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UNITED STATES
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 March 31, 2004
OR
[ ] TRANSITION REPORT PURSUANT TO SECTION 13 OR 15 (d) OF THE SECURITIES
EXCHANGE ACT OF 1934
For the transition period from ____________ to _________________________
Commission File Number 0-20006
ANCHOR BANCORP WISCONSIN INC.
-----------------------------
(Exact name of registrant as specified in its charter)
Wisconsin 39-1726871
- --------------------------------- ---------------------------------
(State or other jurisdiction (IRS Employer Identification No.)
of incorporation or organization)
25 West Main Street
Madison, Wisconsin 53703
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(Address of principal executive office)
Registrant's telephone number, including area code (608) 252-8700
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
--------------------------------------
(Title of Class)
Indicate by check mark whether the registrant (1) has filed all reports
required to be filed by Section 13 or 15(d) of the Securities Exchange Act of
1934 during the preceding 12 months (or for such shorter period that the
Registrant was required to file such reports) and (2) has been subject to such
filing requirements for the past 90 days.
Yes [X] No [ ]
Indicate by check mark if disclosure of delinquent filers pursuant to
Item 405 or 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 the Form 10-K or any
amendment to this Form 10-K. [X]
Indicate by check mark whether the Registrant is an accelerated filer
(as defined in Exchange Act Rule 12b-2). [X]
As of September 30, 2003, the aggregate market value of the 20,314,873
shares of the registrant's common stock deemed to be held by non-affiliates of
the registrant was $477.0 million, based upon the closing price of $23.48 per
share of common stock as reported by the Nasdaq Stock Market, National Market
System on such date. Although directors and executive officers of the registrant
and certain of its employee benefit plans were assumed to be "affiliates" of the
registrant for purposes of this calculation, the classification is not to be
interpreted as an admission of such status.
As of June 4, 2004, 22,983,200 shares of the registrant's common stock
were outstanding. There were also 100,000 series A- preferred stock purchase
rights authorized with none outstanding, as of the same date.
Documents Incorporated by Reference
Portions of the definitive Proxy Statement for the Annual Meeting of
Stockholders to be held on July 27, 2004 (Part III, Items 10 to 13).
PART I
ITEM 1. BUSINESS
GENERAL
Anchor BanCorp Wisconsin Inc. (the "Corporation") is a registered savings
and loan holding company incorporated under the laws of the State of Wisconsin
and is engaged in the savings and loan business through its wholly-owned banking
subsidiary, AnchorBank, fsb (the "Bank"). The Corporation also has a non-banking
subsidiary, Investment Directions, Inc. ("IDI"), a Wisconsin corporation, which
invests in real estate partnerships. IDI has two subsidiaries, Nevada Investment
Directions, Inc. ("NIDI") and California Investment Directions, Inc. ("CIDI"),
both of which invest in real estate held for development and sale.
The Bank was organized in 1919 as a Wisconsin-chartered savings
institution. In July 2000, the Bank converted to a federally-chartered savings
institution, and the Bank's deposits are insured up to the maximum allowable
amount by the Federal Deposit Insurance Corporation ("FDIC"). The Bank is a
member of the Federal Home Loan Bank ("FHLB") of Chicago, and is regulated by
the Office of Thrift Supervision ("OTS"), and the FDIC. The Corporation is
subject to the periodic reporting requirements of the Securities and Exchange
Commission ("SEC") under the Securities Exchange Act of 1934, as amended
("Exchange Act"). The Bank is also regulated by the Board of Governors of the
Federal Reserve System ("Federal Reserve Board") relating to reserves required
to be maintained against deposits and certain other matters. See "Regulation."
The Bank blends an interest in the consumer and small business markets
with the willingness to expand its numerous checking, savings and lending
programs to meet customers' changing financial needs. The Bank offers checking,
savings, money market accounts, mortgages, home equity and other consumer loans,
student loans, credit cards, annuities and related consumer financial services.
The Bank also offers banking services to businesses, including checking
accounts, lines of credit, secured loans and commercial real estate loans.
The Bank has three wholly owned subsidiaries: Anchor Investment Services,
Inc. ("AIS"), a Wisconsin corporation, offers investments and credit life and
disability insurance to the Bank's customers and other members of the general
public; ADPC Corporation ("ADPC"), a Wisconsin corporation, holds and develops
certain of the Bank's foreclosed properties; and Anchor Investment Corporation
("AIC") is an operating subsidiary that is located in and formed under the laws
of the State of Nevada. AIC was formed for the purpose of managing a portion of
the Bank's investment portfolio (primarily mortgage-related securities).
The Corporation maintains a web site at www.anchorbank.com. All the
Corporation's filings under the Exchange Act are available through that web
site, free of charge, including copies of Annual Reports on Form 10-K, Quarterly
Reports on Form 10-Q, Current Reports on Form 8-K, and amendments to those
reports, on the date that the Corporation files those materials with, or
furnishes them to, the SEC.
CAUTIONARY FACTORS
This Form 10-K contains or incorporates by reference various
forward-looking statements concerning the Corporation's prospects that are based
on the current expectations or beliefs of management. Forward-looking statements
may also be made by the Corporation from time to time in other reports and
documents as well as oral presentations. When used in written documents or oral
statements, the words "anticipate," "believe," "estimate," "expect," "objective"
and similar expressions and verbs in the future tense, are intended to identify
forward-looking statements. The statements contained herein and such future
statements involve or may involve certain assumptions, risks and uncertainties,
many of which are beyond the Corporation's control, that could cause the
Corporation's actual results and performance to differ materially from what is
expected. In addition to the assumptions and other factors referenced
specifically in connection with such statements, the following factors could
impact the business and financial prospects of the Corporation: general economic
conditions; legislative and regulatory initiatives; increased competition and
other effects of deregulation and consolidation of the financial
1
services industry; monetary and fiscal policies of the federal government;
deposit flows; disintermediation; the cost of funds; general market rates of
interest; interest rates or investment returns on competing investments; demand
for loan products; demand for financial services; changes in accounting policies
or guidelines; general economic developments; acts of terrorism and developments
in the war on terrorism; and changes in the quality or composition of loan and
investment portfolios. See also the factors regarding future operations
discussed in "Management's Discussion and Analysis of Financial Condition and
Results of Operations" below, particularly those under the caption "Risk
Factors."
MARKET AREA
The Bank's primary market area consists of the metropolitan area of
Madison, Wisconsin, the suburban communities of Dane County, Wisconsin,
south-central Wisconsin, the Fox Valley in east-central Wisconsin, the Milwaukee
metropolitan area in southeastern Wisconsin, as well as contiguous counties in
Iowa and Illinois. As of March 31, 2004, the Bank conducted business from its
headquarters and main office in Madison, Wisconsin and from 56 other
full-service offices located primarily in south-central and southwest Wisconsin
and two loan origination offices.
