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FORM 10-Q

SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549

Mark One

     
x   QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934
     
    For the quarter ended September 30, 2002

OR

     
o   TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE
SECURITIES EXCHANGE ACT OF 1934

Commission File No.:    0-22353

FLAGSTAR BANCORP, INC.

(Exact name of registrant as specified in its charter)
     
Michigan   38-3150651
 
(State or other jurisdiction of
incorporation or organization)		   (I.R.S. Employer
Identification No.)
     
5151 Corporate Drive, Troy, Michigan   48098
 
(Address of principal executive offices)   (Zip Code)
     
Registrant’s telephone number, including area code: (248) 312-2000  
 
 

     Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past ninety days. Yes x No o .

     As of November 11, 2002, 29,371,431 shares of the registrant’s Common Stock, $0.01 par value, were issued and outstanding.

 

TABLE OF CONTENTS

Consolidated Statements of Financial Condition — September 30, 2002 (unaudited) and December 31, 2001.
Unaudited Consolidated Statements of Earnings — For the three and nine months ended September 30, 2002 and 2001.
Unaudited Consolidated Statements of Changes in Stockholder’s Equity — For the year ended December 31, 2001 and the nine months ended September 30, 2002.
Unaudited Consolidated Statements of Cash Flows — For the nine months ended September 30, 2002 and 2001.
Condensed Notes to Consolidated Financial Statements.
Computation of Net Earnings Per Share
Certification of CEO Pursuant to Section 906
Certification of CFO Pursuant to Section 906

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PART I. FINANCIAL INFORMATION

Item 1. Financial Statements

The condensed consolidated financial statements of the Registrant are as follows:

    Consolidated Statements of Financial Condition — September 30, 2002 (unaudited) and December 31, 2001.
 
    Unaudited Consolidated Statements of Earnings — For the three and nine months ended September 30, 2002 and 2001.
 
    Unaudited Consolidated Statements of Changes in Stockholder’s Equity — For the year ended December 31, 2001 and the nine months ended September 30, 2002.
 
    Unaudited Consolidated Statements of Cash Flows — For the nine months ended September 30, 2002 and 2001.
 
    Condensed Notes to Consolidated Financial Statements.

When used in this Form 10-Q or future filings by the Company with the Securities and Exchange Commission, in the Company’s press releases or other public or stockholder communications, or in oral statements made with the approval of an authorized executive officer, the words or phrases “would be”, “will allow”, “intends to”, “will likely result”, “are expected to”, “will continue”, “is anticipated”, “estimate”, “project”, or similar expressions are intended to identify “forward looking statement” within the meaning of the Private Securities Litigation Reform Act of 1995.

The Company wishes to caution readers not to place undue reliance on any such forward-looking statements, which speak only as of the date made, and to advise readers that various factors, including regional and national economic conditions, substantial changes in levels of market interest rates, credit and other risks of lending and investment activities and competitive and regulatory factors, could affect the Company’s financial performance and could cause the Company’s actual results for future periods to differ materially from those anticipated or projected.

The Company does not undertake, and specifically disclaims any obligation, to update any forward-looking statements to reflect occurrences or unanticipated events or circumstances after the date of such statements.

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Flagstar Bancorp, Inc.

Consolidated Statements of Financial Condition
(in thousands)
                         
            At September 30,     At December 31,  
Assets   2002     2001  
 
   
 
            (unaudited)          
Cash and cash equivalents
   $ 403,378     $ 110,447  
Mortgage loans available for sale
     3,061,501       2,746,791  
 
Loans held for investment
     3,489,370       3,170,499  
 
Less: allowance for losses
     (46,000 )     (42,000 )
 
  
   
 
Loans held for investment, net
     3,443,370       3,128,499  
Federal Home Loan Bank stock
     150,000       128,400  
Other investments
     9,859       7,949  
 
  
   
 
Total earning assets
     6,664,730       6,011,639  
Accrued interest receivable
     44,730       40,008  
Repossessed assets
     46,831       38,868  
Premises and equipment
     144,161       139,529  
Mortgage servicing rights
     156,015       168,469  
Other assets
     198,816       114,864  
 
  
   
 
       
Total assets
   $ 7,658,661     $ 6,623,824  
 
  
   
 
Liabilities and Stockholders’ Equity
                
Liabilities
                
Deposit accounts
   $ 4,152,497     $ 3,608,103  
Federal Home Loan Bank advances
     2,120,000       1,970,505  
Long term debt
     74,750       74,750  
 
  
   
 
Total interest bearing liabilities
     6,347,247       5,653,358  
Accrued interest payable
     17,465       18,081  
Undisbursed payments on Loans serviced for others
     393,501       230,585  
Escrow accounts
     182,044       105,716  
Liability for checks issued
     145,592       147,287  
Federal income taxes payable
     77,136       77,584  
Other liabilities
     105,567       99,725  
 
  
   
 
     
Total liabilities
     7,268,552       6,332,336  
Stockholders’ Equity
                
Common stock — $.01 par value, 40,000,000 shares authorized; 31,890,150 and 31,360,783 Shares issued; and 29,239,234 and 28,709,867 outstanding at September 30, 2002 and December 31, 2001, respectively
     295       287  
Additional paid in capital
     27,943       21,953  
Retained earnings
     361,871       269,248  
 
  
   
 
     
Total stockholders’ equity
     390,109       291,488  
 
  
   
 
   
Total liabilities and stockholders’ equity
   $ 7,658,661     $ 6,623,824  
 
  
   
 

The accompanying notes are an integral part of these statements.

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Flagstar Bancorp, Inc.
Unaudited Consolidated Statements of Earnings
(in thousands, except per share data)

                                   
      For the quarter ended     For the nine months ended  
      September 30,     September 30,  
     
   
 
      2002     2001     2002     2001  
     
   
   
   
 
Interest Income
                                
Loans
   $ 110,332     $ 105,937     $ 329,292     $ 317,214  
Other
     2,843       2,296       7,858       11,658  
 
  
   
   
   
 
 
Total
     113,175       108,233       337,150       328,872  
Interest Expense
                                
Deposits
     32,664       43,764       95,821       149,321  
FHLB advances
     28,922       30,500       85,386       88,261  
Other
     5,464       4,857       14,130       12,776  
 
  
   
   
   
 
 
Total
     67,050       79,121       195,337       250,358  
 
  
   
   
   
 
Net interest income
     46,125       29,112       141,813       78,514  
Provision for losses
     6,868       3,086       18,631       15,077  
 
  
   
   
   
 
Net interest income after provision for losses
     39,257       26,026       123,182       63,437  
Non-Interest Income
                                
Loan administration
     (793 )     (4,244 )     5,496       (9,439 )
Net gain on loan sales
     42,791       48,506       118,732       125,512  
Net gain on sales of mortgage servicing rights
     2,935       737       13,764       1,907  
Other fees and charges
     7,261       7,800       19,559       19,162  
 
  
   
   
   
 
 
Total
     52,195       52,799       157,551       137,142  
Non-Interest Expense
                                
Compensation and benefits
     26,463       18,200       80,025       56,137  
Occupancy and equipment
     13,083       10,944       38,467       29,436  
General and administrative
     10,759       11,411       41,305       30,793  
 
  
   
   
   
 
 
Total
     50,305       40,555       159,346       116,366  
 
  
   
   
   
 
Earnings before federal income taxes
     41,147       38,270       121,387       84,213  
Provision for federal income taxes
     14,527       13,703       42,826       30,254  
Earnings before the cumulative effect of a change in accounting principle
     26,620       24,567       78,561       53,959  
 
  
   
   
   
 
Cumulative effect of a change in accounting principle
     18,716       —       18,716       —  
 
  
   
   
   
 
Net Earnings
   $ 35,336     $ 24,567     $ 97,277     $ 53,959  
 
  
   
   
   
 
Earnings per share before the cumulative effect of a change in accounting principle - basic
   $ 0.91     $ 0.89     $ 2.70     $ 1.98  
Earnings per share before the cumulative effect of a change in accounting principle - diluted
   $ 0.86     $ 0.82     $ 2.54     $ 1.83  
Earnings per share from the cumulative effect of a change in accounting principle — basic
   $ 0.64       —     $ 0.64       -  
Earnings per share from the cumulative effect of a change in accounting principle — diluted
   $ 0.61       —     $ 0.61       -  
 
  
   
   
   
 
Net earnings per share — basic
   $ 1.55     $ 0.89     $ 3.34     $ 1.98  
Net earnings per share — diluted
   $ 1.47     $ 0.82     $ 3.15     $ 1.83  
 
  
   
   
   
 

The accompanying notes are an integral part of these statements.

