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SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-K
[X] ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT
OF 1934
For the fiscal year ended December 31, 1997
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from..................to..............................
Commission file number...................................................0-18046
FIRST FEDERAL CAPITAL CORP
(Exact name of Registrant as specified in its charter)
WISCONSIN 39-1651288
(State or other jurisdiction of (IRS employer
incorporation or organization) identification)
605 STATE STREET
LA CROSSE, WISCONSIN 54601
(Address of principal executive office) (Zip code)
Registrant's telephone number, including area code: (608) 784-8000
Securities registered pursuant to Section 12(b) of the Act: NOT APPLICABLE
Securities registered pursuant to Section 12(g) of the Act:
COMMON STOCK, PAR VALUE $.10 PER SHARE
PREFERRED STOCK PURCHASE RIGHTS
(Title of Class)
Indicate by check mark whether the Registrant (1) has filed all reports required
to be filed by Section 13 or 15 (d) of the Securities Exchange Act of 1934
during the preceding 12 months (or such shorter period as the Registrant has
been subject to such requirements), and (2) has been subject to such filing
requirements for the past 90 days.
Yes [X] No [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to Item 405
of Regulation S-K is not contained herein, and will not be contained, to the
best of Registrant's knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any amendment to this
Form 10-K. [X]
As of February 28, 1998, the aggregate value of the 9,260,430 shares of Common
Stock of the Registrant that were outstanding on such date was approximately
$295.2 million. Excluding 1,829,882 shares held by all directors and officers of
the Registrant, the aggregate value of the Common Stock of the Registrant was
approximately $236.8 million. These figures are based on the closing price of
$31.875 per share of the Registrant's Common Stock on February 28, 1998.
Number of shares of Common Stock outstanding as of February 28, 1998: 9,260,430
(excludes 710,385 shares held as treasury stock).
DOCUMENTS INCORPORATED BY REFERENCE
Portions of the definitive proxy statement for the Annual Meeting of
Stockholders are incorporated into Part III, Items 10 through 13 of this Form
10-K.
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FORM 10-K TABLE OF CONTENTS
PART I Page
Item 1--Business........................................................2
Item 2--Properties.....................................................13
Item 3--Legal Proceedings..............................................13
Item 4--Submission of Matters to Vote of Security Holders..............13
PART II
Item 5--Market for Registrant's Common Equity and Related
Stockholder Matters............................................14
Item 6--Selected Financial Data........................................15
Item 7--Management's Discussion and Analysis of Financial
Condition and Results of Operations............................16
Item 7A--Quantitative and Qualitative Disclosures about
Market Risk...................................................30
Item 8--Financial Statements and Supplementary Data....................34
Item 9--Changes in and Disagreements with Accountants on
Accounting and Financial Disclosure............................57
PART III
Item 10--Directors and Executive Officers of the Registrant............58
Item 11--Executive Compensation........................................58
Item 12--Security Ownership of Certain Beneficial
Owners and Management.........................................58
Item 13--Certain Relationships and Related Transactions................58
PART IV
Item 14--Exhibits, Financial Statement Schedules, and
Reports on Form 8-K...........................................58
SIGNATURES...................................................................60
EXHIBITS.....................................................................62
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FORWARD-LOOKING STATEMENTS
The discussion in this report includes certain forward-looking
statements based on current management's expectations. Examples of factors which
could cause future results to differ from management's expectations include, but
are not limited to, the following: general economic and competitive conditions;
legislative and regulatory initiatives; monetary and fiscal policies of the
federal government; general market rates of interest; interest rates on
competing investments; interest rates on funding sources; consumer demand for
deposit and loan products and services; consumer demand for other financial
services; changes in accounting policies or guidelines; and changes in the
quality or composition of the Corporation's loan and investment portfolios.
Readers are cautioned that forward-looking statements are not guarantees of
future performance and that actual results may differ materially from
management's current expectations.
PART I
ITEM 1--BUSINESS
This section of the report contains general information about First
Federal Capital Corp (the "Corporation"), First Federal Saving Bank of La
Crosse-Madison (the "Bank"), and the Bank's wholly-owned subsidiaries (together
"the reporting group"). Included in this section is information regarding the
reporting group's markets and business environments, significant operating and
accounting policies, practices, and procedures, as well as its competitive and
regulatory environments. This section should be read in conjunction with Part
II, Item 7, "Management's Discussion and Analysis of Financial Condition and
Results of Operations", Part II, Item 7a, "Quantitative and Qualitative
Disclosures about Market Risk", and Part II, Item 8, "Financial Statements and
Supplementary Data", as well as other sections of the report.
FIRST FEDERAL CAPITAL CORP
The Corporation was incorporated under the laws of the State of
Wisconsin in July 1989. In November 1989, the Corporation became the savings and
loan holding company for the Bank upon its conversion from mutual to stock form.
The Corporation currently owns all of the outstanding capital stock of the Bank,
which is the principal asset of the Corporation. The Corporation's principal
office is located at 605 State Street, La Crosse, Wisconsin, 54601, and its
telephone number is (608) 784-8000.
FIRST FEDERAL SAVINGS BANK LA CROSSE-MADISON
The Bank was founded in 1934 and is a federally-chartered,
federally-insured, savings bank headquartered in La Crosse, Wisconsin. The
Bank's primary business is attracting deposits from the general public. Such
deposits are principally used to originate single-family residential loans, as
well as commercial real estate, consumer, and education loans. The Bank is also
an active seller of residential loans in the secondary market.
The Bank's primary market areas for conducting such activities consist
of communities located in western, south-central, and eastern Wisconsin (not
including the Milwaukee metropolitan area) as well as contiguous counties in
Illinois, Iowa, and Minnesota. The Bank maintains a total of 48 retail banking
offices in its market areas. Fifteen of these offices are located in the Madison
metropolitan area, six in the La Crosse metropolitan area, five in the city of
Eau Claire, three in the city of Appleton, and two in the cities of Beloit,
Hudson, and Neenah, Wisconsin. The Bank also maintains one retail banking
facility in the cities of Fond du Lac, Fort Atkinson, Green Bay, Janesville,
Kimberly, Manitowoc, Monroe, Oshkosh, Prairie du Chien, Richland Center, River
Falls, Sheboygan, and Viroqua, Wisconsin. The Bank also has separate residential
loan production offices in Janesville and Wausau, Wisconsin, as well as a
commercial real estate loan production office in the Milwaukee, Wisconsin,
metropolitan area.
In addition to deposits, the Bank also obtains a substantial portion of
its funding through borrowings from the Federal Home Loan Bank of Chicago (the
"FHLB"), of which it is a member.
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In addition to loans, the Bank also invests in securities issued by the
U.S. government and its agencies and in other investment securities such as
corporate bonds and notes, collateralized mortgage obligations ("CMOs"),
mortgage-backed securities ("MBSs"), and mutual funds, as permitted by federal
laws and regulations.
The Bank is subject to comprehensive regulation and examination by the
Office of Thrift Supervision ("OTS"), its chartering authority and primary
regulator, and by the Federal Deposit Insurance Corporation ("FDIC"), which
administers the Savings Association Insurance Fund ("SAIF"), which insures the
Bank's deposits to the maximum extent permitted by law.
The Bank's principal executive offices are located at 605 State Street,
La Crosse, Wisconsin, 54601, and its telephone number is (608) 784-8000.
LENDING ACTIVITIES
GENERAL The principal categories of loans in the Bank's portfolio are
residential real estate loans secured by single-family residences, commercial
real estate loans secured by multi-family residential and commercial real
estate, consumer loans, consisting primarily of loans secured by second
mortgages on single-family residences, and government-guaranteed education
loans. Substantially all of the Bank's mortgage loan portfolio consists of
conventional mortgage loans, which are loans that are neither insured by the
Federal Housing Administration ("FHA") nor partially guaranteed by the Veterans
Administration ("VA").
A federally-chartered savings institution has general authority to
originate and purchase loans secured by real estate located throughout the
United States. In general, however, the Bank's lending activities have
concentrated on real estate loans secured by properties located in its primary
market areas and within a 300-mile radius of the Bank's headquarters in La
Crosse.
The Bank generally may not make loans to one borrower and related
entities in an aggregate amount that exceeds 15% of its unimpaired capital and
surplus (as defined by regulations).
SINGLE-FAMILY RESIDENTIAL AND CONSTRUCTION LOANS Applications for
single-family residential and construction loans are accepted by
commission-based employees at eleven loan production offices (nine of which are
co-located with deposit-taking offices) and at eight deposit-taking offices of
the Bank which are able to handle such applications. It is the Bank's general
policy to restrict lending on single-family residences to its primary market
areas in Wisconsin as well as contiguous counties in Iowa and Minnesota,
although from time-to-time the Bank will purchase single-family loans originated
outside of its primary market area.
In general, the Bank retains in its portfolio only single-family
residential mortgage loans that provide for periodic adjustments to the interest
rate ("adjustable-rate mortgage loans"). These loans generally have terms of up
to 30-years and interest rates which adjust every one to two years in accordance
with an index based on the yield on certain U.S. government securities. A
portion of these loans may guarantee the borrower a fixed rate for the first
three years of the loan's term. Furthermore, most of these loans have annual
interest rate change limits ranging from 1% to 2% and maximum lifetime interest
rates ranging from 11% to 16%. The Bank has not engaged in the practice of using
a cap on loan payments, which would allow a borrower's loan balance to increase
rather than decrease, resulting in negative principal amortization. The Bank
occasionally offers discounts on the interest rates it offers on its
adjustable-rate mortgage loans during the first one to three years of the loan,
which has the effect of reducing a borrower's payment during such years.
However, the Bank generally complies with Federal National Mortgage Association
("FNMA") and Federal Home Loan Mortgage Corporation ("FHLMC") guidelines in
determining a borrower's ability to repay such loans. Some of the Bank's
adjustable-rate mortgage loan agreements permit borrowers to convert their
adjustable-rate loans to fixed-rate loans under certain circumstances in
exchange for a modest fee. Upon conversion, such loans are generally sold in the
secondary market.
Adjustable-rate mortgage loans decrease the Bank's exposure to risks
associated with changes in interest rates, but involve other risks because as
interest rates increase, borrowers' monthly payments increase, thus increasing
the potential for default. This risk has not had any adverse effect on the Bank
to date, although no assurances can be made with respect to future periods.
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Although in general the Bank only retains adjustable-rate mortgage
loans in its portfolio, it continues to originate fixed-rate mortgage loans in
order to provide a full range of products to its customers. In general, such
loans are originated only under terms, conditions, and documentation standards
that make such loans eligible for sale to FHLMC, FNMA, and other institutional
investors. The Bank generally sells these loans at the time they are originated.
In addition, the Bank generally sells any adjustable-rate mortgage loans that
convert to fixed-rate loans in accordance with options granted to such borrowers
in the original loan documents, as previously described. Sales of mortgage loans
provide additional funds for lending and other business purposes and have
generally been under terms that do not provide for any recourse to the Bank by
the purchaser.
The Bank's staff underwriters generally approve single-family
residential loans that have principal balances of up to $227,150. The Bank's
underwriting supervisor approves single-family residential loans that have
principal balances of up to $250,000. Loans between $250,000 and $500,000 are
approved by either the Vice President responsible for mortgage loan processing,
closing, and underwriting, the Executive Vice President of the residential
lending division, or the President of the Bank. Finally, any loans greater than
$500,000 are approved by the Bank's Board of Directors.
The Bank's general policy is to lend up to 80% of the appraised value
of the property securing a loan (referred to as the "loan-to-value ratio"). The
Bank occasionally will lend more than 80% of the appraised value of the
property, but will obtain private mortgage insurance on behalf of the borrower
on the portion of the principal amount of the loan that exceeds 80% of the
security property's value. The Board of Directors of the Bank approves all
conventional loans that have loan-to-value ratios greater than 90% and which do
not have mortgage insurance.
The Bank evaluates the collateral of its residential real estate loans
using documentation that complies with applicable regulations. For most of its
loans the Bank obtains current appraisals performed by state licensed
appraisers. However, exceptions occur in the case of (i) streamlined,
rate-reduction refinance loans for which the Bank relies on appraisals in the
existing loan files (this procedure is consistent with the guidelines
promulgated by FNMA and FHLMC), and (ii) lot loans less than $100,000 for which
the Bank relies on the most recent municipal assessment and its knowledge and
experience in the respective market. The Bank obtains title insurance policies
on most first mortgage real estate loans it originates. If title insurance is
not obtained or is unavailable, the Bank obtains an abstract of title and title
opinion. Borrowers must also obtain hazard insurance prior to closing and, when
required by federal regulations, flood insurance. Borrowers may be required to
advance funds, along with each monthly payment of principal and interest, to an
escrow account from which the Bank makes disbursements for items such as real
estate taxes, hazard insurance premiums, and mortgage insurance premiums.
The Bank utilizes the services of a third party, which reviews loan
documents relating to a portion of the Bank's single-family residential loan
originations to test compliance with the Bank's regulatory documentation
requirements.
The Bank also originates loans to individuals to construct
single-family residences. Construction loans may be made without commitments to
purchase the property being constructed and the borrower may not have take-out
commitments for permanent financing on hand at the time of origination.
Construction loans generally have a maturity of 6 to 12 months and a fixed rate
of interest, with payments being made monthly on an interest-only basis.
Construction loans are otherwise underwritten and approved in the same manner as
other single-family residential loans. Construction loans, however, are
generally considered to involve a higher degree of risk than conventional
residential mortgage loans. A lender's risk of loss on a construction loan is
largely dependent on the accuracy of the initial estimate of the property's
value at completion of construction, the estimated cost of construction, and the
borrower's ability to advance additional construction funds, if necessary.
MULTI-FAMILY RESIDENTIAL, COMMERCIAL REAL ESTATE, AND COMMERCIAL
CONSTRUCTION LOANS The Bank originates and occasionally purchases mortgage loans
that are secured by existing multi-family residential and commercial real estate
properties. Applications for multi-family residential and commercial real estate
loans are accepted at the Bank's main office in La Crosse, as well as offices in
Madison, Appleton, and Milwaukee. All underwriting and approval of such loans,
however, is performed at the Bank's main office in La Crosse. It is the Bank's
general policy to restrict its multi-family and commercial real estate lending
to loans secured by properties located within a 300-mile radius of La Crosse, to
include all or a portion of the states of Nebraska, Illinois, Iowa,
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and Minnesota; although in the past the Bank originated multi-family and
commercial real estate loans outside of this area.
The Bank's multi-family residential and commercial real estate lending
activities (together "commercial real estate lending") are managed by the Senior
Vice President in charge of the Bank's Commercial Real Estate Lending Division.
Pursuant to the Bank's commercial real estate lending policy, the Bank
emphasizes investment in loans secured by collateral classified as Type A
properties, which are to comprise not less than 80% of the Bank's commercial
real estate loan portfolio. Such properties consist of multi-family residential
properties such as apartment buildings, retail shopping establishments, office
buildings, and multi-tenant industrial buildings. Not more than 20% of the
Bank's commercial real estate portfolio is to include loans secured by
collateral classified as Type B properties, which consist of nursing homes,
single-tenant industrial buildings, hotels and motels, and churches. The Bank's
current policy is to not make any new loans secured by collateral classified as
Type C properties, which include restaurants, recreation facilities, and other
special purpose facilities, although the Bank has made loans secured by such
properties in the past.
Applications for commercial real estate loans are generally obtained
from existing borrowers, direct contacts by loan officers, and referrals. Terms
on commercial real estate loans are generally negotiated at the time of
origination. In general these loans have amortization periods ranging from 20 to
30 years, mature in ten years or less, and have interest rates which are fixed
for one to five years--thereafter adjusting in accordance with a designated
index that is generally subject to a floor and a ceiling. Loan-to-value ratios
on the Bank's commercial real estate loans may be as high as 80% for loans
secured by Type A properties, but are limited to ratios of 75% or lower for
commercial real estate loans which are secured by other properties. In addition,
as part of the criteria for underwriting commercial real estate loans, the Bank
generally imposes on potential borrowers a "debt coverage ratio" (the ratio of
net cash from operations before payment of debt service to debt service). This
ratio ranges from 115% to 120% for loans secured by Type A properties and 130%
to 160% for loans secured by other properties. It is also the Bank's general
policy to obtain personal guarantees of its commercial real estate loans from
the principals of the borrower and, when this cannot be obtained, to impose more
stringent loan-to-value, debt service, and other underwriting requirements. In
general, mortgage loans purchased from other financial institutions are subject
to the same underwriting standards as mortgage loans originated directly by the
Bank.
The Bank's Commercial Real Estate Division Manager generally approves
commercial real estate loans that have principal balances of up to $300,000.
Commercial real estate loans over $300,000 and up to $1.5 million require the
approval of the Bank's Senior Loan Committee. A Loan Committee of the Board of
Directors must approve loans over $1.5 million and up to $3.0 million. And
finally, loans with principal balances over $3.0 million must be approved by the
Board of Directors of the Bank.
From time to time the Bank originates loans to construct commercial
real estate. Construction loans are generally considered to involve a higher
degree of risk than mortgage loans on completed properties. A lender's risk of
loss on a construction loan is dependent largely upon the accuracy of the
initial estimate of the property's value at completion of construction, the
estimated cost (including interest) of construction, and the borrower's ability
to advance additional construction funds if that should become necessary. If the
estimate of construction costs proves to be inaccurate, and the borrower is
unable to meet the added costs, the lender may need to advance funds beyond the
amount originally committed to permit completion of the project and protect its
security interest. The Bank's construction lending activities generally are
limited to an area within a 150-mile radius of Madison, La Crosse, Appleton, and
Milwaukee, Wisconsin.
Commercial real estate lending is generally considered to involve a
higher level of risk than single-family residential lending. This is due to the
concentration of principal in a limited number of loans and borrowers, the
effects of general economic conditions on real estate developers and managers
and on income producing properties, and the increased difficulty of evaluating
and monitoring these types of loans. Moreover, a construction loan can involve
additional risks because of the inherent difficulty in estimating both a
property's value at completion of the project and the estimated cost (including
interest) of the project. In addition, loans secured by properties located
outside of the Bank's immediate market area may involve a higher degree of risk.
This is because the Bank may not be as familiar with market conditions and other
relevant factors as it would be in the case of loans secured by properties
located within its market areas. The Bank does not have a material concentration
of loans outside of its
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immediate market area. For additional discussion, refer to Note 4 of the
Corporation's Audited Consolidated Financial Statements, included herein under
Part II, Item 8, "Financial Statements and Supplementary Data".
The Bank has attempted to minimize the foregoing risks by, among other
things, adopting what management believes are conservative underwriting
guidelines that impose more stringent loan-to-value, debt service, and other
requirements on loans which are believed to involve higher elements of risk, by
requiring independent appraisals on all loans, by limiting the geographic area
in which the Bank will make commercial construction loans, and by limiting the
amount of certain types of commercial real estate loans in its portfolio, as
previously described. In addition, in the case of purchased commercial real
estate loans, the Bank emphasizes purchases of existing loans on
newly-constructed properties, as opposed to older properties, which may require
more maintenance and capital improvements. Furthermore, the Bank generally
requires the seller to retain not less than a 10% interest in a loan that the
Bank desires to purchase in order to ensure that the seller will retain an
interest in repayment of the loan in accordance with its terms.
SERVICING MORTGAGE LOANS In addition to servicing most of the mortgage
loans in its own portfolio, the Bank continues to collect principal and interest
payments on most of the single-family residential loans that it sells to
third-party investors, to make certain insurance and tax advances on behalf of
the borrowers, and to otherwise service such loans. The Bank pays the investors
an agreed-upon yield on the loans, which is generally less than the interest
agreed to be paid by the borrower. The difference, generally 25 basis points or
more, is retained by the Bank and recognized as servicing fee income over the
lives of the loans. The Bank also purchases mortgage servicing rights from third
parties for which it receives an agreed-upon fee and for which it performs
substantially the same services as it performs on its own originations. For
additional discussion refer to Note 1 of the Corporation's Audited Consolidated
Financial Statements, included herein under Part II, Item 8, "Financial
Statements and Supplementary Data".
Management believes that servicing mortgage loans for third parties,
whether such servicing results from its own originations or is purchased,
provides a natural hedge against other risks inherent in the Bank's mortgage
banking activities. That is, fluctuations in gains on sales of mortgage loans as
a result of changes in market interest rates will generally be offset in part by
opposite changes in loan servicing fee income (due principally to fluctuations
in the carrying value on mortgage servicing rights). For additional discussion
refer to Part II, Item 7, "Management Discussion and Analysis of Financial
Condition and Results of Operations".
CONSUMER LOANS The Bank offers consumer loans in order to provide a
full range of financial services to its retail customers. Applications for
consumer loans may be taken at all of the Bank's retail banking offices. The
majority of such loans, however, are underwritten and approved at the Bank's
headquarters in La Crosse. Most of the Bank's consumer loan portfolio consists
of second mortgage loans and education loans, but also includes automobile
loans, home equity lines of credit, recreational vehicle and mobile home loans,
deposit account secured loans, and unsecured lines of credit or signature loans.
The Bank services all of its own consumer loans except education loans, which
are serviced by a third-party. Consumer loans generally have shorter terms and
higher rates of interest than conventional mortgage loans, but typically involve
more credit risk than such loans because of the nature of the collateral and, in
some instances, the absence of collateral. In general, consumer loans are more
dependent upon the borrower's continuing financial stability, are more likely to
be affected by adverse personal circumstances, and are often secured by rapidly
depreciating personal property such as automobiles. However, such risks are
mitigated to some extent in the case of second mortgage loans and education
loans. The former are secured by a second mortgage on the borrower's residence
for which the total principal balance outstanding (including the first mortgage)
does not generally exceed 100% of the property's value. With respect to
education loans, the federal government generally guarantees the principal and
interest. Second mortgage loans are generally fixed-rate and have terms of up to
ten years. Education loans, although generally fixed-rate to the borrower, are
generally floating-rate to the Bank with the difference being paid by the
federal government. The interest rate received by the Bank each quarter is based
on a spread above the average yield on the three-month U.S. Treasury bill. Refer
to "Other Matters" in Part II, Item 7, "Management Discussion and Analysis of
Financial Condition and Results of Operations", for a discussion of legislation
affecting education loans.
The Bank believes that the higher yields earned on consumer loans
compensate for the increased risk associated with such loans and that consumer
loans are important to its efforts to increase the interest rate sensitivity
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and shorten the average maturity of its loan portfolio. Furthermore, despite the
risks inherent in consumer lending, the Bank's net charge-offs on consumer loans
as a percentage of gross loans has been minimal.
DELINQUENT LOANS When a borrower fails to make a required payment on a
loan, the Bank attempts to cure the deficiency by contacting the borrower and
seeking payment. Contacts are generally made on the fifteenth day after a
payment is due. In most cases, deficiencies are cured promptly. If a delinquency
extends beyond 15 days, the loan and payment histories are reviewed and efforts
are made to collect the loan. While the Bank generally prefers to work with
borrowers to resolve such problems, when the account becomes 90 days delinquent
the Bank institutes foreclosure or other proceedings, as necessary, to minimize
any potential loss.
NON-PERFORMING AND OTHER CLASSIFIED ASSETS Loans are generally placed
on non-accrual status and considered "non-performing" when, in the judgement of
management, the probability of collection of interest is deemed to be
insufficient to warrant further accrual. When a loan is placed on non-accrual
and/or non-performing status, previously accrued but unpaid interest is deducted
from interest income. In general, the Bank does not record accrued interest on
loans past due 90 days or more. Refer to Notes 1 and 4 of the Corporation's
Audited Consolidated Financial Statements, included herein under Part II, Item
8, "Financial Statements and Supplementary Data".
Real estate acquired by the Bank as a result of foreclosure or
deed-in-lieu of foreclosure is classified as real estate and is considered
"non-performing" until it is sold. When property is acquired, it is recorded at
the lower of carrying or fair value at the date of acquisition. Any write down
resulting therefrom is charged to the allowance for loan losses. All costs
incurred in maintaining the Bank's interest in the property are capitalized
between the date the loan becomes delinquent and the date of acquisition. After
the date of acquisition, all costs incurred in maintaining the property are
expensed and costs incurred for the improvement or development of such property
are capitalized. For additional discussion, refer to Note 1 of the Corporation's
Audited Consolidated Financial Statements, included herein under Part II, Item
8, "Financial Statements and Supplementary Data".
Federal regulations require thrift institutions to classify their
assets on a regular basis. In addition, in connection with examinations of
thrift institutions, federal examiners have authority to identify problem assets
and, if appropriate, include them in classified assets. An asset is classified
as "Substandard" if it is determined to involve a distinct possibility that the
thrift institution could sustain some loss if deficiencies associated with the
loan are not corrected. An asset is classified, as "Doubtful" if full collection
is highly questionable or improbable. An asset is classified as "Loss" if it is
considered uncollectible, even if a partial recovery could be expected in the
future. The regulations also provide for a "Special Mention" designation,
described as assets which do not currently expose an institution to a sufficient
degree of risk to warrant adverse classification, but which possess credit
deficiencies or potential weaknesses deserving management's close attention.
Assets classified as Substandard or Doubtful require the institution to
establish a general allowance for loan losses. If an asset or portion thereof is
classified as Loss, the institution must either establish a specific allowance
for loan losses in the amount of the portion of the assets classified as loss,
or charge off such amount. Refer to Part II, Item 7, "Management's Discussion
and Analysis of Financial Condition and Results of Operations", for additional
discussion--including a more detailed discussion of the Bank's classified
assets.
ALLOWANCES FOR LOSSES ON LOANS AND REAL ESTATE The Bank's policy is to
establish allowances for estimated losses on specific loans and real estate when
it determines that losses are expected to be incurred. In addition, the Bank
maintains a general loss allowance against its loan and real estate portfolios
which is based on its own loss experience, that of the financial services
industry, and management's ongoing assessment of current economic conditions,
and the credit risk inherent in the portfolios. For additional information,
refer to Part II, Item 7, "Management's Discussion and Analysis of Financial
Condition and Results of Operations" and Notes 1 and 4 of the Corporation's
Audited Consolidated Financial Statements, included herein under Part II, Item
8, "Financial Statements and Supplementary Data".