COMPETITION
The Bank encounters strong competition in attracting both loan and deposit
customers. Such competition includes banks, savings institutions, mortgage
banking companies, credit unions, finance companies, mutual funds, insurance
companies and brokerage and investment banking firms. The Bank's market area
includes branches of several commercial banks that are substantially larger in
terms of loans and deposits. Furthermore, tax exempt credit unions operate in
most of the Bank's market area and aggressively price their products and
services to a large portion of the market. The Corporation's profitability
depends upon the Bank's continued ability to successfully maintain and increase
market share.
The origination of loans secured by real estate is the Bank's primary
business and principal source of profits. If customer demand for real estate
loans decreases, the Bank's income could be affected because alternative
investments, such as securities, typically earn less income than real estate
secured loans. Customer demand for loans secured by real estate could be reduced
by a weaker economy, an increase in unemployment, a decrease in real estate
values, or an increase in interest rates.
The principal factors that are used to attract deposit accounts and that
distinguish one financial institution from another include rates of return,
types of accounts, service fees, convenience of office locations and hours, and
other services. The primary factors in competing for loans are interest rates,
loan fee charges, timeliness and quality of service to the borrower.
LENDING ACTIVITIES
GENERAL. At March 31, 2004, the Bank's net loans held for investment
totaled $3.1 billion, representing approximately 80.5% of its $3.8 billion of
total assets at that date. Approximately $2.6 billion, or 78.7%, of the Bank's
total loans held for investment at March 31, 2004 were secured by first liens on
real estate.
The Bank's primary lending emphasis is on the origination of single-family
residential loans secured by properties located primarily in Wisconsin, with
adjustable-rate loans generally being originated for inclusion in the Bank's
loan portfolio and fixed-rate loans generally being originated for sale into the
secondary market. In order to increase the yield and interest rate sensitivity
of its portfolio, the Bank also originates commercial real estate, multi-family,
construction, consumer and commercial business loans in its primary market area.
Non-real estate loans originated by the Bank consist of a variety of
consumer loans and commercial business loans. At March 31, 2004, the Bank's
total loans held for investment included $544.0 million, or 16.5%, of consumer
loans and $156.6 million, or 4.8%, of commercial business loans.
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LOAN PORTFOLIO COMPOSITION. The following table presents information
concerning the composition of the Bank's consolidated loans held for investment
at the dates indicated.
MARCH 31,
--------------------------------------------------------------------
2004 2003 2002
--------------------------------------------------------------------
PERCENT PERCENT PERCENT
AMOUNT OF TOTAL AMOUNT OF TOTAL AMOUNT OF TOTAL
--------------------------------------------------------------------
(Dollars in Thousands)
Mortgage loans:
Single-family residential $ 748,216 22.75% $ 724,900 24.44% $ 855,437 30.33%
Multi-family residential 521,646 15.86 474,678 16.00 388,919 13.79
Commercial real estate 801,841 24.38 747,682 25.20 686,237 24.33
Construction 392,713 11.94 331,338 11.17 288,377 10.22
Land 123,823 3.76 47,951 1.62 45,297 1.61
---------- ------ ---------- ------ ---------- -------
Total mortgage loans 2,588,239 78.70 2,326,549 78.43 2,264,267 80.28
---------- ------ ---------- ------ ---------- -------
Consumer loans:
Second mortgage and home equity 290,139 8.82 269,990 9.10 226,134 8.02
Education 191,472 5.82 166,507 5.61 130,752 4.64
Other 62,353 1.90 66,150 2.23 75,808 2.69
---------- ------ ---------- ------ ---------- -------
Total consumer loans 543,964 16.54 502,647 16.94 432,694 15.34
---------- ------ ---------- ------ ---------- -------
Commercial business loans:
Loans 151,873 4.62 136,090 4.59 121,723 4.32
Lease receivables 4,763 0.14 1,270 0.04 1,803 0.06
---------- ------ ---------- ------ ---------- -------
Total commercial business loans 156,636 4.76 137,360 4.63 123,526 4.38
---------- ------ ---------- ------ ---------- -------
Gross loans receivable 3,288,839 100.00% 2,966,556 100.00% 2,820,487 100.00%
Contras to loans:
Undisbursed loan proceeds (187,364) (160,724) (157,667)
Allowance for loan losses (28,607) (29,678) (31,065)
Unearned net loan fees (5,946) (4,946) (4,286)
Discount on loans purchased (103) (147) (215)
Unearned interest (7) (73) (6)
---------- ---------- ----------
Total contras to loans (222,027) (195,568) (193,239)
---------- ---------- ----------
Loans receivable, net $3,066,812 $2,770,988 $2,627,248
========== ========== ==========
3
MARCH 31,
---------------------------------------------
2001 2000
---------------------------------------------
PERCENT PERCENT
AMOUNT OF TOTAL AMOUNT OF TOTAL
----------------------------------------------
(Dollars in thousands)
Mortgage loans:
Single-family residential $ 872,718 34.17% $ 1,001,408 41.24%
Multi-family residential 305,009 11.94 291,917 12.02
Commercial real estate 501,640 19.64 388,678 16.01
Construction 266,712 10.44 210,660 8.68
Land 43,849 1.72 29,232 1.20
----------- ------ ----------- ------
Total mortgage loans 1,989,928 77.90 1,921,895 79.15
----------- ------ ----------- ------
Consumer loans:
Second mortgage and home equity 271,733 10.64 243,124 10.01
Education 130,215 5.10 136,011 5.60
Other 72,274 2.83 65,686 2.71
----------- ------ ----------- ------
Total consumer loans 474,222 18.57 444,821 18.32
----------- ------ ----------- ------
Commercial business loans:
Loans 90,212 3.53 61,419 2.53
Lease receivables - 0.00 - 0.00
----------- ------ ----------- ------
Total commercial business loans 90,212 3.53 61,419 2.53
----------- ------ ----------- ------
Gross loans receivable 2,554,362 100.00% 2,428,135 100.00%
====== ======
Contras to loans:
Undisbursed loan proceeds (111,298) (97,092)
Allowance for loan losses (24,076) (24,404)
Unearned net loan fees (3,610) (3,528)
Discount on loans purchased (371) (361)
Unearned interest (31) (29)
----------- -----------
Total contras to loans (139,386) (125,414)
----------- -----------
Loans receivable, net $ 2,414,976 $ 2,302,721
=========== ===========
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The following table shows, at March 31, 2004, the scheduled contractual
maturities of the Bank's consolidated gross loans held for investment, as well
as the dollar amount of such loans which are scheduled to mature after one year
which have fixed or adjustable interest rates.
