32,206
Commercial real estate 260 248 50 1,129 622 440 1,303 4,052
Construction ......... 390 -- -- -- -- -- 64 454
Home improvement ..... 131 54 117 265 112 -- -- 679
Automobile ........... 159 161 179 182 -- -- -- 681
Credit cards ......... 618 -- -- -- -- -- -- 618
Other ................ 456 160 45 52 52 -- -- 765
------- ------- ------- ------- ------- ------- ------- -------
Total loans ....... $ 4,673 $ 1,674 $ 1,474 $ 8,511 $ 8,358 $ 6,526 $10,475 $41,691
======= ======= ======= ======= ======= ======= ======= =======
The following table sets forth the dollar amount of all loans due after
December 31, 2002 which have fixed interest rates and have floating or
adjustable interest rates.
Fixed Floating- or
Rates Adjustable-Rates
------- ----------------
(Dollars in Thousands)
Commercial loans ..... $ 111 $ 121
Real estate mortgage . 25,401 6,150
Commercial real estate 1,803 1,989
Construction ......... 64 --
Home improvement ..... 548 --
Automobile ........... 522 --
Credit cards ......... -- --
Other ................ 309 --
------- -------
Total ............. $28,758 $ 8,260
======= =======
Scheduled contractual principal repayments of loans generally do not
reflect the actual life of such assets. The average life of loans ordinarily is
substantially less than their contractual terms because of prepayments. In
addition, due-on-sale clauses on loans generally give the Banks the right to
declare loans immediately due and payable in the event, among other things, that
the borrower sells the real property subject to the mortgage and the loan is not
repaid. The average life of mortgage loans tends to increase, however, when
current mortgage loan market rates are higher than rates on existing mortgage
loans and, conversely, decrease when rates on existing mortgage loans are higher
than current mortgage loan market rates.
LOAN SOLICITATION AND PROCESSING. Loan applicants come primarily from
walk-in customers including previous and present customers of the Banks and to a
lesser extent referrals by real estate agents. Upon receipt of a loan
application from a prospective borrower, a credit report and other data are
obtained to verify specific information relating to the loan applicant's
employment, income and credit standing. An appraisal of the real estate offered
as collateral
10
generally is undertaken by a Board-approved independent fee appraiser who is
certified by the State of Illinois and/or the State of Missouri.
All mortgage loans must be approved by the Banks' Executive Committee.
Unsecured consumer loans up to $3,500 and secured consumer loans up to $20,000
may be approved by an individual loan officer. Amounts in excess of these limits
must be approved by the Executive Committee. Management of the Banks believes
its local decision-making capabilities and the accessibility of their senior
officers is an attractive quality to customers within their market area. The
Banks' loan approval process allows consumer loans to be approved in one to two
days and mortgage loans to be approved and closed in approximately two weeks.
LOAN ORIGINATIONS, SALES AND PURCHASES. During the years ended December 31,
2001, 2000 and 1999, the Banks' total loan originations were $7.4 million, $8.8
million, and $15.6 million, respectively. While the Banks originate both
adjustable-rate and fixed-rate loans, their ability to generate each type of
loan depends upon relative customer demand for loans in their market.
Consistent with their asset/liability management strategy, the policy of
the Banks has been to retain in their portfolio nearly all of the loans that
they originate. Any loan sales are generally made without recourse to the Banks.
11
The following table shows total loans originated and repaid during the
periods indicated. No loans were purchased or sold during the periods indicated.
Year Ended December 31,
--------------------------------------
2001 2000 1999
-------- -------- --------
(Dollars in Thousands)
Total loans at beginning
of period ............... $ 47,341 $ 48,277 $ 48,209
-------- -------- --------
Loans originated:
Commercial loans ........ 316 402 2,927
Single-family residential 3,547 4,853 7,355
Commercial real estate .. 839 674 1,024
Construction loans ...... 853 810 2,142
Agriculture and land .... -- -- 42
Consumer ................ 1,813 2,040 2,130
-------- -------- --------
Total loans originated 7,368 8,779 15,620
-------- -------- --------
Loan principal repayments . 13,448 9,662 14,994
Increase (decrease) in
other items, net ........ (164) (53) (558)
-------- -------- --------
Total loans at
end of period ........... $ 41,097 $ 47,341 $ 48,277
======== ======== ========
LOAN COMMITMENTS. The Banks issue, without fee, commitments for one-to-four
family residential mortgage loans conditioned upon the occurrence of certain
events. Such commitments are made in writing on specified terms and conditions
and at a specified interest rate and are honored for up to three months from the
date of loan approval. At December 31, 2001, the Banks had outstanding
commitments to originate residential loans and fund outstanding credit lines of
approximately $3.8 million, of which $2.9 million were fixed rate commitments
ranging from a rate of 7.0% to 12.9%. Variable rate commitments totaled
$842,000. Commitments to extend credit may involve elements of interest rate
risk in excess of the amount recognized in the consolidated balance sheets.
Interest rate risk on commitments to extend credit results from the possibility
that interest rates may have moved unfavorably from the position of the Banks
since the time the commitment was made.
LOAN ORIGINATION AND OTHER FEES. The Banks, in some instances, receive loan
origination fees. Loan fees are a percentage of the principal amount of the
mortgage loan which are charged to the borrower for funding the loan. The amount
of fees charged by the Banks is generally up to 1.0% for mortgage loans and
construction loans. Origination fees received (net of certain loan origination
costs) for originating loans should be deferred and amortized into interest
income over the contractual life of the loan. Net deferred fees or costs
associated with loans that
12
are prepaid are recognized as income at the time of prepayment. The Banks had
$5,000 of net deferred loan fees at December 31, 2001.
NON-PERFORMING ASSETS AND DELINQUENCIES. When a mortgage loan borrower
fails to make a required loan payment when due, the Banks institute collection
procedures. The first written notice is mailed to a delinquent borrower 10-15
days after the due date, followed by a second written notice mailed and a
telephone call approximately 15 days thereafter. On or about 60 days after the
due date, a certified letter is sent to the delinquent borrower. Foreclosure
procedures are instituted on or about 90 days after the due date if the
delinquency continues to that date.
Consumer loan collection procedures are substantially the same as those for
mortgage loans. In most cases, delinquencies are cured promptly; however, if, by
the 90th day of delinquency the delinquency has not been cured, the Banks begin
legal action to repossess the collateral. At the 120th day of delinquency, the
Bank charges off the full principal amount of the consumer loan.
The Board of Directors is informed monthly as to the status of all mortgage
and consumer loans that are delinquent more than 30 days, the status on all
loans currently in foreclosure, and the status of all foreclosed and repossessed
property owned by the Banks.
The following table sets forth information regarding the Banks' delinquent
loans, excluding loans 90 days or more delinquent and accounted for on a
non-accrual basis.
At December 31,
--------------------------------------------------------------------------
2001 2000 1999
---------------------- --------------------- ----------------------
Percentage Percentage Percentage
Principal of Gross Principal of Gross Principal of Gross
Balance Loans Balance Loans Balance Loans
--------- --------- --------- --------- --------- ---------
(Dollars in Thousands)
Loans delinquent for:
30 - 59 days....... $484 1.16% $438 0.91% $226 0.46%
60 - 89 days ...... 16 0.04 80 0.17 67 0.14
---- ---- ---- ---- ---- ----
$500 1.20% $518 1.08% $293 0.60%
==== ==== ==== ==== ==== ====
13
The following table sets forth information with respect to the Banks'
non-performing assets at the dates indicated. The Banks have no restructured
loans at any of the dates indicated.
At December 31,
----------------------------
2001 2000 1999
------ ------ ------
(Dollars in Thousands)
Non-performing loans:
Loans accounted for on a non-accrual basis:
Real Estate:
Residential ................................................ $ 124 $ 115 $ 86
Commercial ................................................. -- -- --
Consumer ..................................................... 5 15 1
------ ------ ------
Total ...................................................... 129 130 87
------ ------ ------
Accruing loans which are contractually past due 90 days or more:
Residential real estate ........................................ -- -- --
Consumer ....................................................... -- -- --
------ ------ ------
Total ...................................................... -- -- --
------ ------ ------
Total non-performing loans ................................. 129 130 87
Real estate acquired by
foreclosure, net ............................................. 20 145 186
------ ------ ------
Total non-performing assets .................................... $149 $275 $273
====== ====== ======
Total non-performing loans to
net loans .................................................... 0.31% 0.27% 0.18%
------ ------ ------
Total allowance for loan losses
to non-performing loans ...................................... 458.69% 460.17% 698.60%
====== ====== ======
Total non-performing assets to
total assets ................................................. 0.13% 0.23% 0.23%
====== ====== ======
14
At December 31, 2001, management of the Banks was unaware of any material
loans not disclosed in the above table but where known information about
possible credit problems of the borrowers caused management to have serious
doubts as to the ability of such borrowers to comply with their loan repayment
terms at that date and which may result in future inclusion in the
non-performing assets category.