Management of the Bank believes that the allowances established by the
Bank are adequate to cover any potential losses in the Bank's loan and real
estate portfolios. However, future adjustments to these allowances may be
necessary and the Bank's results of operations could be adversely affected if
circumstances differ substantially from the assumptions used by management in
making its determinations in this regard.
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MORTGAGE-BACKED AND RELATED SECURITIES
The Bank invests in CMOs which management of the Bank believes
represent attractive investment alternatives, relative to other investment
vehicles, due to the wide variety of maturity and repayment options available
through such investments and due to the limited credit risk associated with such
investments. CMOs purchased by the Bank are generally rated "AAA" by independent
credit-rating agencies. In addition, such investments are secured by credit
enhancements and/or subordinated tranches or are collateralized by U.S.
government agency MBSs. The Bank only invests in sequential-pay, planned
amortization class ("PAC"), and targeted amortization class ("TAC") tranches
that, at the time of their purchase, are not classified as high-risk derivative
securities in accordance with regulations. The Bank does not invest in support-,
companion-, or residual-type tranches. Furthermore, the Bank does not invest in
interest-only, principal-only, inverse-floating-rate CMO tranches, or similar
complex CMO securities.
The Bank also invests in MBSs that are guaranteed by the FHLMC, FNMA,
or the Government National Mortgage Association ("GNMA"). MBSs enhance the
quality of the Bank's assets by virtue of the guarantees that back them. In
addition, MBSs are more liquid than individual mortgage loans and may be used to
collateralize borrowings or other obligations of the Bank.
The Bank classifies its mortgage-backed and related securities as
either available for sale or held for investment. For additional discussion,
refer to Part II, Item 7, "Management Discussion and Analysis of Financial
Condition and Results of Operations" and Note 1 of the Corporation's Audited
Consolidated Financial Statements, included herein under Part II, Item 8,
"Financial Statements and Supplementary Data".
INVESTMENT SECURITIES
Federally-chartered savings institutions have authority to invest in
various types of securities, including U.S. government obligations, securities
of various federal agencies, certificates of deposit issued by insured banks and
savings institutions, and federal funds. Subject to various restrictions,
federally-chartered savings institutions also may invest a portion of their
assets in commercial paper, corporate debt securities, and mutual funds whose
assets conform to the investments that a federally-chartered savings institution
is authorized to make directly. In general, investments in these types of
securities are limited to the four highest credit categories as established by
the major independent credit-rating agencies.
The Bank must maintain minimum liquidity levels specified by the OTS
that may vary from time to time. Liquidity may increase or decrease depending
upon the yields available on investment opportunities and upon management's
judgement as to the attractiveness of such yields and its expectation of the
level of yields that will be available in the future.
Excluding U.S. government and federal agency securities and mutual
funds that invest exclusively in such securities, none of the Bank's individual
investments exceeded 10% of the Bank's retained earnings as of the end of each
of the past three years.
The Bank generally classifies its investment securities as available
for sale. For additional discussion, refer to Part II, Item 7, "Management
Discussion and Analysis of Financial Condition and Results of Operations" and
Note 1 of the Corporation's Audited Consolidated Financial Statements, included
herein under Part II, Item 8, "Financial Statements and Supplementary Data".
SOURCES OF FUNDS
Deposits obtained through its retail banking facilities have
traditionally been the principal source of the Bank's funds for use in lending
and for other general business purposes. The Bank also obtains funds through
borrowings from the FHLB and other sources and, to a lesser extent, obtains
funds from amortization and prepayments of outstanding loans and investments.
DEPOSIT LIABILITIES The Bank's current deposit products include regular
savings accounts, checking accounts, money market deposit accounts, individual
retirement accounts, and certificates of deposit ranging in
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terms from three months to five years. Substantially all of the Bank's deposits
are obtained from individual and business residents of the state of Wisconsin.
In addition to serving as the Bank's primary source of funds, deposit
liabilities (especially checking accounts) are a substantial source of
non-interest income. This income is generally received in the form of overdraft
fees, periodic service charges, and other transaction charges.
The principal methods used by the Bank to attract deposit accounts
include offering a wide variety of products and services, competitive interest
rates, and convenient office locations and hours. Most of the Bank's
free-standing retail banking offices have drive-up facilities and 18 of the
Bank's retail banking facilities are located in supermarkets. Depositors also
have access to automated teller machines ("ATMs") connected to TYME, Inc., which
supports a network of ATMs located throughout Wisconsin. TYME is affiliated with
other ATM networks, which permit the Bank's customers to access the TYME network
through similar systems located in other states and countries. As of December
31, 1997, the Bank owned 59 ATM machines, all of which were located in
Wisconsin. Depositors may also obtain a VISA "debit card" from the Bank that
allows them to purchase goods and services directly from any merchant that
accepts VISA credit cards. The same debit card also provides access to the ATM
network.
From time to time, the Bank has also utilized certificates of deposit
sold through third-party brokers ("brokered deposits") as an alternative to
borrowings from the FHLB. FDIC regulations govern the acceptance of brokered
deposits by insured depository institutions such as the Bank. The capital
position of an institution determines whether and with what limitations an
institution may accept brokered deposits. The Bank is a "well capitalized"
institution under the regulations and therefore may accept brokered deposits
without restriction. At December 31, 1997, the Bank had no brokered deposits
outstanding.
FEDERAL HOME LOAN BANK ADVANCES The Bank obtains advances from the FHLB
secured by certain of its home mortgage loans and mortgage-related securities,
as well as stock in the FHLB that it is required to own. Such advances may be
made pursuant to several different credit programs, each with its own interest
rate, maximum size of advance, and range of maturity dates. Depending on the
program, limitations on the amount of such borrowings are based either on a
fixed percentage of the Bank's capital or on the FHLB's assessment of the Bank's
creditworthiness.
OTHER BORROWINGS The Bank has two lines of credit with two financial
institutions. These lines, which amount to $15.0 million in the aggregate,
permit the overnight purchase of fed funds.
The Corporation also has a $3.0 million borrowing outstanding with a
third financial institution which matures on May 31, 1998, but which is subject
to renewal under certain circumstances. Interest on this borrowing is payable
quarterly at 185 basis points above the three-month London Inter-Bank Offered
Rate ("LIBOR"), as determined on a quarterly basis.
SUBSIDIARIES
The Bank has formed a number of subsidiaries to engage in certain
activities that are more appropriately conducted in a subsidiary of the Bank.
Following is a brief description of each subsidiary.
FIRST ENTERPRISES, INC. The Bank's wholly-owned subsidiary, First
Enterprises, Inc. ("FEI"), was incorporated in November 1971. During the period
from 1979 to the mid-1980s, FEI was primarily involved in the acquisition and
development of hotels. In general, however, FEI is no longer involved in these
types of activities, other than the maintenance of its remaining investments.
FEI's investment in its remaining hotel joint ventures was $292,000 as of
December 31, 1997.
From 1988 to 1995, the Bank offered tax-deferred annuity contracts
through FEI as an investment alternative to its customers. Beginning in 1996,
however, these activities were transferred to the Bank. FEI had net income of
$49,000, $56,000, and $290,000 during the twelve-month periods ended December
31, 1997, 1996, and 1995, respectively. At December 31, 1997, the Bank's
investment in FEI was $344,000; this amount is eliminated in consolidation in
accordance with generally accepted accounting principles ("GAAP").
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FIRST CAPITAL HOLDINGS, INC. In June 1993 the Bank formed a
wholly-owned subsidiary in the State of Nevada. The subsidiary, First Capital
Holdings, Inc. ("FCHI") was formed to consolidate and improve the efficiency,
management, safekeeping, and operations of a portion of the Bank's investment
securities portfolio. In addition, the formation of FCHI has resulted in a lower
effective income tax rate for the Bank due to the fact that the State of Nevada
does not currently impose a corporate income tax. As of December 31, 1997, FCHI
was managing $168.4 million in mortgage-backed and related securities for the
Bank, consisting principally of CMOs. FCHI's net income was $9.8 million, $9.5
million, and $9.3 million for the twelve-month periods ended December 31, 1997,
1996, and 1995, respectively. The Bank's investment in FCHI as of December 31,
1997, was $235.6 million; this amount is eliminated in consolidation in
accordance with GAAP.
TURTLE CREEK CORPORATION In December 1995 the Bank acquired an
additional subsidiary, Turtle Creek Corporation ("Turtle Creek"), as a result of
its acquisition of the net assets of another financial institution. Turtle Creek
is a joint venture partner in a real estate project to develop single-family
residential building lots and condominium building sites on a 78-acre parcel
located within the city limits of Beloit, Wisconsin. Turtle Creek's aggregate
investment in this project was $31,000 at December 31, 1997. Turtle Creek also
holds a 40% limited partnership interest in a fifty-unit complex providing
housing for low-to-moderate income and elderly persons in Beloit. Turtle Creek's
aggregate investment in this project was $134,000 at December 31, 1997. The
Bank's investment in Turtle Creek as of December 31, 1997, was $361,000; this
amount is eliminated in consolidation in accordance with GAAP.
COMPETITION
The Bank faces significant competition in attracting deposits. Its most
direct competition for deposits has historically come from commercial banks,
credit unions, and other savings institutions located in its market area. In
addition, during periods of high market interest rates, the Bank faces
significant competition from short-term money market mutual funds; during
periods of low interest rates, the Bank faces significant competition from
long-term bond mutual funds and equity mutual funds and issuers of corporate and
government securities. The Bank competes for deposits principally by offering
depositors a variety of deposit products, convenient branch locations, operating
hours, and other services. The Bank does not rely upon any individual group or
entity for a material portion of its deposits.
The Bank's competition for loans comes principally from mortgage
banking companies, other savings institutions, commercial banks, finance
companies, and credit unions. The Bank competes for loan originations primarily
through the interest rates and loan fees it charges, the efficiency and quality
of services it provides borrowers, referrals from real estate brokers and
builders, and the variety of its products. Factors that affect competition
include the general and local economic conditions, current interest rate levels,
and volatility in the secondary market for residential mortgage loans.
REGULATION OF THE CORPORATION
The Corporation is a savings and loan holding company within the
meaning of Section 10 of the Home Owners' Loan Act ("HOLA"). As such, the
Corporation is registered with and subject to OTS examination and supervision as
well as certain reporting requirements. Furthermore, the Corporation is limited
with respect to the transactions it can execute with its affiliates (including
the Bank), and its ability to acquire control of another insured financial
institution, as specified more fully in the applicable regulations. There
generally are no restrictions as to activities of a unitary savings and loan
holding company such as the Corporation as long as its sole insured subsidiary,
the Bank, complies with certain regulatory requirements, which management
believes it did as of December 31, 1997.
REGULATION OF THE BANK
The Bank, as a federally-chartered savings bank, is subject to federal
regulation and oversight by the OTS extending to all aspects of its operations.
The Bank also is subject to regulation and examination by the FDIC, which
insures the deposits of the Bank to the maximum extent permitted by law, and
requirements established by the Federal Reserve Board. The laws and regulations
governing the Bank generally have been promulgated to protect depositors and not
for the purpose of protecting stockholders of financial institutions or their
holding companies.
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The investment and lending authority of a federally-chartered savings
bank is prescribed by federal laws and regulations. The Bank is also subject to
regulatory provisions affecting a wide variety of matters including, but not
limited to, branching, loans to one borrower, investment restrictions,
activities of subsidiaries, loans to "insiders", and transactions with
affiliates. Certain of the regulatory requirements applicable to the Bank and
the Corporation are more particularly described below or may be referred to
elsewhere herein.
INSURANCE OF ACCOUNTS The Bank's savings deposits are insured by SAIF,
which is administered by the FDIC, up to the maximum extent provided by law,
currently $100,000. The Bank is subject to a risk-based insurance assessment
system under which higher insurance assessment rates are charged to those thrift
institutions that are deemed to pose greater risk to the deposit insurance fund.
Under this system, insurance assessments range from 0% of deposits for the
healthiest financial institutions to 0.27% of deposits for the weakest. This
risk-based assessment schedule is identical to that for institutions insured by
the Bank Insurance Fund ("BIF"), which is also administered by the FDIC. Under
both funds, the insurance assessment paid by a particular institution will
depend on the "supervisory rating" it receives from the FDIC ("A", "B", or "C")
and on its regulatory capital level ("well capitalized", "adequately
capitalized", or "undercapitalized"). Based upon its current supervisory rating
and regulatory capital level, and assuming no change in the Bank's risk
classification or in overall premium assessment levels, the Bank anticipates
that its insurance assessment for 1998 will be zero, which is the same as the
1997 rate.
Although the Bank's risk-based insurance assessment for 1998 is
expected to be zero, the Bank will still be required to pay approximately 0.065%
of deposits to cover its pro rata share of the bond obligation of a government
agency known as the Finance Corporation ("FICO"). This rate is not tied to the
FDIC's risk classification; as a result, it is the same for all SAIF-insured
institutions. BIF-insured institutions, however, will only be subject to a rate
of approximately 0.013% of deposits.
CAPITAL STANDARDS The Bank is subject to minimum regulatory capital
requirements as specified by OTS regulations. As more fully described in such
regulations, the Bank is subject to a leverage limit of at least 3% of total
assets, a tangible capital limit of at least 1.5% of total assets, and a
risk-based capital limit of at least 8% of risk-weighted assets. As of December
31, 1997, the Bank exceeded all minimum regulatory capital requirements as
specified by the OTS.
The Bank is also subject to minimum regulatory capital requirements as
specified by FDIC regulations. As more fully described in such regulations, the
Bank must meet the following capital standards to be classified as "adequately
capitalized" under FDIC guidelines: (1) Tier 1 capital in an amount not less
than 4% of total assets, (ii) Tier 1 capital in an amount not less than 4% of
risk-weighted assets, and (iii) total capital in an amount not less than 8% of
risk-weighted assets. As of December 31, 1997, the Bank exceeded all minimum
regulatory capital requirements as specified by the FDIC. For additional
discussion refer to Note 12 of the Corporation's Audited Consolidated Financial
Statements, included herein under Part II, Item 8, "Financial Statements and
Supplementary Data".
Federal bank regulators such as the OTS and FDIC are required to take
"prompt corrective action" with respect to institutions that become
undercapitalized, the severity of which will depend upon the degree of
undercapitalization. The regulations provide that an insured institution that
has not met one or more of the minimum regulatory capital requirements specified
in the previous paragraph will be considered "undercapitalized". Furthermore, an
insured institution that has Tier 1 capital in an amount less than 3% of total
assets, Tier 1 capital in an amount less than 3% of risk-based assets, or total
capital in an amount less than 6% of risk-weighted assets will be considered
"significantly undercapitalized". Finally, an insured institution that has
tangible capital in an amount less than 2% of total assets will be considered
"critically undercapitalized".
Subject to limited exceptions, insured institutions in any of the
undercapitalized categories are prohibited from declaring dividends, making any
other capital distributions, or paying a management fee to a controlling person
or entity. Significantly and critically undercapitalized institutions are
subject to additional restrictions. The Bank currently exceeds all applicable
minimum regulatory capital requirements and therefore is not subject to prompt
corrective action.
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LIQUIDITY REQUIREMENTS The Bank is required to maintain liquid assets
(generally defined as cash and investment-grade, short-term or variable-rate
securities) equal to at least 4% of its "liquidity base" (generally defined as
short-term deposit liabilities and other borrowings). This requirement may be
changed from time to time by the OTS to any amount within the range of 4% to 10%
of the liquidity base. As of December 31, 1997, the Bank was in compliance with
the minimum requirements. For additional information refer to Part II, Item 7,
"Management's Discussion and Analysis of Financial Condition and Results of
Operations."
CLASSIFICATION OF ASSETS As previously described, the Bank's problem
assets are subject to classification according to one of three categories:
Substandard, Doubtful, and Loss. An institution is required to develop an
in-house program to classify its assets, including investments in subsidiaries,
on a regular basis and to set aside appropriate loss reserves on the basis of
such classification. The Bank believes that it is in compliance with the
foregoing requirements.
QUALIFIED THRIFT LENDER TEST A savings association that does not meet
the Qualified Thrift Lender Test ("QTL Test"), as set forth in the HOLA and
implementing regulations, must either convert to a bank charter or comply with
certain restrictions on its operations. Under the QTL Test, a savings
association is required to maintain a certain percentage of its assets in
qualifying investments, as defined by regulations. In general, qualifying
investments consist of housing-related assets. At December 31, 1997, the Bank's
assets invested in qualifying investments exceeded the percentage required to
qualify the Bank under the QTL Test.
FEDERAL HOME LOAN BANK SYSTEM The Bank is a member of the FHLB System,
which consists of 12 regional FHLBs, subject to supervision and regulation by
the Federal Housing Finance Board. The FHLBs provide a central credit facility
primarily for member financial institutions. The Bank, as a member of the FHLB
of Chicago, is required to purchase and hold shares of capital stock in the FHLB
of Chicago. The requirement is equal to the greater of 1% of the Bank's
aggregate unpaid residential mortgage loans, home purchase contracts, and
similar obligations at the beginning of each year or 5% of its outstanding
advances from the FHLB of Chicago. At December 31, 1997, the Bank had a $13.8
million investment in the stock of the FHLB of Chicago and was in compliance
with this requirement.
The Bank's investment in FHLB stock, a large portion of its
single-family mortgage loans, and certain other assets (consisting principally
of CMOs and MBSs) are used to secure advances from the FHLB of Chicago. The
interest rates charged on advances vary with the maturity of the advance and the
FHLB's own cost of funds.
FEDERAL RESERVE SYSTEM Federal Reserve Board regulations require
savings institutions to maintain non-interest-earning reserves against
transaction accounts (which consist of NOW accounts, Super NOW accounts, and
regular checking accounts) and against certain non-personal time deposits. At
December 31, 1997, the Bank's required reserves were approximately $12.1
million.
DIVIDEND RESTRICTIONS The payment of dividends by the Bank is subject
to various limitations set forth in federal regulations and as briefly described
in Note 12 of the Corporation's Audited Consolidated Financial Statements,
included herein under Part II, Item 8, "Financial Statements and Supplementary
Data".
COMMUNITY REINVESTMENT ACT Under the Community Reinvestment Act of
1977, as amended (the "CRA"), as implemented by OTS regulations, a savings
institution has a continuing and affirmative obligation, consistent with its
safe and sound operation, to help meet the credit needs of its entire community,
including low and moderate income neighborhoods. The CRA does not establish
specific lending requirements or programs for financial institutions nor does it
limit an institution's discretion to develop the types of products and services
that it believes are best suited to its particular community, consistent with
the CRA. The CRA requires the OTS, in connection with its examination of a
savings institution, to assess the institution's record of meeting the credit
needs of its community and to take such record into account in its evaluation of
certain applications by such institution. The CRA also requires all institutions
to make public disclosure of their CRA ratings. The Bank's latest CRA rating,
received in 1995, was "outstanding".
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TAXATION
FEDERAL TAXATION The Bank is subject to those rules of federal income
taxation generally applicable to corporations under the Internal Revenue Code
("IRC"). The Corporation, the Bank, and the Bank's wholly-owned subsidiaries
file consolidated federal income tax returns, which has the effect of
eliminating or deferring the tax consequences of intercompany distributions,
including dividends, in the computation of consolidated taxable income. Refer to
Notes 1 and 9 of the Corporation's Audited Consolidated Financial Statements,
included herein under Part II, Item 8, "Financial Statements and Supplementary
Data" for additional discussion.
The federal income tax returns of the Bank have been audited and closed
by the Internal Revenue Service ("IRS") through 1991 and no material disputes
are outstanding as a result of these audits.
WISCONSIN TAXATION The State of Wisconsin imposes a tax on the
Wisconsin taxable income of corporations, including savings institutions, at the
rate of 7.9%. Wisconsin taxable income is generally similar to federal taxable
income except that interest from state and municipal obligations is taxable, no
deduction is allowed for state income taxes, and net operating losses may be
carried forward but not back. In addition, Wisconsin law does not provide for
filing of consolidated state income tax returns.
ITEM 2--PROPERTIES
As of December 31, 1997, the Bank conducted its business from its
corporate offices in La Crosse, Wisconsin, 48 other retail banking facilities
located throughout Wisconsin, as previously described, and two separate loan
production offices, also located in Wisconsin. At such date, the Bank owned the
building and land for 19 of its offices and leased the building and/or the land
for its remaining 31 properties, including 18 located in supermarkets. The Bank
also owns or leases certain other properties to meet various business needs. For
additional information, refer to Note 6 of the Corporation's Audited
Consolidated Financial Statements, included herein under Part II, Item 8,
"Financial Statements and Supplementary Data".
ITEM 3--LEGAL PROCEEDINGS
The information required herein is included in Note 11 of the
Corporation's Audited Consolidated Financial Statements, included herein under
Part II, Item 8, "Financial Statements and Supplementary Data".
ITEM 4--SUBMISSION OF MATTERS TO VOTE OF SECURITY HOLDERS
None.
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PART II
ITEM 5--MARKET FOR REGISTRANT'S COMMON EQUITY AND RELATED STOCKHOLDER MATTERS
The Corporation's common stock is traded on the National Association of
Securities Dealers Automated Quotation ("NASDAQ") National Market System under
the symbol FTFC. As of February 12, 1998, the Corporation had 9,228,930 common
shares outstanding (net of 741,885 shares of treasury stock), 1,510 stockholders
of record, 2,780 estimated beneficial stockholders, and 4,290 estimated total
stockholders.
Dividend and stock price information required by this item, as well as
information relating to the Corporation's stock repurchase plans, is included
under the following sections of this report:
(1) "Liquidity and Capital Resources", included herein under Item 7,
"Management's Discussion and Analysis of Financial Condition and Results of
Operations".
(2) "Note 12--Stockholder's Equity", included herein under Item 8,
"Financial Statements and Supplementary Data--Audited Consolidated Financial
Statements".
(3) "Quarterly Financial Information", included herein under Item 8,
"Financial Statements and Supplementary Data--Supplementary Data".
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ITEM 6--SELECTED FINANCIAL DATA
The information in the following table contains selected consolidated
financial and other data. This information has been derived in part from the
Audited Consolidated Financial Statements included herein under Item 8,
"Financial Statements and Supplementary Data". Accordingly, the table should be
read in conjunction with such consolidated statements.
Dollars in thousands, except for per share amounts
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SELECTED BALANCE SHEET DATA AS OF DECEMBER 31 1997 1996 1995 1994 1993
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Total assets $ 1,544,294 $ 1,515,413 $ 1,402,479 $ 1,172,886 $941,395
Investment securities:
Available for sale, at fair value 21,377 74,029 80,325 89,476 -
Held for investment, at cost - - - - 126,541
Mortgage-backed and related securities:
Available for sale, at fair value 47,895 61,875 84,173 - -
Held for investment, at cost 124,336 147,835 171,493 269,443 118,021
Loans held for investment, net 1,193,893 1,106,040 932,084 723,826 572,066
Allowance for loan losses 7,638 7,888 8,186 8,074 7,828
Intangible assets 5,921 5,221 5,643 97 78
Deposit liabilities 1,146,534 1,024,093 969,423 778,641 745,509
FHLB advances and other borrowings 275,779 383,593 322,296 308,476 116,504
Stockholders' equity 109,361 95,414 98,939 77,181 71,517
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SELECTED OPERATING DATA FOR YEAR ENDED DECEMBER 31 1997 1996 1995 1994 1993
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Interest income $ 114,976 $ 103,977 $ 88,858 $ 73,208 $ 65,852
Interest expense 70,265 63,684 54,954 40,938 35,218
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Net interest income 44,711 40,293 33,904 32,270 30,634
Provision for loan losses 539 - - - 160
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Net interest income after provision for loan losses 44,172 40,293 33,904 32,270 30,474
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Gains from sales of loans 6,374 4,331 3,545 2,945 9,198
Gains (losses) from sales of mortgage-backed
securities and other investments (725) (311) (29) 100 728
Other non-interest income 18,645 15,811 13,597 11,262 6,685
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Total non-interest income 24,294 19,831 17,113 14,307 16,611
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FDIC special assessment - 5,941 - - -
Other non-interest expense 40,197 38,304 34,372 30,889 27,172
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Total non-interest expense 40,197 44,245 34,372 30,889 27,172
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Income before income taxes and extraodinary charge 28,269 15,880 16,646 15,687 19,913
Income tax expense 10,879 5,806 6,001 5,707 7,868
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Net income before extraordinary charge 17,390 10,074 10,645 9,980 12,045
Extraordinary charge (1) - - - (203) -
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Net income $ 17,390 $ 10,074 $ 10,645 $ 9,777 $ 12,045
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SELECTED OTHER DATA AT OR FOR THE YEAR ENDED DECEMBER 31 (2) 1997 1996 1995 1994 1993
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Return on average assets 1.13% 0.97% 0.87% 0.93% 1.34%
Return on average equity 17.20 14.21 12.86 13.32 18.11
Average equity to average assets 6.57 6.80 6.75 6.96 7.39
Average interest rate spread 2.63 2.61 2.54 2.82 3.18
Average net interest margin 3.07 3.02 2.92 3.15 3.58
Ratio of allowance for loan losses to total loans
held for investment at end of period 0.64 0.71 0.88 1.12 1.37
Ratio of non-interest expense to average assets (3) 2.62 2.71 2.83 2.89 3.14
Earnings per share: (4)
Diluted earnings per share $ 1.77 $ 1.36 $ 1.14 $ 1.09 $ 1.33
Basic earnings per share 1.90 1.45 1.21 1.16 1.41
Dividends paid per share (4) 0.467 0.413 0.367 0.321 0.215
Stock price at end of period (4) 33.88 15.67 12.00 10.83 9.85
Book value per share at end of period (4) 11.90 10.38 10.05 8.93 8.39
Banking facilities at end of period 50 48 44 35 26
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(1) The extraordinary charge in 1994 consisted of a prepayment penalty, net of
income tax benefit, on certain FHLB advances.
(2) Selected other data excludes the after-tax impact of the FDIC special
assessment as well as the impact of extraordinary charges.
(3) Excludes the FDIC special assessment and provision for real estate losses
and recoveries.
(4) Per share data and historical stock prices have been adjusted for a 10%
stock dividend on June 2, 1994, and a 3-for-2 stock split 0on June 12, 1997.