MULTI-FAMILY
RESIDENTIAL
AND
COMMERCIAL
REAL ESTATE,
SINGLE-FAMILY CONSTRUCTION COMMERCIAL
RESIDENTIAL AND LAND CONSUMER BUSINESS
LOANS LOANS LOANS LOANS
-----------------------------------------------------------------------
(In Thousands)
Amounts due:
In one year or less $ 26,430 $ 320,109 $ 27,187 $ 82,342
After one year through
five years 34,257 864,660 179,228 68,734
After five years 687,529 655,254 337,549 5,560
---------- ---------- ---------- ----------
$ 748,216 $1,840,023 $ 543,964 $ 156,636
---------- ---------- ---------- ----------
Interest rate terms on amounts
due after one year:
Fixed $ 246,619 $ 338,200 $ 322,728 $ 35,524
---------- ---------- ---------- ----------
Adjustable $ 475,167 $1,181,714 $ 194,049 $ 38,770
========== ========== ========== ==========
SINGLE-FAMILY RESIDENTIAL LOANS. Historically, savings institutions, such
as the Bank, have concentrated their lending activities on the origination of
loans secured primarily by first mortgage liens on owner-occupied, existing
single-family residences. At March 31, 2004, $748.2 million, or 22.8%, of the
Bank's total loans held for investment consisted of single-family residential
loans, substantially all of which are conventional loans, which are neither
insured nor guaranteed by a federal or state agency.
The adjustable-rate loans, currently emphasized by the Bank, have up to
30-year maturities and terms which permit the Bank to annually increase or
decrease the rate on the loans, based on a designated index. This is generally
subject to a limit of 2% per adjustment and an aggregate 6% adjustment over the
life of the loan.
Adjustable-rate loans decrease the risks associated with changes in
interest rates but involve other risks, primarily because as interest rates
rise, the payment by the borrower rises to the extent permitted by the terms of
the loan, thereby increasing the potential for default. At the same time, the
marketability of the underlying property may be adversely affected by higher
interest rates. The Bank believes that these risks, which have not had a
material adverse effect on the Bank to date, generally are less than the risks
associated with holding fixed-rate loans in an increasing interest rate
environment. At March 31, 2004, approximately $482.3 million, or 64.5%, of the
Bank's permanent single-family residential loans held for investment consisted
of loans with adjustable interest rates. Also, as interest rates decline,
borrowers may refinance their mortgages into fixed-rate loans thereby prepaying
the balance of the loan prior to maturity.
The Bank continues to originate long-term, fixed-rate conventional
mortgage loans. The Bank generally sells current production of these loans with
terms of 15 years or more to the Federal Home Loan Mortgage Corporation
("FHLMC"), Federal National Mortgage Association ("FNMA"), FHLB, and other
institutional investors, while keeping some of the 10-year term loans in its
portfolio. In order to provide a full range of products to its customers, the
Bank also participates in the loan origination programs of Wisconsin Housing and
Economic Development Authority ("WHEDA"), and Wisconsin Department of Veterans
Affairs ("WDVA"). The Bank retains the right to service substantially all loans
that it sells.
5
At March 31, 2004, approximately $265.9 million, or 35.5%, of the Bank's
permanent single-family residential loans held for investment consisted of loans
that provide for fixed rates of interest. Although these loans generally provide
for repayments of principal over a fixed period of 10 to 30 years, it is the
Bank's experience that, because of prepayments and due-on-sale clauses, such
loans generally remain outstanding for a substantially shorter period of time.
MULTI-FAMILY RESIDENTIAL AND COMMERCIAL REAL ESTATE. The Bank originates
multi-family loans that it typically holds in its loan portfolio. Such loans
generally have adjustable rates and shorter terms than single-family residential
loans, thus increasing the sensitivity of the loan portfolio to changes in
interest rates, as well as providing higher fees and rates than single-family
residential loans. At March 31, 2004, the Bank had $521.6 million of loans
secured by multi-family residential real estate and $801.8 million of loans
secured by commercial real estate. These represented 15.9% and 24.4% of the
Bank's total loans held for investment, respectively. The Bank generally limits
the origination of such loans to its primary market area.
The Bank's multi-family residential loans are primarily secured by
apartment buildings and commercial real estate loans are primarily secured by
office buildings, industrial buildings, warehouses, small retail shopping
centers and various special purpose properties, including hotels, restaurants
and nursing homes.
Although terms vary, multi-family residential and commercial real estate
loans generally have maturities of 15 to 30 years, as well as balloon payments,
and terms which provide that the interest rates thereon may be adjusted annually
at the Bank's discretion, based on a designated index, subject to an initial
fixed-rate for a one to five year period and an annual limit generally of 1.5%
per adjustment, with no limit on the amount of such adjustments over the life of
the loan.
CONSTRUCTION AND LAND LOANS. Historically, the Bank has been an active
originator of loans to construct residential and commercial properties
("construction loans"), and to a lesser extent, loans to acquire and develop
real estate for the construction of such properties ("land loans"). At March 31,
2004, construction loans amounted to $392.7 million, or 11.9%, of the Bank's
total loans held for investment. Land loans amounted to $123.8 million, or 3.8%,
of the Bank's total loans held for investment at March 31, 2004.
The Bank's construction loans generally have terms of six to 12 months,
fixed interest rates and fees which are due at the time of origination and at
maturity if the Bank does not originate the permanent financing on the
constructed property. Loan proceeds are disbursed in increments as construction
progresses and as inspections by the Bank's in-house appraiser and outside
construction inspectors warrant. Land acquisition and development loans
generally have the same terms as construction loans, but may have longer
maturities than such loans.
CONSUMER LOANS. The Bank offers consumer loans in order to provide a full
range of financial services to its customers. At March 31, 2004, $544.0 million,
or 16.5%, of the Bank's consolidated total loans held for investment consisted
of consumer loans. Consumer loans generally have shorter terms and higher
interest rates than mortgage loans but generally involve more risk than mortgage
loans because of the type and nature of the collateral and, in certain cases,
the absence of collateral. These risks are not as prevalent in the case of the
Bank's consumer loan portfolio, however, because a high percentage of insured
home equity loans are underwritten in a manner such that they result in a
lending risk which is substantially similar to single-family residential loans
and education loans. Education loans are generally guaranteed by a federal
governmental agency.
The largest component of the Bank's consumer loan portfolio is second
mortgage and home equity loans, which amounted to $290.1 million, or 8.8%, of
total loans at March 31, 2004. The primary home equity loan product has an
adjustable interest rate that is linked to the prime interest rate and is
secured by a mortgage, either a primary or a junior lien, on the borrower's
residence. A fixed-rate home equity product is also offered.