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Flagstar Bancorp, Inc.
Consolidated Statements of Stockholders’ Equity
(in thousands, except per share data)

                                 
            Additional             Total  
    Common     Paid in     Retained     Stockholders'  
    Stock     Capital     Earnings     Equity  
   
   
   
   
 
Balance at December 31, 2000
   $ 269     $ 5,224     $ 191,337     $ 196,830  
Net earnings
     —       —       82,940       82,940  
Stock options exercised
     18       11,269       —       11,287  
Tax benefit from stock options exercised
     —       5,460       —       5,460  
Dividends paid ($0.18 per share)
     —       —       (5,029 )     (5,029 )
 
  
   
   
   
 
Balance at December 31, 2001
     287       21,953       269,248       291,488  
Net earnings
     —       —       97,277       97,277  
Stock options exercised
     8       4,762       —       4,762  
Tax benefit from stock options exercised
     —       1,228       —       1,228  
Dividends paid ($0.16 per share)
     —       —       (4,654 )     (4,654 )
 
  
   
   
   
 
Balance at September 30, 2002
   $ 295     $ 29,943     $ 361,871     $ 390,109  
 
  
   
   
   
 

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Flagstar Bancorp, Inc.

Unaudited Consolidated Statements of Cash Flows
(in thousands)
                       
          For the nine months ended  
          September 30,  
         
 
          2002     2001  
         
   
 
Operating Activities
                
 
Net earnings
   $ 97,277     $ 53,959  
 
Adjustments to reconcile net earnings to net cash used in operating activities Provision for losses
     18,631       15,077  
   
Depreciation and amortization
     53,001       44,247  
   
Net gain on the sale of assets
     (2,338 )     (885 )
   
Net gain on loan sales
     (118,732 )     (125,512 )
   
Net gain on sales of mortgage servicing rights
     (13,145 )     (1,907 )
   
Proceeds from sales of loans available for sale
     26,459,594       21,030,582  
   
Originations and repurchases of loans available for sale, net of principal repayments
     (27,824,173 )     (21,874,789 )
   
Increase in accrued interest receivable
     (4,722 )     (2,942 )
   
Increase in other assets
     (83,954 )     (23,981 )
   
Decrease in accrued interest payable
     (617 )     (20,792 )
   
(Decrease) increase in the liability for checks issued
     (1,695 )     141,838  
   
(Increase) decrease in current federal income taxes payable
     (26,425 )     11,453  
   
Provision (benefit) of deferred federal income taxes payable
     25,977       (9,957 )
   
Increase in other liabilities
     5,843       21,913  
 
 
  
   
 
     
Net cash used in operating activities
     (1,415,478 )     (741,695 )
Investing Activities
                
   
Purchase of other investments
     (1,910 )     (2,606 )
   
Origination of loans held for investment, net of principal repayments
     802,166       726,723  
   
Purchase of Federal Home Loan Bank Stock
     (21,600 )     (26,200 )
   
Proceeds from the disposition of repossessed assets
     27,319       17,871  
   
Acquisitions of premises and equipment
     (23,175 )     (40,174 )
   
Proceeds from the disposition of premises and equipment
     (167 )     344  
   
Increase in mortgage servicing rights
     (311,380 )     (347,848 )
   
Proceeds from the sale of mortgage servicing rights
     302,680       298,058  
 
 
  
   
 
     
Net cash provided by investing activities
     773,933       626,168  
Financing Activities
                
   
Net increase (decrease) in deposit accounts
     544,394       (213,676 )
   
Net increase in Federal Home Loan Bank advances
     149,495       272,655  
   
Net receipt of payments of loans serviced for others
     162,915       21,466  
   
Net receipt of escrow payments
     76,328       56,153  
   
Proceeds from the exercise of common stock options
     4,770       9,809  
   
Tax benefit from the exercise of non-qualified common stock options
     1,228       2,799  
   
Dividends paid to stockholders
     (4,654 )     (3,695 )
 
 
  
   
 
     
Net cash provided by financing activities
     934,476       145,511  
 
 
  
   
 
Net increase in cash and cash equivalents
     292,931       29,984  
Beginning cash and cash equivalents
     110,447       76,679  
 
 
  
   
 
Ending cash and cash equivalents
   $ 403,378     $ 106,663  
 
  
   
 
Supplemental disclosure of cash flow information:
                
   
Loans receivable transferred to repossessed assets
   $ 47,657     $ 29,487  
 
 
  
   
 
   
Total interest payments made on deposits and other borrowings
   $ 195,953     $ 226,339  
 
 
  
   
 
   
Federal income taxes paid
   $ 52,000     $ 27,000  
 
  
   
 
   
Loans held for sale transferred to loans held for investment
   $ 1,168,602     $ 229,566  
 
  
   
 

The accompanying notes are an integral part of these financial statements.

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Flagstar Bancorp, Inc.
Notes to Consolidated Financial Statements

Note 1 — Nature of Business

Flagstar Bancorp, Inc. (“Flagstar” or the “Company”), is the holding company for Flagstar Bank, FSB (the “Bank”), a federally chartered stock savings bank founded in 1987. With $7.7 billion in assets at September 30, 2002, Flagstar is the largest savings institution and 3rd largest banking institution headquartered in Michigan.

Flagstar is a consumer-oriented financial services organization. The Company’s principal business is obtaining funds in the form of deposits and borrowings and investing those funds in various types of loans. The acquisition or origination of single family mortgage loans is the Company’s primary lending activity. The Company also originates for investment consumer loans, commercial real estate loans, and non-real estate commercial loans.

The mortgage loans are securitized and sold in order to generate mortgage servicing rights. The Company also invests in a significant amount of its mortgage loan production in order to maximize the Company’s leverage ability and to receive the interest spread between earning assets and paying liabilities. The Company also acquires funds on a wholesale basis from a variety of sources and services a significant volume of loans for others.

The Bank is a member of the Federal Home Loan Bank System (“FHLB”) and is subject to regulation, examination and supervision by the Office of Thrift Supervision (“OTS”) and the Federal Deposit Insurance Corporation (“FDIC”). The Bank’s deposits are insured by the FDIC through the Savings Association Insurance Fund (“SAIF”).

Note 2. Basis of Presentation

The accompanying consolidated unaudited financial statements of Flagstar Bancorp, Inc. (the “Company”), have been prepared in accordance with generally accepted accounting principles for interim information and in accordance with the instructions to Form 10-Q and Article 10 of Regulation S-X as promulgated by the Securities and Exchange Commission. Accordingly, they do not include all the information and footnotes required by generally accepted accounting principles for complete financial statements. In the opinion of management, all adjustments (consisting of normal recurring accruals) considered necessary for a fair presentation have been included. All interim amounts are subject to year-end audit, the results of operations for the interim period herein are not necessarily indicative of the results that may be expected for the year ending December 31, 2002.

Note 3. Significant Events

1.   On May 3, 2002, the Company announced a 3 for 2 split of its common stock. The split was completed on May 31, 2002. All share information on the financial statements of the Company have been adjusted accordingly.
 
2.   The Company recorded a one-time after-tax adjustment of $18.7 million, or $0.61 per share — diluted, as its cumulative effect to implement the Financial Accounting Standards Board’s (FASB) Statement 133 Implementation Issue No.C13 (Issue C13). The Company adopted FASB 133 in January 2001. Issue C13 clarifies and provides further guidance to reporting entities that have issued interest rate lock commitments on loans that will be originated and later resold. Issue C13 was cleared for adoption on March 13, 2002 and implementation was required for all reporting entities issuing financial statements for periods where the first day of the fiscal quarter began after April 10, 2002. Since the prior reporting of these rate lock commitments was different than what is expressed in Issue C13, then the change is reported as a change in accounting principle.