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ITEM 7--MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
This section should be read in conjunction with Item 8, "Financial
Statements and Supplementary Data", as well as Item 7A, "Quantitative and
Qualitative Disclosures about Market Risk", and Part I, Item 1, "Business".
RESULTS OF OPERATIONS
OVERVIEW The Corporation's earnings for the years ended December 31,
1997, 1996, and 1995, were $ 17.4 million, $13.6 million, and $10.6 million,
respectively, excluding $3.5 million related to the after-tax impact of an FDIC
special assessment in 1996. These amounts, as adjusted, represented returns on
average assets of 1.13%, 0.97%, and 0.87%, respectively, and returns on average
equity of 17.20%, 14.21%, and 12.86%, respectively. Diluted earnings per share
during these periods were $1.77, $1.36, and $1.14, respectively, excluding the
after-tax effect of the FDIC special assessment in 1996 ($0.36 per share).
The improvement in earnings from 1996 to 1997 was primarily
attributable to an increase in net interest income. Also contributing, however,
were increases in retail banking fees and gain on sales of loans, as well as a
decrease in federal deposit insurance premiums. These favorable developments
were partially offset by increases in compensation and employee benefits,
advertising and marketing, and other non-interest expenses--the latter due
principally to increases in ATM and debit card transaction costs. Finally, loss
on sales of investment securities increased in 1997 as compared to the previous
year.
The improvement in earnings from 1995 to 1996 was also due primarily to
an increase in net interest income. Also contributing, however, were increases
in retail banking fees, commissions on annuity and insurance sales, and gain on
sales of loans, as well as a decrease in advertising and marketing expenses.
These favorable developments were partially offset by increases in compensation
and employee benefits, occupancy and equipment expenses, and other non-interest
expenses, most notably amortization of goodwill from the 1995 acquisition of
Rock Financial Corp. ("RFC"). In addition, loss on sales of investment
securities increased and loan servicing fees decreased in 1996 as compared to
the previous year.
The following paragraphs discuss the aforementioned changes in greater
detail along with other changes in the components of earnings during the years
ended December 31, 1997, 1996, and 1995.
NET INTEREST INCOME Net interest income increased by $4.4 million or
11.0% and $6.4 million or 18.8% during the years ended December 31, 1997 and
1996, respectively. The improvement in both of these periods was primarily
volume related as the Corporation's average interest-earning assets grew by
$123.7 million or 9.3% and $173.7 million or 15.0% in 1997 and 1996,
respectively. The primary sources of growth in 1997 were increases in mortgage
and consumer loans outstanding, the origination of which were funded by
increases in deposit liabilities, and to a lesser extent, FHLB advances. The
principal source of growth in interest-earning assets in 1996 was the
Corporation's purchase of RFC in December of 1995. Also contributing were
increases in mortgage and consumer loans, the origination of which were funded
by growth in deposit liabilities and FHLB advances.
Also contributing to the increase in net interest income in 1997 and
1996 were modest increases in the Corporation's average interest rate spread.
Management attributes these increases to a higher percentage of interest-earning
assets invested in mortgage and consumer loans, which generally earn higher
yields than the Corporation's other interest-earning assets, such as CMOs, MBSs,
and investment securities. These developments were partially offset by an
increase in both years in the average cost of the Corporation's interest-bearing
liabilities, due to more competitive rate offerings on deposit liabilities and
the repayment of low cost term advances at the FHLB. Also contributing was a 25
basis point increase in the fed funds rate in March 1997. The Corporation's
overnight borrowings from the FHLB are sensitive to changes in the fed funds
rate.
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The following table sets forth information regarding the average
balances of the Corporation's assets, liabilities, and equity, as well as the
interest earned or paid and the average yield or cost of each. The information
is based on daily average balances during the years ended December 31, 1997,
1996, and 1995.
YEAR ENDED DECEMBER 31
Dollars in thousands 1997 1996 1995
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AVERAGE YIELD/ AVERAGE YIELD/ AVERAGE YIELD/
BALANCE INTEREST COST BALANCE INTEREST COST BALANCE INTEREST COST
- --------------------------------------------------------------------------------------------------------------------------------
Interest-earning assets:
Mortgage loans $ 853,605 $ 69,624 8.16% $ 734,959 $ 59,862 8.14% $ 584,083 $ 47,778 8.18%
Consumer loans 331,226 28,251 8.53 269,951 23,816 8.82 211,797 18,581 8.77
Commercial business loans 817 67 8.14 1,630 108 6.65 1,709 126 7.37
- --------------------------------------------------------------------------------------------------------------------------------
Total loans 1,185,648 97,942 8.26 1,006,540 83,786 8.32 797,589 66,485 8.34
Mortgage-backed and
related securities 193,135 12,126 6.28 234,430 14,495 6.18 258,590 15,803 6.11
Investment securities 49,747 3,079 6.19 72,149 4,347 6.03 85,114 5,319 6.25
Interest-bearing deposits
with banks 10,594 576 5.44 4,756 256 5.39 3,266 206 6.31
Other earning assets 18,540 1,254 6.77 16,126 1,093 6.77 15,775 1,045 6.62
- --------------------------------------------------------------------------------------------------------------------------------
Total interest-earning
assets 1,457,664 114,976 7.89 1,334,001 103,977 7.79 1,160,334 88,858 7.66
- --------------------------------------------------------------------------------------------------------------------------------
Non-interest-earning assets:
Office properties and
equipment 25,201 26,670 24,909
Real estate 735 199 63
Other assets 55,838 50,909 40,963
- --------------------------------------------------------------------------------------------------------------------------------
Total assets $1,539,438 $1,411,779 $1,226,269
- --------------------------------------------------------------------------------------------------------------------------------
- --------------------------------------------------------------------------------------------------------------------------------
Interest-bearing
liabilities:
Regular savings accounts $ 88,797 $ 1,800 2.03% $ 89,202 $ 1,775 1.99% $ 82,553 $ 1,753 2.12%
Checking accounts 52,579 524 1.00 52,297 521 1.00 45,928 655 1.43
Money market accounts 142,438 6,322 4.44 118,916 5,103 4.29 101,736 3,987 3.92
Certificates of deposit 710,591 42,504 5.98 654,299 39,091 5.97 557,016 32,592 5.85
- --------------------------------------------------------------------------------------------------------------------------------
Total deposits 994,405 51,150 5.14 914,714 46,490 5.08 787,233 38,987 4.95
FHLB advances 325,481 18,569 5.71 297,892 16,642 5.59 277,816 15,885 5.72
Other borrowings 15,650 546 3.49 15,274 552 3.61 7,478 82 1.10
- --------------------------------------------------------------------------------------------------------------------------------
Total interest-bearing
Liabilities 1,335,536 70,265 5.26 1,227,880 63,684 5.19 1,072,527 54,954 5.12
Non-interest-bearing
liabilities:
Non-interest-bearing
deposits 92,439 78,890 63,398
Other liabilities 10,343 8,943 7,587
- --------------------------------------------------------------------------------------------------------------------------------
Total liabilities 1,438,318 1,315,713 1,143,512
Stockholders' equity 101,120 96,066 82,757
- --------------------------------------------------------------------------------------------------------------------------------
Total liabilities and
stockholders' equity $1,539,438 $1,411,779 $1,226,269
- --------------------------------------------------------------------------------------------------------------------------------
- --------------------------------------------------------------------------------------------------------------------------------
Net interest income $ 44,711 $ 40,293 $ 33,904
- --------------------------------------------------------------------------------------------------------------------------------
- --------------------------------------------------------------------------------------------------------------------------------
Interest rate spread 2.63% 2.61% 2.54%
- --------------------------------------------------------------------------------------------------------------------------------
- --------------------------------------------------------------------------------------------------------------------------------
Net interest income as a
percent of average earning
assets 3.07% 3.02% 2.92%
- --------------------------------------------------------------------------------------------------------------------------------
- --------------------------------------------------------------------------------------------------------------------------------
Average interest-earning
assets to average interest-
bearing liabilities 109.14% 108.64% 108.19%
- --------------------------------------------------------------------------------------------------------------------------------
- --------------------------------------------------------------------------------------------------------------------------------
17
19
The following table sets forth the effects of changing rates and
volumes on net interest income of the Corporation for the periods indicated.
Information is provided with respect to (i) effects on net interest income
attributable to changes in volume (changes in volume multiplied by prior rate);
(ii) effects on net interest income attributable to changes in rate (changes in
rate multiplied by prior volume); (iii) changes attributable to combined effects
of rate and volume (changes in rate multiplied by changes in volume); and (iv)
the net change.
1997 COMPARED TO 1996 1996 COMPARED TO 1995
Dollars in thousands INCREASE (DECREASE) INCREASE (DECREASE)
- --------------------------------------------------------------------------------------------------------------------
RATE/ RATE/
RATE VOLUME VOLUME NET RATE VOLUME VOLUME NET
- --------------------------------------------------------------------------------------------------------------------
Interest-earning assets:
Mortgage loans $ 86 $ 9,663 $ 14 $ 9,763 ($206) $12,342 ($54) $12,082
Consumer loans (791) 5,406 (180) 4,435 105 5,102 28 5,235
Commercial business loans 24 (54) (12) (42) (12) (6) 0 (18)
- --------------------------------------------------------------------------------------------------------------------
Total loans (681) 15,015 (179) 14,156 (113) 17,438 (27) 17,300
Mortgage-backed and related
securities 224 (2,553) (40) (2,369) 186 (1,476) (17) (1,306)
Investment securities 119 (1,350) (37) (1,268) (190) (810) 29 (971)
Interest-bearing deposits with
banks 3 314 3 320 (30) 94 (14) 50
Other earning assets (1) 163 (1) 161 24 23 1 47
- --------------------------------------------------------------------------------------------------------------------
Total net change in income on
interest-earning assets (336) 11,589 (253) 10,999 (123) 15,269 (27) 15,119
- --------------------------------------------------------------------------------------------------------------------
Interest-bearing liabilities:
Interest-bearing deposits 254 4,367 39 4,660 759 6,597 147 7,503
FHLB advances 355 1,541 31 1,927 (365) 1,148 (26) 756
Other borrowings (19) 14 (1) (6) 188 85 197 470
- --------------------------------------------------------------------------------------------------------------------
Total net change in expense on
interest-bearing liabilities 590 5,922 69 6,581 582 7,830 318 8,730
- --------------------------------------------------------------------------------------------------------------------
Net change in net interest
income ($926) $5,667 ($322) $ 4,418 ($705) $ 7,439 ($345) $ 6,389
- --------------------------------------------------------------------------------------------------------------------
- --------------------------------------------------------------------------------------------------------------------
PROVISION FOR LOAN LOSSES Due to growth in the Corporation's loan
portfolio, management of the Corporation elected to record provision for loan
losses during the year ended December 31, 1997. In general, the provision
recorded during 1997 approximated the Corporation's actual charge-off activity,
except for a $272,000 charge-off related to education loans, as described in a
subsequent paragraph. Management of the Corporation expects the provision for
1998 to also approximate actual charge-off activity for that year, although
there can be no assurances.
The following table summarizes the activity in the Corporation's
allowance for loan losses during each of years indicated.
Dollars in thousands 1997 1996 1995 1994 1993
- --------------------------------------------------------------------------------------------------------------------
Balance at beginning of period $7,888 $8,186 $8,074 $7,828 $7,227
Provision for losses 539 - - - 160
- --------------------------------------------------------------------------------------------------------------------
Charge-offs:
Mortgage loans 13 - - 27 58
Consumer loans 802 337 334 146 205
Commercial business loans - - 135 108 168
- --------------------------------------------------------------------------------------------------------------------
Total loans charged-off 815 337 469 281 431
Recoveries 26 39 44 49 72
- --------------------------------------------------------------------------------------------------------------------
Charge-offs net of recoveries 789 298 425 232 359
Transfers - - - 478 800
Purchased allowances - - 537 - -
- --------------------------------------------------------------------------------------------------------------------
Balance at end of period $7,638 $7,888 $8,186 $8,074 $7,828
- --------------------------------------------------------------------------------------------------------------------
- --------------------------------------------------------------------------------------------------------------------
Net charge-offs as a percentage of average loans outstanding 0.07% 0.03% 0.05% 0.04% 0.06%
- --------------------------------------------------------------------------------------------------------------------
- --------------------------------------------------------------------------------------------------------------------
Ratio of allowance to total loans held for investment at end of
period 0.64% 0.71% 0.88% 1.12% 1.37%
- --------------------------------------------------------------------------------------------------------------------
- --------------------------------------------------------------------------------------------------------------------
Recent increases in consumer loan charge-offs have generally been
caused by growth in that loan category, although charge-offs in 1997 and 1995
were also impacted by accrued interest on education loans that was deemed
uncollectible from the United States Government; such charge-offs were $272,000
and $125,000, respectively. Similar charge-offs on education loans are not
anticipated in the future; however, there can be no assurances.
18
20
The purchased allowances shown for 1995 were from the RFC acquisition.
The transfers shown for 1994 and 1993 resulted from the transfer of excess
general loss allowances from real estate to mortgage loans. Management
considered these transfers to be appropriate given the significant decline in
the Corporation's problem real estate during such periods
The following table shows the Corporation's total allowance for loan
losses and the allocation to the various loan categories as of December 31 for
each of the years indicated.
Dollars in thousands 1997 1996 1995 1994 1993
- --------------------------------------------------------------------------------------------------------------------
AMOUNT % AMOUNT % AMOUNT % AMOUNT % AMOUNT %
- --------------------------------------------------------------------------------------------------------------------
Residential real estate loans $ 148 0.03% $ 183 0.03% $ 177 0.04% $ 179 0.05% $ 171 0.07%
Multi-family and commercial
real estate loans 7,200 2.90 7,326 3.30 7,710 3.93 7,409 4.38 7,452 4.52
Consumer loans 253 0.07 302 0.10 222 0.09 275 0.15 195 0.15
Commercial business loans 37 6.65 77 6.33 77 3.49 211 11.77 10 0.38
- --------------------------------------------------------------------------------------------------------------------
Total allowance for loan
losses $7,638 0.64% $7,888 0.71% $8,186 0.88% $ 8,074 1.12% $ 7,828 1.37%
- --------------------------------------------------------------------------------------------------------------------
- --------------------------------------------------------------------------------------------------------------------
The amounts in the preceding table are expressed as a percentage of
gross loans outstanding for each loan category, excluding construction loans.
The total allowance is expressed as a percent of net loans held for investment.
Although management believes that the Corporation's present level of
allowance for loan losses is adequate, there can be no assurance that future
adjustments to the allowance will not be necessary, which could adversely affect
the Corporation's results of operations. For additional discussion, refer to
"Financial Condition--Non-Performing Assets" and Note 1 of the Corporation's
Audited Consolidated Financial Statements, included herein under Part II, Item
8, "Financial Statements and Supplementary Data".
NON-INTEREST INCOME Non-interest income for the years ended December
31, 1997, 1996, and 1995, was $24.3 million, $19.8 million, and $17.1 million,
respectively. The following paragraphs discuss the principal components of
non-interest income and the primary reasons for their changes from 1996 to 1997
and 1995 to 1996.
Retail banking fees and service charges increased by $2.3 million or
22.9% in 1997 and by $1.7 million or 20.3% in 1996. The increase in both years
was due in part to 18.5% growth since December 31, 1995, in the number of
checking accounts serviced by the Corporation. Approximately 25% of this growth
was the result of retail banking offices opened in 1996 and 1997 (refer to
"Results of Operations--Non-Interest Expense" for additional discussion). Also
contributing to the growth in retail banking fees in the most recent year was an
$850,000 increase in fee income from customers' use of "debit cards" and a
$332,000 or 18.1% increase in fees from customers' use of ATMs. The Corporation
introduced debit cards to its checking account customers during the last quarter
of 1996. In addition to giving customers access to virtually any ATM network,
debit cards give customers the ability to make purchases directly from any
merchant that accepts VISA credit cards. The Corporation increased the number of
ATMs it operates in 1997 as a result of changes in the rules governing ATM
surcharges, which permitted the Corporation to increase fee revenue from ATMs.
The Corporation intends to increase the number of ATMs it operates by
approximately 50% in 1998, although there can be no assurances.
Loan servicing fees increased by $146,000 in 1997 and decreased by
$221,000 in 1996. These changes were impacted by declines in carrying value
related to the Corporation's mortgage servicing rights. A declining interest
rate environment during most of 1996 and 1997 resulted in an increase in
mortgage refinance activity which translated into increased loan prepayments
during such periods. As a result of such prepayments, the Corporation recorded
declines in carrying value on its mortgage servicing rights of $650,000 and
$624,000 in 1997 and 1996, respectively, compared to only $250,000 in 1995.
Interest rates have remained at low levels in early 1998. If this interest rate
environment continues, or if rates decline further, the Corporation may be
required to record additional declines in carrying value on its mortgage
servicing rights as a result of likely increases in mortgage refinance and
prepayment activity. For additional discussion, refer to Notes 1 and 5 of the
Corporation's Audited Consolidated Financial Statements, included herein under
Part II, Item 8, "Financial Statements and Supplementary Data".
Excluding the effects of the aforementioned declines in carrying value
of mortgage servicing rights, loan servicing fees would have increased by
$172,000 or 6.1% and $153,000 or 5.7% in 1997 and 1996, respectively.
19
21
These increases were attributable to a $216.8 million or 18.3% increase and a
$51.2 million or 4.5% increase in mortgage loans serviced for others during such
periods, respectively. The significant growth in 1997 was due in part to the
Corporation's purchase of mortgage servicing rights related to $106.9 million of
mortgage loans. Such loans consisted principally of fixed-rate, single-family
mortgage loans on properties located in Iowa. Also contributing to the growth in
loans serviced for others in 1997 was an interest rate environment that
encouraged borrowers to convert single-family adjustable-rate mortgage loans,
which the Corporation generally retains in portfolio, to fixed-rate mortgage
loans. Upon conversion, such loans are generally sold in the secondary market
and the Corporation retains the servicing.
Commissions on annuity and insurance sales decreased by $253,000 or
12.2% in 1997 and increased by $1.1 million or approximately 105% in 1996. The
Corporation's current sources of commission revenues are primarily from sales of
tax-deferred annuity contracts, credit life insurance policies, and mortgage
loan insurance policies. The increase in 1996 was principally due to increased
commissions on sales of annuity contracts due to a more aggressive promotion of
such products in that period. The decline in 1997 was principally due to
decreased commissions on sales of annuities--primarily as a result of a
generally lower interest rate environment, which tends to make tax-deferred
annuities less attractive to customers.
Gains on sales of mortgage loans for the years ended December 31, 1997,
1996, and 1995, were $6.4 million, $4.3 million, and $3.5 million, respectively.
The increases in 1997 and 1996 were primarily attributable to a $69.8 million or
approximately 30% increase and an $84.8 million or approximately 50% increase,
respectively, in the Corporation's mortgage loan sales. These increases were due
in part to declining interest rates in both periods that resulted in increased
originations of fixed-rate mortgage loans, as well as increased conversions of
adjustable-rate loans to fixed-rate, both of which were generally sold in the
secondary market. Interest rates have remained at low levels in early 1998. If
this situation continues, or if interest rates continue to decline, the
Corporation will most likely experience increased refinance activity, as well as
increased conversions by borrowers of their adjustable-rate loans into
fixed-rate loans. Such activity is expected to result in increased gain on sales
of mortgage loans in the immediate future, although there can be no assurances.
To a certain extent, such gains are expected to be offset by declines in the
carrying value of the Corporation's mortgage servicing rights--similar to that
experienced in 1997 and as described under "Lending Activities--Servicing
Mortgage Loans" in Part I, Item 1, "Business".
Also contributing to the increase in gain on sales of mortgage loans in
1997 was the Corporation's sale of $17.4 million in single-family
adjustable-rate mortgage loans; these loans were sold out of the Corporation's
"held for investment" portfolio and resulted in a $583,000 gain. In the future,
the Corporation may elect to sell modest amounts of its single-family
adjustable-rate loans in an effort to manage its liquidity position and/or its
borrowing capacity at the FHLB.
Losses on sales of other investments for the years ended December 31,
1997, 1996, and 1995, were $(725,000), $(311,000), and $(29,000), respectively.
The losses in 1997 and 1996 were caused by the Corporation's sale of mutual
funds that invested primarily in adjustable-rate mortgage loans and short-term
government securities. During 1997, the Corporation sold its remaining
investment in such funds and the proceeds from the sale were principally used
to reduce outstanding FHLB advances. Refer to "Financial Condition--Investment
Securities" for additional discussion.
The recognition of gains or losses from sales of loans, mortgage-backed
and related securities, and other investments is dependent on market and
economic conditions. Accordingly, there can be no assurance that the gains
reported in prior periods can be achieved in the future or that there will not
be significant inter-period variations in the results from such activities.
Furthermore, the Corporation is subject to accounting principles established by
Statement of Financial Accounting Standards No. 115 ("SFAS 115"), which limits
the Corporation's ability to sell investments classified as "held for
investment". For additional discussion refer to Note 1 of the Corporation's
Audited Consolidated Financial Statements, included herein under Part II, Item
8, "Financial Statements and Supplementary Data".
Other income was $1.9 million, $1.3 million, and $1.6 million for the
years ended December 31, 1997, 1996, and 1995, respectively. The increase in
1997 was due in part to a change in the manner in which the Corporation accounts
for certain fees and costs to originate consumer loans. Prior to 1997, such fees
and costs were netted and were recorded in other income. However, due to the
increased materiality of these fees and costs, the
20
22
Corporation elected to conform its accounting for such with that which is done
for mortgage loans. That is, loan origination fees and certain direct costs of
origination were deferred and amortized over the life of the related loans as an
adjustment of yield. Also contributing to the increase in other income in 1997
was increased fee income from customers that converted their adjustable-rate
mortgage loans to fixed rate loans, as previously described.
The decrease in other income in 1996 was primarily due to a $168,000
decline in fees received on loans originated as agent for the Wisconsin State
Veterans Administration ("State VA") and the Wisconsin Housing and Economic
Development Authority ("WHEDA").
NON-INTEREST EXPENSE Non-interest expense for the years ended December
31, 1997, 1996, and 1995, was $40.2 million, $38.3 million, and $34.4 million,
respectively, excluding a $5.9 million special assessment from the FDIC in 1996.
Non-interest expense as a percent of average assets during these periods was
2.62%, 2.71%, and 2.83%, respectively (excluding the special assessment). The
following paragraphs discuss the principal components of non-interest expense
and the primary reasons for their changes from 1996 to 1997 and 1995 to 1996.
Compensation and employee benefits increased by $1.9 million or 9.6% in
1997 and $1.6 million or 8.8% in 1996. In general, the increase in both periods
was due to normal annual merit increases and to general growth in the number of
banking facilities operated by the Corporation. Since December 31, 1995, the
Corporation has opened eight retail banking facilities (four of which were
opened in the most recent year) and one loan production facility. The
Corporation also closed two retail banking facilities in 1996 and one in 1997.
In 1998 the Corporation intends to open or acquire up to ten retail banking
facilities and one loan production facility, although there can be no
assurances.
Also contributing to the increase in compensation and employee benefits
in both periods, was an increase in commissions paid in the Corporation's
Residential Lending Division, due primarily to increased originations of
mortgage loans, as previously described.
As of December 31, 1997, the Corporation had 690 full-time equivalent
employees. This compares to 641 and 623 as of December 31, 1996 and 1995,
respectively.
Occupancy and equipment expense increased by $263,000 or 4.1% in 1997
and by $677,000 or 11.8% in 1996. The increase in both years was due primarily
to general growth in the number of banking facilities operated by the
Corporation, as previously described. In addition, in late 1995 the Corporation
completed the construction of an office building located in La Crosse,
Wisconsin, which houses a large portion of its retail support operations.
Federal insurance premiums decreased by $1.5 million or approximately
70% in 1997 and increased by $262,000 or 14.1% in 1996. The significant decrease
in 1997 was due to the recapitalization of the SAIF in the third quarter of
1996, which resulted in a substantial reduction in the Bank's deposit insurance
premiums. During the third quarter of 1996, the Bank incurred a $5.9 million
charge from the FDIC which represented its share of the recapitalization of the
SAIF (substantially all SAIF-insured institutions participated in the
recapitalization). Although the charge adversely impacted the Bank's 1996
results of operations, it provided what management expects to be a long-term
benefit to the Bank in the form of lower federal deposit insurance premiums, as
demonstrated in 1997. The increase in insurance premiums in 1996 was principally
due to an increase in the Bank's deposit liabilities during that period.
Advertising and marketing expense increased by $463,000 or 27.1% in
1997 and decreased by $254,000 or 13.0% in 1996. The increase in 1997 was
principally due to a larger branch network and increased expenditures related to
checking and consumer loan promotions. The decrease in 1996 was due in part to
fewer openings of new banking facilities than the previous year. Also
contributing, however, was the increased use of deposit premiums that qualify as
interest payments. As such, the expenditures were reported as a component of
interest expense over the term of the related deposit rather than advertising
and marketing expense.
Other non-interest expenses increased by $740,000 or 9.1% in 1997 and
$1.6 million or 25.0% in 1996. These increases were caused by a variety of
factors, the most significant of which were increased costs related to ATMs and
debit cards, increased office supply costs, increased communication and postage
costs, increased losses on customers' deposit accounts, and increased servicing
costs on education loans--the latter due principally to
21
23
increased originations of such loans. In addition, compared to 1995, other
non-interest expense in 1996 included $344,000 in amortization of goodwill as a
result of the December 1995 acquisition of RFC and a $155,000 increase in
merger-related expenses.
INCOME TAX EXPENSE Income tax expense for the years ended December 31,
1997, 1996, and 1995, was $10.9 million, $5.8 million, and $6.0 million,
respectively, or 38.5%, 36.6%, and 36.1%, of pretax income, respectively. The
Corporation's effective tax rate has increased in recent periods due to a higher
mix of taxable earnings in the State of Wisconsin relative to the State of
Nevada, where the Corporation has established a wholly-owned investment
subsidiary and which has no corporate state income tax. Refer to Part I, Item 1,
"Business--Subsidiaries" for additional discussion.