Approximately $191.5 million, or 5.8%, of the Bank's total loans at March
31, 2004 consisted of education loans. These are generally made for a maximum of
$2,500 per year for undergraduate studies and $5,000 per year for graduate
studies and are either due within six months of graduation or repaid on an
installment basis after graduation. Education loans generally have interest
rates that adjust annually in accordance with a designated index. Both the
principal amount of an education loan and interest thereon generally are
guaranteed by the Great
6
Lakes Higher Education Corporation, which generally obtains reinsurance of its
obligations from the U.S. Department of Education. Education loans may be sold
to the Student Loan Marketing Association ("SLMA") or to other investors. The
Bank sold $10.6 million of these education loans during fiscal 2004.
The remainder of the Bank's consumer loan portfolio consists of deposit
account and other secured loans that have been made for a variety of consumer
purposes. These include credit extended through credit cards issued by the Bank
pursuant to an agency arrangement under which the Bank participates, currently
within a range of 42% to 45%, with a third party, Elan. At March 31, 2004, the
Bank participates in 42% of the outstanding balances and is responsible for 42%
of the losses.
The Bank is allocated 32% of the interest paid on assigned debt and 25% of
interchange income established by Visa and MasterCard. The bank also shares 33%
of annual fees paid to Elan and 30% of late payments paid to Elan. Also, account
incentive fees of $20 per card are paid to the Bank for newly established
accounts.
At March 31, 2004, the Bank's approved credit card lines amounted to $39.9
million. The total outstanding amount at March 31, 2004 is $5.7 million.
COMMERCIAL BUSINESS LOANS AND LEASES. The Bank originates loans for
commercial, corporate and business purposes, including issuing letters of
credit. At March 31, 2004, commercial business loans amounted to $156.6 million,
or 4.8%, of the Bank's total loans held for investment. The Bank's commercial
business loan portfolio is comprised of loans for a variety of purposes and
generally is secured by equipment, machinery and other corporate assets.
Commercial business loans generally have terms of five years or less and
interest rates that float in accordance with a designated published index.
Substantially all of such loans are secured and backed by the personal
guarantees of the individuals of the business.
NET FEE INCOME FROM LENDING ACTIVITIES. Loan origination and commitment
fees and certain direct loan origination costs are being deferred and the net
amounts are amortized as an adjustment to the related loan's yield.
The Bank also receives other fees and charges relating to existing
mortgage loans, which include prepayment penalties, late charges and fees
collected in connection with a change in borrower or other loan modifications.
Other types of loans also generate fee income for the Bank. These include annual
fees assessed on credit card accounts, transactional fees relating to credit
card usage and late charges on consumer loans.
ORIGINATION, PURCHASE AND SALE OF LOANS. The Bank's loan originations come
from a number of sources. Residential mortgage loan originations are
attributable primarily to depositors, walk-in customers, referrals from real
estate brokers and builders and direct solicitations. Commercial real estate
loan originations are obtained by direct solicitations and referrals. Consumer
loans are originated from walk-in customers, existing depositors and mortgagors
and direct solicitation. Student loans are originated from solicitation of
eligible students and from walk-in customers.
Applications for all types of loans are obtained at the Bank's seven
regional lending offices, certain of its branch offices and two loan origination
facilities. Loans may be approved by members of the Officers' Loan Committee,
within designated limits. Depending on the type and amount of the loans, one or
more signatures of the members of the Senior Loan Committee also may be
required. For loan requests of $1.5 million or less, loan approval authority is
designated to an Officers' Loan Committee and requires at least three of the
members' signatures. Senior Loan Committee members are authorized to approve
loan requests between $1.5 million and $3.0 million and approval requires at
least three of the members' signatures. Loan requests in excess of $3.0 million
must be approved by the Board of Directors.
The Bank's general policy is to lend up to 80% of the appraised value or
purchase price of the property, whichever is less, securing a single-family
residential loan (referred to as the loan-to-value ratio). The Bank will lend
more than 80% of the appraised value of the property, but generally will require
that the borrower obtain private mortgage insurance in an amount intended to
reduce the Bank's exposure to 80% or less of the appraised value of the
underlying property. At March 31, 2004, the Bank had approximately $8.8 million
of loans that had
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loan-to-value ratios of greater Than 80% and did not have private mortgage
insurance for the portion of the loans above such amount.
Property appraisals on the real estate and improvements securing the
Bank's single-family residential loans are made by the Bank's staff or
independent appraisers approved by the Bank's Board of Directors during the
underwriting process. Appraisals are performed in accordance with federal
regulations and policies.
The Bank's underwriting criteria generally require that multi-family
residential and commercial real estate loans have loan-to-value ratios which
amount to 80% or less and debt coverage ratios of at least 110%. The Bank also
generally obtains personal guarantees on its multi-family residential and
commercial real estate loans from the principals of the borrowers, as well as
appraisals of the security property from independent appraisal firms.
The portfolio of commercial real estate and multi-family residential loans
is reviewed on a continuing basis (annually for loans of $1.0 million or more,
and bi-annually for loans of $750,000 to $1.0 million) to identify any potential
risks that exist in regard to the property management, financial criteria of the
loan, operating performance, competitive marketplace and collateral valuation.
The credit analysis function of the Bank is responsible for identifying and
reporting credit risk quantified through a loan rating system and making
recommendations to mitigate credit risk in the portfolio. These and other
underwriting standards are documented in written policy statements, which are
periodically updated and approved by the Bank's Board of Directors.
The Bank generally 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 obtain hazard insurance prior to closing and, when required by the United
States Department of Housing and Urban Development, flood insurance. Borrowers
may be required to advance funds, with each monthly payment of principal and
interest, to a loan escrow account from which the Bank makes disbursements for
items such as real estate taxes, hazard insurance premiums, flood insurance
premiums, and mortgage insurance premiums as they become due.
The Bank encounters certain environmental risks in its lending activities.
Under federal and state environmental laws, lenders may become liable for costs
of cleaning up hazardous materials found on secured properties. Certain states
may also impose liens with higher priorities than first mortgages on properties
to recover funds used in such efforts. Although the foregoing environmental
risks are more usually associated with industrial and commercial loans,
environmental risks may be substantial for residential lenders, like the Bank,
since environmental contamination may render the secured property unsuitable for
residential use. In addition, the value of residential properties may become
substantially diminished by contamination of nearby properties. In accordance
with the guidelines of FNMA and FHLMC, appraisals for single-family homes on
which the Bank lends include comments on environmental influences and
conditions. The Bank attempts to control its exposure to environmental risks
with respect to loans secured by larger properties by monitoring available
information on hazardous waste disposal sites and requiring environmental
inspections of such properties prior to closing the loan. No assurance can be
given, however, that the value of properties securing loans in the Bank's
portfolio will not be adversely affected by the presence of hazardous materials
or that future changes in federal or state laws will not increase the Bank's
exposure to liability for environmental cleanup.