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Item 2. Management’s Discussion and Analysis of Financial Condition and Results of Operations

Selected Financial Ratios ( in thousands, except per share data )

                                 
    For the quarter ended     For the nine months ended  
   
   
 
    September     September     September     September  
    30, 2002     30, 2001     30, 2002     30, 2001  
   
   
   
   
 
Return on average assets
     1.43 %     1.56 %     1.50 %     1.15 %
Return on average equity
     30.04 %     40.35 %     31.77 %     32.16 %
Efficiency ratio
     51.16 %     49.51 %     53.23 %     53.96 %
Equity/assets ratio (average for the period)
     4.77 %     3.88 %     4.72 %     3.59 %
Mortgage loans originated or purchased
   $ 10,894,362     $ 8,332,481     $ 27,615,035     $ 21,962,863  
Mortgage loans sold
   $ 10,224,954     $ 7,690,877     $ 25,987,918     $ 20,718,608  
Interest rate spread
     2.66 %     1.90 %     2.79 %     1.68 %
Net interest margin
     2.75 %     2.00 %     2.99 %     1.81 %
Average common shares outstanding (2)
     29,286       27,872       29,098       27,433  
Average fully diluted shares outstanding (2)
     30,965       30,000       30,898       29,565  
Charge-offs to investment loans outstanding
     0.79 %     0.37 %     0.60 %     0.41 %
                                 
    For the quarter ended     For the nine months ended  
   
   
 
    September     June     December     September  
    30, 2002     30, 2002     31, 2001     30, 2001  
   
   
   
   
 
Equity-to-assets ratio
     5.09 %     5.06 %     4.40 %     4.25 %
Tangible capital ratio (1)
     6.51 %     6.73 %     6.13 %     5.93 %
Core capital ratio (1)
     6.51 %     6.73 %     6.13 %     5.93 %
Risk-based capital ratio (1)
     11.01 %     11.39 %     10.37 %     10.19 %
Total risk-based capital ratio (1)
     12.02 %     12.54 %     11.44 %     11.03 %
Book value per share (2)
   $ 13.28     $ 11.76     $ 10.15     $ 9.20  
Number of common shares outstanding (2)
     29,365       29,239       28,710       28,224  
Mortgage loans serviced for others
   $ 14,394,125     $ 19,390,304     $ 14,222,802     $ 9,784,848  
Value of mortgage servicing rights
     1.08 %     0.99 %     1.18 %     1.32 %
Allowance for losses to non performing loans
     56.2 %     56.6 %     47.9 %     38.2 %
Allowance for losses to investment loans
     1.32 %     1.38 %     1.32 %     0.91 %
Allowance for losses to total loans
     0.70 %     0.76 %     0.71 %     0.55 %
Non performing loans to investment loans
     2.35 %     2.44 %     2.77 %     2.38 %
Non performing assets to total assets
     1.68 %     1.86 %     1.48 %     1.83 %
Number of bank branches
     83       76       71       68  
Number of loan origination centers
     91       83       69       59  
Number of correspondent offices
     14       15       15       15  
Number of employees
     3,342       3,059       3,047       2,641  

(1)   Based on adjusted total assets for purposes of tangible capital and core capital, and risk-weighted assets for purposes of the risk-based capital and the total risk-based capital. These ratios are applicable to Flagstar Bank only.
 
(2)   All share data has been adjusted to reflect the 3 for 2 stock dividend declared on May 3, 2002 and issued on May 31, 2002.

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Results of Operations

Net Earnings

During both the three and nine month period ended September 30, 2002, the Company reported record net earnings from recurring operations. The lower and falling interest rates experienced in 2002 have positively affected the Company’s mortgage banking operation. Along with the record revenues recorded by the mortgage banking operation, the expanding retail banking operation has benefited from the widening yield curve and the downward repricing of higher cost deposits.

Also during the period, the Company recorded a one-time after-tax adjustment of $18.7 million, or $0.61 per share — diluted, as its cumulative effect to implement the Financial Accounting Standards Board’s (FASB) Statement 133 Implementation Issue No.C13 (Issue C13). The Company adopted FASB 133 in January 2001. Issue C13 clarifies and provides further guidance to reporting entities that have issued interest rate lock commitments on loans that will be originated and later resold. Issue C13 was cleared for adoption on March 13, 2002 and implementation was required for all reporting entities issuing financial statements for periods where the first day of the fiscal quarter began after April 10, 2002. Since the prior reporting of these rate lock commitments was different than what is expressed in Issue C13, then the change is reported as a change in accounting principle.

Management does not believe that this one-time cumulative adjustment is part of ongoing earnings and as such has not portrayed it as recurring earnings in the current quarter.

     Three months
 Net earnings from recurring operations for the three months ended September 30, 2002 were $26.6 million ($0.86 per share-diluted), a $2.0 million increase from the $24.6 million ($0.82 per share-diluted) reported in 2001. The increase resulted from a $17.0 million increase in net interest income, which was offset by a $0.6 million decrease in other income, a $0.8 million increase in the provision for federal income taxes, a $3.8 million increase in the provision for losses, and a $9.7 million increase in operating expenses.

     Nine months
 Net earnings from recurring operations for the nine months ended September 30, 2002 were $78.6 million ($2.54 per share-diluted), a $24.6 million increase from the $54.0 million ($1.83 per share-diluted) reported in 2001. The increase resulted from a $63.3 million increase in net interest income and a $20.5 million increase in other income, which was offset by a $12.5 million increase in the provision for federal income taxes, a $3.5 million increase in the provision for losses, and a $42.9 million increase in net operating expenses.

Net Interest Income

     Three months
 Net interest income continues to rise and in this quarter increased $17.0 million, or 58.4%, to $46.1 million for the three months ended September 30, 2002. This level of interest income compares positively to the $29.1 million recorded for the 2001 period. This large percentage increase in net interest income was created by a $5.0 million increase in interest income and a $12.0 decrease in interest expense.

For the first nine months of this year, the Company’s paying liabilities have matured and or repriced at a faster pace than the Company’s earning assets. In this three month period that the Company increased the average earning asset base by over $871.2 million, the Company registered a significant increase in net interest income because of this expanding interest margin. The liabilities used for the asset acquisitions and the liabilities that were used to replace the maturing liabilities were acquired at a substantially discounted rate compared to the liabilities used in the 2001 period.

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These pricing adjustments are best shown by the increased spread reported during the current period when compared to the third quarter of 2001. Earning assets as a whole repriced down 68 basis points while the liabilities repriced down 144 basis points on a like period comparison. These decreases were reflected in the increase in the Company’s net interest margin of 75 basis points to 2.75% for the three months ended September 30, 2002 from 2.00% for the comparable 2001 period.

On a sequential quarter basis, the Company reported an 11 basis point decrease in the interest rate spread and 30 basis point decrease in the interest margin. These changes were the result of the large amount of asset refinancings experienced during the third quarter of 2002. The Company reported a $405,000, or 0.9% decrease in net interest income during the third quarter versus the second quarter of 2002 despite a $472.0 million increase in earning assets. Earning assets repriced down 25 basis points while paying liabilities repriced down only 14 basis points.

     Nine months
 Net interest income for the nine months ended September 30, 2002 had an increase of $63.3 million, or 80.6%, to $141.8 million. This level of interest income compares to $78.5 million recorded during the 2001 period. This increase was due to a $565.8 million increase in average interest-earning assets between the comparable periods, offset by the $432.7 million increase in interest-bearing liabilities necessary to fund the growth and an increased spread achieved during the nine month comparable periods. The spread increased 111 basis points and the interest margin increased 118 basis points from the comparable 2001 period. The majority of this increase was found in the deposit portfolio that grew $322.6 million and posted a decrease in cost of 241 basis points.

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AVERAGE YIELDS EARNED AND RATES PAID

Table 1 and Table 2 presents interest income from average earning assets, expressed in dollars and yields, and interest expense on average interest-bearing liabilities, expressed in dollars and rates. Interest income from earning assets includes the amortization of net premiums and the amortization of net deferred loan origination costs. Nonaccruing loans were included in the average loan amounts outstanding.

TABLE 1

                                                   
      Quarter ended September 30,  
     
 
      2002     2001  
     
   
 
      Average             Yield/     Average             Yield/  
      Balance     Interest     Rate     Balance     Interest     Rate  
     
   
   
   
   
   
 
                      ( in thousands )                  
Interest-earning assets:
                                                
Loans receivable, net
   $ 6,382,320     $ 110,332       6.91 %   $ 5,656,520     $ 105,937       7.49 %
FHLB stock
     141,533       2,212       6.20       122,667       2,237       7.24  
Other
     128,352       631       1.97       1,856       59       3.02  
 
  
   
           
   
         
Total interest-earning assets
     6,652,205     $ 113,175       6.81 %     5,781,043     $ 108,233       7.49 %
Other assets
     771,391                       498,779                  
 
  
                   
                 
Total assets
   $ 7,423,596                     $ 6,279,822                  
 
  
                   
                 
Interest-bearing liabilities:
                                                
Deposits
   $ 3,900,003     $ 32,664       3.33 %   $ 3,224,855     $ 43,764       5.38 %
FHLB advances
     2,237,973       28,922       5.13       2,164,280       30,500       5.61  
Other
     273,211       5,464       7.93       238,525       4,857       8.10  
 
  
   
           
   
         
Total interest-bearing liabilities
     6,411,187     $ 67,050       4.15 %     5,627,660     $ 79,121       5.59 %
Other liabilities
     658,006                       408,616                  
 
Stockholders equity
     354,403                       243,546                  
 
  
                   
                 
Total liabilities and stockholders equity
   $ 7,423,596                     $ 6,279,822                  
 
  
                   
                 
Net interest-earning assets
   $ 241,018                     $ 153,383                  
 
  
   
           
   
         
Net interest income
           $ 46,125                     $ 29,112          
 
          
                   
         
 
                  
                   
 
Interest rate spread
                     2.66 %                     1.90 %
 
                  
                   
 
Net interest margin
                     2.75 %                     2.00 %
 
                  
                   