FINANCIAL CONDITION
OVERVIEW The Corporation's total assets increased by $28.9 million or
1.9% during the year ended December 31, 1997. This increase was primarily the
result of an $87.9 million or 7.9% increase in loans held for investment due to
continued growth in the Corporation's consumer installment, education, and
commercial real estate loan portfolios. Also contributing was a $25.2 million or
approximately 125% increase in residential mortgage loans held for sale. The
growth in these loan categories was principally funded by a $122.4 million or
12.0% increase in deposit liabilities. The majority of this growth occurred in
certificates of deposits due in part to a popular CD program that was offered to
customers in the third quarter of the year. Management also attributes the
growth in deposit liabilities to the combined effects of the Corporation's
expansion efforts in recent years, its convenient banking locations, and the
strong local economies in its market areas. Management expects deposits to
continue to grow modestly in the immediate future, although there can be no
assurances.
Also during 1997, proceeds from the sale and/or maturity of $90.1
million in mortgage-related and other investment securities, as well as a
portion of the growth in deposits, were used to reduce FHLB advances and other
borrowings. As a result, FHLB advances and other borrowings declined by $107.8
million or approximately 30% during the year ended December 31, 1997.
LOANS HELD FOR INVESTMENT The Corporation's loans held for investment
increased by $87.9 million or 7.9% during the year ended December 31, 1997. This
increase was principally due to strong demand for consumer installment,
education, and commercial real estate loans during the year. Demand for
single-family residential mortgage loans was also substantial during the period,
but the Corporation's policy of selling most of its fixed-rate residential loan
production, as well as most adjustable-rate loans that convert to fixed-rate,
contributed to a decline in single-family residential loans held for investment.
Also contributing was the Corporation's sale of $17.4 million in adjustable-rate
loans during the year, as previously described. Interest rates have remained at
low levels in early 1998. If this interest rate environment continues, or if
rates decline further, the Corporation may experience additional declines in its
single-family residential loans held for investment due to increased conversions
of adjustable-rate loans into fixed-rate loans, which will likely be sold in the
secondary market.
22
24
The following table sets forth the composition of the Corporation's
portfolio of loans held for investment as of December 31 for each of the years
indicated.
Dollars in thousands 1997 1996 1995 1994 1993
- --------------------------------------------------------------------------------------------------------------------
AMOUNT % AMOUNT % AMOUNT % AMOUNT % AMOUNT %
- --------------------------------------------------------------------------------------------------------------------
Real estate loans:
Single-family residential $538,393 45% $544,066 49% $464,043 49% $343,969 47% $256,685 44%
Multi-family residential 140,589 12 127,334 11 119,955 13 102,356 14 96,857 17
Commercial real estate
loans 107,315 9 94,401 8 76,242 8 66,848 9 67,882 12
Construction (1) 51,319 4 46,641 4 31,364 3 29,847 4 28,258 5
- --------------------------------------------------------------------------------------------------------------------
Total real estate loans 837,616 70 812,442 73 691,604 73 543,020 74 449,682 77
- --------------------------------------------------------------------------------------------------------------------
Consumer loans:
Second mortgage and home
equity loans 163,231 14 119,645 11 83,993 9 53,931 7 33,627 6
Education loans 159,893 13 134,094 12 108,003 11 84,604 12 60,992 10
Automobile loans 31,182 3 36,831 3 39,653 4 39,822 5 27,060 5
Other consumer loans (2) 9,149 1 10,724 1 16,238 2 10,613 1 8,185 1
- --------------------------------------------------------------------------------------------------------------------
Total consumer loans 363,455 30 301,294 27 247,887 26 188,970 26 129,864 22
- --------------------------------------------------------------------------------------------------------------------
Other loans:
Small Business
Administration loans 377 - 1,006 - 1,237 - 1,381 - 1,702 -
Commercial business loans 179 - 211 - 968 - 411 - 898 -
- --------------------------------------------------------------------------------------------------------------------
Total other loans 556 - 1,217 - 2,205 - 1,792 - 2,600 -
- --------------------------------------------------------------------------------------------------------------------
Subtotal 1,201,628 100% 1,114,953 100% 941,696 100% 733,782 100% 582,146 100%
Less:
Unearned discounts and
net deferred loan fees
(costs) 97 1,025 1,426 1,882 2,252
Allowance for loan losses 7,638 7,888 8,186 8,074 7,828
- --------------------------------------------------------------------------------------------------------------------
Total loans held for
investment $1,193,893 $1,106,040 $932,084 $723,826 $572,066
- --------------------------------------------------------------------------------------------------------------------
- --------------------------------------------------------------------------------------------------------------------
(1) At December 31, 1997, construction loans consisted of $32.5 million in
single-family residences, $7.7 million in multi-family residences, and
$11.1 million in commercial real estate.
(2) At December 31, 1997, other consumer loans included $0.5 million of mobile
home loans, $1.5 million of recreational and household good loans,
$5.9 million of unsecured loans, and $1.2 million of deposit account-secured
loans.
The weighted average contractual interest rate for all loans was 8.20%,
8.16%, 8.24%, 7.83%, and 7.78% at December 31, 1997, 1996, 1995, 1994, and 1993,
respectively.
LOANS HELD FOR SALE The Corporation's loans held for sale increased by
$25.2 million or approximately 125% during the year ended December 31, 1997.
This increase was due to a declining interest rate environment during most of
1997 that increased consumer demand for fixed-rate mortgage loans and resulted
in increased conversions of adjustable-rate loans into fixed-rate loans, as
previously described. Both of these categories of loans are classified as "held
for sale" until the date of sale, which typically occurs within 30 to 60 days of
origination and/or conversion.
MORTGAGE-BACKED AND RELATED SECURITIES The Corporation's aggregate
investment in its mortgage-backed and related securities portfolios decreased by
$37.5 million or 17.9% during the year ended December 31, 1997. This decrease
was principally due to the normal periodic amortization of the mortgage loans
that support these types of securities. The proceeds from such amortization were
generally used to reduce borrowings at the FHLB, as previously described. There
were no purchases of mortgage-backed and related securities during 1997.
The following table sets forth the composition of the Corporation's
mortgage-backed and related securities portfolios as of December 31 for each of
the years indicated.
Dollars in thousands AVAILABLE FOR SALE
- --------------------------------------------------------------------------------------------------------------------
1997 1996 1995
- --------------------------------------------------------------------------------------------------------------------
AMORTIZED FAIR AMORTIZED FAIR AMORTIZED FAIR
COST VALUE COST VALUE COST VALUE
- --------------------------------------------------------------------------------------------------------------------
Collateralized mortgage obligations $48,953 $47,895 $64,890 $61,875 $85,763 $84,173
- --------------------------------------------------------------------------------------------------------------------
- --------------------------------------------------------------------------------------------------------------------
23
25
Dollars in thousands HELD FOR INVESTMENT
- --------------------------------------------------------------------------------------------------------------------
1997 1996 1995
- --------------------------------------------------------------------------------------------------------------------
AMORTIZED FAIR AMORTIZED FAIR AMORTIZED FAIR
COST VALUE COST VALUE COST VALUE
- --------------------------------------------------------------------------------------------------------------------
Collateralized mortgage obligations $115,847 $115,057 $136,184 $133,584 $156,233 $154,006
Mortgage-backed securities 8,489 8,557 11,651 11,633 15,260 15,360
- --------------------------------------------------------------------------------------------------------------------
Total $124,336 $123,614 $147,835 $145,217 $171,493 $169,366
- --------------------------------------------------------------------------------------------------------------------
- --------------------------------------------------------------------------------------------------------------------
The weighted average yield on all mortgage-backed and related
securities was 6.29%, 6.30%, and 6.16% at December 31, 1997, 1996, and 1995,
respectively.
INVESTMENT SECURITIES The Corporation's investment securities available
for sale decreased by $52.7 million or approximately 70% during the year ended
December 31, 1997. This decrease was due primarily to the maturity of a number
of investment securities during the year, as well the sale of mutual funds, as
previously described. The proceeds from these transactions were generally used
to reduce borrowings at the FHLB, as previously described.
Historically, the primary purpose of the Corporation's investment
securities portfolio has been to meet liquidity requirements imposed on the Bank
by the OTS (refer to Part I, Item 1, "Business--Regulation of the Bank", for
additional discussion). During the fourth quarter of 1997, however, the OTS
modified its regulatory liquidity requirements for thrift institutions. As a
result of such modifications, the investment securities the Bank is required to
hold for regulatory liquidity purposes was substantially reduced. In
anticipation of these changes, the Bank did not purchase any investment
securities during 1997. Furthermore, the Bank anticipates that it will not need
to maintain a portfolio of investment securities in the future that is as large
as it has been in the past, although there can be no assurances.
The following table sets forth the composition of the Corporation's
investments available for sale as of December 31 for each of the years indicated
(at December 31, 1997, the amount invested in any single issuer did not exceed
10% if the Corporation's stockholders' equity).
Dollars in thousands 1997 1996 1995
- --------------------------------------------------------------------------------------------------------------------
AMORTIZED FAIR AMORTIZED FAIR AMORTIZED FAIR
COST VALUE COST VALUE COST VALUE
- --------------------------------------------------------------------------------------------------------------------
Corporate obligations $21,045 $21,083 $41,083 $41,078 $32,168 $32,294
Asset-backed securities 294 294 1,076 1,076 2,340 2,338
U.S. Treasury securities - - 262 262 3,023 3,048
Adjustable-rate mortgage and short-term
Government mutual funds - - 32,436 31,613 43,767 42,645
- --------------------------------------------------------------------------------------------------------------------
Total $21,339 $21,377 $74,857 $74,029 $81,298 $80,325
- --------------------------------------------------------------------------------------------------------------------
- --------------------------------------------------------------------------------------------------------------------
The weighted average yield on all investment securities was 6.34%,
6.24%, and 5.90% at December 31, 1997, 1996, and 1995, respectively.
DEPOSIT LIABILITIES The Corporation's deposit liabilities increased by
$122.4 million or 12.0% during the year ended December 31, 1997. The majority of
this growth occurred in certificates of deposits due in part to a popular CD
program that was offered to customers in the third quarter of the year.
Management also attributes the growth in deposit liabilities to the combined
effects of the Corporation's expansion efforts in recent years, its convenient
banking locations, and the strong local economies in its market areas.
Management expects these trends to continue in the immediate future, resulting
in continued modest growth in the Corporation's deposit liabilities, although
there can be no assurances.
24
26
The following table sets forth the composition of the Corporation's
deposit liabilities as of December 31 for each of the years indicated.
Dollars in thousands 1997 1996 1995
- --------------------------------------------------------------------------------------------------------------------
WEIGHTED WEIGHTED WEIGHTED
AVERAGE AVERAGE AVERAGE
AMOUNT RATE AMOUNT RATE AMOUNT RATE
- --------------------------------------------------------------------------------------------------------------------
Regular savings accounts $87,605 1.98% $85,675 1.98% $88,179 2.07%
Interest-bearing checking accounts 54,994 0.99 53,907 1.00 55,967 0.97
Non-interest bearing checking accounts 93,323 - 75,341 - 69,861 -
Money market accounts 143,116 4.36 134,977 4.35 106,802 4.08
Variable-rate IRA accounts 2,956 4.41 3,345 4.43 3,626 4.67
Certificates of deposit 764,540 6.04 670,848 6.01 644,988 6.08
- --------------------------------------------------------------------------------------------------------------------
Total $1,146,534 4.79% $1,024,093 4.74% $969,423 4.77%
- --------------------------------------------------------------------------------------------------------------------
- --------------------------------------------------------------------------------------------------------------------
At December 31, 1997, certificates of deposit in denominations of
$100,000 or more amounted to $63.6 million and mature as follows: $9.2 million
within three months, $5.6 million over three through six months, $16.0 million
over six through 12 months, $30.6 million over 12 through 24 months, and $2.2
million over 24 months. At December 31, 1997, the Bank had no brokered deposits
outstanding.
FHLB ADVANCES AND OTHER BORROWINGS The Corporation's FHLB advances and
other borrowings decreased by $107.8 million or approximately 30% during the
year ended December 31, 1997. This decrease was funded by proceeds from the
maturity and/or sale of mortgage-related and other investment securities, as
well as growth in deposit liabilities, as previously described.
The following table presents certain information regarding the
Corporation's short-term FHLB advances and other borrowings (original maturity
of less than one year) at or for the years ended December 31, 1997, 1996, and
1995.
Dollars in thousands 1997 1996 1995
- -------------------------------------------------------------------------------------------------------------------
FHLB advances:
Average balance outstanding (1) $298,797 $271,537 $207,895
Maximum amount outstanding at any month-end during the period 351,566 347,109 258,300
Balance outstanding at end of period 229,605 347,109 258,300
Average interest rate during the period (2) 5.61% 5.52% 5.70%
Weighted-average interest rate at the end of period 5.47% 5.46% 5.73%
Other borrowings: (3)
Average balance outstanding (1) $3,846 $2,308 $308
Maximum amount outstanding at any month-end during the period 10,000 5,000 4,000
Balance outstanding at end of period 10,000 5,000 -
Average interest rate during the period (2) 5.95% 5.98% 7.79%
Weighted-average interest rate at the end of period 4.81% 5.64% -
Total short-term borrowings:
Average balance outstanding (1) $302,643 $273,845 $208,203
Maximum amount outstanding at any month-end during the period 356,566 352,109 262,300
Balance outstanding at end of period 239,605 352,109 258,300
Average interest rate during the period (2) 5.61% 5.52% 5.70%
Weighted-average interest rate at the end of period 5.44% 5.46% 5.73%
- -------------------------------------------------------------------------------------------------------------------
(1) Calculated using month-end balances.
(2) Calculated using month-end weighted average interest rates.
(3) Consists primarily of an overnight line of credit with another financial
institution.
NON-PERFORMING ASSETS The Corporation's non-performing assets
(consisting of non-accrual loans, real estate acquired through foreclosure or
deed-in-lieu thereof, and real estate in judgement) amounted to $4.9 million or
0.32% of total assets at December 31, 1997, compared to $2.4 million or 0.16% at
December 31, 1996.
25
27
The following table contains information regarding the Corporation's
non-performing assets during the five year period ended December 31, 1997.
Dollars in thousands 1997 1996 1995 1994 1993
- -------------------------------------------------------------------------------------------------------------------
Non-accrual loans:
Single-family residential $ 738 $1,003 $ 547 $ 428 $ 361
Multi-family and commercial real estate 3,000 - 104 - 13
- -------------------------------------------------------------------------------------------------------------------
Total real estate loans 3,738 1,003 651 428 374
Consumer loans 672 973 605 313 218
Commercial business loans - - - 129 -
- -------------------------------------------------------------------------------------------------------------------
Total non-accrual loans 4,410 1,976 1,256 870 592
Real estate owned and in judgement 492 460 193 265 2,929
- -------------------------------------------------------------------------------------------------------------------
Total non-performing assets $4,902 $2,436 $1,449 $1,135 $3,521
- -------------------------------------------------------------------------------------------------------------------
- -------------------------------------------------------------------------------------------------------------------
Ratio of non-accrual loans to total net loans receivable 0.37% 0.18% 0.13% 0.12% 0.10%
===================================================================================================================
Ratio of total non-performing assets to total assets 0.32% 0.16% 0.10% 0.10% 0.37%
===================================================================================================================
Ratio of total allowance for loan and real estate losses
to total non-performing assets 159% 331% 577% 727% 246%
===================================================================================================================
The $2.5 million or approximately 100% increase in non-performing
assets during the year ended December 31, 1997, was principally due to a $3.0
million loan on a 248-unit apartment complex located in Indianapolis, Indiana.
As of December 31, 1997, this loan was three payments past due and had been
placed on non-accrual. The Corporation took a deed-in-lieu of foreclosure on the
loan during the first quarter of 1998 and also entered into a contract for the
sale of the property to another party. The Corporation agreed to finance the
sale of the property at normal rate and terms, except that the loan will be
interest-only for a period of two years. The Corporation also committed an
additional $2.0 million to the loan for purposes of refurbishing the property.
The new borrower is also required to contribute $1.1 million towards
refurbishing, which will be collected at the time of closing. The Corporation
will incur a modest loss on the sale of the property, which is expected to close
before March 31, 1998, although there can be no assurances.
In addition to non-performing assets, at December 31, 1997, management
was closely monitoring $7.2 million in assets which it had classified as
doubtful, substandard, or special mention, but which were performing in
accordance with their terms. This compares to $11.0 million in such assets at
December 31, 1996. The decline from 1996 was primarily due to the aforementioned
apartment complex in Indianapolis, Indiana, which was classified as substandard
at the end of 1996, but was performing at that time. The following paragraphs
describe certain classified assets in more detail.
At December 31, 1997, management of the Corporation is closely
monitoring a $1.4 million first mortgage loan and $190,000 second mortgage loan
on a 93-unit apartment complex located in La Crosse, Wisconsin. These loans are
classified as Substandard. Cash flow from the property is sufficient to fund
debt service, taxes, and operating expenses, but is insufficient for capital
improvements. However, the borrower has funded capital improvements
"out-of-pocket". As a result, the property remains in good condition with a high
occupancy rate. The last appraisal of the property indicated that the
Corporation would not incur a significant loss were it to foreclose on this
property.
Management of the Corporation is also closely monitoring a $1.4 million
loan on a 44,500 square-foot office/warehouse located near Atlanta, Georgia.
This loan is classified as Substandard. The loan is current, but the cash flow
from the property, which is 100% leased, is not sufficient to cover the debt
service. The borrower, an individual which management believes has significant
personal net worth, has been maintaining the debt service with funds from other
sources. Management expects the status of this loan to improve as the borrower
is in the process of executing a new contract with the lessee for a larger
rental amount. However, there can be no assurances.
Management of the Corporation is also closely monitoring a $1.3 million
loan on a 38,000 square-foot shopping center located in Richmond, Virginia. This
loan is classified as Substandard. The property is approximately 81% leased, but
the cash flow is not enough to cover debt service. Management believes the
guarantors have significant personal net worth to maintain the debt service with
funds from other sources. Management does not expect to incur a loss on this
loan at this time.
26
28
As of December 31, 1997, management does not believe that the
Corporation has any significant concentration of real estate loans or other
loans in areas experiencing deteriorating economic conditions.
LIQUIDITY AND CAPITAL RESOURCES
The Corporation's primary sources of funds are deposits obtained
through its retail branch offices, borrowings from the FHLB and other sources,
amortization, maturity, and prepayment of outstanding loans and investments, and
sales of loans and other assets. During 1997, 1996, and 1995, the Corporation
used these sources of funds to primarily fund loan commitments, purchase
investment securities, and cover maturing liabilities and deposit withdrawals.
At December 31, 1997, the Corporation had approved real estate loan commitments
of $31.5 million outstanding, undisbursed commitments on construction loans of
$37.0 million, and mortgage loan sale commitments of $51.2 million outstanding.
In addition, the Corporation had $362.3 million in time deposits and $198.3
million in FHLB term advances that were scheduled to mature within one year.
Management believes that the Corporation has adequate resources to fund all of
these commitments, that all of these commitments will be funded by the required
date, and that the Corporation can adjust the rates it offers on certificates of
deposit to retain such deposits in changing interest rate environments. Under
current FHLB lending and collateralization guidelines, the Corporation has
approximately $225 million in unused borrowing capacity at the FHLB.
The Corporation's stockholder's equity ratio as of December 31, 1997,
was 7.08% of total assets. The Corporation's objective is to maintain its
stockholders' equity ratio in a range of approximately 6.5% to 7.0%, which is
consistent with return on asset and return on equity goals of at least 1% and
15%, respectively. The Corporation's equity ratio is above its target range as
of December 31, 1997, primarily as a result of the Corporation's sale in 1997 of
loans and investment securities, as described elsewhere in this report. Also
contributing was the aforementioned conversion of adjustable-rate mortgage loans
to fixed-rate loans in 1997, and their subsequent sale in the secondary market.
These transactions had the effect of reducing the Corporation's asset base
relative to the growth that occurred in stockholders' equity during 1997. In
light of the current interest rate environment and the effects such may have on
the Corporation's single-family residential loan portfolio, as described
elsewhere in this report, management expects the Corporation to operate with a
higher than normal equity ratio in the foreseeable future, although there can be
no assurances.
The Bank is also required to maintain specified amounts of capital
pursuant to regulations promulgated by the OTS and the FDIC. The Bank's
objective is to maintain its regulatory capital in an amount sufficient to be
classified in the highest regulatory capital category (i.e., as a "well
capitalized" institution). At December 31, 1997, the Bank's regulatory capital
exceeded all regulatory minimum requirements as well as the minimum amount
required to be classified as a "well capitalized" institution. For additional
discussion, refer to Note 12 of the Corporation's Consolidated Financial
Statements, included herein under Part II, Item 8, "Financial Statements and
Supplementary Data".
The Corporation paid cash dividends of $4.3 million, $3.9 million, and
$3.2 million during the years ended December 31, 1997, 1996, and 1995,
respectively. These amounts equated to dividend payout ratios of 24.6%, 38.6%,
and 30.0% of the net income in such periods, respectively. It is the
Corporation's objective to maintain its dividend payout ratio in a range of 25%
to 35% of net income. However, the Corporation's dividend policy and/or dividend
payout ratio will be impacted by considerations such as the level of
stockholders' equity in relation to the Corporation's stated goal, as previously
described, regulatory capital requirements for the Bank, as previously
described, and certain dividend restrictions in effect for the Bank (for
additional discussion refer to Note 12 of the Corporation's Audited Consolidated
Financial Statements, included herein under Part II, Item 8, "Financial
Statements and Supplementary Data"). Furthermore, unanticipated or non-recurring
fluctuations in earnings may impact the Corporation's ability to pay dividends
and/or maintain a given dividend payout ratio.
On January 29, 1998, the Corporation's Board of Directors approved a
regular quarterly dividend of $0.12 per share payable on March 12, 1998, to
shareholders of record on February 19, 1998.
During 1997, the Corporation repurchased 132,000 shares of common stock
at a cost of $2.9 million under its 1996 stock repurchase plan (the "1996
Plan"). Furthermore, in January 1997 the Corporation's Board of Directors
authorized the repurchase of an additional 459,526 shares over twelve months
(the "1997 Plan"). On January 29, 1998, both of these plans were extended for an
additional twelve months. As of December 31, 1997,
27
29
23,550 shares remained to be purchased under the 1996 Plan and all of the shares
remained under the 1997 Plan. For additional discussion, refer to Note 12 of the
Corporation's Audited Consolidated Financial Statements, included herein under
Part II, Item 8, "Financial Statements and Supplementary Data".
During 1997, the Corporation reissued 120,165 shares of common stock
out of its inventory of treasury stock with a cost basis of $2.6 million. In
general, these shares were issued upon the exercise of stock options by
employees and directors of the Corporation.
OTHER MATTERS
SALES OF LOANS TO THE FHLB OF CHICAGO In December 1997 the Corporation
began participating in a pilot program involving the sale of up to $30.0 million
in fixed-rate residential loans to the FHLB of Chicago. Similar to FHLMC and
FNMA sales, the Corporation will retain the servicing on loans sold under the
program, which is known as the Mortgage Partnership Finance Program (or "MPF").
In general, loans sold under MPF will meet the conforming loan limits
established by FHLMC and FNMA.
Management expects that loans sold under MPF will result in gains or
losses substantially the same as those realized on loans sold to FHLMC and
FNMA--with one exception. For loans sold under MPF, the FHLB will establish a
first-loss credit reserve out of the interest payments it receives as investor
in the loans. The Corporation, however, will provide a second-loss credit
enhancement to the FHLB in exchange for a monthly fee. Management estimates this
fee to have a present value of between 30 and 50 basis points of the principal
balance at the time of the loan sale, depending on the term of the underlying
loans and the assumed discount rate, loan prepayment speed, and expected credit
loss rate. Management has elected to record the present value of this fee as
additional gain at the time of the sale, similar to its accounting treatment for
originated mortgage servicing rights, which will also be recorded on these loan
sales (refer to Note 1 of the Corporation's Audited Consolidated Financial
Statements, included herein under Part II, Item 8, "Financial Statements and
Supplementary Data").
Unlike its other mortgage servicing rights, the Corporation is exposed
to future credit loss on loans sold under the MPF program as a result of its
second-loss credit enhancement. It is management's estimate, as well as the
Corporation's historical experience, that this enhancement will not expose the
Corporation to significant risk of loss. However, there can be no assurances the
future loss allowances will not be required as a result of this off-balance
sheet credit risk.
The Corporation expects to fulfill the initial $30.0 million master
commitment by the end of 1998. Depending on the FHLB's review of the pilot
program, there may or may not be additional master commitments.
SECURITIZATION OF ADJUSTABLE-RATE MORTGAGE LOANS The Corporation is
currently exploring an opportunity to securitize a large portion of its
adjustable-rate residential loans into FHLMC MBSs. Conversion of such loans into
MBSs will improve the liquidity of the asset and will increase the Corporation's
borrowing capacity by making such loans acceptable as collateral for
reverse-repurchase agreements. MBSs also receive more favorable treatment under
the FHLB's current collateralization guidelines. If the Corporation is
successful in securitizing a portion of its adjustable-rate residential loans,
it will transfer the related assets from "loans held for investment" to
"mortgage-backed and related securities" on its statement of financial
condition. The Corporation has not yet determined whether or to what extent such
securities will be classified as "available for sale" or "held for investment",
although the Corporation has no intent at this time to sell any of the MBSs.
Management also anticipates that it will transfer the securities to the
Bank's wholly-owned investment subsidiary in Nevada. In addition to being more
efficient from an accounting and safekeeping stand point, this action will
result in a lower effective tax rate on earnings from the securities due to the
fact that Nevada does not currently impose a corporate income tax. Management
estimates that the after tax savings, net of the initial and on-going costs of
securitization, could range between 30 and 40 basis points per year on the
principal balance transferred to Nevada. The Corporation intends to take steps
to minimize the costs of securitization, the most significant of which is the
payment of a monthly "guarantee fee" to FHLMC, by retaining the credit risk
associated with the underlying loans. This should have the effect of reducing
the guarantee fee that is normally paid to FHLMC. This is not expected to have
any impact on the marketability of the securities, although there can be no
28
30
assurances. Furthermore, this action does not change the credit risk profile of
the Corporation's assets, as it is currently exposed to credit risk on the
loans.