REAL ESTATE ACQUIRED BY FORECLOSURE. The Banks had $20,000 in real estate
acquired by foreclosure at December 31, 2001, which consisted of one piece of
property.
ASSET CLASSIFICATION. The Banks are subject to various regulations
regarding problem assets of banks. The regulations require that each insured
institution review and classify their assets on a regular basis. In addition, in
connection with examinations of insured institutions, examiners have the
authority to identify problem assets and, if appropriate, require them to be
classified. There are three classifications for problem assets: substandard,
doubtful and loss. Substandard assets have one or more defined weaknesses and
are characterized by the distinct possibility that the insured institution will
sustain some loss if the deficiencies are not corrected. Doubtful assets have
the weaknesses of substandard assets with the additional characteristic that the
weaknesses make collection or liquidation in full on the basis of currently
existing facts, conditions and values questionable, and there is a high
possibility of loss. An asset classified as loss is considered uncollectible and
of such little value that continuance as an asset of the institution is not
warranted. If an asset or portion thereof is classified as loss, the insured
institution establishes specific allowances for loan losses for the full amount
of the portion of the asset classified as loss. All or a portion of general loan
loss allowances established to cover probable losses related to specific
valuation allowances for loan losses generally do not qualify as regulatory
capital. Assets that do not currently expose the insured institution to
sufficient risk to warrant classification in one of the aforementioned
categories but possess weaknesses are designated "special mention" and monitored
by the Banks.
The aggregate amounts of the Banks' classified assets including assets
designated special mention and general and specific loss allowances at the dates
indicated, were as follows:
15
At December 31,
------------------------
2001 2000 1999
---- ---- ----
(Dollars in Thousands)
Loss ................... $ -- $ -- $ 10
Doubtful ............... -- -- --
Substandard ............ 149 275 280
Special mention ........ 335 538 355
---- ---- ----
Total ................ $484 $813 $645
==== ==== ====
General loss allowances $591 $598 $595
Specific loss allowances -- -- 10
---- ---- ----
Total loss allowances $591 $598 $605
==== ==== ====
ALLOWANCE FOR LOAN LOSSES. The Banks have established a systematic
methodology for determining provisions for loan losses. The methodology is set
forth in a formal policy and considers the need for an overall general valuation
allowance as well as specific allowances for individual loans.
In originating loans, the Banks recognize that losses will be experienced
and that the risk of loss will vary with, among other things, the type of loan
being made, the creditworthiness of the borrower over the term of the loan,
general economic conditions and, in the case of a secured loan, the quality of
the security for the loan. The Banks increase their allowance for loan losses by
charging provisions for loan losses against the Banks' income.
The allowance for loan losses is maintained to cover known and probable
losses in the loan portfolio. Management reviews the adequacy of the allowance
at least quarterly based on management's assessment of numerous factors,
including, but not necessarily limited to, general economic conditions,
consolidated loan portfolio composition, prior loss experience, and independent
appraisals. In addition to the allowance for estimated losses on identified
problem loans, an overall unallocated allowance is established to provide for
unidentified credit losses. In estimating such losses, management considers
various risk factors including geographic location, loan collateral, and payment
history. Specific valuation allowances are established to absorb losses on loans
for which full collectibility may not be reasonably assured. The amount of the
allowance is based on the estimated value of the collateral securing the loan
and other analyses pertinent to each situation.
At December 31, 2001, the Banks had an allowance for general loan losses of
$591,000. Management believes that the amount maintained in the allowance will
be adequate to absorb known and probable losses in the consolidated portfolio.
Although management believes that it uses information available to make such
determinations, future adjustments to the allowance for loan losses may be
necessary and results of operations could be significantly and
16
adversely affected if circumstances differ substantially from the assumptions
used in making the determinations.
While the Banks believe the existing allowance for loan losses is adequate,
there can be no assurance that regulators, in reviewing the Banks' loan
portfolio, will not request the Banks to increase significantly their allowance
for loan losses. In addition, because future events affecting borrowers and
collateral cannot be predicted with certainty, there can be no assurance that
substantial increase will not be necessary should the quality of any loans
deteriorate as a result of the factors discussed above. Any material increase in
the allowance for loan losses may adversely affect the Banks' financial
condition and results of operations.
The following table sets forth an analysis of the Banks' allowances for
loan losses for the periods indicated.
Year Ended December 31,
-------------------------------
2001 2000 1999
----- ----- -----
(Dollars in Thousands)
Allowance at beginning of period $ 598 $ 605 $ 449
Provision for loan losses ...... -- -- 200
Recoveries ..................... 9 14 7
Charge-offs:
Residential real estate ...... (2) -- (35)
Commercial real estate ....... -- -- --
Consumer ..................... (14) (21) (16)
----- ----- -----
Total charge-offs .......... (16) (21) (51)
----- ----- -----
Allowance at end of period ... $ 591 $ 598 $ 605
===== ===== =====
Ratio of allowance to total
loans outstanding at
the end of the period ........ 1.42% 1.25% 1.25%
===== ===== =====
Ratio of net charge-offs to
average loans outstanding
during the period ............ -0.02% 0.02% 0.09%
===== ===== =====
The following table sets forth the breakdown of the allowance for loan
losses by loan category for the periods indicated. The portion of the allowance
to each loan category does not necessarily represent the total available for
losses within that category since the total allowance applies to the entire loan
portfolio. The allocation of the allowance to each category is not necessarily
indicative of future losses and does not restrict the use of the allowance to
absorb losses in any other category.
17
At December 31,
---------------------------------------------------------------------------------------------------
2001 2000 1999
------------------------------ ------------------------------ -------------------------------
As a % % of As a % % of As a % % of
of Out- Loans in of Out- Loans in of Out- Loans in
standing Category standing Category standing Category
Loans in to Total Loans in to Total Loans in to Total
Amount Category Loans Amount Category Loans Amount Category Loans
------ -------- -------- ------ -------- -------- ------ -------- --------
(Dollars in Thousands)
Real estate - mortgage:
Residential .......... $434 1.33% 78.3% $406 1.10% 77.2% $365 0.98% 77.7%
Commercial ........... 53 1.43 8.8 71 1.52 10.6 103 1.93 9.7
Commercial ............ 55 2.45 5.4 65 2.68 5.1 93 3.53 5.4
Agriculture and
land ................ 7 1.91 .9 4 1.92 0.4 5 2.05 0.5
Consumer .............. 42 1.53 6.6 52 1.61 6.7 39 1.18 6.7
---- ----- ---- ----- ---- -----
Total allowance for
loan losses ........ $591 100.0% $598 100.0% $605 100.0%
==== ===== ==== ===== ==== =====
INVESTMENT ACTIVITIES
GENERAL. The Banks' policies generally limit investments to U.S. Government
and agency securities, certificates of deposit in other financial institutions
and municipal bonds, and mortgage-backed securities. All of the Banks'
investment securities are subject to market risk insofar as increases in market
rates of interest may cause a decrease in their market value. Investment
decisions are made by the Company's Chairman, President and Chief Financial
Officer Michael W. Welge and reported at the monthly Board of Directors'
meetings.
At December 31, 2001, the Banks' investment portfolio, mortgage-backed
security portfolio, federal funds sold and interest-bearing deposits totaled
$67.0 million and consisted principally of U.S. Government and agency
obligations, mortgage-backed securities, municipal obligations, equity
securities, federal funds sold, interest-bearing deposits, Federal Home Loan
Bank Stock ("FHLB"), and Federal Reserve Bank Stock ("FRB"). At December 31,
2001, the Banks' investment portfolio did not contain any securities of a single
issuer (other than the United States Government and agencies thereof) which had
an aggregate book value in excess of 10% of the Banks' equity at that date.
As of December 31, 2001, the held to maturity investment portfolio of the
Banks contained securities with an amortized cost of $34.6 million and a fair
value of $35.3 million and consisted of U.S. Government and agency obligations,
municipal and state obligations and mortgage-backed bonds. At December 31, 2001,
the Banks' investment securities available for sale portfolio consisted of
mutual fund shares with an amortized cost of $1.7 million and a fair value of
$1.6 million. At December 31, 2001, the Banks held no securities that were
classified as trading securities.