 
Ratio of average interest- earning assets to interest-bearing liabilities
                     104 %                     103 %
 
                  
                   
 

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TABLE 2
AVERAGE YIELDS EARNED AND RATES PAID

                                                   
                                               
                                               
      Nine months ended September 30,  
     
 
      2002     2001  
     
   
 
      Average             Yield/     Average             Yield/  
      Balance     Interest     Rate     Balance     Interest     Rate  
     
   
   
   
   
   
 
                      ( in thousands )                  
Interest-earning assets:
                                                
Loans receivable, net
   $ 6,086,977     $ 329,292       7.21 %   $ 5,539,118     $ 317,214       7.64 %
FHLB stock
     133,841       6,142       6.14       114,265       6,436       8.00  
Other
     129,058       1,715       1.77       130,735       5,222       5.25  
 
  
   
           
   
         
Total interest-earning assets
     6,349,876     $ 337,149       7.08 %     5,784,118     $ 328,872       7.58 %
Other assets
     631,653                       452,870                  
 
  
                   
 
Total assets
   $ 6,981,529                     $ 6,236,988                  
 
  
                   
                 
Interest-bearing liabilities:
                                                
Deposits
   $ 3,746,796     $ 95,822       3.42 %   $ 3,424,198     $ 149,321       5.83 %
FHLB advances
     2,116,836       85,386       5.39       2,037,214       88,261       5.79  
Other
     234,726       14,128       8.05       204,335       12,776       8.35  
 
  
   
           
   
         
Total interest-bearing liabilities
     6,098,358     $ 195,336       4.29 %     5,665,747     $ 250,358       5.90 %
Other liabilities
     553,503                       347,552                  
 
Stockholders equity
     329,668                       223,689                  
 
  
                   
                 
Total liabilities and Stockholders equity
   $ 6,981,529                     $ 6,236,988                  
 
  
                   
                 
Net interest-earning assets
   $ 251,518                     $ 118,372                  
 
  
                   
                 
 
          
                   
         
Net interest income
           $ 141,813                     $ 78,514          
 
          
                   
         
 
                  
                   
 
Interest rate spread
                     2.79 %                     1.68 %
 
                  
                   
 
Net interest margin
                     2.99 %                     1.81 %
 
                  
                   
 
Ratio of average interest-earning assets to interest-bearing liabilities
                     104 %                     102 %
 
                  
                   
 

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RATE/VOLUME ANALYSIS

Table 3 and Table 4 present the dollar amount of changes in interest income and interest expense for the components of earning assets and interest-bearing liabilities which are presented in Tables 1 and 2. Table 3 and 4 distinguishes between the changes related to average outstanding balances (changes in volume while holding the initial rate constant) and the changes related to average interest rates (changes in average rates while holding the ending volume constant).

TABLE 3

                         
    Quarter ended September 30,  
   
 
            2002 versus 2001          
    Increase (Decrease) due to:  
    Rate     Volume     Total  
   
   
   
 
            (in thousands)          
Interest Income:
                        
Loans receivable, net
   $ (9,254 )   $ 13,649     $ 4,395  
FHLB stock
     (368 )     343       (25 )
Other
     (337 )     909       572  
 
  
   
   
 
Total
   $ (9,959 )   $ 14,901     $ 4,942  
Interest Expense:
                        
Deposits
   $ (20,182 )   $ 9,082     $ (11,100 )
FHLB advances
     (2,685 )     1,107       (1,578 )
Other
     (116 )     723       607  
 
  
   
   
 
Total
   $ (22,983 )   $ 10,912     $ (12,071 )
 
  
   
   
 
Net change in net interest income
   $ 13,024     $ 3,989     $ 17,013  
 
  
   
   
 

TABLE 4

                         
    Nine months ended September 30,  
   
 
            2002 versus 2001          
    Increase (Decrease) due to:  
    Rate     Volume     Total  
   
   
   
 
            (in thousands)          
Interest Income:
                        
Loans receivable, net
   $ (19,631 )   $ 31,709     $ 12,078  
FHLB stock
     (1,867 )     1,573       (294 )
Other
     (3,320 )     (187 )     (3,507 )
 
  
   
   
 
Total
   $ (24,818 )   $ 33,095     $ 8,277  
Interest Expense:
                        
Deposits
   $ (67,723 )   $ 14,224     $ (53,499 )
FHLB advances
     (6,351 )     3,476       (2,875 )
Other
     (528 )     1,880       1,352  
 
  
   
   
 
Total
   $ (74,602 )   $ 19,580     $ (55,022 )
 
  
   
   
 
Net change in net interest income
   $ 49,784     $ 13,515     $ 63,299  
 
  
   
   
 

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Provision for Losses

     Three months
 The provision for losses was increased to $6.9 million for the three months ended September 30, 2002 from $3.1 million during the same period in 2001. In each of the compared periods no increase was made in the allowance for losses. Net charge-offs were an annualized 0.43% and 0.22% of average loans outstanding during the three months ended September 30, 2002 and September 30, 2001, respectively. Net charge-offs were an annualized 0.79% and 0.37% of average loans held for investment during the three months ended September 30, 2002 and September 30, 2001, respectively

The current allowance was not increased during the three months ended September 30, 2002. It is management’s belief that the current reserves are adequate to offset the inherent risk associated with the Company’s loan portfolio. The held for investment loan portfolio decreased 9.4% during the three month period ended September 30, 2002. The allowance, which totals $46.0 million, is 0.70% of total loans, 1.32% of loans held for investment and 56.2% of non-performing loans.

     Nine months
 The provision for losses was $18.6 million for the nine months ended September 30, 2002 compared with $15.1 million during the same period in 2001. The provision for losses in the 2002 period included a $4.0 million increase in the allowance for losses, whereas the 2001 period included a $5.0 million increase. Net charge-offs were an annualized 0.34% and 0.24% of average loans outstanding during the nine months ended September 30, 2002 and September 30, 2001, respectively. Net charge-offs were an annualized 0.60% and 0.41% of average loans held for investment during the nine months ended September 30, 2002 and September 30, 2001, respectively.

Non-Interest Income

     Three months
 During the three months ended September 30, 2002, non-interest income decreased $0.6 million to $52.2 million from $52.8 million. This slight decrease was attributable to a decrease in net gain on loan sales and other fees and charges, offset by an increase in the net gain on the sales of mortgage servicing rights and net loan administration fees.

     Nine months
 During the nine months ended September 30, 2002, non-interest income increased $20.5 million to $157.6 million from $137.1 million. This increase was attributable to an increase in the net gain on the sales of mortgage servicing rights, the net loan administration fees, and other fees and charges, offset by a decrease in net gain on loan sales.

     Loan Administration

     Three months
 Net loan administration fee income increased to a negative $793,000 during the three months ended September 30, 2002, from a negative $4.2 million in the 2001 period. This $3.4 million increase was the result of an increase in service fee revenue offset by a smaller increase in the quarterly amortization of mortgage servicing rights (“MSR”). This amortization increase was recorded to adjust for the prepayment on the underlying mortgage loans serviced for others. Fee income before the amortization of servicing rights actually increased $4.3 million for the three months ended September 30, 2002, to $11.8 million compared to the $7.5 million recorded in the 2001 period. This increase in the gross fee income was the result of a larger portfolio of serviced loans during the 2002 period.

     Nine months
 Net loan administration fee income for the nine months ended September 30, 2002 increased to $5.5 million from a negative $9.4 million recorded in the 2001 period. This $14.9 million increase was the result of the increased service fees and the comparative percentage decline in the amortization of mortgage servicing rights. MSR amortization equaled $34.3 million during the 2002 period versus $29.4 million during the comparable 2001 period. Gross fee income, before the amortization of serving rights, increased $19.8 million for the nine months ended

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September 30, 2002 to $39.8 million, from $20.0 million for the comparable 2001 period. This increase in gross fee income was the result of the larger portfolio of serviced loans during the 2002 period.

At September 30, 2002, the unpaid principal balance of loans serviced for others is $14.4 billion versus $19.4 billion serviced at June 30, 2002, and $14.2 billion serviced at December 31, 2001. At September 30, 2001, the unpaid principal balance of loans serviced for others was $9.8 billion versus $7.7 billion serviced at June 30, 2001 and $6.6 billion serviced at December 31, 2000. At September 30, 2002, the loans serviced for others portfolio had a weighted average servicing fee of 0.334% (i.e., 33.4 basis points), a weighted average age of 8 months, weighted average remaining maturity of 298 months, and a weighted average rate of 6.754%. The portfolio was internally valued at $167.4 million versus its book value of $156.0 million. The portfolio was valued using a 28.5% constant prepayment rate and an 11.9% discount rate.