Management estimates that between $150 million to $300 million of its
current single-family loan portfolio may be eligible for securitization under
this plan. Furthermore, management expects to complete the first securitization
in the second quarter of 1998 and expects to complete periodic securitizations
thereafter. However, there can be no assurances that any of the Corporation's
adjustable-rate residential loans will be eligible for securitization or that
management will be able to meet the timeline described herein.
FORMATION OF AN INSURANCE SUBSIDIARY The Corporation has sold credit
insurance policies (life and disability) to its consumer loan customers for a
number of years. The Corporation has earned commission revenue from the
third-party insurer in connection with such sales, but has not underwritten or
reinsured any of the associated risk. However, in the second quarter of 1998
management expects to complete the formation of a wholly-owned subsidiary of the
Bank, the purpose of which will be to reinsure credit insurance policies sold in
connection with its consumer loans. The third-party insurer will carry the first
level of risk and will be responsible for performing most of the administrative
tasks of the subsidiary on a contract basis. Based on the Corporation's past
claims experience, management does not believe this decision will expose the
Corporation to significant risk of loss, although there can be no assurances.
The Corporation will continue to earn commission revenue from the
third-party insurer. However, it will also earn reinsurance premiums, which net
of administrative costs and required insurance reserves, are expected to
increase revenue from this source by 15% to 20% from what would otherwise be
received (although there can be no assurances). During the years ended December
31, 1997, 1996, and 1995, the Corporation earned commission revenue from sales
of credit insurance policies of $731,000, $648,000, and $434,000, respectively.
As a result of forming this subsidiary and assuming reinsurance risk on
all policies sold since October 1, 1995, the Corporation expects to receive a
"warehousing bonus" from the third-party insurer. This bonus is expected to
amount to $200,000 to $300,000 and will be recorded as income during the period
in which the subsidiary is formed. However, there can be no assurances with
respect to this bonus. Furthermore, there can be no assurance that the
Corporation will complete the formation of the subsidiary or that it will be
able to meet the timeline specified herein.
LEGISLATION AFFECTING EDUCATION LOANS The Student Loan Reform Act of
1993 ("the Act") contains a provision that will change the rate received on
education loans originated after July 1, 1998, from the three-month U.S.
Treasury bill plus 310 basis points to the ten-year U.S. Treasury note plus 100
basis points. This provision is expected to substantially reduce the
Corporation's interest rate spread on education loans. Accordingly, the
Corporation would most likely eliminate or significantly reduce its originations
of this loan type, although its current portfolio of education loans is not
expected to be impacted by the Act. During the years ended December 31, 1997,
1996, and 1995, the Corporation originated $38.4 million, $36.2 million, and
$31.3 million in student loans, respectively.
The banking and thrift industries and other interested parties have
been working with federal legislators to eliminate this provision of the Act.
However, there can be no assurances that they will be successful or that
significant compromises will not have to be made that may affect the
Corporation's willingness to originate education loans in the future.
YEAR 2000 COMPLIANCE Potential software failures arising from
calculations that use the year 2000 represent a significant risk exposure to the
Corporation. If not corrected, software failures caused by the year 2000 could
result in a major system failure and/or miscalculations, which could result in a
material loss to the Corporation--the probability and amount of which cannot be
estimated at this time. Accordingly, management has implemented an on-going
program designed to ensure that the Corporation's systems will not be adversely
impacted by the year 2000. Management presently believes that, with
modifications to existing software and conversions to new software, the year
2000 will not pose significant operational problems to the Corporation.
Furthermore, correction of the problem is not expected to result in material
cost to the Corporation. Although management believes it is doing everything
possible to assure year 2000 compliance, it is to some extent dependent upon the
cooperation of software vendors. Accordingly, management has required all of the
Corporation's software vendors
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31
to represent that their products are, or will be, year 2000 compliant prior to
December 31, 1998. Any vendors that cannot demonstrate year 2000 compliance will
be replaced.
ITEM 7A--QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
The Corporation manages the exposure of its operations to changes in
interest rates ("interest rate risk" or "market risk") by monitoring its ratios
of interest-earning assets to interest-bearing liabilities within one- and
three-year maturities and/or repricing dates (i.e., its one- and three-year
"funding gaps"). Management has sought to control the Corporation's funding
gaps, thereby limiting the affects of changes in interest rates on its future
earnings, by selling substantially all of its long-term, fixed-rate,
single-family mortgage loan production, investing in adjustable-rate
single-family mortgage loans, investing in consumer and education loans, which
generally have shorter terms to maturity and/or floating rates of interest, and
investing in multi-family residential and commercial real estate loans, which
also tend to have shorter terms to maturity and/or floating rates of interest.
The Corporation also invests from time-to-time in short- and medium-term
fixed-rate CMOs and MBSs, as well as medium-term, fixed-rate, single-family
mortgage loans--although the Corporation has not invested significant amounts in
these asset types in recent years. As a result of this strategy, the
Corporation's exposure to interest rate risk is significantly impacted by its
funding of the aforementioned asset groups with deposit liabilities and FHLB
advances that tend to have average terms to maturity of less than one year or
carry floating rates of interest.
In general, it is management's goal to maintain the Corporation's
one-year funding gap in a range between 0% and -25% and its three-year funding
gap in a range between +5% and -5%. Management believes this strategy takes
advantage of the fact that market yield curves tend to be upward sloping, which
increases the spread between the Corporation's earning assets and
interest-bearing liabilities. Furthermore, management of the Corporation does
not believe that this strategy exposes the Corporation to unacceptable levels of
interest rate risk as evidenced by the fact that the Corporation's three-year
funding gap is generally maintained in a narrow band around zero, which implies
that the Corporation is exposed to little interest rate risk over a three-year
horizon. In addition, it should be noted that for purposes of its funding gap
analysis, the Corporation classifies its interest-bearing checking, savings, and
money market deposits in the shortest category, due to their potential to
reprice. However, it is the Corporation's experience that these deposits do not
reprice as quickly or to the same extent as other financial instruments,
especially in a rising rate environment.
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The following table summarizes the Corporation's funding gap as of
December 31, 1997.
MORE THAN MORE THAN MORE THAN
6 MONTHS 6 MONTHS 1 YEAR TO 3 YEARS TO OVER
Dollars in thousands OR LESS TO 1 YEAR 3 YEARS 5 YEARS 5 YEARS TOTAL
- ---------------------------------------------------------------------------------------------------------------------------
Interest-earning assets:
Mortgage loans:
Fixed $78,377 $35,566 $38,249 $12,710 $16,415 $181,317
Adjustable 98,440 138,066 459,631 4,101 $791 701,029
Consumer loans 220,043 33,878 82,685 19,427 6,745 362,778
Mortgage-backed and related securities 21,154 20,292 61,818 40,007 30,041 173,312
Investment securities and other
earning assets 22,567 5,865 - - 13,811 42,243
- ---------------------------------------------------------------------------------------------------------------------------
Total $440,581 $233,667 $642,383 $76,245 $67,803 $1,460,679
===========================================================================================================================
Interest-bearing liabilities:
Deposits liabilities:
Regular savings and checking accounts $142,412 - - - - $142,412
Money market deposit accounts 143,304 - - - - 143,304
Variable-rate IRA accounts 2,956 - - - - 2,956
Time deposits 147,658 $211,436 $399,465 $5,956 $25 764,540
FHLB advances and other borrowings 210,883 31,728 33,128 16 24 275,779
- ---------------------------------------------------------------------------------------------------------------------------
Total $647,213 $243,164 $432,593 $5,972 $49 $1,328,991
===========================================================================================================================
Excess (deficiency) of earning assets
over interest-bearing liabilities ($206,632) ($9,497) $209,790 $70,273 $67,754
===========================================================================================================================
Cumulative excess (deficiency) of
earning assets over interest-bearing
liabilities ($206,632) ($216,129) ($6,339) $63,934 $131,688
===========================================================================================================================
Cumulative excess (deficiency) of
earning assets over interest-bearing
liabilities as a percent of total assets -13.38% -14.00% -0.41% 4.14% 8.53%
===========================================================================================================================
Cumulative earning assets as a
percentage of interest-bearing liabilities 68.07% 75.73% 99.52% 104.81% 109.91%
===========================================================================================================================
Note: If interest-bearing checking, savings, and money market deposits were
deemed to reprice after one year, the Corporation's one-year funding gap would
have been -4.77% as of December 31, 1997, which compares to -14.12% and -16.88%
as of December 31, 1996 and 1995, respectively.
The Corporation's one-year funding gap was -14.00% at December 31,
1997, compared to -23.32% and -26.87% at December 31, 1996 and 1995,
respectively. The primary reason for the change from 1996 was a shift in the
maturity of a large portion of the Corporation's certificates of deposits from
the "6 Month or Less" category as of the end of 1996 to the "More than 1 Year to
3 Years" category as of the end of 1997. This shift was due in part to
Corporation's success in 1997 at attracting new deposits with one to two year
terms, as well as its success in directing maturities of existing deposits into
new certificates with one to two year terms. Also contributing was a $107.8
million decrease in FHLB advances and other borrowings during 1997, most of
which had floating rates of interest or terms of less than twelve months as of
the previous year end. Offsetting these developments somewhat was a shift in the
repricings of a large portion of the Corporation's adjustable-rate loans from
the "6 Months or Less" and the "More than 6 Months to 1 Year" categories as of
the end of 1996 to the "More than 1 Year to 3 Years" category as of the end of
1997. This shift was due to a variety of factors including increased conversions
in 1997 of adjustable-rate mortgage loans into fixed-rate loans and their
subsequent sale in the secondary market, increased origination of
adjustable-rate mortgage loans with terms to first reprice of two to three
years, and increased originations of second mortgage loans, which tend to have
maturities of up to ten years.
Certain shortcomings are inherent in using funding gap to quantifying
exposure to interest rate risk. For example, although certain assets and
liabilities may have similar maturities or repricings in the table, they may
react differently to actual changes in market interest rates. The interest rates
on certain types of assets and liabilities may fluctuate in advance of changes
in market interest rates, while interest rates on other types may lag behind
changes in market rates. This is especially true in circumstances where
management has a certain amount of control over interest rates, as it does to in
the case of deposit liabilities. Additionally, certain assets such as
adjustable-rate mortgage loans have features that restrict changes in interest
rates on a short-term basis and over the life of the asset. Furthermore, the
proportion of adjustable-rate loans in the Corporation's portfolio may change as
interest rates change. For example, if current market interest rates remain at
or below current levels the proportion of adjustable-rates loans in the
Corporation's portfolio may decline for reasons described elsewhere in this
report. Finally, as
31
33
interest rates change, actual loan prepayment speeds will most likely differ
from those assumed by management in the table.
Although management believes that its asset/liability management
strategies reduce the potential effects of changes in interest rates on the
Corporation's operations, material and prolonged increases in interest rates may
adversely affect the Corporation's operations because the Corporation's
interest-bearing liabilities which mature or reprice within one year are greater
than the Corporation's interest-earning assets which mature or reprice within
the same period. Alternatively, material and prolonged decreases in interest
rates may benefit the Corporation's operations.
The Corporation does not use derivative financial instruments such as
futures, swaps, caps, floors, options, interest- or principal-only strips, or
similar financial instruments to manage its interest rate risk. However, the
Corporation does use forward sales of mortgage-backed securities to manage
exposure to market risk in its "pipeline" of single-family residential loans
intended for sale. This pipeline consists of mortgage loans held for sale as of
the balance sheet date as well commitments to originate mortgage loans that are
intended for sale, but are not closed as of the balance sheet date. Loans held
for sale are generally 100% matched against forward sales that require delivery
within 30 to 60 days of the balance sheet date. The Corporation's policy is to
cover its commitments to originate loans intended for sale with forward sales
that have a value of 40% to 130% of the value of such commitments, depending on
management's expectations for near-term changes in interest rates and
anticipated cancellations by borrowers. These forward sales generally require
delivery within 60 to 90 days. Given these policies, as well as the short-term
nature of the Corporation's pipeline and its related forward sales, management
believes these financial instruments pose little market risk to the Corporation.
The Bank is required by the OTS to estimate the sensitivity of its
market value of portfolio equity ("MVPE") to immediate and sustained changes in
interest rates and to measure such sensitivity on at least a quarterly basis.
MVPE is defined as the estimated net present value of an institution's existing
assets, liabilities, and off-balance sheet instruments at a given level of
market interest rates. Computation of the estimated net present value of assets,
liabilities, and off-balance sheet instruments requires management to make
numerous assumptions with respect to such items. These assumptions include, but
are not limited to, appropriate discount rates, loan prepayment speeds, deposit
decay rates, etc., for each interest rate scenario. In general, the Bank has
used substantially the same assumptions for computing the net present value of
financial assets and liabilities in the base scenario as it uses in preparing
the fair value disclosures required under GAAP (refer to Notes 1 and 13 of the
Corporation's Audited Consolidated Financial Statements, included herein under
Part II, Item 8, "Financial Statements and Supplementary Data"). Computations of
net present values for other interest rate scenarios follow the same basic
approach except that discount rates, loan prepayment speeds, and other
assumptions are adjusted accordingly. The net present values of non-financial
assets and liabilities are generally estimated to be equal to their carrying
values under all interest rate scenarios as permitted by OTS regulations. With
respect to off-balance sheet items, the Bank generally relies on estimates
provided by the OTS. The same is true for certain other financial assets such as
mortgage servicing rights and deposit-based intangibles, which are not included
in the disclosures required under GAAP.
The following table summarizes as of December 31, 1997, the sensitivity
of the Bank's MVPE and net interest income to immediate and sustained changes in
interest rates, as shown (parallel shifts in the term structure of interest
rates are assumed as permitted by OTS regulations; dollars are presented in
millions).
Estimated
Change in Interest Rates MVPE
------------------------ ---------
200 basis point increase $141.4
Base scenario 146.0
200 basis point decline 154.3
The Bank's MVPE declines when interest rates increase and increases
when interest rates decline. These results are consistent with the Bank's
general strategy of funding investments in adjustable-rate mortgage loans (the
majority of which carry fixed rates of interest during the first two to three
years of their terms), as well as consumer loans (which have average lives of
approximately two to three years), with deposit liabilities and FHLB advances
that tend to have average terms to maturity of less than one year or carry
floating rates of interest.
32
34
On a quarterly basis the OTS publishes industry statistics that permit
the Bank to compare changes in its MVPE given immediate and sustained changes in
interest rates, as shown in the table, with those of the rest of the industry.
The Bank consistently places in the fourth or fifth quintile, or lowest 40% to
20%, when compared to the rest of the thrift industry. That is, in general, the
Bank's MVPE exhibits less sensitivity to +/- 200 basis point changes in interest
rates than at least 60% of other thrift institutions. As of June 30, 1997, which
is the latest date for which industry statistics are available from the OTS, the
Bank's MVPE exhibited less sensitivity to changes in interest rates than at
least 80% of other thrift institutions.
Certain shortcomings are inherent in using MVPE to quantify exposure to
market risk. For example, actual and future values of assets, liabilities, and
off-balance sheet items will differ from those determined by the model for a
variety of reasons to include, but not limited to, differences in actual market
discount rates, differences in actual loan prepayment activity, and differences
in deposit customers' responses to changes in interest rates and the resulting
impact on the Bank's offering rates. Furthermore, the analysis does not
contemplate future shifts in asset or liability mix or any actions management
may take in response to changes in interest rates. As a result of these
shortcomings, it is highly unlikely that actual or future values of the Bank's
assets, liabilities, and off-balance sheet items are or will be equal to those
presented in the MVPE analysis. Furthermore, the reader is cautioned that
although the estimated changes in the Bank's MVPE as of December 31, 1997, are
within limits established by the Bank's Board of Directors, management and the
Board of Directors do not rely on MVPE to manage exposure to interest rate risk.
Management's primary tool for managing exposure to interest rate risk is the
Corporation's funding gap, as previously described.
33
35
ITEM 8--FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
AUDITED CONSOLIDATED FINANCIAL STATEMENTS
CONSOLIDATED STATEMENTS OF FINANCIAL CONDITION
December 31, 1997 and 1996
ASSETS 1997 1996
- --------------------------------------------------------------------------------------------------------------------
Cash and due from banks $29,939,484 $24,644,254
Interest-bearing deposits with banks 7,113,756 2,456,901
Investment securities available for sale, at fair value 21,376,678 74,029,474
Mortgage-backed and related securities:
Available for sale, at fair value 47,895,297 61,875,130
Held for investment, at cost (fair value of $123,613,629 and $145,217,199,
respectively) 124,335,969 147,834,733
Loans held for sale 45,576,945 20,338,790
Loans held for investment, net 1,193,893,087 1,106,039,995
Federal Home Loan Bank stock 13,811,300 18,823,200
Accrued interest receivable, net 11,547,757 11,487,427
Office properties and equipment 24,243,132 26,210,947
Mortgage servicing rights, net 16,290,903 11,887,202
Intangible assets 5,921,443 5,221,245
Other assets 2,348,647 4,564,171
- --------------------------------------------------------------------------------------------------------------------
Total assets $1,544,294,398 $1,515,413,469
- --------------------------------------------------------------------------------------------------------------------
- --------------------------------------------------------------------------------------------------------------------
LIABILITIES AND STOCKHOLDERS' EQUITY
- --------------------------------------------------------------------------------------------------------------------
Deposit liabilities $1,146,533,896 $1,024,092,887
Federal Home Loan Bank advances and other borrowings 275,778,770 383,592,983
Advance payments by borrowers for taxes and insurance 3,872,764 3,912,206
Accrued interest payable 2,030,153 2,432,796
Other liabilities 6,717,469 5,968,239
- --------------------------------------------------------------------------------------------------------------------
Total liabilities 1,434,933,052 1,419,999,111
- --------------------------------------------------------------------------------------------------------------------
Preferred stock, $.10 par value, 5,000,000 shares authorized, none outstanding - -
Common stock, $.10 par value, 20,000,000 shares authorized, 9,970,815 and
9,954,489 shares issued and outstanding, respectively, including 780,285 and 768,450
shares of treasury stock, respectively 997,082 663,933
Additional paid-in capital 35,537,146 35,580,114
Unearned restricted stock (211,006) (414,392)
Securities valuation allowance, net (664,999) (2,450,764)
Retained earnings 84,548,291 72,569,092
Treasury stock, at cost (10,845,168) (10,533,625)
- --------------------------------------------------------------------------------------------------------------------
Total stockholders' equity 109,361,346 95,414,358
- --------------------------------------------------------------------------------------------------------------------
Total liabilities and stockholders' equity $1,544,294,398 $1,515,413,469
- --------------------------------------------------------------------------------------------------------------------
- --------------------------------------------------------------------------------------------------------------------
Refer to accompanying Notes to Audited Consolidated Financial Statements.
34
36
CONSOLIDATED STATEMENTS OF OPERATIONS
Years Ended December 31, 1997, 1996, and 1995
1997 1996 1995
- --------------------------------------------------------------------------------------------------------------------
Interest on loans $97,941,595 $83,786,180 $66,484,567
Interest on mortgage-backed and related securities 12,125,868 14,494,999 15,802,529
Interest and dividends on investments 4,908,793 5,695,818 6,571,240
- --------------------------------------------------------------------------------------------------------------------
Total interest income 114,976,256 103,976,997 88,858,336
- --------------------------------------------------------------------------------------------------------------------
Interest on deposit liabilities 51,149,724 46,490,086 38,987,042
Interest on FHLB advances and other borrowings 19,115,333 17,193,577 15,967,433
- --------------------------------------------------------------------------------------------------------------------
Total interest expense 70,265,057 63,683,663 54,954,475
- --------------------------------------------------------------------------------------------------------------------
Net interest income 44,711,199 40,293,334 33,903,861
Provision for loan losses 538,957 - -
- --------------------------------------------------------------------------------------------------------------------
Net interest income after provision for loan losses 44,172,242 40,293,334 33,903,861
- --------------------------------------------------------------------------------------------------------------------
Retail banking fees and service charges 12,583,927 10,237,623 8,509,906
Loan servicing fees 2,367,828 2,221,690 2,443,004
Commissions on annuity and insurance sales 1,810,667 2,063,520 1,012,990
Gain on sales of loans 6,373,747 4,330,550 3,544,575
Loss on sales of investment securities (725,142) (311,151) (28,598)
Other income 1,882,658 1,288,940 1,631,207
- --------------------------------------------------------------------------------------------------------------------
Total non-interest income 24,293,685 19,831,172 17,113,084
- --------------------------------------------------------------------------------------------------------------------
Compensation and employee benefits 21,827,232 19,913,513 18,295,649
Occupancy and equipment 6,675,597 6,412,307 5,735,799
Advertising and marketing 2,173,031 1,710,140 1,964,587
Federal deposit insurance premiums 637,353 2,124,036 1,861,879
FDIC special assessment - 5,941,000 -
Other expenses 8,883,839 8,143,731 6,513,253
- --------------------------------------------------------------------------------------------------------------------
Total non-interest expense 40,197,052 44,244,727 34,371,167
- --------------------------------------------------------------------------------------------------------------------
Income before income taxes 28,268,875 15,879,779 16,645,778
Income tax expense 10,878,512 5,805,862 6,001,144
- --------------------------------------------------------------------------------------------------------------------
Net income $17,390,363 $10,073,917 $10,644,634
- --------------------------------------------------------------------------------------------------------------------
- --------------------------------------------------------------------------------------------------------------------
PER SHARE INFORMATION 1997 1996 1995
- --------------------------------------------------------------------------------------------------------------------
Diluted earnings per share $1.77 $1.00 $1.14
Basic earnings per share 1.90 1.07 1.21
Dividends paid per share 0.467 0.413 0.367
- --------------------------------------------------------------------------------------------------------------------
- --------------------------------------------------------------------------------------------------------------------
Refer to accompanying Notes to Audited Consolidated Financial Statements.
35
37
CONSOLIDATED STATEMENTS OF CASH FLOWS
Years Ended December 31, 1997, 1996, and 1995
1997 1996 1995
- -------------------------------------------------------------------------------------------------------------------
Cash flows from operating activities:
Net income $17,390,363 $10,073,917 $10,644,634
Adjustments to reconcile net income to net cash provided
(used) by operations:
Provision for loan and real estate losses
(recoveries), net 458,070 (10,240) (311,523)
Net loan fees (costs) deferred (835,277) 73,827 75,300
Depreciation and amortization 6,363,677 5,950,546 4,872,988
Gains on sales of loans, and other investments (5,648,605) (4,019,400) (3,515,977)
Increase in accrued interest receivable (60,330) (1,354,216) (1,528,313)
Increase (decrease) in accrued interest payable (402,643) (199,862) 201,148
Increase in current and deferred income taxes 1,554,525 1,819,263 882,970
Other accruals and prepaids, net (202,660) (414,056) (243,569)
- -------------------------------------------------------------------------------------------------------------------
Net cash provided by operations before loan
originations and sales 18,617,120 11,919,779 11,077,658
Loans originated for sale (258,817,745) (237,592,344) (180,319,098)
Sales of loans originated for sale 252,349,050 240,578,067 164,476,609
- -------------------------------------------------------------------------------------------------------------------
Net cash provided (used) by operations 12,148,425 14,905,502 (4,764,831)
- -------------------------------------------------------------------------------------------------------------------
Cash flows from investing activities:
Decrease (increase) in interest-bearing deposits with
banks (4,656,855) 1,594,387 3,479,866
Purchases of investment securities - (34,828,051) (7,459,642)
Sales of investment securities 31,710,769 11,019,370 8,097,820
Maturities of investment securities 20,785,762 29,482,069 16,106,502
Mortgage-backed and related securities principal
repayments 39,303,822 44,170,348 26,915,207
Loans originated for investment (492,325,180) (472,812,233) (297,401,986)
Loans purchased for investment (6,372,996) (9,692,282) (1,968,075)
Loan principal repayments 317,290,692 292,198,986 186,023,943
Sales of loans originated for investment 75,122,123 17,124,014 8,470,485
Sales of real estate 1,380,170 242,993 586,314
Additions to office properties and equipment (2,595,908) (1,954,572) (5,874,671)
Purchases of mortgage servicing rights (1,374,069) - (4,088,169)
Purchase of net assets of Rock Financial Corp. - - (21,040,620)
Other, net 6,108,616 (330,466) 839,839
- -------------------------------------------------------------------------------------------------------------------
Net cash used by investing activities (15,623,054) (123,785,437) (87,313,187)
- -------------------------------------------------------------------------------------------------------------------
Cash flows from financing activities:
Net increase in deposit liabilities 122,441,009 54,670,368 87,598,932
Deposits purchased - - 5,336,084
Long-term advances from Federal Home Loan Bank 25,000,000 132,000,000 50,000,000
Repayment of long-term Federal Home Loan Bank advances (215,507,000) (114,905,000) (61,175,000)
Net increase in short-term Federal Home Loan Bank
borrowings 79,698,000 38,207,000 1,715,000
Increase in other borrowings 2,994,787 5,995,202 3,995,611
Increase (decrease) in advance payments by borrowers for
taxes and insurance (39,442) 171,688 (1,616,241)
Proceeds from sale of common stock 484,179 194,225 13,551,631
Purchase of treasury stock (2,868,938) (9,674,875) (858,750)
Dividends paid (4,283,617) (3,874,954) (3,192,137)
Other, net 850,881 356,051 747,920
- -------------------------------------------------------------------------------------------------------------------
Net cash provided by financing activities 8,769,859 103,139,705 96,103,050
- -------------------------------------------------------------------------------------------------------------------
Net increase (decrease) in cash and due from banks 5,295,230 (5,740,230) 4,025,032
Cash and due from banks at beginning of period 24,644,254 30,384,484 26,359,452
- -------------------------------------------------------------------------------------------------------------------
Cash and due from banks at end of period $29,939,484 $24,644,254 $30,384,484
- -------------------------------------------------------------------------------------------------------------------
- -------------------------------------------------------------------------------------------------------------------
Supplemental disclosures of cash flow information:
Interest and dividends received on loans and investments $114,915,926 $102,622,781 $87,330,023
Interest paid on deposits and borrowings 70,667,700 63,883,525 54,753,327
Income taxes paid 9,689,000 4,540,490 5,376,067
Income taxes refunded 339,171 543,978 70,262
- -------------------------------------------------------------------------------------------------------------------
- -------------------------------------------------------------------------------------------------------------------
Refer to accompanying Notes to Audited Consolidated Financial Statements.