18
INVESTMENT STRATEGY. Historically, the Banks have maintained a substantial
proportion of their assets in investments and mortgage-related securities. The
objectives of these investments are to: (i) provide sufficient liquidity to fund
the operational needs of the Banks, (ii) provide a stable base of income with
minimal credit risk, (iii) invest those deposit funds in excess of the mortgage
and consumer lending volumes available to the Banks in their market area, (iv)
invest the deposit funds attributable to Gilster-Mary Lee, and (v) generally
assist in managing the interest rate risk of the Banks. The Banks invest in U.S.
Government and U.S. Government agency securities, securities of U.S.
Government-sponsored enterprises (e.g., Government National Mortgage Association
("GNMA"), Federal National Mortgage Association ("FNMA"), and Federal Home Loan
Mortgage Corporation ("FHLMC")), tax-exempt securities of states and
municipalities, mutual fund shares, short-term interest-bearing deposits and
federally insured certificates of deposits in other financial institutions,
FHLB-Chicago stock, and mortgage-related securities (including mortgage-backed
securities and collateralized mortgage obligations). The foregoing securities
serve different functions within the context of the Banks' investment practices.
U.S. Government agency, Government-sponsored enterprise, and tax-exempt
state and municipal securities and short-term interest-bearing deposits and
federally insured certificates of deposits in other financial institutions
function as an income base and non-lending investment vehicle for the Banks.
Management views the foregoing investments generally as substitutes of each
other, and the relative proportion of them in the portfolio depends on the
relative yields of each as compared to their perceived credit risks and interest
rate sensitivities. As these investments mature, the Banks seek to reinvest the
proceeds in those investments that, at that time, provide an attractive
trade-off among the foregoing factors. With respect to the tax-exempt state and
municipal securities portfolio, the Banks also seek to invest so as to meet
specific community needs in their primary market area and to take advantage of
the federal and, on some securities, state tax exemption for the interest
thereon. As a general rule, the Banks limit their tax-exempt investments to
those having a rating by a nationally recognized statistical rating organization
of "AA" or better or those unrated securities issued by entities within their
market area. Generally, the Banks also limit the maturities of all of the
foregoing securities to five years or less.
MORTGAGE-BACKED SECURITIES. The Banks purchase mortgage-backed securities
primarily to supplement their lending activities and, to a lesser extent, to:
(i) generate positive interest rate spreads on large principal balances with
minimal administrative expense; (ii) lower the credit risk of the Banks as a
result of the guarantees provided by FHLMC, FMNA, and GNMA; (iii) enable the
Banks to use mortgage-backed securities as collateral for financing; and (iv)
increase the Banks' liquidity.
The Banks have invested primarily in federal agency securities, principally
FNMA, FHLMC and GNMA. The Banks also invest in collateralized mortgage
obligations ("CMOs") that have fixed interest rates. At December 31, 2001, net
mortgage-backed and related securities totaled $7.1 million, or 6.4% of total
assets. At December 31, 2001, 2.7% of the mortgage-backed and mortgage related
securities were adjustable-rate and 97.3% were fixed rate. The mortgage-backed
securities portfolio had coupon rates ranging from 5.00% to 7.50% and had a
weighted average yield of 6.04% at December 31, 2001. The estimated fair value
of the Banks' mortgage-backed securities at December 31, 2001 was $7.2 million.
Mortgage-backed securities (which also are known as mortgage participate
certificates or pass-through certificates) typically represent a participation
interest in a pool of single-family or multi-family mortgages. The principal and
interest payments on these mortgages are passed from the mortgage originators,
through intermediaries (generally U.S. Government agencies and government
sponsored
19
enterprises) that pool and resell the participation interests in the form of
securities, to investors such as the Banks. Such U.S. Government agencies and
government sponsored enterprises, which guarantee the payment of principal and
interest to investors, primarily include the FHLMC, FNMA and the GNMA.
Mortgage-backed securities typically are issued with stated principal amounts,
and the securities are backed by pools of mortgages that have loans with
interest rates that fall within a specific range and have varying maturities.
Mortgage-backed securities generally yield less than the loans that underlie
such securities because of the cost of payment guarantees and credit
enhancements. In addition, mortgage-backed securities are usually more liquid
than individual mortgage loans and may be used to collateralize certain
liabilities and obligations of the Banks. These types of securities also permit
the Banks to optimize their regulatory capital because they have a low risk
weighting.
CMOs generally have similar characteristics as derivative financial
instruments because they are created by redirecting the cash flows from the pool
of mortgages or mortgage-backed securities underlying these securities to create
two or more classes (or tranches) with different maturity or risk
characteristics designed to meet a variety of investor needs and preferences.
Management believes these securities may represent attractive alternatives
relative to other investments due to the wide variety of maturity, repayment and
interest rate options available. The Banks held investment grade CMOs with a net
carrying value of $2.5 million at December 31, 2001. CMOs may be sponsored by
private issuers, such as mortgage bankers or money center banks, or by U.S.
Government agencies and government sponsored entities. At December 31, 2001, the
Banks did not own any privately issued CMOs.
Derivatives also include "off balance sheet" financial products whose value
is dependent on the value of an underlying financial asset, such as a stock,
bond, foreign currency, or a reference rate or index. Such derivatives include
"forwards," "futures," "options" or "swaps." The Banks have not invested in, and
currently do not intend to invest in, these "off balance sheet" derivative
instruments, although the Banks' investment policies do not prohibit such
investments. The Banks evaluate their mortgage-related securities portfolio
quarterly for compliance with applicable regulatory requirements, including
testing for identification of high risk investments. At December 31, 2001, the
Banks did not have any derivatives or high risk securities.
Of the Banks' $7.1 million mortgage-backed securities portfolio at December
31, 2001, $3.7 million with a weighted average yield of 6.26% had contractual
maturities within ten years and $3.4 million with a weighted average yield of
6.68% had contractual maturities over ten years. However, the actual maturity of
a mortgage-backed security may be less than its stated maturity due to
prepayments of the underlying mortgages. Prepayments that are faster than
anticipated may shorten the life of the security and may result in a loss of any
premiums paid and thereby reduce the net yield on such securities. Although
prepayments of underlying mortgages depend on many factors, including the type
of mortgages, the coupon rate, the age of mortgages, the geographical location
of the underlying real estate collateralizing the mortgages and general levels
of market interest rates, the difference between the interest rates on the
underlying mortgages and the prevailing mortgage interest rates generally is the
most significant determinant of the rate of prepayments. During periods of
declining mortgage interest rates, if the coupon rate of the underlying
mortgages exceeds the prevailing market interest rates offered for mortgage
loans, refinancing generally increases and accelerates the prepayment of the
underlying mortgages and the related security. Under such circumstances, the
Banks may be subject to reinvestment risk because, to the extent that the Banks'
mortgage-backed securities amortize or prepay faster than anticipated, the Banks
may not be able to reinvest the proceeds of such repayments and prepayments at a
comparable rate. In contrast to mortgage-backed securities in which cash flow is
received (and hence,
20
prepayment risk is shared) pro rata by all securities holders, the cash flow
from the mortgages or mortgage-backed securities underlying CMOs are segmented
and paid in accordance with a predetermined priority to investors holding
various tranches of such securities or obligations. A particular tranche of CMOs
may therefore carry prepayment risk that differs from that of both the
underlying collateral and other tranches.
The following table sets forth the composition of the Banks'
mortgage-backed securities portfolio at the dates indicated.
At December 31,
------------------------------------------------------------------------
2001 2000 1999
--------------------- ---------------------- ---------------------
Carrying Percent of Carrying Percent of Carrying Percent of
Value Portfolio Value Portfolio Value Portfolio
-------- ---------- -------- ---------- -------- ----------
(Dollars in Thousands)
Mortgage-backed securities:
Available for sale (at fair value):
GNMA ............................... $ 159 2.24% $ 819 5.26% $ 1,487 6.84%
FNMA ............................... 353 4.96 1,955 12.54 2,819 12.97
FHLMC .............................. -- -- 2,323 14.91 2,704 12.44
------- ------ ------- ------ ------- ------
Total mortgage-backed
securities available for sale ... 512 7.20 5,097 32.71 7,010 32.25
------- ------ ------- ------ ------- ------
Held to maturity (at amortized cost):
GNMA ............................... 626 8.80 -- -- -- --
FNMA ............................... 1,716 24.14 2,604 16.71 3,110 14.31
FHLMC .............................. 1,708 24.02 1,623 10.41 1,980 9.11
Collateralized mortgage obligations 2,548 35.84 6,261 40.17 9,635 44.33
------- ------ ------- ------ ------- ------
Total mortgage-backed
securities held to maturity .... 6,598 92.80 10,488 67.29 14,725 67.75
------- ------ ------- ------ ------- ------
Total mortgage-backed securities ...... $ 7,110 100.00% $15,585 100.00% $21,735 100.00%
======= ====== ======= ====== ======= ======
The following table shows purchases, sales and repayments of
mortgage-backed securities during the periods indicated.