The Bank has been actively involved in the secondary market since the
mid-1980s and generally originates single-family residential loans under terms,
conditions and documentation which permit sale to FHLMC, FNMA, FHLB and other
investors in the secondary market. The Bank sells substantially all of the
fixed-rate, single-family residential loans with terms over 15 years it
originates in order to decrease the amount of such loans in its loan portfolio.
The volume of loans originated and sold is reliant on a number of factors but is
most influenced by general interest rates. In periods of lower interest rates,
demand for fixed-rate mortgages increases. In periods of higher interest rates,
customer demand for fixed-rate mortgages declines. The Bank's sales are usually
made through forward sales commitments. The Bank attempts to limit any interest
rate risk created by forward commitments by limiting the number of days between
the commitment and closing, charging fees for commitments, and limiting the
amounts of its uncovered commitments at any one time. Forward commitments to
cover closed loans and loans with rate locks to customers range from 70% to 90%
of committed amounts. The Bank also periodically has used its loans to
securitize mortgage-backed securities.
8
The Bank generally services all originated loans that have been sold to
other investors. This includes the collection of payments, the inspection of the
secured property, and the disbursement of certain insurance and tax advances on
behalf of borrowers. The Bank recognizes a servicing fee when the related loan
payments are received. At March 31, 2004, the Bank was servicing $2.7 billion of
loans for others.
The Bank is not an active purchaser of loans because of sufficient loan
demand in its market area. Servicing of loans or loan participations purchased
by the Bank is performed by the seller, with a portion of the interest being
paid by the borrower retained by the seller to cover servicing costs. At March
31, 2004, approximately $67.6 million of mortgage loans were being serviced for
the Bank by others.
The following table shows the Bank's consolidated total loans originated,
purchased, sold and repaid during the periods indicated.
YEAR ENDED MARCH 31,
-------------------------------------------------------
2004 2003 2002
-------------------------------------------------------
(In Thousands)
Gross loans receivable at beginning of year(1) $ 3,009,610 $ 2,867,007 $ 2,571,984
Loans originated for investment:
Single-family residential 118,091 99,380 18,245
Multi-family residential 146,336 168,882 188,077
Commercial real estate 644,425 524,941 344,131
Construction and land 563,012 420,231 362,507
Consumer 217,576 263,628 181,782
Commercial business 261,841 72,199 67,390
----------- ----------- -----------
Total originations 1,951,281 1,549,261 1,162,132
----------- ----------- -----------
Loans purchased for investment:
Total originations and purchases 1,951,281 1,549,261 1,162,132
Repayments (1,588,739) (1,279,077) (896,007)
Transfers of loans to held for sale (40,259) (124,115) -
----------- ----------- -----------
Net activity in loans held for
investment 322,283 146,069 266,125
----------- ----------- -----------
Loans originated for sale:
Single-family residential 1,418,781 1,757,299 1,097,655
Transfers of loans from held for investment 40,259 124,115 -
Sales of loans (1,447,257) (1,760,765) (1,068,757)
Loans converted into mortgage-backed
securities (40,259) (124,115) -
----------- ----------- -----------
Net activity in loans held for sale (28,476) (3,466) 28,898
----------- ----------- -----------
Gross loans receivable at end of
period $ 3,303,417 $ 3,009,610 $ 2,867,007
=========== =========== ===========
- --------------------
(1) Includes loans held for sale and loans held for investment.
DELINQUENCY PROCEDURES. Delinquent and problem loans are a normal part of
any lending business. When a borrower fails to make a required payment by the
15th day after which the payment is due, the loan is considered delinquent and
internal collection procedures are generally instituted. The borrower is
contacted to determine the reason for the delinquency and attempts are made to
cure the loan. In most cases, deficiencies are cured promptly. The Bank
regularly reviews the loan status, the condition of the property, and
circumstances of the borrower. Based upon the results of its review, the Bank
may negotiate and accept a repayment program with the borrower, accept a
voluntary deed in lieu of foreclosure or, when deemed necessary, initiate
foreclosure proceedings.
A decision as to whether and when to initiate foreclosure proceedings is
based upon such factors as the amount of the outstanding loan in relation to the
original indebtedness, the extent of delinquency, the value of the
9
collateral, and the borrower's ability and willingness to cooperate in curing
the deficiencies. If foreclosed on, the property is sold at a public sale and
the Bank will generally bid an amount reasonably equivalent to the lower of the
fair value of the foreclosed property or the amount of judgment due the Bank. A
judgment of foreclosure for residential mortgage loans will normally provide for
the recovery of all sums advanced by the mortgagee including, but not limited
to, insurance, repairs, taxes, appraisals, post-judgment interest, attorneys'
fees, costs and disbursements.
Real estate acquired as a result of foreclosure or by deed in lieu of
foreclosure is classified as foreclosed property until it is sold. When property
is acquired, it is carried at the lower of carrying amount or estimated fair
value at the date of acquisition, with charge-offs, if any, charged to the
allowance for loan losses prior to transfer to foreclosed property. Upon
acquisition, all costs incurred in maintaining the property are expensed. Costs
relating to the development and improvement of the property, however, are
capitalized to the extent of fair value. Remaining gain or loss on the ultimate
disposal of the property is included in non-interest income.
LOAN DELINQUENCIES. Loans are placed on non-accrual status when, in the
judgment 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
status, previously accrued but unpaid interest is deducted from interest income.
As a matter of policy, the Bank does not accrue interest on loans past due more
than 90 days.
The interest income that would have been recorded during fiscal 2004 if
the Bank's non-accrual loans at the end of the period had been current in
accordance with their terms during the period was $973,000. The amount of
interest income attributable to these loans and included in interest income
during fiscal 2004 was $526,000.
The following table sets forth information relating to delinquent loans of
the Bank and their relation to the Bank's total loans held for investment at the
dates indicated.
MARCH 31,
--------------------------------------------------------------------------
2004 2003 2002
--------------------------------------------------------------------------
% OF % OF % OF
TOTAL TOTAL TOTAL
DAYS PAST DUE BALANCE LOANS BALANCE LOANS BALANCE LOANS
- ------------------------------------------------------------------------------------------------
(Dollars in Thousands)
30 to 59 days $ 4,887 0.16% $10,083 0.34% $17,647 0.63%
60 to 89 days 10,941 0.36 5,612 0.19 2,671 0.09
90 days and over 16,355 0.53 10,069 0.34 9,042 0.32
------- ---- ------- ---- ------- ----
Total $32,183 1.05% $25,764 0.87% $29,360 1.04%
======= ==== ======= ==== ======= ====
There were five non-accrual loans with carrying values of $1.0 million or
greater at March 31, 2004. For additional discussion of the Corporation's asset
quality, see "Management's Discussion and Analysis of Financial Condition and
Results of Operations - Financial Condition-Non-Performing Assets" in Item 7.
See also Notes 1 and 5 to the Consolidated Financial Statements in Item 8.