36
38
CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY
Years Ended December 31, 1997, 1996, and 1995
COMMON
STOCK AND
ADDITIONAL GUARANTEE UNEARNED SECURITIES
PAID-IN OF ESOP RESTRICTED VALUATION RETAINED TREASURY
CAPITAL DEBT STOCK ALLOWANCE EARNINGS STOCK TOTAL
- ---------------------------------------------------------------------------------------------------------------------
Balance at December 31, 1994 $20,996,452 ($115,331) ($457,402) ($2,159,980) $58,917,632 - $77,181,371
Net income 10,644,634 10,644,634
Proceeds from sale of stock 13,358,743 13,358,743
Exercise of stock options 559,592 559,592
Restricted stock award 939,239 (864,968) 74,271
Repayment of ESOP 115,331
indebtedness 115,331
Restricted stock award
amortization 505,120 505,120
Valuation adjustment, net 550,819
of taxes 550,819
Dividends paid (3,192,137) (3,192,137)
Purchase of treasury stock ($858,750) (858,750)
- ---------------------------------------------------------------------------------------------------------------------
Balance at December 31, 1995 35,854,026 - (817,250) (1,609,161) 66,370,129 (858,750) 98,938,994
Net income 10,073,917 10,073,917
Exercise of stock options 390,021 390,021
Restricted stock award
amortization 402,858 402,858
Valuation adjustment, net (841,603)
of taxes (841,603)
Dividends paid (3,874,954) (3,874,954)
Purchase of treasury stock (9,674,875) (9,674,875)
- ---------------------------------------------------------------------------------------------------------------------
Balance at December 31, 1996 36,244,047 - (414,392) (2,450,764) 72,569,092 (10,533,625) 95,414,358
Net income 17,390,363 17,390,363
Exercise of stock options 290,181 (1,127,547) 2,557,395 1,720,029
Restricted stock award
amortization 203,386 203,386
Valuation adjustment, net 1,785,765
of taxes 1,785,765
Dividends paid (4,283,617) (4,283,617)
Purchase of treasury stock (2,868,938) (2,868,938)
- ---------------------------------------------------------------------------------------------------------------------
Balance at December 31, 1997 $36,534,228 - ($211,006) ($664,999) $84,548,291 ($10,845,168) $109,361,346
- ---------------------------------------------------------------------------------------------------------------------
Refer to accompanying Notes to Audited Consolidated Financial
Statements.
37
39
NOTES TO AUDITED CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1--SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
BUSINESS The Corporation provides a wide range of financial services to
individuals and businesses in Wisconsin through its wholly-owned subsidiary
bank. The Corporation is subject to competition from other financial
institutions. The Corporation, the Bank, and the Bank's subsidiaries are also
subject to the regulations of certain governmental agencies and undergo periodic
examinations by those regulatory authorities.
BASIS OF FINANCIAL STATEMENT PRESENTATION The accounting and reporting
policies of the Corporation, the Bank, and the Bank's subsidiaries conform to
GAAP and to general practices within the financial services industry. In
preparing the financial statements, management is required to make estimates and
assumptions that affect the reported amounts of assets and liabilities as of the
date of the balance sheet and revenues and expenses for the period. Actual
results could differ from those estimates.
PRINCIPLES OF CONSOLIDATION The consolidated financial statements
include the accounts and balances of the Corporation, the Bank, and the Bank's
wholly-owned subsidiaries. All significant intercompany accounts and
transactions have been eliminated in consolidation.
INVESTMENT SECURITIES, INCLUDING MORTGAGE-BACKED AND RELATED
SECURITIES, AND STOCK HELD FOR REGULATORY PURPOSES Investment securities,
including mortgage-backed and related securities, are classified in one of two
categories and accounted for as follows: (1) securities that the Corporation has
the positive intent and ability to hold to maturity are classified as "held for
investment" and reported at amortized cost; (2) securities not classified as
"held for investment" are classified as "available for sale" and reported at
fair value, with unrealized gains and losses excluded from earnings and reported
as a separate component of stockholders' equity ("securities valuation
allowance"), net of estimated income taxes. Management determines the
appropriate classification for its securities at the time of purchase. The
specific identification method is used to determine the cost of securities sold.
The Corporation does not maintain a trading account for investment securities or
mortgage-backed and related securities.
The Corporation occasionally enters into purchases of securities and/or
whole-loans under agreements to resell ("repurchase agreements"). The amounts
advanced under these agreements represent short-term loans and are reflected as
a receivable in the Corporation's Consolidated Statement of Financial Condition.
Stock of the FHLB of Chicago is owned due to regulatory requirements
and is carried at cost.
INTEREST ON LOANS Interest income is accrued on loan balances
outstanding. Accrued interest on impaired loans is reversed when management
determines that the collection of interest or principal is considered unlikely.
In general, this occurs when a loan is 90 days past due. Interest income is
subsequently recognized only to the extent cash payments are received. Loans are
restored to accrual status when the obligation is brought current and the
ultimate collectibility of the total contractual principal and interest is no
longer in doubt.
DISCOUNTS, PREMIUMS, AND DEFERRED LOAN FEES Discounts and premiums on
loans are amortized over the life of the related loans using the level-yield
method. Loan origination fees and certain direct loan origination costs are
deferred and amortized over the life of the related loans as an adjustment of
yield. Such fees are amortized using a method that approximates the level-yield
method.
LOANS HELD FOR SALE Loans originated and held for sale are carried at
the lower of aggregate cost or market. Net unrealized losses are recognized
through a valuation allowance and a charge to income.
MORTGAGE SERVICING RIGHTS Servicing mortgage loans includes such
functions as collecting monthly payments of principal and interest from
borrowers, passing such payments through to third-party investors, maintaining
escrow accounts for taxes and insurance, and making such payments when they are
due. The Corporation generally earns a fee of 25 basis points or more on the
outstanding loan balance for performing these services as well as fees and
interest income from ancillary sources such as delinquency charges and float.
38
40
The Corporation records originated mortgage servicing rights ("OMSR")
as a component of gain on the sale of mortgage loans. The value recorded for
OMSR approximates the present value of the servicing fee (typically 25 basis
points or more) adjusted for expected future costs to service the loans, as well
as income and fees expected to be received from ancillary sources, as previously
described. The carrying value of OMSR is amortized against service fee income
over the estimated lives of the loans using the income-forecast method. The
Corporation also purchases mortgage servicing rights ("PMSR") from
third-parties. PMSR is recorded at cost and is also amortized over the estimated
lives of the loans using the income-forecast method.
The value of OMSR and PMSR (collectively "mortgage servicing rights")
is subject to impairment as a result of changes in loan prepayment expectations
and in market discount rates used to value the future cash flows associated with
such assets. If, based on periodic evaluations, the estimated present value of
mortgage servicing rights is determined to be less than carrying value, a
valuation adjustment is recorded against such assets and against the
Corporation's loan servicing fee income in the period of the prepayment. The
valuation adjustment is calculated using the current outstanding principal
balance of the related loans, a long-term prepayment assumption as determined by
management, and a discount rate that the Corporation has experienced in recent
bids on mortgage servicing rights in the secondary market.
The Corporation purchases or originates mortgage servicing rights on
single-family residential mortgage loans only. In valuing the mortgage servicing
rights recorded on such loans, the Corporation stratifies the loans by type of
loan (i.e., non-government-guaranteed loans versus government-guaranteed loans),
year of original funding, contractual interest rate, and original term to
maturity.
On January 1, 1997, the Corporation adopted certain aspects of
Statement of Financial Accounting Standards No. 125, "Accounting for Transfers
and Servicing of Financial Assets and Extinguishments of Liabilities" ("SFAS
125"). This standard established new accounting and financial reporting rules
for sales, securitizations, and servicing of receivables and other financial
assets, for secured borrowing and collateral transactions, and for
extinguishment of liabilities. SFAS 125 also eliminated the distinction between
OMSR and a mortgage servicing asset formerly know as "excess mortgage servicing
rights" ("EMSR"), which is now included as a component of OMSR. Certain other
aspects of SFAS 125 were delayed until 1998 by the issuance in 1997 of Statement
of Financial Accounting Standards No. 127, "Deferral of the Effective Date of
Certain Provisions of FASB Statement No. 125" ("SFAS 127). The Corporation's
adoption of certain aspects of SFAS 125, and its future adoption of SFAS 127,
had no or will have no material impact on the financial condition or operations
of the Corporation.
REAL ESTATE Real estate acquired through foreclosure or deed in lieu of
foreclosure and real estate subject to redemption are recorded at the lower of
cost or estimated fair market value. Costs relating to the development and
improvement of the property are capitalized. Income and expenses incurred in
connection with holding and operating the property are included in the
Corporation's Consolidated Statements of Operations.
ALLOWANCE FOR LOSSES ON LOANS AND REAL ESTATE A periodic review of
loans and real estate is made to determine whether the estimated fair value of
the related assets is equal to or in excess of the related carrying amounts. In
making such determination, consideration is given to estimated sales prices,
refurbishing costs, selling costs, and market discount rates. Where loss is
indicated, a specific allowance for loss is established. In addition, the
Corporation maintains a general loss allowance against its loan and real estate
portfolios which is based on its own loss experience, that of the financial
services industry, and management's ongoing assessment of current economic
conditions, and the credit risk inherent in the portfolios.
OFFICE PROPERTIES AND EQUIPMENT Office properties and equipment are
recorded at cost less accumulated depreciation which is provided over the
estimated useful lives (five to forty years) of the respective assets on a
straight-line basis. The cost of leasehold improvements is being amortized on
the straight-line basis over the lesser of the term of the respective lease or
the estimated economic life. When properties are retired or otherwise disposed
of, the related cost and accumulated depreciation are removed from the
respective accounts and the resulting gain or loss is recorded in income.
SECURITIES SOLD UNDER AGREEMENTS TO REPURCHASE The Corporation
occasionally enters into sales of securities under agreements to repurchase
("reverse-repurchase agreements"). Reverse-repurchase agreements are treated as
financing, and the obligations to repurchase securities sold are reflected as a
liability in the Corporation's
39
41
Consolidated Statement of Financial Condition. The securities underlying the
agreements remain in the asset accounts.
INCOME TAXES The Corporation, the Bank, and the Bank's subsidiaries
file a consolidated federal income tax return and separate state income tax
returns. Provision is made in the income tax expense accounts for deferred taxes
applicable to income and expense items reported in different periods for
financial statement purposes than for income tax purposes.
PENSION COSTS AND OTHER POSTRETIREMENT BENEFITS The Corporation's net
periodic pension cost consists of the expected cost of benefits earned by
employees during the current period and an interest cost on the projected
benefit obligation, reduced by the earnings on assets held by the retirement
plan, by amortization of a transitional assets over a period of 15 years
(beginning in 1987), and by amortization of any actuarial gains and losses over
the estimated future service period of existing plan participants. The projected
unit credit actuarial cost method is used to determine expected pension costs.
The Corporation's funding policy is to contribute amounts deductible for federal
income tax purposes.
The Corporation's cost of postretirement benefits, which consists of
medical reimbursements for retirees, is recognized during the years that the
employees render the necessary service, adjusted for interest costs on the
projected benefit obligation and for the amortization of a transitional
obligation over 20 years (beginning in 1993). The projected unit credit
actuarial cost method is used to determine expected postretirement benefit
costs. The Corporation's postretirement benefit plan is not currently funded.
FAIR VALUES OF FINANCIAL INSTRUMENTS AND OFF-BALANCE SHEET FINANCIAL
INSTRUMENTS The following methods and assumptions were used by the Corporation
in estimating fair value disclosures for financial instruments (refer to Note 13
for actual fair value amounts):
CASH AND DUE FROM BANKS AND INTEREST-BEARING DEPOSITS WITH
BANKS The face amounts presented in the Corporation's Consolidated Statements of
Financial Condition for cash and interest-bearing deposits approximates fair
value for such assets.
INVESTMENT SECURITIES AND MORTGAGE-BACKED AND RELATED
SECURITIES Fair values for this group of financial instruments are based on
average quoted market prices obtained from one or more independent pricing
sources. If quoted market prices are not available, fair values are based on
quoted market prices of comparable instruments.
LOANS HELD FOR SALE The fair value of loans held for sale is
estimated by matching such loans against outstanding commitments to sell such
loans. The method used for unmatched commitments is discussed under Off-Balance
Sheet Financial Instruments", below.
LOANS HELD FOR INVESTMENT The estimated fair value of loans
held for investment is determined using discounted cash flow techniques.
Scheduled principal and interest payments are adjusted for estimated future
prepayments as provided by third-party market sources or as estimated by
management using historical prepayment experience. Discount rates used in the
fair value computations are generally based on interest rates offered by the
Corporation on similar loans as of December 31, 1997 and 1996, adjusted for
management's estimate of differences in liquidity, credit risk, remaining term
to maturity, etc.
FEDERAL HOME LOAN BANK STOCK FHLB stock held in excess of
minimum requirements can be returned to the FHLB of Chicago for face value.
Accordingly, the fair value of all FHLB stock is estimated to be equal to the
face amount presented in the Corporation's Consolidated Statements of Financial
Condition.
DEPOSIT LIABILITIES The fair values of demand deposit accounts
(i.e., interest-bearing and non-interest-bearing checking accounts and money
market and regular savings accounts) are equal to the face amount presented in
Note 7. The fair value of fixed-rate time deposits is estimated using a
discounted cash flow calculation that applies interest rates offered by the
Corporation as of the measurement date to a schedule of aggregate contractual
maturities of such deposits as of the same dates.
40
42
FEDERAL HOME LOAN BANK ADVANCES The fair value of FHLB
advances is estimated using a discounted cash flow calculation that applies
interest rates quoted by the FHLB as of the measurement date to a schedule of
aggregate contractual maturities of such liabilities as of the same date. The
fair value of FHLB advances excludes the effect of any prepayment penalties that
may be incurred if the Corporation were to prepay any of its term advances.
OTHER BORROWINGS Other borrowings consist of short-term
borrowings from third-party financial institutions and borrowings under
long-term contracts. Other borrowings are not material to the Corporation either
individually or in the aggregate. As such, the Corporation has estimated the
fair value of such borrowings to approximate carrying value.
ADVANCE PAYMENTS BY BORROWERS FOR TAXES AND INSURANCE The fair
value of advance payments by borrowers for taxes and insurance is equal to the
face amount presented in the Corporation's Consolidated Statement of Financial
Condition.
ACCRUED INTEREST RECEIVABLE AND PAYABLE The fair value of
accrued interest is equal to the face amount presented in the Corporation's
Consolidated Statement of Financial Condition.
OFF-BALANCE-SHEET FINANCIAL INSTRUMENTS. The Corporation has
become a party to financial instruments with off-balance-sheet risk in the
normal course of its business in order to meet the financing needs of its
customers and to reduce its own exposure to fluctuations in interest rates.
These financial instruments include commitments to extend credit, standby
letters of credit, lines of credit, commitments to sell loans, and financial
guarantees.
Off-balance-sheet financial instruments involve, to varying
degrees, elements of credit and interest rate risk in excess of the amounts
recognized in the statement of financial condition. In the event of
non-performance by the other party to a financial instrument, the Corporation's
exposure to credit loss is represented by the contractual amount of the
instrument. The Corporation uses the same credit policies in granting
commitments, letters and lines of credit, and financial guarantees as it does
for on-balance-sheet financial instruments.
The fair values of commitments to extend credit and unmatched
commitments to sell loans, both which are generally short-term in nature, are
estimated to be equal to their respective face values.
Home equity lines of credit carry floating market rates of
interest. Accordingly, the fair value of outstanding home equity lines of credit
is estimated to be equal to the face value of such commitments.
The Corporation does not issue material amounts of stand-by
letters of credit or financial guarantees. Accordingly, the fair value of such
exposures are estimated to be equal to their face value in all material
respects.
STOCK SPLITS Earnings per share and dividends paid per share, as
presented in the Corporation's Consolidated Statements of Operations, have been
adjusted to recognize a three-for-two stock split on June 12, 1997. Common
shares issued and outstanding, as presented in the Corporation's Consolidated
Statements of Financial Condition, have also been adjusted for such stock split
and dividend.
STOCK-BASED COMPENSATION The Corporation records expense relative to
stock-based compensation using the "intrinsic value method". Since the intrinsic
value of the Corporation's stock options is generally "zero" at the time of the
award, no expense is recorded. With respect to restricted stock awards, the
intrinsic value is generally equal to the fair value of the Corporation's common
stock on the date of the award. Such value is amortized as expense over the
vesting period of the award.
As permitted by Statement of Financial Accounting Standards No. 123,
"Accounting for Stock-Based Compensation" ("SFAS 123"), the Corporation has not
adopt the "fair value method" of expense recognition for stock-based
compensation awards. Rather, the effects of the fair value method on the
Corporation's earnings have been disclosed on a pro forma basis, as permitted by
SFAS 123. Refer to Note 10 for the appropriate disclosures.
41
43
EARNINGS PER SHARE On December 31, 1997, the Corporation adopted
Statement of Financial Accounting Standards No. 128, "Earnings per Share" ("SFAS
128"). This standard replaced "primary earnings per share" with "basic earnings
per share". In general, basic earnings per share is computed using the actual
number of shares outstanding during the period, unadjusted for common stock
equivalents. "Fully-diluted earnings per share" was retained under the new
standard, but is referred to as "diluted earnings per share". As required by
SFAS 128, all prior-period earnings per share data have been restated.
Both basic and diluted earnings per share are based on the
weighted-average number of common shares outstanding during each period,
including any restricted shares. Diluted earnings per share is adjusted for
common stock equivalents outstanding at the end of each period. Common stock
equivalents are computed using the treasury stock method and consist of stock
options outstanding under the stock incentive plans described in Note 10. All
stock options are assumed to be 100% vested for purposes of the earnings per
share computations. The computation of earnings per share for the years ended
December 31, 1997, 1996, and 1995, is as follows:
1997 1996 1995
- --------------------------------------------------------------------------------------------------------------------
Basic Diluted Basic Diluted Basic Diluted
- --------------------------------------------------------------------------------------------------------------------
Net income $17,390,363 $17,390,363 $10,073,917 $10,073,917 $10,644,634 $10,644,634
- --------------------------------------------------------------------------------------------------------------------
- --------------------------------------------------------------------------------------------------------------------
Average common shares issued,
net of actual treasury shares 9,160,951 9,160,951 9,392,358 9,392,358 8,772,120 8,772,120
Common stock equivalents based
on the treasury stock method - 684,405 - 670,226 - 578,900
- --------------------------------------------------------------------------------------------------------------------
Average common shares and
common stock equivalents 9,160,951 9,845,356 9,392,358 10,062,584 8,772,120 9,351,020
- --------------------------------------------------------------------------------------------------------------------
- --------------------------------------------------------------------------------------------------------------------
Earnings per share $ 1.90 $ 1.77 $ 1.07 $ 1.00 $ 1.21 $ 1.14
- --------------------------------------------------------------------------------------------------------------------
- --------------------------------------------------------------------------------------------------------------------
PENDING ACCOUNTING CHANGES During 1997 the Financial Accounting
Standards Board ("FASB") issued Statement of Financial Accounting Standards No.
130, "Reporting Comprehensive Income" ("SFAS 130"). This new standard
establishes new rules for the reporting and display of comprehensive income and
its components in financial reports to shareholders. Comprehensive income is
defined as net income adjusted for other changes in stockholders' equity during
the period that are caused by transactions from non-owner sources. Such
transactions include unrealized gains and losses on "available for sale"
securities and other transactions that are not applicable to the Corporation at
this time. SFAS 130 is effective for fiscal years beginning after December 15,
1997. Accordingly, the Corporation will adopt the standard in 1998. Adoption of
this standard will have no impact on the Corporation's financial condition or
results of operations.
During 1997 the FASB also issued Statement of Financial Accounting
Standards No. 131, "Disclosures about Segments of an Enterprise and Related
Information" ("SFAS 131"). This new standard significantly changes the basis on
which public business enterprises report information about reportable segments
in financial reports to shareholders, including interim financial reports. It
also establishes standards for related disclosures about products and services,
geographic areas, and major customers. The standard is effective for fiscal
years beginning after December 15, 1997. Accordingly, the Corporation will adopt
the standard in 1998. The Corporation has not completed the complex analysis
necessary to determine what impact SFAS 131 will have on its financial statement
disclosures. However, SFAS 131 will have no impact on the Corporation's
financial condition or results of operations.
CASH AND CASH EQUIVALENTS For purposes of the Corporation's
Consolidated Statements of Cash Flows, cash and cash equivalents consists solely
of cash on hand and non-interest-bearing deposits in banks ("cash and due from
banks"). The Bank is required to maintain a certain amount of cash on hand and
non-interest-bearing account balances at the Federal Reserve Bank of Minneapolis
to meet specific reserve requirements. These requirements approximated $12.1
million at December 31, 1997.
RECLASSIFICATION Certain 1996 and 1995 balances have been reclassified
to conform with the 1997 presentation.
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NOTE 2--INVESTMENT SECURITIES
Investment securities available for sale at December 31, 1997, are
summarized as follows:
1997
- -------------------------------------------------------------------------------------------------------------------
AMORTIZED UNREALIZED UNREALIZED FAIR
COST GAINS LOSSES VALUE
- -------------------------------------------------------------------------------------------------------------------
Corporate obligations $21,045,130 $39,641 ($1,610) $21,083,161
Asset-backed securities 293,517 - - 293,517
- -------------------------------------------------------------------------------------------------------------------
Total $21,338,647 $39,641 ($1,610) $21,376,678
===================================================================================================================
Investment securities available for sale at December 31, 1996, are
summarized as follows:
1996
- -------------------------------------------------------------------------------------------------------------------
AMORTIZED UNREALIZED UNREALIZED FAIR
COST GAINS LOSSES VALUE
- -------------------------------------------------------------------------------------------------------------------
Corporate obligations $41,083,255 $60,294 ($65,656) $41,077,893
U.S. Treasury securities 261,621 313 - 261,934
Asset-backed securities 1,076,022 1,288 (1,006) 1,076,304
Adjustable-rate mortgage and short-term government mutual
funds 32,435,911 - (822,568) 31,613,343
- -------------------------------------------------------------------------------------------------------------------
Total $74,856,809 $61,895 ($889,230) $74,029,474
===================================================================================================================
Accrued interest receivable on investment securities was $340,875 and
$781,270 at December 31, 1997 and 1996, respectively.
Realized losses on sales of investment securities were $725,142,
$311,151 and $39,146 during 1997, 1996, and 1995, respectively. Realized gains
were $10,548 during 1995. There were no realized gains on sales of investment
securities during 1997 and 1996.
The amortized cost and estimated fair value of investment securities at
December 31, 1997, by contractual maturity, are summarized as follows:
AMORTIZED FAIR
INVESTMENTS MATURING.. COST VALUE
- --------------------------------------------------------------------------------------------------------------------
Within one year $15,235,528 $15,256,937
In one year to five years 6,103,119 6,119,741
- --------------------------------------------------------------------------------------------------------------------
Total $21,338,647 $21,376,678
====================================================================================================================
NOTE 3--MORTGAGE-BACKED AND RELATED SECURITIES
Mortgage-backed and related securities available for sale at December
31, 1997, are summarized as follows
1997
- -------------------------------------------------------------------------------------------------------------------
AMORTIZED UNREALIZED UNREALIZED FAIR
COST GAINS LOSSES VALUE
- -------------------------------------------------------------------------------------------------------------------
Collateralized mortgage obligations $48,953,197 $14,498 ($1,072,398) $47,895,297
===================================================================================================================
Mortgage-backed and related securities held for investment at December
31, 1997, are summarized as follows:
1997
- -------------------------------------------------------------------------------------------------------------------
AMORTIZED UNREALIZED UNREALIZED FAIR
COST GAINS LOSSES VALUE
- -------------------------------------------------------------------------------------------------------------------
Collateralized mortgage obligations $115,847,369 $73,583 ($863,972) $115,056,980
Mortgage-backed securities 8,488,600 115,668 (47,619) 8,556,649
- -------------------------------------------------------------------------------------------------------------------
Total $124,335,969 $189,251 ($911,591) $123,613,629
===================================================================================================================
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Mortgage-backed and related securities available for sale at December
31, 1996, are summarized as follows:
1996
- -------------------------------------------------------------------------------------------------------------------
AMORTIZED UNREALIZED UNREALIZED FAIR
COST GAINS LOSSES VALUE
- -------------------------------------------------------------------------------------------------------------------
Collateralized mortgage obligations $64,889,598 $16,517 ($3,030,985) $61,875,130
===================================================================================================================
Mortgage-backed and related securities held for investment at December
31, 1996, are summarized as follows:
1996
- -------------------------------------------------------------------------------------------------------------------
AMORTIZED UNREALIZED UNREALIZED FAIR
COST GAINS LOSSES VALUE
- -------------------------------------------------------------------------------------------------------------------
Collateralized mortgage obligations $136,183,410 $17,587 ($2,617,054) $133,583,943
Mortgage-backed securities 11,651,323 98,962 (117,029) 11,633,256
- -------------------------------------------------------------------------------------------------------------------
Total $147,834,733 $116,549 ($2,734,083) $145,217,199
===================================================================================================================
Accrued interest receivable on mortgage-backed and related securities
was $961,052 and $1,177,988 at December 31, 1997 and 1996, respectively.
Mortgage-backed securities consist of FHLMC, FNMA, and GNMA securities.
Collateralized mortgage obligations consist of securities backed by the
aforementioned agency-backed securities or by whole-loans. As of December 31,
1997, approximately 71% of the Corporation's CMO portfolio consisted of
securities backed by whole loans--all of which were generally rated "AAA" by the
major credit-rating agencies. Approximately 25% of the Corporation's whole-loan
CMOs consisted of loans on properties located in the state of California. No
other geographical location had a material concentration.
There were no realized gains or losses on sales of mortgage-backed and
related securities during 1997, 1996 or 1995.