     Net Gain on Loan Sales

     Three months
 For the three months ended September 30, 2002, net gain on loan sales decreased $5.7 million, to $42.8 million, from $48.5 million in the 2001 period. The 2002 period reflects the sale of $10.2 billion in loans versus $7.7 billion sold in the 2001 period. The slightly higher interest rate environment in the 2001 period resulted in a smaller mortgage loan origination volume ($10.9 billion in the 2002 period vs. $8.3 billion in the 2001 period) but the lesser amount of loans were sold at a wider gain on sale spread (42 basis points in the 2002 period versus 63 basis points in the 2001 period).

     Nine months
 For the nine months ended September 30, 2002, net gain on loan sales decreased $6.8 million, to $118.7 million, from $125.5 million in the 2001 period. The 2002 period reflects the sale of $26.0 billion in loans versus $20.7 billion sold in the 2001 period. For the nine month period ended September 30, 2002, the lower interest rate environment also resulted in a lesser or narrower gain on sale spread recorded (46 basis points in the 2002 period versus 61 basis points in the 2001 period) when the loans were sold.

     Net Gain on the Sale of Mortgage Servicing Rights

     Three months
 For the three months ended September 30, 2002, the net gain on the sale of mortgage servicing rights increased from $737,000 during the 2001 period to $2.9 million. The gain on sale of mortgage servicing rights increased primarily because the Company sold $11.5 billion bulk servicing packages in the 2002 period and did not have such a sale of loans in the 2001 period. Also during 2002, the Company sold $2.6 billion of newly originated servicing rights on a flow basis. During 2001, the Company sold $5.1 billion of servicing rights on a flow basis for a minimal profit.

     Nine months
 For the nine months ended September 30, 2002, the net gain on the sale of mortgage servicing rights increased $11.9 million to $13.8 million, from $1.9 million for the same period in 2001. The gain on sale of mortgage servicing rights increased due to the bulk sale of $18.5 billion of seasoned servicing rights in 2002. During 2001, the Company only recorded a minimal gain on a bulk servicing sale of $2.2 billion in mortgage servicing rights. During 2002, the Company sold a total of $24.2 billion in servicing versus the $26.0 billion of mortgage servicing rights originated. In 2001, the Company sold $16.7 billion and originated $20.7 billion in mortgage servicing rights.

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     Other Fees and Charges

     Three months
 During the three months ended September 30, 2002, the Company recorded $7.3 million in other fees and charges. In the comparable 2001 period, the Company recorded $7.8 million. The collection and recording of these fees are dependent on the amount of deposit accounts, the number of certain types of loans closed and the collection of any miscellaneous fees. During the 2002 period, the Company originated $20.2 million of commercial loans versus $51.9 million in the comparable 2001 period.

     Nine months
 During the nine months ended September 30, 2002, the Company recorded $19.6 million in other fees and charges. In the comparable 2001 period, the Company recorded $19.2 million. The collection and recording of these fees are dependent on the amount of deposit accounts, the number of certain types of loans closed and the collection of any miscellaneous fees. During the 2002 period, the Company originated $106.9 million of commercial loans versus $148.4 million in the comparable 2001 period.

Non-Interest Expense

The following table sets forth the components of the Company’s non-interest expense, along with the allocation of expenses related to loan originations that are deferred pursuant to SFAS No. 91, “Accounting for Nonrefundable Fees and Costs Associated with Originating or Acquiring Loans and Initial Direct Costs of Leases.” As required by SFAS No. 91, mortgage loan fees and certain direct origination costs (principally compensation and benefits) are capitalized as an adjustment to the basis of the loans originated during a period. Certain other expenses associated with loan production, however, are not required or allowed to be capitalized. These expense amounts are reflected on the Company’s statement of earnings. Management believes that the analysis of non-interest expense on a “gross” basis (i.e., prior to the deferral of capitalized loan origination costs) more clearly reflects the changes in non-interest expense when comparing periods.

                                 
        Nine months ended  
    Quarter ended September 30,     September 30,  
   
   
 
    2002     2001     2002     2001  
   
   
   
   
 
            ( in thousands )          
Compensation and benefits
   $ 33,969     $ 26,999     $ 97,800     $ 76,751  
Commissions
     26,863       21,189       67,342       53,844  
Occupancy and equipment
     13,083       10,944       38,467       29,436  
Advertising
     2,090       947       5,387       3,423  
Core deposit amortization
     —       —       —       645  
Federal insurance premium
     455       482       794       821  
General and administrative
     12,033       11,419       36,353       32,554  
 
  
   
   
   
 
Total
     88,493       71,980       246,143       197,474  
Less: capitalized direct costs of loan closings
     (38,188 )     (31,425 )     (86,797 )     (81,108 )
 
  
   
   
   
 
Total, net
   $ 50,305     $ 40,555     $ 159,346     $ 116,366  
 
  
   
   
   
 
Efficiency ratio
     51.16 %     49.51 %     53.23 %     53.96 %

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The following are the major changes affecting the quarterly income statement;

•   The retail banking operation conducted business from 15 more facilities at September 30, 2002 than at September 30, 2001.
 
•   The Company conducted business from 32 more retail loan origination offices at September 30, 2002 than at September 30, 2001.
 
•   The mortgage banking operation originated $10.9 billion in residential mortgage loans during the 2002 quarter versus $8.3 billion in the comparable 2001 quarter.
 
•   The Company employed 2,592 salaried employees at September 30, 2002 versus 2,113 salaried employees at September 30, 2001.
 
•   The Company employed 109 full-time national account executives at September 30, 2002 versus 95 at September 30, 2001.
 
•   The Company employed 641 full-time retail loan originators at September 30, 2002 versus 433 at September 30, 2001.

Three months
 Non-interest expense, excluding the capitalization of direct loan origination costs, increased $16.5 million to $88.5 million during the three months ended September 30, 2002, from $72.0 million for the comparable 2001 period. This large increase in costs is for the most part explained above, but further explanation follows.

The largest changes occurred in the amounts of compensation and benefits, commissions, and occupancy and equipment reported.

The increased compensation and benefits expense of $7.0 million is the direct result of the increased personnel count which was required to support the additional banking centers and retail loan centers and to accommodate the growth in loan originations during the period.

The increased commission expense of $5.7 million is the direct result of the increased mortgage loan originations during the period. During the 2002 period commissions were 24.7 basis points of loan originations versus 25.4 basis points during the 2001 period.

The majority of the $2.2 million increase in occupancy and equipment costs are directly attributable to the extensive facility expansion and the equipment required to accommodate the increased staff.

The small increase in general and administrative expense is reflective of the increased mortgage loan originations and the increased number of banking centers in operation during the period.

During the three months ended September 30, 2002, the Company capitalized direct loan origination costs of $38.2 million, an increase of $6.8 million from $31.4 million for the comparable 2001 period. The 2002 deferral equates to a capitalization of $563 per loan versus $565 per loan in the 2001 period.

Nine months
 During the nine months ended September 30, 2002, non-interest expense, excluding the capitalization of direct loan origination costs, increased by $48.6 million to $246.1 million, from $197.5 million for the comparable 2001 period. The increased costs are also attributable to the above mentioned changes. The largest increases occurred in the amounts of compensation and benefits, commissions, general and administrative expenses, and occupancy and equipment costs reported.

The increased compensation and benefits expense of $21.0 million is the direct result of the increased personnel count which was required to support the additional banking centers and retail loan centers and to accommodate the growth in loan originations during the period.

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The increased commission expense of $13.5 million is the direct result of the increased mortgage loan originations during the period. During the 2002 period commissions were 24 basis points of loan originations versus 25 basis points during the 2001 period.

The majority of the $9.1 million increase in occupancy and equipment costs are directly attributable to the extensive facility expansion and the equipment required to accommodate the increased staff.

The $3.8 million increase in general and administrative expense is reflective of the increased mortgage loan originations and the increased number of banking centers in operation during the period.

During the nine months ended September 30, 2002, the Company capitalized direct loan origination costs of $86.8 million, an increase of $5.7 million, from $81.1 million for the comparable 2001 period. The 2002 deferral equates to a capitalization of $486 per loan versus $547 per loan in the 2001 period.

SEGMENT REPORTING

RETAIL BANKING OPERATIONS

The Company provides a full range of banking services to consumers and small businesses in southern Michigan and Indiana. At September 30, 2002, the Bank operated a network of 83 banking centers. The Company’s primary focus during 2002 and 2001 has been centered on expanding its deposit branch network. The retail banking operation allows the Company to cross-market consumer banking services to the Company’s mortgage customers in Michigan and Indiana.

MORTGAGE BANKING OPERATIONS

Flagstar’s mortgage banking activities involve the origination of mortgage loans or the purchase of mortgage loans from the originating lender. Company personnel originate loans and conduct business from 91 loan origination centers located in 21 states. Flagstar purchases mortgage loans on a wholesale basis through a network of correspondents consisting of other banks, thrifts, mortgage companies, and mortgage brokers. This mortgage banking network conducts mortgage lending operations nationwide. The mortgage loans, the majority of which are subsequently sold in the secondary mortgage market, conform to the underwriting standards of Freddie Mac or Fannie Mae, or both.