NON-PERFORMING REAL ESTATE HELD FOR DEVELOPMENT AND SALE. At March 31,
2004, there were no properties in non-performing real estate held for
development and sale with a carrying value greater than $1.0 million.
Non-performing real estate held for development and sale remained relatively
constant during the fiscal year. For additional discussion of real estate held
for development and sale that is not considered a part of non-performing assets,
see the discussion under "Subsidiaries - Investment Directions, Inc." and "-
Nevada Investment Directions, Inc." and Note 17 to the Consolidated Financial
Statements in Item 8.
10
FORECLOSED PROPERTIES. At March 31, 2004, the Bank had no foreclosed
properties with a net carrying value of $1.0 million or more. Foreclosed
properties and repossessed assets increased $890,000 during the fiscal year.
This increase was not attributable to any one specific loan.
CLASSIFIED ASSETS. OTS regulations require that each insured savings
institution classify its assets on a regular basis. In addition, in connection
with examinations of insured associations, OTS examiners have authority to
identify problem assets and, if appropriate, require them to be classified.
There are three classifications for problem assets: "substandard," "doubtful"
and "loss." Substandard assets have one or more defined weaknesses and are
characterized by the distinct possibility that the insured institution will
sustain some loss if the deficiencies are not corrected. Doubtful assets have
the weaknesses of substandard assets with the additional characteristic that the
weaknesses make collection or liquidation in full highly questionable and
improbable, on the basis of currently existing facts, conditions, and values. An
asset that is classified loss is considered uncollectible and of such little
value, that continuance as an asset of the institution is not warranted. Another
category designated special mention also must be established and maintained for
assets which do not currently expose an insured institution to a sufficient
degree of risk to warrant classification as substandard, doubtful or loss but do
possess credit deficiencies or potential weaknesses deserving management's close
attention.
Assets classified as substandard or doubtful require the institution to
establish general allowances for losses. If an asset or portion thereof is
classified loss, the insured institution must either establish specific
allowances for losses in the amount of 100% of the portion of the assets
classified loss or charge off such amount.
At March 31, 2004, there were $31.1 million of classified assets including
non-performing assets plus other loans and assets, meeting the criteria for
classification. The criteria for the classification of assets comes from
information causing management to have doubts as to the ability of such
borrowers to comply with the present loan repayment terms and would indicate
that such loans have the potential to be included as non-accrual, past due, or
impaired (as defined in SFAS No. 114), in the future periods. However, no loss
is anticipated at this time.
As of March 31, 2004, there were no loans classified as special mention,
doubtful or loss. At March 31, 2003, substandard assets amounted to $25.1
million and no loans were classified as special mention, doubtful or loss. The
increase of $6.0 million in classified assets was attributable to the addition
of three commercial real estate loans and one commercial business loan which all
have a carrying value greater than $1.0 million. These additions were partially
offset by the removal of a commercial business loan with a carrying value
greater than $1.0 million. These loans are discussed in Item 7. Management
Discussion and Analysis under "Non-performing assets".
ALLOWANCE FOR LOAN LOSSES. A provision for losses on loans and foreclosed
properties is provided when a loss is probable and can be reasonably estimated.
The allowance is established by charges against operations in the period in
which those losses are identified.
The Bank establishes the allowance based on current levels of components
of the loan portfolio and the amount, type of its classified assets, and other
factors. In addition, the Bank monitors and uses standards for the allowance
that depends on the nature of the classification and loan location of the
collateral property.
Additional discussion on the allowance for loan losses at March 31, 2004
has been presented as part of the discussion under "Allowance for Loan and
Foreclosure Losses" in Management's Discussion and Analysis, which is contained
in Item 7.
11
SECURITIES - GENERAL
Management determines the appropriate classification of securities at the
time of purchase. Debt securities are classified as held-to-maturity when the
Corporation has the intent and ability to hold the securities to maturity.
Held-to-maturity securities are carried at amortized cost. Securities are
classified as trading when the Corporation intends to actively buy and sell
securities in order to make a profit. Trading securities are carried at fair
value, with unrealized holding gains and losses included in the income
statement.
Securities not classified as held to maturity or trading are classified as
available-for-sale. Available-for-sale securities are carried at fair value,
with the unrealized gains and losses, net of tax, reported as a separate
component of stockholders' equity. For the years ended March 31, 2004 and 2003,
stockholders' equity decreased $1.5 million (net of deferred income tax
receivable of $1.1 million), and increased $1.7 million (net of deferred income
tax payable of $1.1 million), respectively, to reflect net unrealized gains and
losses on holding securities classified as available for sale. There were no
securities designated as trading during the three years ending March 31, 2004.
INVESTMENT SECURITIES
In addition to lending activities and investments in mortgage-related
securities, the Corporation conducts other investment activities on an ongoing
basis in order to diversify assets, limit interest rate risk and credit risk and
meet regulatory liquidity requirements. Investment decisions are made by
authorized officers in accordance with policies established by the respective
boards of directors.
The Corporation's policy does not permit investment in non-investment
grade bonds and permits investment in various types of liquid assets permissible
for the Bank under OTS regulations, which include U.S. Government obligations,
securities of various federal agencies, certain certificates of deposit of
insured banks and savings institutions, certain bankers' acceptances, repurchase
agreements and federal funds. Subject to limitations on investment grade
securities, the Corporation also invests in corporate stock and debt securities
from time to time.
12
The table below sets forth information regarding the amortized cost and
fair values of the Corporation's investment securities at the dates indicated.
MARCH 31,
----------------------------------------------------------------------------
2004 2003 2002
----------------------------------------------------------------------------
AMORTIZED AMORTIZED AMORTIZED
COST FAIR VALUE COST FAIR VALUE COST FAIR VALUE
----------------------------------------------------------------------------
(In Thousands)
Available For Sale:
U.S. Government and federal
agency obligations $16,586 $16,586 $75,675 $ 75,823 $43,261 $43,442
Mutual fund 2,503 2,490 9,815 9,812 10,587 10,582
Corporate stock and other 9,583 10,438 10,151 11,557 11,040 11,969
------- ------- ------- -------- ------- -------
28,672 29,514 95,641 97,192 64,888 65,993
Held To Maturity:
U.S. Government and federal
agency obligations - - 2,998 3,095 7,747 7,897
Other securities - - - - - -
------- ------- ------- -------- ------- -------
- - 2,998 3,095 7,747 7,897
------- ------- ------- -------- ------- -------
Total investment securities $28,672 $29,514 $98,639 $100,287 $72,635 $73,890
======= ======= ======= ======== ======= =======
For additional information regarding the Corporation's investment
securities, see the Corporation's Consolidated Financial Statements, including
Note 3 thereto included in Item 8.