Year Ended December 31,
--------------------------------------
2001 2000 1999
-------- -------- --------
(Dollars in Thousands)
Mortgage-backed securities, net,
at beginning of period .............. $ 15,585 $ 21,735 $ 21,870
Purchases ............................. 1,498 -- 10,882
Sales ................................. (3,794) (538) --
Repayments ............................ (6,304) (5,723) (10,786)
Increase (decrease) in other items, net 125 111 (231)
-------- -------- --------
Mortgage-backed securities, net,
at end of period .................... $ 7,110 $ 15,585 $ 21,735
======== ======== ========
21
The following tables set forth the composition of the Banks' investment
portfolio at the dates indicated.
At December 31,
------------------------------------------------------------------
2001 2000 1999
-------------------- --------------------- ---------------------
Carrying Percent of Carrying Percent of Carrying Percent of
Value Portfolio Value Portfolio Value Portfolio
-------- ---------- -------- ---------- -------- ----------
(Dollars in Thousands)
Investment securities:
Available for sale (at fair value):
Securities of U.S. government ......... $ -- -- $ 252 0.5% $ 500 1.1%
Securities of U.S. agencies ........... -- -- 1,502 3.0 2,183 4.8
Mutual fund shares .................... 1,632 2.7 -- -- -- --
------- ----- ------- ----- ------- -----
Total investment securities
available for sale ................ 1,632 2.7 1,754 3.5 2,683 5.9
------- ----- ------- ----- ------- -----
Held to maturity (at amortized cost):
Securities of U.S. agencies ........... 25,900 43.2 25,740 51.2 27,458 60.0
Mortgage-backed Securities ............ 1,000 1.7 3,000 6.0 3,000 6.6
Securities of states and municipalities 7,672 12.8 5,988 11.9 5,735 12.5
------- ----- ------- ----- ------- -----
Total investment securities held to
maturity ......................... 34,572 57.7 34,728 69.1 36,193 79.1
------- ----- ------- ----- ------- -----
Total investment securities ........ 36,204 60.4 36,482 72.6 38,876 85.0
Interest-bearing deposits ................. 3,406 5.7 4,418 8.8 4,592 10.0
Federal funds sold ........................ 16,760 28.0 6,050 12.0 -- --
Certificates of deposit ................... -- -- 1,000 2.0 -- --
Equity securities ......................... 200 0.3 1,073 2.1 1,073 2.3
FHLB stock ................................ 2,942 4.9 845 1.7 801 1.8
FRB stocks ................................ 405 0.7 405 0.8 405 .9
------- ----- ------- ----- ------- -----
Total investments .................. $59,917 100.0% $50,273 100.0% $45,747 100.0%
======= ===== ======= ===== ======= =====
22
At December 31, 2001
----------------------------------------------------------------------------------------
More than More than
One Year or Less One to Five Years Five to Ten Years More than Ten Years
------------------- ------------------- -------------------- -------------------
Weighted Weighted Weighted Weighted
Carrying Average Carrying Average Carrying Average Carrying Average
Value Yield Value Yield Value Yield Value Yield
-------- -------- -------- -------- -------- -------- -------- --------
(Dollars in Thousands)
Investment securities:
Held to maturity (at amortized cost):
Securities of U.S. agencies ....... $ -- -- % $17,533 5.08% $ 7,866 6.84% $ 502 6.90%
Mortgage-backed bonds ............. -- -- % 1,000 4.25% -- -- % -- - %
Securities of states and
municipalities(1) ............... 906 4.70% 2,160 6.24% 1,578 7.93% 3,027 8.11%
------- ------- ------- -------
Total investment securities(2) $ 906 $20,693 $ 9,444 $ 3,529
======= ======= ======= =======
(1) Tax exempt state and municipal securities are presented on a tax equivalent
basis assuming a tax rate of 34%.
(2) Mutual fund shares and nonmarketable equity securities have no stated
maturity, therefore stated maturities are not disclosed.
U.S. AGENCY OBLIGATIONS. The Banks' portfolio of U.S. agency obligations,
mutual fund shares and nonmarketable equity securities had a fair value of $31.5
million ($31.1 million at amortized cost) at December 31, 2001. The portfolio
consisted of short to medium-term (up to ten years) securities, of which $1.7
million (at amortized cost) of mutual fund shares were held in the Banks'
available for sale portfolio.
SECURITIES OF STATES AND MUNICIPALITIES. The Banks' municipal bond
portfolio, which at December 31, 2001, totaled $7.9 million at estimated fair
value ($7.7 million at amortized cost), was comprised primarily of general
obligation bonds (i.e., backed by the general credit of the issuer) and revenue
bonds (i.e., backed only by revenues from the specific project being financed)
issued by various housing authorities and public hospital, water and sanitation
districts in various states. At December 31, 2001, general obligation bonds and
revenue bonds totaled $4.3 million and $3.4 million, respectively. The bonds are
purchased with laddered maturities of up to four years with an average principal
amount of approximately $250,000. Most of the municipal bonds are rated by a
nationally recognized statistical rating organization (e.g., Moody's or Standard
and Poor's) and the unrated bonds have been purchased principally from local
authorities. At December 31, 2001, the Banks' municipal bond portfolio was
comprised of 44 bonds, the average principal amount of which was $174,000. At
such date the weighted average life of the portfolio was approximately 9.2 years
and had a weighted average coupon rate of 4.89%. At that date, the largest
security in the portfolio was a revenue bond issued by a local government, with
an amortized cost of $1.6 million and a fair value of $1.8 million. Because
interest earned on municipal bonds is exempt from federal, and, in certain
cases, state and local income taxes, the municipal bond portfolio has
contributed to an effective income tax rate for the Banks below the federal tax
rate and one that the Banks believe is below their peers.
MORTGAGE BACKED BONDS. At December 31, 2001, the Banks' investment
portfolio included securities issued by the FNMA and the FHLMC. At December 31,
2001, such bonds had an aggregate amortized cost of $5.4 million and a fair
value of $5.4 million, an average life of approximately 6.2 years, and an
average coupon rate of 6.22%.
23
DEPOSIT ACTIVITIES AND OTHER SOURCES OF FUNDS
GENERAL. Deposits, federal funds purchased, FHLB advances and loan
repayments are the major sources of the Banks' funds for lending and other
investment purposes. Scheduled loan repayments are a relatively stable source of
funds, while deposit inflows and outflows and loan prepayments are influenced
significantly by general interest rates and money market conditions. Borrowings
through the FHLB-Chicago or federal funds purchased may be used on a short-term
basis to compensate for reductions in the availability of funds from other
sources. At December 31, 2001 the Banks had $5.0 million in FHLB advances.
DEPOSIT ACCOUNTS. Substantially all of the Banks' depositors are residents
of the State of Illinois or Missouri. Deposits are attracted from within the
Banks' market area through the offering of a broad selection of deposit
instruments, including NOW accounts, money market deposit accounts, regular
savings accounts, certificates of deposit and retirement savings plans. Deposit
account terms vary, according to the minimum balance required, the time periods
the funds must remain on deposit and the interest rate, among other factors. In
determining the terms of their deposit accounts, the Banks consider current
market interest rates, profitability to the Banks, matching deposit and loan
products and their customer preferences and concerns. The Banks review their
deposit mix and pricing weekly.
24
The following table sets forth certain information concerning the Banks'
time deposits and other interest-bearing deposits at December 31, 2001.