The following tables present certain financial information concerning the results of operations of Flagstar’s retail banking and mortgage banking operation.

Table 4
Retail Banking Operations

                                 
    At or for the quarter ended     At or for the nine months ended  
    September 30,     September 30,  
   
   
 
    2002     2001     2002     2001  
   
   
   
   
 
            ( In thousands )          
Revenues
   $ 34,913     $ 26,033     $ 112,568     $ 66,865  
Earnings before taxes
     20,232       13,282       65,723       29,825  
Identifiable assets
     4,462,436       3,399,840       4,462,436       3,399,840  

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Table 5
Mortgage Banking Operations

                                 
    At or for the quarter ended     At or for the nine months ended  
    September 30,     September 30,  
   
   
 
    2002     2001     2002     2001  
   
   
   
   
 
            ( In thousands )          
Revenues
   $ 57,808     $ 55,878     $ 181,195     $ 148,791  
Earnings before taxes
     15,315       24,988       50,063       54,389  
Identifiable assets
     3,932,174       3,674,727       3,932,174       3,674,727  

Financial Condition

Assets

The Company’s assets totaled $7.7 billion at September 30, 2002, an increase of $1.1 billion, or 16.7%, as compared to $6.6 billion at December 31, 2001. This total increase was due to an increase in nearly every asset category.

     Cash and cash equivalents

Cash and cash equivalents increased from $110.4 million at December 31, 2001 to $403.4 million at September 30, 2002. Although this increase is relatively large, management believes this amount is a one time event and is not representative of the normal levels of cash and cash equivalents maintained by the Company.

     Mortgage loans available for sale

Mortgage loans available for sale increased $0.4 billion, or 14.8%, to $3.1 billion at September 30, 2002, from $2.7 billion at December 31, 2001. This increase is primarily attributable to the record amount of loan production originated during the third quarter. At September 30, 2002, the majority of these loans were originated within the two weeks prior to the end of the quarter.

Our loan production is inversely related to the level of long-term interest rates. As long-term rates decrease, we tend to originate an increasing number of mortgage loans. Likewise, as such rates increase, our loan originations tend to decrease. A significant amount of our business during periods of low interest rates is derived from refinancing of mortgage loans. Generally, we have been able to sell loans into the secondary market at a gain during periods of low or decreasing interest rates, and our profitability levels have been greatest during these periods.

     Loans held for investment

Loans held for investment, net at September 30, 2002 was up $0.3 billion from December 31, 2001. The September increase included a $0.1 billion increase in mortgage loans, a $4.1 million increase in second mortgage loans, a $0.7 million increase in construction mortgage loans, a $69.5 million increase in commercial real estate loans, a $0.5 million increase in commercial loans, an $83.8 million increase in warehouse loans, and a $38.9 million increase in consumer loans.

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Utilization of the warehouse lines the Company has issued its customers through the commercial loan department totaled $382.3 million at September 30, 2002, up 28.1% from $298.5 million of utilized lines at December 31, 2001. Approved warehouse lines of credit at September 30, 2002 totaled $879.8 million.

                                   
Loans held for                                
investment:   September 30, 2002     June 30, 2002     December 31, 2001     September 30, 2001  
 
   
   
   
 
Single Family Mortgage
   $ 2,320,266     $ 2,398,536     $ 2,198,888     $ 2,442,943  
Second Mortgage
     236,621       245,355       232,466       229,261  
Construction
     54,240       51,981       53,505       50,429  
Commercial Real Estate
     383,673       366,068       314,247       286,445  
Commercial
     9,443       10,644       8,922       10,318  
Warehouse
     382,259       172,014       298,511       215,620  
Consumer
     102,868       86,882       63,960       63,877  
 
  
   
   
   
 
 
Total
   $ 3,489,370     $ 3,331,480     $ 3,170,499     $ 3,298,893  
 
  
   
   
   
 

Allowance for losses

The allowance for losses totaled $46.0 million at September 30, 2002, an increase of $4.0 million, or 9.5%, from $42.0 million at December 31, 2001. This increase was recorded because of the continued trend of economic uncertainty and the 10.1% increase in the investment loan portfolio.

The allowance for losses as a percentage of non-performing loans was 56.2% and 47.9% at September 30, 2002 and December 31, 2001, respectively. The Company’s non-performing loans totaled $81.8 million and $87.7 million at September 30, 2002 and December 31, 2001, respectively. The allowance for losses as a percentage of investment loans, was 1.32% and 1.32% at September 30, 2002 and December 31, 2001, respectively. The allowance for losses as a percentage of total loans, was 0.70% and 0.71% at September 30, 2002 and December 31, 2001, respectively.

Management believes the allowance for losses is considered adequate based upon their assessment of relevant factors, including the types and amounts of non-performing loans, historical, and current loss experience on such types of loans, and the current economic condition.

     FHLB stock

Holdings of FHLB stock increased from $128.4 million at December 31, 2001 to $150.0 million at September 30, 2002. These increases were made to comply with the member rules as set down by the FHLB. As a member of the FHLB, the Bank is required to hold shares of FHLB stock in an amount at least equal to 1% of the aggregate unpaid principal balance of its home mortgage loans, or 5% of its outstanding FHLB advances, whichever is greater. During the quarter ended September 30, 2002, the FHLB advance total reached $3.0 billion creating the need for the increased stock balance.

     Accrued interest receivable

Accrued interest receivable increased from $40.0 million at December 31, 2001 to $44.7 million at September 30, 2002 as the Company’s total loan portfolio increased. The Company typically collects loan interest in the following month after it is earned.

     Repossessed assets

Repossessed assets increased from $38.9 million at December 31, 2001 to $46.8 million at September 30, 2002. This increase was caused by a greater amount of loans in a foreclosed status which are yet to be sold.

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     Mortgage servicing rights

Mortgage servicing rights totaled $156.0 million at September 30, 2002, a decrease of $12.5 million, or 7.4%, from $168.5 million reported at December 31, 2001. During the nine months ended September 30, 2002, the Company capitalized $311.4 million, amortized $34.3 million, and sold $289.5 million in mortgage servicing rights. The principal balance of the loans serviced for others stands at $14.4 billion at September 30, 2002 versus $14.2 billion at December 31, 2001. The capitalized value of the mortgage servicing rights was 1.08% and 1.18% at September 30, 2002 and December 31, 2001, respectively.

At September 30, 2002, the unpaid principal balance of loans serviced for others is $14.4 billion versus $14.2 billion serviced at December 31, 2001. At September 30, 2002, the loans serviced for others portfolio had a weighted average servicing fee of 0.334% (i.e., 33.4 basis points), a weighted average age of 8 months, weighted average remaining maturity of 298 months, and a weighted average rate of 6.754%. The portfolio was internally valued at $167.4 million versus its book value of $156.0 million. The portfolio was valued using a 28.5% constant prepayment rate and an 11.9% discount rate.

Activity in Mortgage Servicing Rights ( in thousands):

                 
    Three months ended     Three months ended  
    September 30, 2002     September 30, 2001  
   
   
 
Beginning balance
   $ 192,280     $ 110,683  
Plus: capitalization of MSR
     127,361       121,557  
Less: sales amortization
     151,035       88,787  
Less: amortization
     12,591       14,747  
 
  
   
 
Ending balance
   $ 156,015     $ 128,706  
 
  
   
 
                 
    Nine months ended     Nine months ended  
    September 30, 2002     September 30, 2001  
   
   
 
Beginning balance
   $ 168,469     $ 106,425  
Plus: capitalization of MSR
     311,380       347,848  
Less: sales amortization
     289,535       293,150  
Less: amortization
     34,299       32,417  
 
  
   
 
Ending balance
   $ 156,015     $ 128,706  
 
  
   
 

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Activity of Mortgage Loans Serviced for Others (in thousands):

                   
      Three months ended     Three months ended  
      September 30, 2002     September 30, 2001  
     
   
 
Beginning balance
   $ 19,390,204     $ 7,679,952  
Loans sold
     10,224,953       7,690,877  
 
  
   
 
 
Subtotal
     29,615,157       15,370,829  
Loans sold servicing released
     340,748       118,452  
Servicing sold (flow basis)
     2,568,931       5,118,225  
Servicing sold (bulk basis)
     11,475,788       —  
 
  
   
 
 
Subtotal
     14,385,467       5,236,677  
Amortization
     835,565       349,304  
 
  
   
 
Ending balance
   $ 14,394,125     $ 9,784,848  
 
  
   
 
                   
      Nine months ended     Nine months ended  
      September 30, 2002     September 30, 2001  
     
   
 
Beginning balance
   $ 14,222,802     $ 6,644,482  
Loans sold
     25,987,718       20,718,608  
 
  
   
 
 
Subtotal
     40,210,520       27,363,090  
Loans sold servicing released
     810,740       295,455  
Servicing sold (flow basis)
     4,922,294       14,267,918  
Servicing sold (bulk basis)
     18,467,096       2,162,097  
 
  
   
 
 
Subtotal
     24,200,130       16,725,470  
Amortization
     1,616,265       862,772  
 
  
   
 
Ending balance
   $ 14,394,125     $ 9,784,848  
 
  
   
 

     Other assets

Other assets increased $83.9 million, or 73.0%, to $198.8 million at September 30, 2002, from $114.9 million at December 31, 2001.