13
MORTGAGE-RELATED SECURITIES
The Corporation purchases mortgage-related securities to supplement loan
production and to provide collateral for borrowings. The Corporation invests in
mortgage-related securities which are insured or guaranteed by FHLMC, FNMA, or
the Government National Mortgage Association ("GNMA") backed by FHLMC, FNMA and
GNMA mortgage-backed securities and also invests in non-agency CMO's.
At March 31, 2004, the amortized cost of the Corporation's
mortgage-related securities held to maturity amounted to $4.3 million, of which
$2.2 million are five- and seven-year balloon securities, and $2.1 million are
10-, 15- and 30-year securities. Of the total held to maturity mortgage-related
securities, $2.7 million, $1.6 million and $7,000 are insured or guaranteed by
FNMA, FHLMC and GNMA, respectively. The adjustable-rate securities included in
the above totals for March 31, 2004, are $94,000 and $307,000 for FNMA and
FHLMC, respectively.
The fair value of the Corporation's mortgage-related securities available
for sale amounted to $220.9 million at March 31, 2004, of which $473,000 are
five- and seven-year balloon securities, $220.4 million are 10-, 15- and 30-year
securities and of all of those securities, $103.8 million are adjustable-rate
securities. Of the total available for sale mortgage-related securities, $26.1
million, $90.0 million and $49.3 million are insured or guaranteed by FNMA,
FHLMC and GNMA, respectively. Of the total of available for sale
mortgage-related securities, $55.5 million are corporate securities and
therefore not insured by one of the three foregoing agencies. The
adjustable-rate securities included in the above totals for March 31, 2004, are
$181,000, $54.3 million, $46.6 million and $2.7 million for FNMA, FHLMC, GNMA
and corporate, respectively.
Mortgage-related securities increase the quality of the Corporation's
assets by virtue of the insurance or guarantees of federal agencies that back
them, require less capital under risk-based regulatory capital requirements than
non-insured or guaranteed mortgage loans, are more liquid than individual
mortgage loans and may be used to collateralize borrowings or other obligations
of the Corporation. At March 31, 2004, $139.5 million of the Corporation's
mortgage-related securities available for sale and $4.4 million of the
Corporation's mortgage-backed securities held to maturity were pledged to secure
various obligations of the Corporation.
The table below sets forth information regarding the amortized cost and
fair values of the Corporation's mortgage-related securities at the dates
indicated.
MARCH 31,
------------------------------------------------------------------------------
2004 2003 2002
------------------------------------------------------------------------------
AMORTIZED AMORTIZED AMORTIZED
COST FAIR VALUE COST FAIR VALUE COST FAIR VALUE
------------------------------------------------------------------------------
(In Thousands)
Available For Sale:
Agency CMO/Remic's $ 38,592 $ 38,629 $ 44,929 $ 45,082 $ 33,231 $ 33,418
Corporate CMO's 54,298 55,518 8,808 9,072 18,369 18,874
Mortgage-backed Securities 124,945 126,771 127,116 131,597 91,139 93,001
-------- -------- -------- -------- -------- --------
217,835 220,918 180,853 185,751 142,739 145,293
Held To Maturity:
Agency CMO/Remic's 68 72 2,600 2,661 5,776 5,879
Mortgage-backed Securities 4,235 4,417 60,398 63,416 134,517 135,451
-------- -------- -------- -------- -------- --------
$ 4,303 $ 4,489 $ 62,998 $ 66,077 $140,293 $141,330
-------- -------- -------- -------- -------- --------
Total Mortgage Related Securities $222,138 $225,407 $243,851 $251,828 $283,032 $286,623
======== ======== ======== ======== ======== ========
14
Management believes that certain mortgage-derivative securities represent
an attractive alternative relative to other investments 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. The Corporation's
mortgage-derivative securities are made up of collateralized mortgage
obligations ("CMOs"), including CMOs which qualify as Real Estate Mortgage
Investment Conduits ("REMICs") under the Internal Revenue Code of 1986, as
amended ("Code"). At March 31, 2004, the Corporation's had $68,000 in
mortgage-derivative securities held to maturity. The fair value of the
mortgage-derivative securities available for sale held by the Corporation
amounted to $94.1 million at the same date.
15
The following table sets forth the maturity and weighted average yield
characteristics of the Corporation's mortgage-related securities at March 31,
2004, classified by term to maturity. The balance is at amortized cost for
held-to-maturity securities and at fair value for available-for-sale securities.
ONE TO FIVE YEARS FIVE TO TEN YEARS OVER TEN YEARS
---------------------- ---------------------- ----------------------
WEIGHTED WEIGHTED WEIGHTED
AVERAGE AVERAGE AVERAGE
BALANCE YIELD BALANCE YIELD BALANCE YIELD TOTAL
-------- -------- -------- -------- -------- -------- --------
(Dollars In Thousands)
Available for Sale:
Mortgage-derivative securities $ 75 7.80% $ 625 4.74% $ 93,447 4.23% $ 94,147
Mortgage-backed securities 482 4.86 9,524 4.80 116,765 4.62 126,771
-------- -------- -------- -------- -------- -------- --------
557 5.25 10,149 4.80 210,212 4.44 220,918
-------- -------- -------- -------- -------- -------- --------
Held to Maturity:
Mortgage-derivative securities 68 5.65 - - - - 68
Mortgage-backed securities 1,781 5.82 1,053 6.25 1,401 6.39 4,235
-------- -------- -------- -------- -------- -------- --------
1,849 5.81 1,053 6.25 1,401 6.39 4,303
-------- -------- -------- -------- -------- -------- --------
Mortgage-related securities $ 2,406 5.68% $ 11,202 4.94% $211,613 4.46% $225,221
======== ======== ======== ======== ======== ======== ========
Due to repayments of the underlying loans, the actual maturities of
mortgage-related securities are expected to be substantially less than the
scheduled maturities.
For additional information regarding the Corporation's mortgage-related
securities, see the Corporation's Consolidated Financial Statements, including
Note 4 thereto, included in Item 8.
SOURCES OF FUNDS
GENERAL. Deposits are a major source of the Bank's funds for lending and
other investment activities. In addition to deposits, the Bank derives funds
from principal repayments and prepayments on loan and mortgage-related
securities, maturities of investment securities, sales of loans and securities,
interest payments on loans and securities, advances from the FHLB and, from time
to time, repurchase agreements and other borrowings. Loan repayments and
interest payments are a relatively stable source of funds, while deposit inflows
and outflows and loan prepayments are significantly influenced by general
interest rates, economic conditions and competition. Borrowings may be used on a
short-term basis to compensate for reductions in the availability of funds from
other sources. They also may be used on a longer term basis for general business
purposes, including providing financing for lending and other investment
activities and asset/liability management strategies.