Balance
Weighted ----------- Percentage
Average Original Minimum (Dollars in of Total
Interest Rate Term Category Amount Thousands) Deposits
- -------------- --------- -------- -------- ----------- ----------
- % None Non-interest bearing checking $ 100 $ 5,022 5.49%
0.49 None NOW accounts 100 7,924 8.67
1.34 None Money market demand 2,500 18,379 20.11
1.01 None Statement savings 30 6,765 7.40
Certificates of Deposit
1.69 91-day Fixed-term, fixed-rate 500 435 0.48
2.72 6 months Fixed-term, fixed-rate 500 6,685 7.31
2.25 7 months Fixed-term, fixed-rate 5,000 8 0.01
5.49 11 months Fixed-term, fixed-rate 1,000 3,982 4.36
4.30 1 year Fixed-term, fixed-rate 500 249 0.27
3.72 1 year Fixed-term, fixed-rate 500 8,797 9.62
0.00 15 months Fixed-term, fixed rate 1,000 1 0.00
4.21 18 months Fixed-term, fixed-rate 500 2,288 2.50
5.20 30 months Fixed-term, fixed-rate 500 23,528 25.74
4.35 4 years Fixed-term, fixed-rate 500 687 0.75
2.40 Various Fixed-term, fixed-rate 100,000 6,664 7.29
------- ------
$91,414 100.00%
======= ======
The following table indicates the amount of the Banks' certificates of
deposit of $100,000 or more by time remaining until maturity as of December 31,
2001.
Certificates
Maturity Period of Deposit
--------------- ------------
(Dollars
in Thousands)
Three months or less............................... $ 4,803
Over three through six months...................... 3,072
Over six through 12 months......................... 311
Over 12 months..................................... 2,130
-------
Total......................................... $10,316
=======
25
DEPOSIT FLOW
The following table sets forth the balances of savings deposits in the
various types of savings accounts offered by the Banks at the dates indicated.
At December 31,
--------------------------------------------------------
2001 2000
-------------------- ------------------
Percent Percent
of Increase of
Amount Total (Decrease) Amount Total
------- ------- ---------- ------ -------
(Dollars in Thousands)
Non-interest-bearing checking...... $ 5,022 5.49% $ 64 $ 4,958 5.11%
NOW checking....................... 7,924 8.67 418 7,506 7.74
Statement savings.................. 6,765 7.40 432 6,333 6.53
Money market demand................ 18,379 20.11 (1,087) 19,466 20.07
Fixed-rate certificates which
mature in the year ending(1)(2):
Within 1 year................... 33,856 37.04 (12,254) 46,110 47.54
After 1 year, but
within 2 years.................. 15,050 16.46 8,689 6,361 6.56
After 2 years, but
within 5 years.................. 4,418 4.83 (1,839) 6,257 6.45
------- ------- -------- ------- -------
Total...................... $91,414 100.00% $(5,577) $96,991 100.00%
======= ======= ======== ======= =======
(1) At December 31, 2001 and at December 31, 2000, certificates of deposits of
$100,000 or more amounted to $10.3 million and $11.8 million, respectively.
(2) IRA accounts included in certificate balances are $7.7 million and $7.3
million at December 31, 2001 and December 31, 2000, respectively.
26
TIME DEPOSITS BY RATES
The following table sets forth the time deposits in the Banks classified by
rates at the dates indicated.
At December 31,
--------------------------------------
2001 2000 1999
-------- ------- -------
(Dollars in Thousands)
2.00 - 2.99%............................. $11,339 $ -- $ --
3.00 - 4.99%............................. 18,776 9,894 23,072
5.00 - 6.99%............................. 23,209 45,627 33,354
7.00 - 8.99%............................. -- 3,207 17
-------- ------- -------
Total................................ $53,324 $58,728 $56,443
======== ======= =======
The following table sets forth the amount and maturities of time deposits
at December 31, 2001.
Amount Due
------------------------------------------------------ Percent
Over Over Over of Total
Less than 1-2 2-3 3-4 Certificate
One Year Years Years Years Total Accounts
--------- ------- ------ ----- ------- -----------
2.00 - 2.99%............. $11,000 $ 305 $ 34 $ -- $11,339 21.3%
3.00 - 4.99%............. 12,000 2,481 3,803 492 18,776 35.2%
5.00 - 6.99%............. 10,856 12,264 6 83 23,209 43.5%
------- ------- ------ ---- -------
Total............... $33,856 $15,050 $3,843 $575 $53,324 100.0%
======= ======= ====== ==== =======
The following table sets forth the average balances and interest rates
based on monthly balances for transaction accounts and certificates of deposit
for the periods indicated.
Year Ended December 31,
---------------------------------------------------------------------------------------
2001 2000 1999
--------------------------- --------------------------- ---------------------------
Interest- Interest- Interest-
Bearing Bearing Bearing
Demand Certificates Demand Certificates Demand Certificates
Deposits of Deposit Deposits of Deposit Deposits of Deposit
--------- ------------ --------- ------------ --------- ------------
Average Balance...... $32,823 $59,209 $33,404 $56,160 $32,802 $62,262
Average Rate......... 2.10% 5.24% 3.16% 5.32% 2.75% 5.05%
27
The following table sets forth the savings activities of the Banks for the
periods indicated.
Year Ended December 31,
-----------------------------------------
2001 2000 1999
------- ------- -------
(Dollars in Thousands)
Beginning Balance.................................. $96,991 $90,753 $99,435
------- ------- -------
Net increase (decrease) before interest credited... (7,909) 3,568 (11,111)
Interest credited.................................. 2,332 2,670 2,429
------- ------- -------
Net increase (decrease) in savings deposits........ (5,577) 6,238 (8,682)
------- ------- -------
Ending Balance..................................... $91,414 $96,991 $90,753
======= ======= =======
BORROWINGS
The Banks have the ability to use advances from the FHLB-Chicago to
supplement their supply of lendable funds and to meet deposit withdrawal
requirements. The FHLB-Chicago functions as a central reserve bank providing
credit for savings and loan associations and certain other member financial
institutions. As a member of the FHLB-Chicago, the Banks are required to own
capital stock in the FHLB-Chicago and are authorized to apply for advances on
the security of such stock and certain of their mortgage loans and other assets
(principally securities which are obligations of, or guaranteed by, the U.S.
Government) provided certain creditworthiness standards have been met. Advances
are made pursuant to several different credit programs. Each credit program has
its own interest rate and range of maturities. Depending on the program,
limitations on the amount of advances are based on the financial condition of
the member institution and the adequacy of collateral pledged to secure the
credit. At December 31, 2001, the Banks had $5.0 million of fixed-term, callable
advances from the FHLB, with a weighted average interest rate of 4.86%, maturing
January 17, 2011. At December 31, 2000, the Banks had no borrowings from the
FHLB-Chicago. At December 31, 1999, the Banks had $5.0 million of fixed-term,
callable advances from the FHLB, with a weighted average interest rate of 5.01%,
due in 2009. The FHLB advance is subject to a convertibility provision on
January 16, 2003 and quarterly thereafter. In the event of an exercise of the
option by the FHLB-Chicago, the advance will convert to an open-line advance, at
which time the Banks can repay the advance or refinance at the prevailing market
rate of interest.
The Banks also use federal funds purchased as a source of funds. At
December 31, 2001 and 2000, the Banks had no federal funds purchased. Federal
funds purchased were $2.8 million at December 31, 1999, with a weighted average
interest rate of 5.77%. Federal funds purchased were secured by a pledge of
certain investment and mortgage-backed securities with an amortized cost of
$13.5 million and a fair value of $13.5 million at December 31, 1999.
28
INTEREST RATE RISK MANAGEMENT
Interest rate sensitivity is closely monitored through the Company's
asset-liability management procedures. At the end of this section is a table
reflecting the Company's interest rate gap (rate sensitive assets minus rate
sensitive liabilities) analysis at December 31, 2001, individually and
cumulatively, through various time periods.
At December 31, 2001, the static gap analysis indicated substantial
liability sensitivity over one-year time periods. Generally, such a position
indicates that an overall rise in interest rates would result in an unfavorable
impact on the Company's net interest margin, as liabilities would reprice more
quickly than assets. Conversely, the net interest margin would be expected to
improve with an overall decline in interest rates. As savings, NOW and money
market accounts are subject to withdrawal on demand, they are presented in the
analysis based on their GAP BETA, which is the average of the rising and falling
betas. Based on the Company's experience, pricing such deposits is not expected
to change in direct correlation with changes in the general level of short-term
interest rates. Accordingly, management believes that gradual increase in the
general level of interest rates will not have a material effect on the Company's
net interest income.
The asset/liability management process, which involves structuring the
consolidated balance sheet to allow approximately equal amounts of assets and
liabilities to reprice at the same time, is a process essential to minimize the
effect of fluctuating interest rates on net interest income. The following table
reflects the Company's interest rate gap (rate-sensitive assets minus
rate-sensitive liabilities) analysis as of December 31, 2001, individually and
cumulatively, through various time periods. Amortizing accounts, which include
MBS, CMO's and loans are first adjusted to cash flow. Following amortization,
prepayment speeds are applied. The floating rate loans are estimated by
subtracting the average maturity from loans repricing less than 3 months.