A large portion of this increase was attributable to the recording of receivables in conjunction with the sale of residential mortgage loan servicing rights completed during the nine months ended September 30, 2002. Upon the sale of the mortgage servicing rights a receivable is recorded for a portion of the sale proceeds. The balance due is paid within 180 days after the sale date.

Additionally, at September 30, 2002, the Company had recorded a deferred gain of $30.6 million that was recognized in the third quarter in accordance with FASB 133 and will be realized in the fourth quarter.

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Liabilities

The Company’s total liabilities increased $1.0 billion, or 15.9%, to $7.3 billion at September 30, 2002, from $6.3 billion at December 31, 2001. Increases can be found in nearly each liability category.

     Deposit accounts

Retail. Demand accounts are up $69.2 million, or 20.8%. Savings accounts have been fragmented into our new money market account and the savings account category. These deposits are up 21.8% this year. At September 30, 2002, the only category of retail deposits that are down are certificates of deposit. These deposits are down $62.4 million for the year. It has been management’s intent to not rely totally on high priced certificates of deposit as a funding source. The decrease in certificates of deposit coincided with the 108 basis point decline in the portfolio’s rate.

Wholesale. These deposits are made up entirely of certificates of deposit garnered through the secondary market. These deposits decreased $23.0 million, or 2.8%, from $824.4 million at December 31, 2001 to $801.4 million at September 30, 2002. This decline reflects our decision to emphasize growth in lower-cost retail deposits and FHLB advances rather than wholesale deposits, which the Company obtains through the secondary market. At December 31, 2001 and September 30, 2002, our wholesale deposits had a weighted average rate of 4.93% and 4.52%, respectively, as compared to weighted average rates of 4.91% and 3.83%, respectively, for our retail certificates of deposit. The lower cost of retail deposits results primarily from our aggressive management of rates offered on our savings and checking (i.e., DDA) accounts. As a result of this change in composition of our deposit liabilities, our weighted average cost of interest bearing liabilities decreased from 6.21% in 2000 to 5.67% in 2001 and to 4.15% for the quarter ended September 30, 2002.

During the fourth quarter, the Company has $173.5 million of these certificates which carry a rate of 5.19% maturing. The Company does not expect to renew these accounts.

Municipal. These deposits are made up of both savings and certificates of deposit received from local government entities in our retail market area. These deposits increased $385.8 million, or 92.9%, to $801.3 million at September 30, 2002, from $415.5 million at December 31, 2001. The Company’s opened this delivery channel in late 2001. These funds primarily are made up of short duration current market rate certificates of deposit. These types of deposits line up well from a duration matching basis with our mortgage banking operation.

Deposit Breakdown

                                                   
      September 30, 2002     December 31, 2001  
     
   
 
      Balance     Rate     %     Balance     Rate     %  
     
   
   
   
   
   
 
Retail demand deposits
   $ 402,002       2.11 %     9.68 %   $ 332,843       2.76 %     9.22 %
Retail savings deposits
     383,865       1.74       9.24       801,694       3.86       22.22  
Retail money market deposits
     592,577       2.71       14.27       —       —       —  
Retail certificates of deposits
     1,171,333       3.83       28.21       1,233,668       4.91       34.19  
Wholesale certificates of deposits
     801,399       4.52       19.30       824,426       4.93       22.85  
Municipal deposits
     801,321       2.24       19.30       415,472       3.12       11.52  
 
  
   
   
   
   
   
 
 
Total deposits
   $ 4,152,497       3.14 %     100.00 %   $ 3,608,103       4.28 %     100.00 %
 
  
   
   
   
   
   
 

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     FHLB advances

FHLB advances increased $0.1 billion, or 5.0%, to $2.1 billion at September 30, 2002, from $2.0 million at December 31, 2001. The Company relies upon these advances as a funding source for the origination or purchase of loans, which are later sold into the secondary market. These funds are also used as a source of long term financing. The outstanding balance of FHLB advances fluctuates from time to time depending upon the Company’s current inventory of loans held for sale and the availability of lower cost funding from its deposit base and its escrow accounts.

     Long term debt

On April 30, 1999, the Company issued $74.8 million of 9.50% preferred securities to the general public in a public offering. The securities were issued by the Company’s subsidiary, Flagstar Trust, a Delaware trust. The preferred securities mature in 30 years, pay interest quarterly, and the interest expense is deductible for federal income tax purposes. The net proceeds from the offering were contributed to Flagstar Bank as additional paid in capital and are included as regulatory capital.

     Undisbursed payments on loans serviced for others

Undisbursed payments on loans serviced for others increased $162.9 million, or 70.6%, to $393.5 million at September 30, 2002, from $230.6 million at December 31, 2001. These amounts represent payments received from borrowers for interest, principal and related loan charges, which have not been remitted to the respective investors. These balances fluctuate with the size of the servicing portfolio and increase during a time of high payoff or refinance volume. The large increase at September 30, 2002 is reflective of the refinance environment currently being experienced by the Company.

     Escrow accounts

Customer escrow accounts increased $76.3 million, or 72.2%, to $182.0 million at September 30, 2002, from $105.7 million at December 31, 2001. These amounts represent payments received from borrowers for taxes and insurance payments, which have not been remitted to the tax authorities or insurance providers. These balances fluctuate with the size of the servicing portfolio and during the year before and after the remittance of scheduled payments. A large amount of escrow payments are made in July and December to local school and municipal agencies.

     Liability for checks issued

Liability for checks issued decreased $1.7 million, or 1.2%, to $145.6 million at September 30, 2002, from $147.3 million at December 31, 2001. These amounts represent checks issued to acquire mortgage loans that have not cleared for payment. These balances fluctuate with the size of the mortgage pipeline.

     Federal income taxes payable

Federal income taxes payable decreased $0.5 million, or 0.6%, to $77.1 million at September 30, 2002, from $77.6 million at December 31, 2001. This decrease is attributable to the decrease in the deferred tax liability created by timing differences in the recognition of revenue from a financial statement basis and a federal income tax basis.

     Other liabilities

Other liabilities increased $5.9 million, or 5.9%, to $105.6 million at September 30, 2002, from $99.7 million at December 31, 2001. This increase was caused by an increase in accrued liabilities associated with the increased employee count and the large mortgage production volume.

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Liquidity and Capital Resources

     Liquidity

Liquidity refers to the ability or the financial flexibility to manage future cash flows in order to meet the needs of depositors and borrowers and fund operations on a timely and cost-effective basis. The Company has no other significant business than that of its wholly owned subsidiary, Flagstar Bank, FSB.

A significant source of cash flow for the Company is the sale of mortgage loans held for sale. Additionally, the Company receives funds from loan principal repayments, advances from the FHLB, deposits from customers and cash generated from operations.

Mortgage loans sold during the three months ended September 30, 2002 totaled $10.2 billion, an increase of $2.5 billion from the $7.7 billion sold during the same period in 2001. This increase in mortgage loan sales was attributable to the $2.6 billion increase in mortgage loan originations during the quarter. The Company sold 93.6% and 92.8% of its mortgage loan originations during the three month periods ended September 30, 2002 and 2001, respectively.

Mortgage loans sold during the nine months ended September 30, 2002 totaled $26.0 billion, and increase of $5.3 billion from the $20.7 billion sold during the same period in 2001. This increase in mortgage loan sales was attributable to the $5.6 billion increase in mortgage loan originations. The Company sold 94.2% and 94.1% of its mortgage loan originations during the nine month periods ended September 30, 2002 and 2001, respectively.

The Company typically uses FHLB advances to fund its daily operational liquidity needs and to assist in funding loan originations. The Company will continue to use this source of funds until a more cost-effective source of funds becomes available. FHLB advances are used because of their flexibility. The Company had $2.1 billion outstanding at September 30, 2002. Such advances are repaid with the proceeds from the sale of mortgage loans held for sale. The Company currently has an authorized line of credit equal to $3.0 billion. This line is collateralized by non-delinquent mortgage loans. To the extent that the amount of retail deposits or customer escrow accounts can be increased, the Company expects to replace FHLB advances.