NOTE 4--LOANS HELD FOR INVESTMENT
Loans held for investment at December 31 are summarized as follows:
1997 1996
- -------------------------------------------------------------------------------------------------------------------
First mortgage loans:
Single-family $538,392,686 $544,065,060
Multi-family 140,589,481 127,334,307
Commercial 107,315,226 94,400,682
Construction 51,318,856 46,641,024
Education loans 159,893,040 134,093,919
Second mortgage and home equity loans 163,231,165 119,644,928
Consumer loans 40,330,804 47,555,741
Commercial business and Small Business Administration loans 556,270 1,217,477
- -------------------------------------------------------------------------------------------------------------------
Subtotal 1,201,627,528 1,114,953,138
Less:
Unearned discounts and net deferred loan fees 96,914 1,024,820
Allowance for loan losses 7,637,527 7,888,323
- -------------------------------------------------------------------------------------------------------------------
Total $1,193,893,087 $1,106,039,995
===================================================================================================================
Accrued interest receivable on loans held for investment was
$10,232,335 and $9,506,719 at December 31, 1997 and 1996, respectively.
Loans serviced for investors were $1.4 billion, $1.2 billion, and $1.1
billion at December 31, 1997, 1996, and 1995, respectively. These loans are not
reflected in the Corporation's Consolidated Statements of Financial Condition.
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46
At December 31, 1997 and 1996, loans on non-accrual status were $4.4
million and $2.0 million, respectively. The Corporation has no loans
contractually past due ninety or more days for which interest is being accrued.
With respect to single-family mortgage loans, it is the Corporation's
general policy to restrict lending to its primary market areas in Wisconsin as
well as contiguous counties in Iowa and Minnesota, though from time to time the
Corporation will purchase single-family loans originated outside of its primary
market area. It is also the Corporation's general policy to limit an individual
single-family mortgage loan to 80% of the appraised value of the property
securing the loan. The Corporation will occasionally lend more than 80% of the
appraised value of the property, but generally will require the borrower to
obtain private mortgage insurance on the portion of the loan amount that exceeds
80% of the collateral.
With respect to multi-family and commercial real estate loans, it is
the Corporation's policy to restrict its lending area to loans secured by
property located within a 300-mile radius of La Crosse, to include the states of
Nebraska, Illinois, Iowa, and Minnesota, although in the past the Corporation
originated multi-family and commercial real estate loans outside of this area.
It is also the Corporation's general policy to limit loans on multi-family
residential complexes, retail shopping centers, office buildings, and
multi-tenant industrial buildings to 80% of the appraised value of the property
securing the loan. Loans on other types of commercial properties, such as
nursing homes, hotels/motels, churches, and single-tenant industrial buildings
are limited to 75% or less of the appraised value of the property securing the
loan. In addition, it is the Corporation's policy that no more than 20% of its
multi-family and commercial real estate loans consist of this second category of
loans. Multi-family and commercial real estate loans originated or purchased
outside of the Corporation's market area amounted to $27.3 million and $25.3
million, at December 31, 1997 and 1996, respectively.
With respect to consumer loans, it is the Corporation's policy that
such loans be supported primarily by the borrower's ability to repay the loan
and secondarily by the value of the collateral securing the loan, if any.
Education loans are guaranteed by the U.S. government.
A summary of the activity in the allowance for loan losses is as
follows:
1997 1996 1995
- -------------------------------------------------------------------------------------------------------------------
Balance at beginning of period $7,888,323 $8,186,077 $8,073,670
Provision charged to expense 538,957 - -
- -------------------------------------------------------------------------------------------------------------------
Loans charged-off (816,217) (336,989) (468,737)
Recoveries 26,464 39,235 44,036
- -------------------------------------------------------------------------------------------------------------------
Charge-offs, net (789,753) (297,754) (424,701)
Purchased allowances - - 537,108
- -------------------------------------------------------------------------------------------------------------------
Balance at end of period $7,637,527 $7,888,323 $8,186,077
===================================================================================================================
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NOTE 5--MORTGAGE SERVICING RIGHTS
A summary of the activity in mortgage servicing rights ("MSR") is as
follows:
PURCHASED ORIGINATED ALLOWANCE FOR
MSR MSR LOSS TOTAL
- ------------------------------------------------------------------------------------------------------------------
Balance at December 31, 1994 $ 461,773 $4,863,604 ($347,958) $ 4,977,419
Purchased servicing 4,088,169 4,088,169
Originated servicing 2,487,951 2,487,951
Amortization charged to earnings (355,977) (654,958) (1,010,935)
Valuation adjustments charged to earnings (250,000) (250,000)
Charge-offs (190,226) 190,226 -
- ------------------------------------------------------------------------------------------------------------------
Balance at December 31, 1995 4,193,965 6,506,371 (407,732) 10,292,604
Originated servicing 3,726,336 3,726,336
Amortization charged to earnings (485,880) (1,021,960) (1,507,840)
Valuation adjustments charged to earnings (623,898) (623,898)
Charge-offs (157,346) (463,284) 620,630 -
- ------------------------------------------------------------------------------------------------------------------
Balance at December 31, 1996 3,550,739 8,747,463 (411,000) 11,887,202
Purchased servicing 1,374,068 1,374,068
Originated servicing 5,543,993 5,543,993
Amortization charged to earnings (503,539) (1,360,821) (1,864,360)
Valuation adjustments charged to earnings (650,000) (650,000)
Charge-offs (164,749) (341,850) 506,599 -
- ------------------------------------------------------------------------------------------------------------------
Balance at December 31, 1997 $4,256,519 $12,588,785 ($554,401) $16,290,903
==================================================================================================================
NOTE 6--OFFICE PROPERTIES AND EQUIPMENT
Office properties and equipment at December 31 are summarized as
follows:
1997 1996
- ------------------------------------------------------------------------------------------------------------------
Office buildings and improvements $18,679,458 $18,637,456
Furniture and equipment 15,407,247 15,710,546
Land and improvements 4,265,028 3,683,478
Leasehold improvements 4,170,200 4,681,491
Property acquired for expansion 358,470 1,179,808
Construction in progress 237,706 388,138
- ------------------------------------------------------------------------------------------------------------------
Subtotal 43,118,109 44,280,917
- ------------------------------------------------------------------------------------------------------------------
Less allowances for depreciation and amortization 18,874,977 18,069,970
- ------------------------------------------------------------------------------------------------------------------
Total $24,243,132 $26,210,947
==================================================================================================================
Depreciation expense was $2,533,147, $2,599,431, and $2,399,505 for the
years ended December 31, 1997,
1996, and 1995, respectively.
The Corporation rents office space and land under operating leases at
certain of its locations. These leases have terms expiring between 1998 and 2006
and provide for renewals subject to escalation clauses. Rental expense was
$1,168,705, $988,483, and $821,236 for the years ended December 31, 1997, 1996,
and 1995, respectively.
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NOTE 7--DEPOSIT LIABILITIES
Deposit liabilities at December 31 are summarized as follows:
1997 1996
- --------------------------------------------------------------------------------------------------------------------
Checking accounts:
Non-interest-bearing $ 93,322,644 $ 75,340,636
Interest-bearing 54,993,534 53,907,106
Money market savings:
Great Rate accounts 98,457,235 89,889,046
Insured Market Fund accounts 17,238,632 16,886,876
Market Rate accounts 27,420,923 28,200,632
Regular savings accounts 87,605,203 85,674,670
Variable-rate IRA accounts 2,955,620 3,344,848
Time deposits maturing...
Within three months 102,853,066 172,798,057
Four to six months 45,787,447 104,522,278
Seven to twelve months 213,706,514 218,640,578
Thirteen to thirty-six months 395,293,914 160,998,554
Thirty-seven to sixty months 6,899,163 13,889,606
- --------------------------------------------------------------------------------------------------------------------
Total time deposits 764,540,105 670,849,073
- --------------------------------------------------------------------------------------------------------------------
Total $1,146,533,896 $1,024,092,887
====================================================================================================================
Time deposits include $63.6 million and $47.4 million of certificates
in denominations of $100,000 or more at December 31, 1997 and 1996,
respectively. Accrued interest payable on deposit liabilities was $781,597 and
$740,828 at December 31, 1997 and 1996, respectively.
Included in non-interest-bearing checking accounts at December 31, 1997
and 1996, were $17.3 million and $12.2 million, respectively, which represented
amounts held in custody for third-party investors in loans serviced by the
Corporation.
Interest expense on deposit liabilities for the year ended December 31
is summarized as follows:
1997 1996 1995
- --------------------------------------------------------------------------------------------------------------------
Checking accounts $ 524,432 $ 521,038 $ 654,496
Money market savings accounts 6,321,899 5,103,182 3,987,442
Regular savings 1,799,864 1,774,934 1,753,301
Time deposits 42,503,529 39,090,932 32,591,803
- --------------------------------------------------------------------------------------------------------------------
Total $51,149,724 $46,490,086 $38,987,042
====================================================================================================================
NOTE 8--FEDERAL HOME LOAN BANK ADVANCES AND OTHER BORROWINGS
Federal Home Loan Bank advances and other borrowings at December 31 are
summarized as follows:
1997 1996
- --------------------------------------------------------------------------------------------------------------------
WEIGHTED WEIGHTED
BALANCE AVERAGE RATE BALANCE AVERAGE RATE
- --------------------------------------------------------------------------------------------------------------------
Federal Home Loan Bank advances maturing in...
1997 - - $290,507,000 5.43%
1998 $198,305,000 5.69% 18,305,000 5.49
1999 6,715,000 6.16 6,715,000 6.16
2000 26,400,000 5.56 1,400,000 6.93
Open line of credit 31,300,000 5.84 56,602,000 5.61
- --------------------------------------------------------------------------------------------------------------------
Total FHLB advances 262,720,000 5.71 373,529,000 5.48
Other borrowings 13,058,770 5.94 10,063,983 6.52
- --------------------------------------------------------------------------------------------------------------------
Total $275,778,770 5.72% $383,592,983 5.50%
====================================================================================================================
The Corporation's borrowings at the FHLB of Chicago are limited to 35%
of total assets or 60% of the book value of certain mortgage loans plus 75% of
the market value of certain mortgage-backed and related securities, whichever is
less. Interest on the open line of credit is paid monthly at 0.45% above the
FHLB's daily
47
49
investment deposit rate or approximately 25 basis points above the federal
funds rate. Advances that mature in the year 2000 include $25.0 million that are
"redeemable" quarterly at the option of the FHLB beginning in February 1998.
The Corporation has two lines of credit with two financial
institutions. These lines, which amount to $20.0 million in the aggregate,
permit the overnight purchase of fed funds; $10.0 million was outstanding under
these lines of credit as of December 31, 1997.
The Corporation has a $5 million line of credit with a third financial
institution under which $3.0 million was outstanding as of December 31, 1997.
Interest on the borrowings is payable quarterly at 185 basis points above the
three-month LIBOR, as determined on a quarterly basis. The Corporation has
pledged all issued and outstanding capital stock of the Bank as collateral for
this line of credit.
Accrued interest payable on FHLB advances and other borrowings was
$1,248,781 and $1,691,973 at December 31, 1997 and 1996, respectively.
NOTE 9--INCOME TAXES
Federal and state income tax expense for the years ended December 31 is
summarized as follows:
1997 1996 1995
- ------------------------------------------------------------------------------------------------------------------
Current:
Federal $ 9,795,713 $5,007,142 $5,289,144
State 979,799 77,720 108,000
- ------------------------------------------------------------------------------------------------------------------
Total current 10,775,512 5,084,862 5,397,144
- ------------------------------------------------------------------------------------------------------------------
Deferred:
Federal (104,000) 582,000 450,000
State 207,000 139,000 154,000
- ------------------------------------------------------------------------------------------------------------------
Total deferred 103,000 721,000 604,000
- ------------------------------------------------------------------------------------------------------------------
Total $10,878,512 $5,805,862 $6,001,144
==================================================================================================================
The significant components of the Corporation's deferred tax expense
for the years ended December 31 are summarized as follows:
1997 1996 1995
- -------------------------------------------------------------------------------------------------------------------
Mortgage servicing rights $ 901,452 $818,705 $ 724,766
Office properties and equipment depreciation (828,725) (56,321) 73,138
Asset valuation allowances (657,090) (311,288) (580,554)
Deferred loan fees 380,707 288,351 496,927
Provision for loan and real estate losses, net 107,907 128,248 284,857
Deferred compensation 2,473 (147,559) (406,795)
FHLB stock dividends - - 155,126
Other 196,276 864 (143,465)
- -------------------------------------------------------------------------------------------------------------------
Total deferred $ 103,000 $721,000 $ 604,000
===================================================================================================================
The income tax provision differs from the provision computed at the
federal statutory corporate tax rate for the years ended December 31 as follows:
1997 1996 1995
- -------------------------------------------------------------------------------------------------------------------
Income taxes at federal statutory rate of 35% $9,894,106 $5,557,922 $5,826,022
State income taxes net of federal income tax benefit 771,420 140,868 170,300
Other 212,986 107,072 4,822
- -------------------------------------------------------------------------------------------------------------------
Income tax provision $10,878,512 $5,805,862 $6,001,144
===================================================================================================================
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50
The significant components of the Corporation's deferred tax assets and
liabilities as of December 31, are summarized as follows:
1997 1996
- -------------------------------------------------------------------------------------------------------------------
Deferred tax assets:
Loan and real estate loss allowances $2,509,642 $2,617,549
Deferred compensation 1,001,671 1,004,144
Asset valuation allowances 664,175 7,085
State tax loss carryforwards 397,394 473,760
Office properties and equipment depreciation 384,033 -
Securities valuation allowance 354,870 1,391,038
Other 78,056 36,876
- -------------------------------------------------------------------------------------------------------------------
Total deferred tax assets 5,389,841 5,530,452
Valuation allowance (326,959) (212,980)
- -------------------------------------------------------------------------------------------------------------------
Adjusted deferred tax assets 5,062,882 5,317,472
- -------------------------------------------------------------------------------------------------------------------
Deferred tax liabilities:
Mortgage servicing rights 2,481,629 1,580,177
FHLB stock dividends 625,814 625,814
Deferred loan fees 550,833 170,127
Purchase acquisition adjustments 329,151 413,251
Federal tax effect of state deferred taxes, net 161,714 184,208
Investment in unconsolidated partnerships 82,234 85,771
Office properties and equipment depreciation - 444,692
Other 221,355 64,112
- -------------------------------------------------------------------------------------------------------------------
Total deferred tax liabilities 4,452,730 3,568,152
- -------------------------------------------------------------------------------------------------------------------
Net deferred tax assets $610,152 $1,749,320
===================================================================================================================
The Bank qualifies under provisions of the IRC that prior to 1996
permitted it to deduct from taxable income an allowance for bad debts that
generally exceeded losses charged to income for financial reporting purposes.
Accordingly, no provision for income taxes has been made for $21.1 million of
retained income at December 31, 1997. If in the future the Bank no longer
qualifies as a bank for tax purposes, income taxes may be imposed at the
then-applicable rates. If income taxes had been provided, the deferred tax
liability would have been approximately $8.5 million.
NOTE 10--EMPLOYEE BENEFIT PLANS
PENSION PLAN The Corporation has established a pension plan for the
benefit of full-time employees that have at least one year of service and have
attained the age of 20. Benefits under the plan are based on the employee's
years of service and compensation during the years immediately preceding
retirement. The table on the following page summarizes the components of pension
expense, the funded status of the plan, and the amount recognized in the
Corporation's consolidated financial statements for the years ended December 31,
1997, 1996, and 1995.
49
51
1997 1996 1995
- -------------------------------------------------------------------------------------------------------------------
Components of pension expense:
Service cost $ 317,232 $ 304,387 $ 260,146
Interest cost 458,386 402,318 410,126
Actual return on plan assets (1,208,023) (910,319) (1,211,311)
Net amortization and deferral 464,683 256,735 735,350
- -------------------------------------------------------------------------------------------------------------------
Total pension expense $ 32,278 $53,121 $194,311
===================================================================================================================
Actuarial present value of projected benefit obligation:
Accumulated benefit obligation:
Vested $ 5,444,752 $4,494,897 $ 4,202,359
Non-vested 558,803 485,933 346,494
Provision for future salary increases 998,547 711,202 1,564,221
- -------------------------------------------------------------------------------------------------------------------
Projected benefit obligation 7,002,102 5,692,032 6,113,074
- -------------------------------------------------------------------------------------------------------------------
Plan assets at fair market value 7,125,080 6,218,479 5,495,832
- -------------------------------------------------------------------------------------------------------------------
Plan assets (over) under projected benefit obligation (122,978) (526,447) 617,242
Unrecognized loss (868,634) (714,114) (1,090,109)
Unrecognized net asset 206,379 301,831 397,283
Unrecognized prior service cost 921,055 1,042,274 126,007
- -------------------------------------------------------------------------------------------------------------------
Accrued (prepaid) pension cost at end of period $ 135,822 $ 103,544 $ 50,423
===================================================================================================================
At December 31, 1997, assets of the Corporation's pension plan
consisted of various institutional money market, bond, and equity funds, as well
as individual equity securities.
The discount rate used to determine the actuarial present value of the
projected benefit obligation was 7.0%, 7.5%, and 7.5% for 1997, 1996, and 1995,
respectively. The rate of increase in future compensation used to determine the
actuarial present value of such obligation was 5.5% for all periods presented.
The expected long-term rate of return on plan assets was 9.0% for all periods
presented.
POSTRETIREMENT EMPLOYEE BENEFITS The Corporation provides certain
health care insurance benefits to retired employees. Substantially all of the
employees of the Corporation may become eligible for these benefits if they
reach normal retirement age while working for the Corporation. The following
table summarizes the components of postretirement benefit expense and the amount
recognized in the Corporation's consolidated financial statements for the years
ended December 31, 1997, 1996, and 1995.
1997 1996 1995
- -------------------------------------------------------------------------------------------------------------------
Components of postretirement benefits expense:
Service cost $ 53,899 $ 24,924 $ 54,216
Interest cost 108,130 76,498 105,297
Amortization of unrecognized transitional obligation 34,230 34,230 59,807
Amortization of (gain) loss 629 (7,311) (20,461)
- -------------------------------------------------------------------------------------------------------------------
Total postretirement benefit expense $ 196,888 $ 128,341 $ 198,859
===================================================================================================================
Accumulated postretirement benefit obligation:
Retirees $ 658,794 $ 637,742 $ 561,430
Fully eligible active plan participants 59,602 37,992 40,835
Other active plan participants 891,796 422,058 338,750
- -------------------------------------------------------------------------------------------------------------------
Accumulated postretirement benefit obligation 1,610,192 1,097,792 941,015
Unrecognized gain (loss) (242,843) 169,843 264,474
Unrecognized transition obligation (513,449) (547,679) (581,909)
- -------------------------------------------------------------------------------------------------------------------
Accrued postretirement benefit cost at end of period $ 853,900 $ 719,956 $ 623,580
===================================================================================================================
The weighted-average annual assumed rate of increase in the per capita
cost of covered benefits for 1997 is 11.1% and is assumed to decrease gradually
to 5.5% in 2004 and thereafter. The discount rate used to determine the
actuarial present value of the projected postretirement benefit obligation was
7.0%, 7.5%, and 7.5% for 1997, 1996 and 1995, respectively.
The assumed rate of increase in the per capita cost of covered benefits
has an effect on the amounts reported in the Corporation's consolidated
financial statements. For example, a one percentage point increase in the
assumed trend rate would increase the accumulated postretirement benefit
obligation as of December 31, 1997, by
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approximately $400,000 and the aggregate service and interest cost components of
postretirement benefit expense for 1997 by approximately $53,000.
SAVINGS PLANS The Corporation maintains a 401(k) savings plan for the
benefit of substantially all of its employees. Employees may contribute up to a
certain percentage of their compensation to the plan and the Corporation will
match their contributions within certain limits. In addition, the employee may
also receive discretionary profit sharing contributions from the Corporation.
The Corporation provided matching and discretionary contributions of
approximately $248,000, $181,000, and $140,000 during the years ended December
31, 1997, 1996, and 1995, respectively.
EMPLOYEE STOCK OWNERSHIP PLAN The Corporation makes annual
discretionary contributions to an Employee Stock Ownership Program ("ESOP") for
the benefit of substantially all of its employees. All contributions are
recorded as compensation expense on the books of the Corporation at the time
they are made. The Corporation recorded approximately $246,000, $217,000, and
$121,000 in ESOP-related compensation expense during the years ended December
31, 1997, 1996, and 1995, respectively.
SUPPLEMENTAL PENSION PLAN The Corporation makes annual contributions to
a supplemental pension plan for certain key members of management. All
contributions are recorded as compensation expense on the books of the
Corporation at the time they are made. The Corporation recorded approximately
$197,000, $146,000, and $143,000 during the years ended December 31, 1997, 1996,
and 1995, respectively.
STOCK INCENTIVE PLANS During 1989, 1992, and 1997, the Corporation
adopted stock incentive plans designed to attract and retain qualified personnel
in key management positions. In addition, during 1995 the Corporation assumed
the stock incentive plan of a financial institution that was acquired by the
Corporation. These plans provide for the grant of stock options, restricted
stock, and stock appreciation rights. In general, stock options granted under
these plans are exercisable at a price equal to the fair value of the stock on
the date of the grant. Furthermore, the options are subject to three- to
five-year graded vesting requirements and a maximum exercise period of ten
years. These plans authorize the issuance of approximately 2.2 million shares in
the aggregate, of which 878,067 shares were unallocated as of December 31, 1997.
Activity in these stock incentive plans for each of the three years ended
December 31, 1997, 1996, and 1995, is summarized in the following paragraphs.
Stock options outstanding at the beginning of each of the three
preceding years were 939,754, 968,615, and 704,037, respectively. These options
had weighted-average exercise prices of $5.71, $5.62, and $3.94, respectively.
Stock options granted during these years were 3,750, 9,000, and 333,978,
respectively, at weighted-average exercise prices of $17.00, $13.59, and $8.53,
respectively. Stock options exercised during these years were 105,585, 30,233,
and 69,400, respectively, at weighted-average exercise prices of $2.67, $4.07,
and $2.61, respectively. Stock options outstanding at the end of each of the
three preceding years were 837,028, 939,754, and 968,615, respectively. These
options had weighted-average exercise prices of $6.14, $5.71, and $5.62,
respectively. Of these options, 763,744, 764,412, and 694,100, respectively,
were fully-vested and exercisable at weighted-average exercise prices of $5.68,
$4.69, and $4.08, respectively. As of December 31, 1997, the exercise prices of
options outstanding on that date ranged from $2.61 to $17.00 and had a
weighted-average remaining life of 4.7 years. Expirations and forfeitures of
stock options during the three years ended December 31, 1997, 1996, and 1995,
were not material.
During the year ended December 31, 1995, 83,078 shares of restricted
stock were granted under the aforementioned plans at a weighted-average fair
value of $10.41. No shares of restricted stock were granted in 1997 and 1996.
During 1989 and 1992, the Corporation also adopted stock incentive
plans designed to attract and retain qualified non-employee directors for the
Corporation and its subsidiaries. The 1989 plan granted each director options to
purchase 8,800 shares of common stock. In addition, under both plans each
director receives options to purchase an additional 4,400 shares upon election
or re-election to the Board of Directors. The stock options are exercisable at a
price at least equal to the fair value of the stock on the date of grant and are
fully-vested on the date of the grant. These plans have authorized the issuance
of 336,471 shares in the aggregate, of which 125,273 shares were unallocated as
of December 31, 1997. Activity in these stock incentive plans for each of the
three years ended December 31, 1997, 1996, and 1995 is summarized in the
following paragraph.
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53
Stock options outstanding at the beginning of each of the three
preceding years were 127,328, 120,029, and 111,230, respectively. These options
had weighted-average exercise prices of $6.68, $5.61, and $4.93, respectively.
Stock options granted during these years were 13,200, 17,598, and 13,199,
respectively at weighted-average exercise prices of $17.92, $14.09, and $10.33,
respectively. Stock options exercised during these years were 26,645, 10,299,
and 4,400, respectively, at weighted-average exercise prices of $7.59, $6.93,
and $2.61, respectively. Finally, stock options outstanding at the end of
December 31, 1997, were 113,883. These options had a weighted-average exercise
price of $7.77, a range of exercise prices from $2.61 to $17.92, and a
weighted-average remaining life of 4.9 years. There were no expirations or
forfeitures of stock options during these years.
As described in Note 1, the Corporation has elected to provide pro
forma disclosure of the effects of its stock incentive plans. If the Corporation
had accounted for its stock incentive plans using the fair value method, the
Corporation's pro forma net income would have been $17,195,000, $9,700,000 and
$10,369,000 during the years ended December 31, 1997, 1996, and 1995,
respectively. Pro forma diluted earnings per share would have been $1.75, $0.97,
and $1.11, and pro forma basic earnings per share would have been $1.88, $1.02,
and $1.17 during the same periods, respectively. It should be noted, however,
that because SFAS 123 prohibited the pro forma disclosure of the effects of
stock options granted in years prior to 1995, the pro forma disclosures for
1997, 1996, and 1995, may not be representative of the pro forma effects in
future years.
The weighted-average fair value of the options granted in 1997, 1996,
and 1995, were $5.31, $4.17, and $2.58, respectively. The fair values of these
options were estimated as of the dates they were granted using a Black-Scholes
option pricing model. Weighted-average assumptions for all periods were as
follows: 6.5% risk-free interest rate, 2.6% dividend yield, 30% volatility, and
a seven-year expected life.
NOTE 11--COMMITMENTS AND CONTINGENCIES
LEGAL PROCEEDINGS FEI, a wholly-owned subsidiary of the Bank that was
formerly involved in the acquisition and development of hotels, received a
favorable judgement in a U.S. District Court in 1996 awarding it $1.1 million in
compensatory damages, plus post-judgement interest on the damages, as well as
filing fees and other court costs. The defendant in the action is a well
capitalized money center bank that provided certain trust services relating to
one of FEI's hotel joint ventures in the 1980's.
In addition to this judgement, FEI also has a pending claim against the
defendant for punitive damages which could substantially increase the final
award, if any. A hearing on this claim was conducted in 1997; the Corporation
does not know at this time when it will be informed of the court's decision with
respect to this hearing. The defendant may appeal the initial judgement and/or
may oppose any award of punitive damages. As a result, management of the
Corporation is unable to determine the likelihood of a favorable outcome or
reliably estimate the amount of the final award, if any. Accordingly, the
Corporation has not recognized any portion of the current judgement or possible
future punitive damages in its results of operations.