29
More than
three More than
Three months one year
months through through More than
Floating or less one year five years five years Total
-------- ------- --------- ----------- ---------- --------
(Dollars in Thousands)
INTEREST-EARNING ASSETS:
Loans receivable, net............... $ 5,591 $ 4,658 $ 8,762 $12,408 $10,272 $ 41,691
Investment and mortgage-
backed securities................. 15,082 793 2,269 15,443 9,727 43,314
Other interest-earning assets....... 20,307 3,406 -- -- -- 23,713
------- ------- ------- -------- ------- --------
Total interest-earning assets..... 40,980 8,857 11,031 27,851 19,999 108,718
------- ------- ------- -------- ------- --------
INTEREST-BEARING LIABILITIES:
Savings, NOW, and money
market accounts................... $ 5,694 $ -- $ -- $27,374 $ -- $ 33,068
Certificates of deposit............. -- 14,446 19,410 19,468 -- 53,324
Other borrowed money................ -- -- -- 5,000 -- 5,000
------- ------- ------- -------- ------- --------
Total interest-bearing liabilities 5,694 14,446 19,410 51,842 -- 91,392
------- ------- ------- -------- ------- --------
Interest sensitivity gap.......... $35,286 $(5,589) $(8,379) $(23,991) $19,999 $ 17,326
======= ======= ======= ======== ======= ========
Cumulative interest-sensitivity
gap............................. $35,286 $29,697 $21,318 $ (2,673) $17,326
======= ======= ======= ======== =======
Ratio of cumulative gap
to total assets................. .32 .27 .19 (.02) .16
=== === === ==== ===
As indicated in the preceding table, the Company operates on a short-term
basis similar to most financial institutions, as its liabilities, with savings
and NOW accounts included, could reprice more quickly than its assets. However,
the process of asset/liability management in a financial institution is subject
to economic events not easily predicted.
COMPETITION
In the face of significant competition by financial and non-bank entities
over the last few years, the Banks have had limited success in increasing their
retail deposit base, excluding the historical benefit of the large corporate
relationship with Gilster-Mary Lee. The Banks compete for deposits and loans
with a number of financial institutions in a four contiguous county market area
that has approximately 135,000 people. In three of the counties served, the
Banks' market share is low and average branch size is below average. A number of
the competing financial institutions are larger than the Banks and are
subsidiaries of larger regional bank holding companies. The Banks also face
competition, to an unquantifiable extent, from money market mutual funds and
local and regional securities firms.
Under the Gramm-Leach-Bliley Act of 2000, effective March 11, 2000,
securities firms and insurance companies that elect to become financial holding
companies may acquire banks and other financial institutions. The Gramm-Leach-
Bliley Act may significantly change the competition environment in which the
Company and the Banks conducts business. The financial services industry is also
likely to become more competitive as further technological advances enable more
companies to provide financial services. These technological advances may
diminish the importance of depository institutions and other financial
intermediaries in the transfer of funds between points.
30
PERSONNEL
As of December 31, 2001, the Banks had 23 full-time employees and 8 part
time employees, none of whom were represented by a collective bargaining unit.
The Banks believe their relationships with their employees is good.
REGULATION OF THE BANKS
The Banks are national banks subject to regulation, supervision and
examination by the OCC. In addition, the Banks' deposits are insured by the FDIC
up to the maximum amount permitted by law, and are therefore subject to
regulation, supervision and examination by the FDIC. See "2001 Annual Report -
Note 9 Regulatory Matters."
The Company and the Banks are legal entities separate and distinct. Various
legal limitations restrict the Banks from lending or otherwise supplying funds
to the Company (an "affiliate"), generally limiting such transactions with the
affiliate to 10% of each bank's capital and surplus, and limiting all such
transactions to 20% of each bank's capital and surplus. Such transactions,
including extensions of credit, sales of securities or assets and provision of
services, also must be on terms and conditions consistent with safe and sound
banking practices, including credit standards, that are substantially the same
or at least as favorable to each bank as those prevailing at the time for
transactions with unaffiliated companies.
Federal banking laws and regulations govern all areas of the operation of
the Banks, including reserves, loans, mortgages, capital, issuance of
securities, payment of dividends and establishment of branches. Federal bank
regulatory agencies also have the general authority to limit the dividends paid
by insured banks and bank holding companies if such payments should be deemed to
constitute an unsafe and unsound practice. The respective primary federal
regulators of the Company and the Banks have authority to impose penalties,
initiate civil and administrative actions and take other steps intended to
prevent the Banks from engaging in unsafe or unsound practices.
Federally insured banks are subject, with certain exceptions, to certain
restrictions or extensions of credit to their parent holding companies or other
affiliates, on investments in the stock or other securities of affiliates and on
the taking of such stock or securities as collateral from any borrower. In
addition, such banks are prohibited from engaging in certain tie-in arrangements
in connection with any extension of credit or the providing of any property or
service.
Banks are also subject to the provisions of the Community Reinvestment Act
of 1977, which requires the appropriate federal bank regulatory agency, in
connection with its regular examination of a bank, to assess the bank's record
in meeting the credit needs of the community serviced by the bank, including low
and moderate income neighborhoods. The regulatory agency's assessment of the
bank's record is made available to the public. Further, such assessment is
required of any bank which has applied, among other things, to establish a new
branch office that will accept deposits, relocate an existing office or merge or
consolidate with, or acquire the assets or assume the liabilities of, a
federally regulated financial institution.
31
Dividends from the Banks will constitute the major source of funds for
dividends to be paid by the Company. The amount of dividends payable by the
Banks to the Company will depend upon the Banks' earnings and capital position,
and is limited by federal and state laws, regulations and policies.
As national banks, the Banks may not pay dividends from their paid-in
surplus. All dividends must be paid out of undivided profits then on hand, after
deducting expenses, including reserves for losses and bad debts. In addition, a
national bank is prohibited from declaring a dividend on its shares of common
stock until its surplus equals its stated capital, unless there has been
transferred to surplus no less than one-tenth of the bank's net profits of the
preceding two consecutive half-year periods (in the case of an annual dividend).
The approval of the OCC is required if the total of all dividends declared by a
national bank in any calendar year exceeds the total of its net profits for that
year combined with its retained net profits for the proceeding two years, less
any required transfers to surplus.
The OCC has the authority to prohibit any bank from engaging in an unsafe
or unsound practice in conducting its business. The payment of dividends,
depending upon the financial condition of the bank, could be deemed to
constitute such an unsafe or unsound practice. The Federal Reserve and the OCC
have indicated their view that it generally would be an unsafe and unsound
practice to pay dividends except out of current operating earnings. Moreover,
the Federal Reserve has indicated that bank holding companies should serve as a
source of managerial and financial strength to their subsidiary banks.
Accordingly, the Federal Reserve has stated that a bank holding company should
not maintain a level of cash dividends to its shareholders that places undue
pressure on the capital of its bank subsidiaries, or that can be funded only
through additional borrowings or other arrangements that may undermine the bank
holding company's ability to serve as a source of strength.
The amount of dividends actually paid during any one period are strongly
affected by the Banks' management policy of maintaining a strong capital
position. Federal law further provides that no insured depository institution
may make any capital distribution (which would include a cash dividend) if,
after making the distribution, the institution would not satisfy one or more of
its minimum capital requirements. Moreover, the federal bank regulatory agencies
also have the general authority to limit the dividends paid by insured banks if
such payments should be deemed to constitute an unsafe and unsound practice.
BANK HOLDING COMPANY REGULATION
GENERAL. Bank holding companies are subject to comprehensive regulation by
the Federal Reserve under the Bank Holding Company Act ("BHCA") and the
regulations of the Federal Reserve. As a bank holding company, the Company is
required to file with the Federal Reserve annual reports and such additional
information as the Federal Reserve may require and is subject to regular
examinations by the Federal Reserve. The Federal Reserve also has extensive
enforcement authority over bank holding companies, including, among other
things, the ability to assess civil money penalties, to issue cease and desist
or removal orders, and to require that a Company divest subsidiaries (including
its bank subsidiaries). In general, enforcement actions may be initiated for
violations of law and regulations and unsafe or unsound practices.