In addition to FHLB advances, the Company relies on its retail and wholesale deposit base, including certificates of deposit, to fund its mortgage loan originations. While the Company is actively soliciting core retail deposits as a stable source of funding, it must also depend upon the more volatile market for certificates of deposit, which depend in large part upon the dynamic interest rate environment. To fund its growth in the retail and mortgage banking areas, the Company expects to rely upon its continued access to FHLB advances, to increase its retail deposit base and, as market conditions permit, to access the capital markets.

At September 30, 2002, the Company had outstanding rate-lock commitments to lend $8.6 billion in mortgage loans, along with outstanding commitments to make other types of loans totaling $76.5 million. Because such commitments may expire without being drawn upon, they do not necessarily represent future cash commitments. Also, at September 30, 2002, the Company had outstanding commitments to sell $3.3 billion of mortgage loans. These commitments will be funded within 90 days. Total commercial and consumer unused lines of credit totaled $657.5 million at September 30, 2002. Such commitments include $497.5 million of unused warehouse lines of credit to various mortgage companies. The Company had advanced $382.3 million at September 30, 2002.

     Capital Resources.

At September 30, 2002, the Bank exceeded all applicable bank regulatory minimum capital requirements. The Company is not subject to any such requirements.

The Company is expanding its retail operations through the Michigan and Indiana and currently expects 22 new banking centers and 25 new loan origination offices to be opened within the next year. The expansion of the retail banking network is funded from the Company’s ongoing operations and reduces the Company’s capital resources. The Company expects that the new retail banking centers will be profitable in 12 to 18 months, and until that time, the new banking centers will increase the Company’s costs of operation.

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Item 3. Market Risk

In its mortgage banking operations, the Company is exposed to market risk in the form of interest rate risk from the time the interest rate on a mortgage loan application is committed to by the Company through the time the Company sells or commits to sell the mortgage loan. On a daily basis, the Company analyzes various economic and market factors and, based upon these analyses, projects the amount of mortgage loans it expects to sell for delivery at a future date. The actual amount of loans sold will be a percentage of the number of mortgage loans on which the Company has issued binding commitments (and thereby locked in the interest rate) but has not yet closed (“pipeline loans”) to actual closings. If interest rates change in an unanticipated fashion, the actual percentage of pipeline loans that close may differ from the projected percentage. The resultant mismatching of commitments to fund mortgage loans and commitments to sell mortgage loans may have an adverse effect on the results of operations in any such period. For instance, a sudden increase in interest rates can cause a higher percentage of pipeline loans to close than projected. To the degree that this is not anticipated, the Company will not have made commitments to sell these additional pipeline loans and may incur losses upon their sale as the market rate of interest will be higher than the mortgage interest rate committed to by the Company on such additional pipeline loans. To the extent that the hedging strategies utilized by the Company are not successful, the Company’s profitability may be adversely affected.

Management believes there has been no material change in either interest rate risk or market risk since December 31, 2001.

Item 4. Controls and Procedures

A review and evaluation was performed by the Company’s management, including the Company’s Chief Executive Officer (the “CEO”) and Chief Financial Officer (the “CFO”), of the effectiveness of the design and operation of the Company’s disclosure controls and procedures as of a date within 90 days prior to the filing of this quarterly report. Based on that review and evaluation, the CEO and CFO have concluded that the Company’s current disclosure controls and procedures, as designed and implemented, were effective. There have been no significant changes in the Company’s internal controls or in other factors that could significantly affect the Company’s internal controls subsequent to the date of their evaluation. There were no significant material weaknesses identified in the course of such review and evaluation and, therefore, no corrective measures were taken by the Company.

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PART II — OTHER INFORMATION

         
Item 1.       Legal Proceedings
         
        None.
         
Item 2.       Changes in Securities
         
        None.
         
Item 3.       Defaults upon Senior Securities
         
        None.
         
Item 4.       Submission of Matters to a Vote of Security Holders
         
        None.
         
Item 5.       Other Information
         
        None.
         
Item 6.       Exhibits and Reports on Form 8-K

  (a)   Exhibits
 
      Exhibit 11. Computation of Net Earnings per Share

     
EX-99.1   Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
     
EX-99.2   Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

  (b)   Reports on Form 8-K
 
      The Company filed a Form 8-K on July 23, 2002 to report its earnings for the quarter ended June 30, 2002 and attached a copy of the related press release to the Form 8-K. The contents of the press release, including summary financial statements, were incorporated by reference into the Form 8-K.
 
      The Company filed a Form 8-K on August 14, 2002 for the purpose of reporting that its Principal Executive Officer and its Principal Financial Officer each submitted to the Securities and Exchange Commission on August 14, 2002 the certifications required by Section 906 of the Sarbanes-Oxley Act of 2002 in connection with the Company’s filing on August 14, 2002 of its Quarterly Report on Form 10-Q for the quarter ended June 30, 2002.

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SIGNATURES

Pursuant to the requirements 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.

         
        FLAGSTAR BANCORP, INC.
 
Date:   November 14, 2002   /S/ Mark T.. Hammond
Mark T. Hammond
President and
Chief Executive Officer
(Duly Authorized Officer)
 
         
 
        /S/ Michael W. Carrie
Michael W. Carrie
Executive Vice President and
Chief Financial Officer
(Principal Accounting Officer)

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10-Q 302 CERTIFICATION

I, Mark T. Hammond certify that:

1)   I have reviewed this quarterly report on Form 10-Q of Flagstar Bancorp, Inc.;
 
2)   Based on my knowledge, this quarterly report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this quarterly report;
 
3)   Based on my knowledge, the financial statements, and other financial information included in this quarterly report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this quarterly report;
 
4)   The registrant’s other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and have:

  a)   designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this quarterly report is being prepared;
 
  b)   evaluated the effectiveness of the registrant’s disclosure controls and procedures as of a date within 90 days prior to the filing date of this quarterly report (the “Evaluation Date”); and
 
  c)   presented in this quarterly report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date;

5)   The registrant’s other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant’s auditors and the audit committee of registrant’s board of directors (or persons performing the equivalent functions):

  a)   all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant’s ability to record, process, summarize and report financial data and have identified for the registrant’s auditors any material weaknesses in internal controls; and
 
  b)   any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal controls; and

6)   The registrant’s other certifying officers and I have indicated in this quarterly report whether there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses.

         
Date:   November 14, 2002   /s/ Mark T. Hammond
Signature
President and Chief Executive Officer
Title

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10-Q 302 CERTIFICATION

I, Michael W. Carrie certify that:

1)   I have reviewed this quarterly report on Form 10-Q of Flagstar Bancorp, Inc.;
 
2)   Based on my knowledge, this quarterly report does not contain any untrue statement of a material fact or omit to state a material fact necessary to make the statements made, in light of the circumstances under which such statements were made, not misleading with respect to the period covered by this quarterly report;
 
3)   Based on my knowledge, the financial statements, and other financial information included in this quarterly report, fairly present in all material respects the financial condition, results of operations and cash flows of the registrant as of, and for, the periods presented in this quarterly report;
 
4)   The registrant’s other certifying officers and I are responsible for establishing and maintaining disclosure controls and procedures (as defined in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:

  a)   designed such disclosure controls and procedures to ensure that material information relating to the registrant, including its consolidated subsidiaries, is made known to us by others within those entities, particularly during the period in which this quarterly report is being prepared; c) presented in this quarterly report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date;
  b)   evaluated the effectiveness of the registrant’s disclosure controls and procedures as of a date within 90 days prior to the filing date of this quarterly report (the “Evaluation Date”); and
  c)   presented in this quarterly report our conclusions about the effectiveness of the disclosure controls and procedures based on our evaluation as of the Evaluation Date;

5)   The registrant’s other certifying officers and I have disclosed, based on our most recent evaluation, to the registrant’s auditors and the audit committee of the registrant’s board of directors (or persons performing the equivalent function):

  a)   all significant deficiencies in the design or operation of internal controls which could adversely affect the registrant’s ability to record, process, summarize and report financial data and have identified for the registrant’s auditors any material weaknesses in internal controls; and
  b)   any fraud, whether or not material, that involves management or other employees who have a significant role in the registrant’s internal controls; and

6)   The registrant’s other certifying officers and I have indicated in this quarterly report whether or not there were significant changes in internal controls or in other factors that could significantly affect internal controls subsequent to the date of our most recent evaluation, including any corrective actions with regard to significant deficiencies and material weaknesses.

         
Date: November 14, 2002     /s/ Michael W. Carrie
Signature
Executive Vice President and Chief Financial Officer
Title

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Table of Contents

10-Q EXHIBIT INDEX

         
EXHIBIT NO.   DESCRIPTION  
 
 
EX-11
   Computation of Net Earnings per Share
 
EX-99.1
   Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002
 
EX-99.2
   Certification pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002

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