The Corporation and its subsidiaries are also engaged in various
routine legal proceedings occurring in the ordinary course of business which in
the aggregate are believed by management to be immaterial to the consolidated
financial condition of the Corporation.
OTHER COMMITMENTS AND CONTINGENCIES At December 31, 1997, the
Corporation had commitments to originate mortgage loans at market terms
aggregating approximately $31.5 million which expire on various dates in 1998.
At December 31, 1997, the Corporation also had commitments to fund $37.0 million
in additional proceeds on construction loans. As of the same date the
Corporation had approximately $3.9 million in commitments outstanding under
standby letters of credit and $8.9 million in commitments outstanding under
unused home equity lines of credit. Furthermore, the Corporation had commitments
to sell approximately $51.2 million in mortgage loans to FHLMC, FNMA, and the
FHLB at various dates in 1998.
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54
NOTE 12--STOCKHOLDERS' EQUITY
PREFERRED STOCK The Corporation is authorized to issue up to 5,000,000
shares of preferred stock, $.10 par value per share, although no such stock was
outstanding at December 31, 1997. The Board of Directors of the Corporation is
authorized to establish the voting powers, designations, preferences, or other
special rights of such shares and the qualifications, limitations, and
restrictions thereof. The preferred stock may be issued in distinctly designated
series, may be convertible to common stock, and may rank prior to the common
stock in dividend rights, liquidation preferences, or both.
SHAREHOLDERS' RIGHTS PLAN In 1995, the Corporation's Board of Directors
adopted a shareholders' rights plan (the "Rights Plan"). Under the terms of the
Rights Plan, the Board of Directors declared a dividend of one preferred share
purchase right on each outstanding share of common stock of the Corporation.
However, the rights can only be exercised if a person or group acquires 20% or
more of the common stock or announces a tender or exchange offer that would
result in a 20% or greater position in the stock. Initially, each right will
entitle shareholders to buy one one-hundredth share of the Corporation's
preferred stock at a price of $50.00, subject to adjustment. Under certain
circumstances, including the acquisition of beneficial ownership of 25% or more
of the Corporation's common stock, holders of the Corporation's common stock,
other than the acquirer, will be entitled to exercise the rights to purchase
common stock from the Corporation having a value equal to two times the exercise
price of the right. If the Corporation is acquired in a merger, share exchange,
or other business combination in which the Corporation is not the survivor,
after a person or group's acquisition of beneficial ownership of 20% or more of
the common stock, rights holders will be entitled to purchase the acquirer's
shares at a similar discount. Issuance of the rights has no dilutive effect,
will not affect reported earnings per share, is not taxable to the Corporation
or its shareholders, and will not change the way in which the Corporation's
shares are traded. The rights expire in ten years.
STOCK REPURCHASE PLANS AND TREASURY STOCK In January of 1997 and 1996
the Corporation's Board of Directors authorized the repurchase of up to 459,526
and 492,000 shares of the Corporation's outstanding common stock, respectively
(the "1997" and "1996" Plans", respectively). Such repurchases may be made from
time to time in the open market during the next twelve months as conditions
permit (both plans were extended for an additional twelve months in January
1998). Repurchased shares are held as treasury stock and are available for
general corporate purposes.
During 1997, 1996, and 1995, the Corporation repurchased 132,000,
697,200, and 71,250 shares under the 1996 Plan and a prior plan (the "1995
Plan"), which is no longer active. These shares were repurchased at an average
cost of $21.73, $13.88, and $12.05 per share during 1997, 1996, and 1995,
respectively. As of December 31, 1997, 23,550 shares remained to be purchased
under the 1996 Plan and all of the shares remained under the 1997 Plan.
During 1997, the Corporation reissued 120,165 shares of common stock
out of treasury stock with an average cost basis of $21.28 per share. In
general, these shares were issued upon the exercise of stock options by
employees and directors of the Corporation. The Corporation uses the
"last-in/first-out" method to determine the cost basis of shares removed from
treasury stock.
DIVIDEND RESTRICTIONS The ability of the Corporation to pay dividends
will depend primarily upon the receipt of dividends from the Bank. The Bank may
not declare or pay a cash dividend without regulatory approval if such dividend
would cause its net capital to be reduced below either the amount required for
the liquidation account or the current risk-based capital requirements imposed
by the Office of Thrift Supervision ("OTS"). The Bank is a "Tier 1" association
under current OTS regulations. As such, the Bank's dividend payments are limited
to 100% of its net income during the year plus an amount that would reduce by
one-half its excess risk-based regulatory capital as of the beginning of the
year, or 75% of its net income during the most recent four-quarter period,
whichever is greater.
REGULATORY CAPITAL REQUIREMENTS Financial institutions such as the Bank
are subject to minimum regulatory capital requirements as specified in federal
banking law and supporting regulations. Failure of a financial institution to
meet such requirements may subject the institution to certain mandatory--and
possibly discretionary--actions on the part of its regulators (referred to as
"prompt corrective actions"). Such actions, if undertaken, could
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55
severely restrict the activities of the institution. During each of the years
ended December 31, 1997 and 1996, the Bank's regulatory capital was sufficient
for it to be classified as "well capitalized" under the prompt corrective action
provisions of the federal banking law and supporting regulations. Accordingly,
the Bank is not subject to prompt corrective actions by its regulators.
The following table summarizes the Bank's current regulatory capital in
both percentage and dollar terms as of December 31, 1997 and 1996. It also
summarizes the minimum capital levels that must be maintained by the Bank for it
to be classified as "adequately capitalized" and "well capitalized" under the
prompt corrective action provisions of federal banking law and supporting
regulations.
MINIMUM REQUIREMENTS
TO BE CLASSIFIED AS...
-----------------------------------
ADEQUATELY WELL
DECEMBER 31, 1997 CAPITALIZED CAPITALIZED ACTUAL
- --------------------------------------------------------------------------------------------------------------------
Tier 1 leverage ratio 4.0% 5.0% 6.39%
Tier 1 risk-based capital ratio 4.0% 6.0% 11.45%
Total risk-based capital ratio 8.0% 10.0% 12.23%
Tier 1 leverage ratio capital $ 61,625,000 $ 77,031,000 $ 98,430,000
Tier 1 risk-based capital 34,394,000 51,591,000 98,430,000
Total risk-based capital 68,788,000 85,985,000 105,193,000
====================================================================================================================
DECEMBER 31, 1996
- --------------------------------------------------------------------------------------------------------------------
Tier 1 leverage ratio 4.0% 5.0% 6.13%
Tier 1 risk-based capital ratio 4.0% 6.0% 11.53%
Total risk-based capital ratio 8.0% 10.0% 12.47%
Tier 1 leverage ratio capital $ 60,639,000 $ 75,799,000 $ 92,971,000
Tier 1 risk-based capital 32,246,000 48,370,000 92,971,000
Total risk-based capital 64,493,000 80,616,000 100,533,000
- --------------------------------------------------------------------------------------------------------------------
NOTE 13--FAIR VALUES OF FINANCIAL INSTRUMENTS
Fair values of financial instruments as of December 31 are as follows:
1997 1996
- -------------------------------------------------------------------------------------------------------------------
CARRYING VALUE FAIR VALUE CARRYING VALUE FAIR VALUE
- -------------------------------------------------------------------------------------------------------------------
Financial assets:
Cash and due from banks $ 29,939,484 $ 29,939,484 $ 24,644,254 $ 24,644,254
Interest-bearing deposits with banks 7,113,756 7,113,756 2,456,901 2,456,901
Investment securities available for sale 21,376,678 21,376,678 74,029,474 74,029,474
Mortgage-backed and related securities:
Available for sale 47,895,297 47,895,297 61,875,130 61,875,130
Held for investment 124,335,969 123,613,629 147,834,733 145,217,199
Loans held for sale 45,576,945 46,600,000 20,338,790 20,700,000
Loans held for investment, gross 1,201,530,614 1,210,700,000 1,113,928,318 1,130,000,000
Federal Home Loan Bank stock 13,811,300 13,811,300 18,823,200 18,823,200
Accrued interest receivable 11,547,757 11,547,757 11,487,427 11,487,427
Financial liabilities:
Deposit liabilities $1,146,533,896 $1,149,400,000 $1,024,092,887 $1,027,200,000
Federal Home Loan Bank advances and other borrowings 275,778,770 275,800,000 383,592,983 383,300,000
Advance payments by borrowers for taxes and
insurance 3,872,764 3,872,764 3,912,206 3,912,206
Accrued interest payable 2,030,153 2,030,153 2,432,796 2,432,796
===================================================================================================================
Refer to Note 1 for the methods and assumptions used by the Corporation
in estimating the fair value of financial instruments. The carrying value shown
for loans held for investment excludes the impact of the Corporation's allowance
for loan losses.
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NOTE 14--PARENT COMPANY ONLY FINANCIAL INFORMATION
DECEMBER 31
- -------------------------------------------------------------------------------------------------------------------
CONDENSED STATEMENTS OF FINANCIAL CONDITION: 1997 1996
- -------------------------------------------------------------------------------------------------------------------
Cash in bank $ 405,267 $ 221,993
Interest-bearing deposits with subsidiary bank 2,757,648 2,415,879
Investment in subsidiary 108,994,270 97,643,105
Other assets 236,485 195,821
- -------------------------------------------------------------------------------------------------------------------
Total assets $112,393,670 $100,476,798
===================================================================================================================
Other borrowings $ 3,000,000 $ 5,000,000
Other liabilities 32,324 62,440
- -------------------------------------------------------------------------------------------------------------------
Total liabilities 3,032,324 5,062,440
- -------------------------------------------------------------------------------------------------------------------
Common stock 997,082 663,933
Additional paid-in capital 35,537,146 35,580,114
Unearned restricted stock (211,006) (414,392)
Valuation allowance (664,999) (2,450,764)
Retained earnings 84,548,291 72,569,092
Treasury stock, at cost (10,845,168) (10,533,625)
- -------------------------------------------------------------------------------------------------------------------
Total stockholders' equity 109,361,346 95,414,358
- -------------------------------------------------------------------------------------------------------------------
Total liabilities and stockholders' equity $112,393,670 $100,476,798
===================================================================================================================
YEAR ENDED DECEMBER 31
- -------------------------------------------------------------------------------------------------------------------
CONDENSED STATEMENTS OF OPERATIONS: 1997 1996 1995
- -------------------------------------------------------------------------------------------------------------------
Other income $ 67,605 $ 133,581 $ 273,810
Other expense 743,276 693,068 353,478
- -------------------------------------------------------------------------------------------------------------------
Loss before income taxes and equity in earnings of (675,671) (559,487) (79,668)
subsidiary
Income tax benefit 236,485 195,820 27,884
- -------------------------------------------------------------------------------------------------------------------
Loss before equity in earnings of subsidiary (439,186) (363,667) (51,784)
Equity in earnings of subsidiary 17,829,549 10,437,584 10,696,418
- -------------------------------------------------------------------------------------------------------------------
Net income $17,390,363 $10,073,917 $10,644,634
===================================================================================================================
YEAR ENDED DECEMBER 31
- -------------------------------------------------------------------------------------------------------------------
CONDENSED STATEMENTS OF CASH FLOWS: 1997 1996 1995
- -------------------------------------------------------------------------------------------------------------------
Net income $ 17,390,363 $ 10,073,917 $10,644,634
Equity in earnings of subsidiary (17,829,550) (10,437,583) (10,696,418)
Other accruals and prepaids (70,780) (76,584) 97,243
- -------------------------------------------------------------------------------------------------------------------
Net cash provided (used) by operations (509,967) (440,250) 45,459
- -------------------------------------------------------------------------------------------------------------------
Decrease (increase) in interest-bearing deposits with
subsidiary bank (341,769) 4,449,181 (320,316)
Sale of investment securities - - 2,311,367
Dividends received from subsidiary 9,500,000 8,000,000 6,250,000
Purchase of net assets of Rock Financial Corp. - - (21,040,620)
Other, net - (3,200) 451,007
- -------------------------------------------------------------------------------------------------------------------
Net cash provided (used) by investing activities 9,158,231 12,445,981 (12,348,562)
- -------------------------------------------------------------------------------------------------------------------
Proceeds from sale of common stock 484,179 194,225 13,551,631
Increase (decrease) in other borrowings (2,000,000) 1,000,000 4,000,000
Dividends paid to shareholders (4,283,617) (3,874,954) (3,192,137)
Purchase of treasury stock (2,868,938) (9,674,875) (858,750)
Other, net 203,386 238,637 (1,333,492)
- -------------------------------------------------------------------------------------------------------------------
Net cash provided (used) by financing activities (8,464,990) (12,116,967) 12,167,252
- -------------------------------------------------------------------------------------------------------------------
Net increase (decrease) in cash in bank 183,274 (111,236) (135,851)
Cash at beginning of period 221,993 333,229 469,080
- -------------------------------------------------------------------------------------------------------------------
Cash in bank at end of period $ 405,267 $ 221,993 $ 333,229
===================================================================================================================
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REPORT OF MANAGEMENT
The management of First Federal Capital Corp has prepared the
accompanying financial statements and is responsible for their integrity and
objectivity. The statements, which include amounts that are based on
management's best estimates and judgements, have been prepared in conformity
with generally accepted accounting principles and are free of material
misstatement. Management also prepared the other information in the annual
report on Form 10-K and is responsible for its accuracy and consistency with the
financial statements.
The Corporation maintains a system of internal control over financial
reporting, which is designed to provide reasonable assurance to the
Corporation's management and Board of Directors regarding the preparation of
reliable published annual and interim financial statements. The system contains
self-monitoring mechanisms, and actions are taken to correct deficiencies as
they are identified. However, even an effective internal control system, no
matter how well designed, has inherent limitations--including the possibility of
circumvention or overriding of controls--and therefore can provide only
reasonable assurance with respect to financial statement preparation. Further,
because of changes in conditions, internal control system effectiveness may vary
over time.
The Corporation assessed its internal control system as of December 31,
1997, in relation to criteria for effective internal control over the
preparation of its published annual and interim financial statements described
in "Internal Control--Integrated Framework" issued by the Committee of
Sponsoring Organizations of the Treadway Commission. Based on this assessment,
the Corporation believes that, as of December 31, 1997, its system of internal
control over the preparation of its published annual and interim financial
statements met those criteria.
/s/Thomas W. Schini /s/Jack C. Rusch /s/Michael W. Dosland
Thomas W. Schini Jack C. Rusch Michael W. Dosland
Chairman of the Board and Executive Vice President and Vice President and Controller
Chief Executive Officer Chief Financial Officer
REPORT OF INDEPENDENT AUDITORS
We have audited the accompanying consolidated statements of financial
condition of First Federal Capital Corp as of December 31, 1997 and 1996, and
the related consolidated statements of operations, stockholders' equity and cash
flows for each of the three years in the period ended December 31, 1997. These
financial statements are the responsibility of the Corporation's management. Our
responsibility is to express an opinion on these financial statements based on
our audits.
We conducted our audits in accordance with generally accepted auditing
standards. Those statements require that we plan and perform the audit to obtain
reasonable assurance about whether the financial statements are free of material
misstatement. An audit includes examining, on a test basis, evidence supporting
the amounts and disclosures in the financial statements. An audit also includes
assessing the accounting principles used and significant estimates made by
management, as well as evaluating the overall financial statement presentation.
We believe that our audits provide a reasonable basis for our opinion.
In our opinion, the financial statements referred to above present
fairly, in all material respects, the consolidated financial position of First
Federal Capital Corp at December 31, 1997 and 1996, and the consolidated results
of its operations and its cash flows for each of the three years in the period
ended December 31, 1997, in conformity with generally accepted accounting
principles.
Ernst & Young LLP
Milwaukee, Wisconsin
January 23, 1998
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SUPPLEMENTARY DATA
Quarterly Financial Information (Unaudited)
Dollars in thousands, except for per share DEC. SEPT. JUNE MARCH DEC. SEPT. JUNE MARCH
amounts 1997 1997 1997 1997 1996 1996 1996 1996
- --------------------------------------------------------------------------------------------------------------------
Interest on loans $25,349 $25,138 $24,153 $23,302 $22,736 $21,080 $19,963 $20,008
Interest on mortgage-backed and related
securities 2,817 2,965 3,128 3,215 3,371 3,539 3,710 3,873
Interest and dividends on investments 889 1,245 1,335 1,440 1,511 1,369 1,353 1,461
- --------------------------------------------------------------------------------------------------------------------
Total interest income 29,055 29,347 28,617 27,956 27,619 25,988 25,027 25,343
- --------------------------------------------------------------------------------------------------------------------
Interest on deposits 13,718 13,076 12,377 11,978 11,880 11,668 11,486 11,456
Interest on borrowings 3,924 4,929 5,090 5,172 4,885 4,242 3,734 4,333
- --------------------------------------------------------------------------------------------------------------------
Total interest expense 17,643 18,005 17,467 17,150 16,765 15,910 15,220 15,789
- --------------------------------------------------------------------------------------------------------------------
Net interest income 11,413 11,342 11,150 10,806 10,854 10,078 9,806 9,554
Provision for loan losses 164 123 132 121 - - - -
- --------------------------------------------------------------------------------------------------------------------
Net interest income after provision 11,249 11,220 11,019 10,685 10,854 10,078 9,806 9,554
- --------------------------------------------------------------------------------------------------------------------
Gain on sale of loans 2,155 2,438 992 789 873 777 1,134 1,547
Loss on sale of investments - (628) (43) (55) (59) (62) (136) (54)
Other non-interest income 4,859 4,691 4,676 4,364 4,110 4,401 3,958 3,288
- --------------------------------------------------------------------------------------------------------------------
Total non-interest income 7,014 6,501 5,625 5,153 4,924 5,116 4,956 4,835
- --------------------------------------------------------------------------------------------------------------------
FDIC special assessment - - - - - 5,941 - -
Other non-interest expense 10,603 10,134 9,747 9,712 9,647 9,631 9,537 9,488
- --------------------------------------------------------------------------------------------------------------------
Total non-interest expense 10,603 10,134 9,747 9,712 9,647 15,572 9,537 9,488
- --------------------------------------------------------------------------------------------------------------------
Income before income taxes 7,660 7,587 6,897 6,125 6,131 (377) 5,225 4,901
Income tax expense 2,927 2,896 2,688 2,367 2,322 (317) 1,969 1,832
- --------------------------------------------------------------------------------------------------------------------
Net Income $ 4,733 $ 4,691 $ 4,209 $ 3,758 $ 3,809 ($60) $3,256 $ 3,069
- --------------------------------------------------------------------------------------------------------------------
- --------------------------------------------------------------------------------------------------------------------
Income before FDIC special assessment $ 4,733 $ 4,691 $ 4,209 $ 3,758 $ 3,809 $ 3,515 $ 3,256 $ 3,069
FDIC special assessment, net of income
taxes - - - - - 3,575 - -
- --------------------------------------------------------------------------------------------------------------------
Net Income $ 4,733 $ 4,691 $ 4,209 $ 3,758 $ 3,809 ($60) $ 3,256 $ 3,069
- --------------------------------------------------------------------------------------------------------------------
- --------------------------------------------------------------------------------------------------------------------
Diluted earnings per share:
Income before FDIC special assessment $ 0.48 $ 0.48 $ 0.43 $ 0.38 $ 0.38 $ 0.36 $ 0.32 $0.30
FDIC special assessment, net of income
taxes - - - - - (0.36) - -
- --------------------------------------------------------------------------------------------------------------------
Net income $ 0.48 $ 0.48 $ 0.43 $ 0.38 $ 0.38 $ 0.00 $ 0.32 $0.30
====================================================================================================================
Dividends paid per share $ 0.120 $ 0.120 $0.120 $ 0.107 $ 0.107 $ 0.107 $0.107 $0.093
====================================================================================================================
Stock price at end of period $ 33.88 $ 29.00 $24.50 $ 18.67 $ 15.67 $ 15.00 $13.50 $13.33
====================================================================================================================
High stock price during period $ 34.00 $ 29.00 $24.50 $ 19.67 $16.17 $ 15.33 $14.83 $13.67
====================================================================================================================
Low stock price during period $ 25.00 $ 23.00 $16.83 $ 15.67 $15.00 $ 13.00 $13.50 $12.33
====================================================================================================================
ITEM 9--CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None.
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PART III
ITEM 10--DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The information required herein is incorporated by reference from pages
5 to 6 and page 8 of the definitive proxy statement of the Corporation dated
March 20, 1998.
ITEM 11--EXECUTIVE COMPENSATION
The information required herein is incorporated by reference from pages
11 to 20 of the definitive proxy statement of the Corporation dated March 20,
1998.
ITEM 12--SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The information required herein is incorporated by reference from pages
9 to 10 of the definitive proxy statement of the Corporation dated March 20,
1998.
ITEM 13--CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information required herein is incorporated by reference from page
22 of the definitive proxy statement of the Corporation dated March 20, 1998.
PART IV
ITEM 14--EXHIBITS, FINANCIAL STATEMENT SCHEDULES AND REPORTS ON FORM 8-K
(a) Documents filed as part of this report:
(1) The following financial statements are included herein under Part II, Item
8, "Financial Statements and Supplementary Data":
Consolidated Statements of Condition at December 31, 1997 and 1996
Consolidated Statements of Operations for each of the three years in the period
ended December 31, 1997
Consolidated Statements of Stockholders' Equity for each of the three years in
the period ended December 31, 1997
Consolidated Statements of Cash Flows for each of the three years in the period
ended December 31, 1997
Notes to Audited Consolidated Financial Statements
Report of Management
Report of Independent Auditors
(2) All financial statement schedules required under this item are omitted
because the required information is either not applicable or the required
information is included in the Audited Consolidated Financial Statements or in
the notes thereto.
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60
(3) Exhibit Index.
No. Exhibit Description
3.1 Articles of Incorporation (1)
3.2 Bylaws, as amended (7)
4.1 Specimen stock certificate (1)
4.2 Rights Agreement, dated as of January 24, 1995 (1)
10.1 1989 Stock Incentive Plan (1)
10.2 1989 Directors' Stock Option Plan, as amended (2)
10.3 1992 Stock Incentive Plan (3)
10.4 1992 Stock Option and Incentive Plan (3)
10.5 Rock Financial Corp. 1992 Stock Option and Incentive Plan (4)
10.6 1997 Stock Option and Incentive Plan (7)
10.7 Employee Stock Ownership Plan (1)
10.8 Employment agreements between the Bank and the following executive
officers:
a) Thomas W. Schini (5)
b) Bradford R. Price (1)
c) Jack C. Rusch (1)
d) Joseph M. Konradt (1)
e) Milne J. Duncan (1)
f) Robert P. Abell (1)
g) Jeffrey J. Johnson (6)
10.9 Employment agreement between the Bank and John T. Bennett (6)
10.10 First Federal of La Crosse Directors' Deferred Compensation Plan (1)
10.11 First Federal of La Crosse Annual Incentive Bonus Plan (1)
10.12 First Federal of La Crosse Incentive Bonus Plan for Group Life
Insurance (1)
10.13 First Federal of Madison Deferred Compensation Plan for Directors (1)
11.1 Computation of Earnings Per Share--Reference is made to Note 1 of the
Corporation's Audited Consolidated Financial Statements, included
herein under Part II, Item 8, "Financial Statements and Supplementary
Data"
13.1 1997 President's Message (8)
21.1 Subsidiaries of the Registrant--Reference is made to Part I, Item 1,
"Business--Subsidiaries"
23.1 Consent of Ernst & Young LLP (7)
27.1 Financial Data Schedule (7)
99.1 1997 Proxy Statement (7)
(1) Incorporated herein by reference to exhibits filed with the Corporation's
Form S-1 Registration Statement declared effective by the SEC on September
8, 1989 (Registration No. 33-98298-01).
(2) Incorporated herein by reference to exhibits filed with the Corporation's
Annual Report on Form 10-K for the year ended December 31, 1989, filed with
the SEC on March 30, 1990.
(3) Incorporated herein by reference to the Corporation's definitive proxy
statement dated March 11, 1992.
(4) Incorporated herein by reference to exhibits filed with the Corporation's
Post-Effective Amendment No. 1 on Form S-8 to Form S-4 Registration
Statement filed with the SEC on December 26, 1995 (Registration No.
33-98298-01)
(5) Incorporated herein by reference to the exhibits filed with the
Corporation's Annual Report on Form 10-K for the year ended December 31,
1994, filed with the SEC on March 30, 1995.
(6) Incorporated herein by reference to exhibits filed with the Corporation's
Form S-4 Registration Statement declared effective by the SEC on October 18,
1995 (Registration No. 33-98298-01).
(7) Filed herewith.
(8) Filed in paper format pursuant to Rule 101(b) of Regulation S-T.
(b) The Corporation filed no reports on Form 8-K during the fourth quarter of
1997.
(c) Refer to item (a)(3) above for all exhibits filed herewith.
(d) Refer to items (a)(1) and (2) above for financial statements required under
this item.
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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.
FIRST FEDERAL CAPITAL CORP
February 28, 1998 By: /s/Thomas W. Schini
Thomas W. Schini
President, Chairman of
the Board, and Chief
Executive Officer
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.
/s/ Thomas W. Schini February 28, 1998
Thomas W. Schini
President, Chairman of the
Board and Chief Executive Officer
(principal executive officer)
/s/ Dale A. Nordeen February 28, 1998
Dale A. Nordeen
Vice Chairman of the Board
/s/ Marjorie A. Davenport February 28, 1998
Marjorie A. Davenport
Director
/s/ Henry C. Funk February 28, 1998
Henry C. Funk
Director
/s/ John F. Leinfelder February 28, 1998
John F. Leinfelder
Director
/s/ Richard T. Lommen February 28, 1998
Richard T. Lommen
Director
/s/ Patrick J. Luby February 28, 1998
Patrick J. Luby
Director
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62
/s/ David C. Mebane February 28, 1998
David C. Mebane
Director
/s/ Phillip J. Quillin February 28, 1998
Phillip J. Quillin
Director
/s/ Don P. Rundle February 28, 1998
Don P. Rundle
Director
/s/ Jack C. Rusch February 28, 1998
Jack C. Rusch
Executive Vice President and
Chief Financial Officer
(principal financial officer)
/s/ Michael W. Dosland February 28, 1998
Michael W. Dosland
Vice president and Controller
(principal accounting officer)
61