Under the BHCA, a bank holding company must obtain Federal Reserve approval
before: (1) acquiring, directly or indirectly, ownership or control of any
voting shares of another bank or bank holding
32
company if, after such acquisition, it would own or control more than 5% of such
shares (unless it already owns or controls the majority of such shares); (2)
acquiring all or substantially all of the assets of another bank or bank holding
company; or (3) merging or consolidating with another bank holding company.
Any direct or indirect acquisition by a bank holding company or its
subsidiaries of more than 5% of the voting shares of, or substantially all of
the assets of, any bank located outside of the state in which the operations of
the bank holding company's banking subsidiaries are "principally conducted", may
not be approved by the Federal Reserve unless the laws of the state in which the
bank to be acquired is located specifically authorize such an acquisition. The
term "principally conducted" generally means the state in which the total
deposits of all banking subsidiaries is the largest. The Company's business is
"principally conducted" in the State of Illinois. Most states have authorized
interstate bank acquisitions by out-of-state bank holding companies on either a
regional or a national basis, and most such statues require the home state of
the acquiring bank holding company to have enacted a reciprocal statue. Illinois
law permits bank holding companies located outside Illinois to acquire bank or
bank holding companies located in Illinois subject to the requirements that the
laws of the state in which the acquiring bank holding company is located permit
bank holding companies located in Illinois to acquire banks or bank holding
companies in the acquirer's state and that the laws of the state in which the
acquirer is located are not unduly restrictive when compared to those imposed by
the laws of Illinois.
The BHCA also prohibits a bank holding company, with certain exceptions,
from acquiring direct or indirect ownership or control of more than 5% of the
voting shares of any company which is not a bank or bank holding company, or
from engaging directly or indirectly in activities other than those of banking,
managing or controlling banks, or providing services for its subsidiaries. The
principal exceptions to these prohibitions involve certain non-bank activities
which, by statue or by Federal Reserve regulation or order, have been identified
as activities closely related to the business of banking or managing or
controlling banks. The list of activities permitted by the Federal Reserve
includes, among other things, operating a savings institution, mortgage company,
finance company, credit card company or factoring company, performing certain
data processing operations; providing certain investment and financial advice;
underwriting and acting as an insurance agent for certain types of
credit-related insurance; leasing property on a full-payout, non-operating
basis; selling money orders, travelers' checks and United States Savings Bonds;
real estate and personal property appraising; providing tax planning and
preparation services; and, subject to certain limitations, providing securities
brokerage services for customers. The Company has no present plans to engage in
any of these activities.
DIVIDENDS. The Federal Reserve has issued a policy statement on the payment
of cash dividends by bank holding companies, which expresses the Federal
Reserve's view that a bank holding company should pay cash dividends only to the
extent that the company's net income for the past year is sufficient to cover
both the cash dividends and a rate of earning retention that is consistent with
the company's capital needs, asset quality and overall financial condition. The
Federal Reserve also indicated that it would be inappropriate for a company
experiencing serious financial problems to borrow funds to pay dividends.
Furthermore, under the prompt corrective action regulations adopted by the
Federal Reserve pursuant to FDICIA, the Federal Reserve may prohibit a bank
holding company from paying any dividends if the Company's bank subsidiary is
classified as "undercapitalized."
Bank holding companies are required to give the Federal Reserve prior
written notice of any purchase or redemption of its outstanding equity
securities if the gross consideration for the purchase or redemption,
33
when combined with the net consideration paid for all such purchases or
redemptions during the preceding 12 months, is equal to 10% or more of their
consolidated net worth. The Federal Reserve may disapprove such a purchase or
redemption if it determines that the proposal would constitute an unsafe or
unsound practice or would violate any law, regulation, Federal Reserve order, or
any condition imposed by, or written agreement with, the Federal Reserve.
CAPITAL REQUIREMENTS.The Federal Reserve has established capital
requirements for bank holding companies that generally parallel the capital
requirements for national banks under the OCC's regulations. The Federal Reserve
regulations provide that capital standards will generally be applied on a bank
only (rather than a consolidated) basis in the case of a bank holding company
with less than $150 million in total consolidated assets.
FEDERAL SECURITIES LAWS
The common stock of the Company is registered with the Securities Exchange
Commission (the "SEC") and is subject to the disclosure, proxy solicitation,
insider trading restrictions and other requirements of the federal securities
laws. Shares of the Common Stock purchased by persons who are not affiliates of
the Company may be resold without registration. Shares purchased by an affiliate
of the Company may comply with the resale restrictions of Rule 144 under the
Securities Act. If the Company meets the current public information requirements
of Rule 144 under the Securities Act, each affiliate of the Company who complies
with the other conditions of Rule 144 (including those that require the
affiliate's sale to be aggregated with those of certain other persons) would be
able to sell in the public market, without registration, a number of shares not
to exceed, in any three-month period, the greater of (i) 1% of the outstanding
shares of the Company or (ii) the average weekly volume of trading in such
shares during the preceding four calendar weeks. Provision may be made in the
future by the Company to permit affiliates to have their shares registered for
sale under the Securities Act under certain circumstances. There are currently
no demand registration rights outstanding. However, in the event the Company, at
some future time, determines to issue additional shares from its authorized but
unissued shares, the Company might offer registration rights to certain of its
affiliates who want to sell their shares.
34
ITEM 2. Properties
The following table sets forth the Banks' offices, as well as certain
additional information relating to the offices, as of December 31, 2001.
Year Building Land Building
Location County Opened Owned/Leased Owned/Leased Square Footage Deposits
- -------- ------ ------ ------------ ------------ -------------- --------
(In Thousands)
Chester National Bank
Main Office
1112 State Street Randolph 1919 Owned Owned 10,345 $58,158
Chester, Illinois 62233
Chester National Bank
Branch Offices
165 West Broadway Randolph 1989 Owned Owned 11,142 21,251
Sparta, Illinois 62286
1414 South Main Randolph 1989 Owned Owned 1,032 4,774
Red Bud, Illinois 62278
Chester National Bank
of Missouri Main Office
1010 North Main Perry 1990 Owned Owned 3,900 7,231
Perryville, Missouri 63775
ITEM 3. Legal Proceedings
Periodically, there have been various claims and lawsuits involving the Banks,
such as claims to enforce liens, condemnation proceedings on properties in which
the Banks hold security interests, claims involving the making and servicing of
real property loans and other issues incident to the Banks' business. The Banks
are not parties to any pending legal proceedings that management believes would
have a material adverse effect on the financial condition or operations of the
Banks.
ITEM 4. Submission of Matters to a Vote of the Security Holders
During the fourth quarter of the fiscal year covered by this report, the Company
did not submit any matters to the vote of security holders through the
solicitation of proxies or otherwise.
35
PART II
ITEM 5. Market for Registrant's Common Equity and Related Stockholder Matters.
The section of Annual Report to the Stockholders for the fiscal year ended
December 31, 2001, entitled "Common Stock and Related Matters" is hereby
incorporated by reference. No other sections of such Annual Report are
incorporated herein by this reference.
ITEM 6. Selected Financial Data.
The section of the Annual Report to the Stockholders for the fiscal year ended
December 31, 2001, entitled "Selected Consolidated Financial Information" is
hereby incorporated by reference. No other sections of such Annual Report are
incorporated herein by this reference.
ITEM 7. Management's Discussion and Analysis of Financial Condition and Results
of Operations.
The section of the Annual Report to the Stockholders for the fiscal year ended
December 31, 2001, entitled "Management's Discussion and Analysis of Financial
Condition and Results of Operations" is hereby incorporated by reference. No
other sections of such Annual Report are incorporated herein by this reference.
ITEM 7A. Quantitative and Qualitative Disclosures About Market Risks.
The Company's principal financial objective is to achieve long-term
profitability while reducing its exposure to fluctuating market interest rates.
The Company has sought to reduce the exposure of its earnings to changes in
market interest rates by attempting to manage the mismatch between asset and
liability maturities and interest rates. The principal element in achieving this
objective is to increase the interest-rate sensitivity of the Company's
interest-earning assets by originating adjustable rate residential mortgage
loans and shorter term consumer loans and maintaining a consistent level of
short- and intermediate-term investment securities and interest-bearing
deposits.
The Company does not maintain a trading account for any class of financial
instrument nor does it engage in hedging activities or purchase high-risk
derivative instruments. Furthermore, the Company is not subject to foreign
currency exchange rate risk or commodity price risk.
Interest rate risk is the risk of loss in value due to changes in interest
rates. Management monitors and considers methods of managing interest rate risk
by monitoring changes in net portfolio value ("NPV") and its interest rate GAP
position (See "Interest Rate Risk Management" for the interest rate gap
analysis). The Company attempts to manage the various components of its balance
sheet to minimize the impact of sudden and sustained changes in interest rates
on net interest income.
In order to reduce the exposure to interest rate risk, the Company has developed
strategies to manage its liquidity, shorten the effective maturities of certain
interest-earning assets, and increase the effective maturities of certain
interest-bearing liabilities. The Company has focused on: (i) residential
lending of ARMs, which generally reprice within one to three years; (ii)
non-residential lending of adjustable or floating rate and/or short- term loans;
(iii) investment activities of short- and medium-term securities; (iv)
36
maintaining and increasing its passbook and transaction deposit accounts, which
are considered to be relatively resistant to changes in interest rates; and (v)
utilizing long-term borrowings to adjust the term to repricing of its
liabilities.
The Company uses an independent consulting firm to perform interest rate
sensitivity analysis for all product categories. The Company's primary focus of
its analysis is on the effect of interest rate increases and decreases on net
interest income. Management believes that this analysis reflects the potential
effects on current earnings on interest rate changes. Call criteria and
prepayment assumptions are taken into consideration for fixed term assets. The
following table shows projected results at December 31, 2001 and December 31,
2000 of the impact on net interest income from an immediate change in interest
rates. The results are shown as a percentage change in net interest income over
the next twelve months.
+200 +100 -100 -200
December 31, 2001 11.02% 5.56% (5.94%) (9.29%)
December 31, 2000 (8.00%) (3.40%) (1.10%) (3.90%)
As with any method of measuring interest rate risk, certain shortcomings are
inherent in the method of analysis presented in the foregoing table. For
example, although certain assets and liabilities may have similar maturities or
periods to repricing, they may react in different degrees to changes in market
interest rates. Also, the interest rates on certain types of assets and
liabilities may fluctuate in advance of changes in market interest rates, while
other types may lag behind changes in market rates. Additionally, certain
assets, such as substantially all of the Company's ARM loans, have features that
restrict changes in interest rates on a short-term basis and over the life of
the asset. Further, in the event of a change in interest rates, expected rates
of prepayments on loans and early withdrawals from certificates could likely
deviate significantly from those assumed in calculating the table. Therefore,
the data presented in the foregoing table should not be relied upon as
indicative of actual results.
ITEM 8. Financial Statements and Supplementary Data.
The sections of the Annual Report to the Stockholders for the fiscal year ended
December 31, 2001, entitled "Chester Bancorp, Inc. and Subsidiaries Consolidated
Balance Sheets," "Chester Bancorp, Inc. and Subsidiaries Consolidated Statements
of Income," "Chester Bancorp, Inc. and Subsidiaries Consolidated Statements of
Stockholders' Equity," "Chester Bancorp, Inc. and Subsidiaries Consolidated
Statements of Cash Flows," "Chester Bancorp, Inc. and Subsidiaries Notes to
Consolidated Financial Statements" are hereby incorporated by reference. No
other sections of such Annual Report are incorporated herein by this reference.
ITEM 9. Changes in and Disagreements with Accountants on Accounting and
Financial Disclosure.
The section of the 2002 Proxy Statement, entitled "Auditors", is hereby
incorporated by reference. No other sections of such Proxy Statement are
incorporated herein by this reference.
37
PART III
ITEM 10. Directors and Executive Officers of the Registrant.
The sections of the 2002 Proxy Statement, entitled "Proposal I - Election of
Directors," and "Compliance with Section 16(a) of the Exchange Act," as well as
the "Employment Agreements" portion of the section entitled "Executive
Compensation," are hereby incorporated by reference. No other sections of such
Proxy Statement are incorporated herein by this reference.
ITEM 11. Executive Compensation.
The section of the 2002 Proxy Statement, entitled "Executive Compensation," is
hereby incorporated by reference. No other sections of such Proxy Statement are
incorporated herein by this reference.
ITEM 12. Security Ownership of Certain Beneficial Owners and Management.
The section of the 2002 Proxy Statement, entitled "Security Ownership of Certain
Beneficial Owners and Management," is hereby incorporated by reference. No other
sections of such Proxy Statement are incorporated herein by this reference.
ITEM 13. Certain Relationships and Related Transactions.
The section of the 2002 Proxy Statement, entitled "Transactions with
Management," is hereby incorporated by reference. No other sections of such
Proxy Statement are incorporated herein by this reference.
PART IV
Item 14. Exhibits, Financial Statement Schedules, and Reports on Form 8-K.
(a)(1) Financial Statements
The following information appearing in the Company's Annual Report to
Stockholders for the Fiscal Year Ended December 31, 2001 is incorporated by
reference as Exhibit 13 to this Annual Report on Form 10-K. No other sections of
such Annual Report are incorporated herein by this reference.
Annual Report Sections:
Independent Auditors' Report:
Chester Bancorp, Inc. and Subsidiaries Consolidated Balance Sheets as of the
Years Ended December 31, 2001 and 2000.
Chester Bancorp, Inc. and Subsidiaries Consolidated Statements of Income for the
Years Ended December 31, 2001, 2000, and 1999.
Chester Bancorp, Inc. and Subsidiaries Consolidated Statements of Comprehensive
Income for the Years Ended December 31, 2001, 2000, 1999.
38
Chester Bancorp, Inc. and Subsidiaries Consolidated Statements of Stockholders'
Equity for the Years Ended December 31, 2001, 2000, and 1999.
Chester Bancorp, Inc. and Subsidiaries Consolidated Statements of Cash Flows for
the Years Ended December 31, 2001, 2000, and 1999.
Chester Bancorp, Inc. and Subsidiaries Notes to Consolidated Financial
Statements December 31, 2001 and 2000.
(a)(2) Financial Statement Schedules. Not applicable.
(a)(3) Exhibits
Reference to
Prior Filing or
Regulation S-K Exhibit Number
Exhibit Number Document Attached Hereto
- -------------- -------- ---------------
3.1 Certificate of Incorporation of Chester Bancorp, Inc. (1)
3.2 Bylaws of Chester Bancorp. (1)
10.1 Employment Agreement with Michael W. Welge* 10.1
10.2 Employment Agreement with Edward K. Collins* 10.2
10.3 1997 Stock Option Plan* (1)
10.4 Management Recognition and Development Plan* (1)
10.5 Employee Stock Ownership Plan and Trust Agreement* (1)
10.6 2000 Stock Option Plan* (2)
13 Annual Report to Stockholders for Fiscal Year Ended
December 31, 2001. 13
21 Subsidiaries of Chester Bancorp, Inc. (1)
23.1 Consent from McGladrey & Pullen, LLP 23.1
Consent from KPMG, LLP
99 Proxy Statement for the 2002 Annual meeting of the
Stockholders of Chester Bancorp, Inc. 99
(1) Documents incorporated by reference to the Company's Registration Statement
on Form S-1 filed with the SEC on August 12, 1996, (No. 333-2470) at the
corresponding exhibit. All such previously filed documents are hereby
incorporated by reference in accordance with Item 601 of Regulation S-K.
(2) Documents incorporated by reference to the Company's Registration Statement
on Form S-8 filed with the SEC on September 1, 2000 (No. 333-445134).
* These agreements are management contracts or compensation plans or
arrangements required to be filed as exhibits to this Form 10-K.
39
(b) Reports on Form 8-K.
No reports on Form 8-K have been filed during the last quarter of the
period covered by this report.
40
SIGNATURES
Pursuant to the requirements of Section 13 or 15(d) of the Securities
Exchange Act of 1934, the registrant has duly caused this report to be signed on
its behalf by the undersigned, thereunto duly authorized.
Chester Bancorp, Inc.
March 22, 2002 By /s/ Michael W. Welge
-----------------------------------------
Michael W. Welge,
Chairman of the Board, President,
Chief Financial Officer, and Director
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed below by the following persons on behalf of the
registrant and in the capacities and on the dates indicated.
March 22, 2002 By /s/ Edward K. Collins
-----------------------------------------
Edward K. Collins,
Treasurer, Secretary, and Director
March 22, 2002 By /s/ Allen R. Verseman
-----------------------------------------
Allen R. Verseman,
Director
March 22, 2002 By /s/ Carl H. Welge
-----------------------------------------
Carl H. Welge,
Director
March 22, 2002 By /s/ Thomas E. Welch
-----------------------------------------
Thomas E. Welch, Jr.
Director
March 22, 2002 By /s/ John R. Beck
-----------------------------------------
John R. Beck, M.D.
Director
March 22, 2002 By /s/ James C. McDonald
-----------------------------------------
James C. McDonald,
Director
41