DEPOSITS. The Bank's deposit products include passbook savings accounts,
demand accounts, NOW accounts, money market deposit accounts and certificates of
deposit ranging in terms of 42 days to seven years. Included among these deposit
products are Individual Retirement Account certificates and Keogh retirement
certificates, as well as negotiable-rate certificates of deposit with balances
of $100,000 or more ("jumbo certificates").
The Bank's deposits are obtained primarily from residents of Wisconsin.
The Bank has entered into agreements with certain brokers that provide funds for
a specified fee. While brokered deposits are a good source of funds, they are
market rate driven and thus inherently have more liquidity and interest rate
risk. To mitigate this risk, the Bank's liquidity policy limits the amount of
brokered deposits to 10% of assets and to the total amount of borrowings. At
March 31, 2004, the Bank had $285.2 million in brokered deposits.
16
The Bank attracts deposits through a network of convenient office
locations by utilizing a detailed customer sales and service plan and by
offering a wide variety of accounts and services, competitive interest rates and
convenient customer hours. Deposit terms offered by the Bank vary according to
the minimum balance required, the time period the funds must remain on deposit
and the interest rate, among other factors. In determining the characteristics
of its deposit accounts, consideration is given to the profitability of the
Bank, matching terms of the deposits with loan products, the attractiveness to
customers and the rates offered by the Bank's competitors.
The following table sets forth the amount and maturities of the Bank's
certificates of deposit at March 31, 2004.
OVER SIX OVER OVER TWO
MONTHS ONE YEAR YEARS OVER
SIX MONTHS THROUGH THROUGH THROUGH THREE
INTEREST RATE AND LESS ONE YEAR TWO YEARS THREE YEARS YEARS TOTAL
- ------------------------------------------------------------------------------------------------------
(In Thousands)
0.00% to 2.99% $487,541 $234,592 $406,769 $ 32,188 $ 3,091 $1,164,181
3.00% to 4.99% 171,224 41,265 21,008 28,567 77,395 339,459
5.00% to 6.99% 46,968 11,707 23,692 21,142 48,833 152,342
7.00% to 8.99% - - 136 - - 136
Ledger PVA (1) - - - - - 1,767
-------- -------- -------- -------- ---------- ----------
$705,733 $287,564 $451,605 $ 81,897 $ 129,319 $1,657,885
======== ======== ======== ======== ========== ==========
(1) Stemming from the Bank's purchase of Ledger Bank on November 10, 2001, an
adjustment was made to the market values of certificate of deposit and core
deposit accounts. The market value of certificate of deposit accounts was
determined by discounting cash flows using current deposit rates for the
remaining contractual maturity. The market value of core deposits (checking,
money market, and passbook accounts) was determined using discounted cash flows
with estimated decay rates.
At March 31, 2004, the Bank had $216.5 million of certificates greater
than or equal to $100,000, of which $26.4 million are scheduled to mature in
seven through twelve months and $65.7 million in over twelve months.
BORROWINGS. From time to time the Bank obtains advances from the FHLB,
which generally are secured by capital stock of the FHLB that is required to be
held by the Bank and by certain of the Bank's mortgage loans. See "Regulation."
Such advances are made pursuant to several different credit programs, each of
which has its own interest rate and range of maturities. The FHLB may prescribe
the acceptable uses for these advances, as well as limitations on the size of
the advances and repayment provisions. The Bank has pledged a substantial
portion of its loans receivable and all of its investment in FHLB stock as
collateral for these advances. A portion of the Bank's mortgage-related
securities has also been pledged as collateral.
From time to time the Bank enters into repurchase agreements with
nationally recognized primary securities dealers. Repurchase agreements are
accounted for as borrowings by the Bank and are secured by mortgage-backed
securities. The Bank did not utilize this source of funds during the year ended
March 31, 2004 but may do so in the future.
The Corporation has a short-term line of credit used in part to fund IDI's
partnership interests and investments in real estate held for development and
sale. This line of credit also funds other Corporation needs. The interest is
based on LIBOR (London InterBank Offering Rate), and is payable monthly and each
draw has a specified maturity. The final maturity of the line of credit is in
October 2004. See Note 9 to the Corporation's Consolidated Financial Statements
in Item 8 for more information on borrowings.
17
The following table sets forth the outstanding balances and weighted
average interest rates for the Corporation's borrowings (short-term and
long-term) at the dates indicated.
MARCH 31,
--------------------------------------------------------------------------------
2004 2003 2002
--------------------------------------------------------------------------------
WEIGHTED WEIGHTED WEIGHTED
AVERAGE AVERAGE AVERAGE
BALANCE RATE BALANCE RATE BALANCE RATE
--------------------------------------------------------------------------------
(Dollars In Thousands)
FHLB advances $755,328 3.56% $554,268 4.33% $569,500 4.78%
Repurchase agreements - 0.00 - 0.00 - 0.00
Other loans payable 76,231 3.11 41,548 2.78 52,090 3.62
The following table sets forth information relating to the Corporation's
short-term (maturities of one year or less) borrowings at the dates and for the
periods indicated.
MARCH 31,
------------------------------------
2004 2003 2002
------------------------------------
(In Thousands)
Maximum month-end balance:
FHLB advances $192,500 $188,900 $431,296
Repurchase agreements - - 32,101
Other loans payable 76,231 52,695 52,174
Average balance:
FHLB advances 141,283 145,342 228,523
Repurchase agreements - - 8,233
Other loans payable 53,083 42,325 46,743
SUBSIDIARIES
INVESTMENT DIRECTIONS, INC. IDI is a wholly owned non-banking subsidiary
of the Corporation that has invested in various limited partnerships (see Davsha
and Oakmont partnerships below) and subsidiaries funded by borrowings from the
Corporation. Because the Corporation has made substantially all of the initial
capital investment in these partnerships and as a result bears substantially all
the risks of ownership of these partnerships, such partnerships have been deemed
variable interest entities ("VIE's") subject to the consolidation requirements
of Financial Accounting Standards Board Interpretation No. 46, "Consolidation of
Variable Interest Entities, an Interpretation of Accounting Research Bulletin
No. 51" ("FIN 46"). The application of FIN 46 results in the consolidation of
assets, liabilities, income and expense of the partnerships into Corporation's
financial statements. The portion of ownership and income that belongs to the
other partner is reflected as minority interest so there is no effect on net
income or shareholder's equity. See Item 8, Variable Interest Entities for a
detailed discussion of the financial statement effects of FIN 46. The
Corporation's investment in IDI at March 31, 2004 amounted to $4.2 million as
compared to $2.2 million at March 31, 2003. IDI had total assets of $40.4
million at March 31, 2004 and a net income of $2.5 million for fiscal 2004. This
compares to total assets of $40.9 million and a net loss of $600,000 for the
prior year ended March 31, 2003. The increase of $3.1 million in net income of
IDI is largely attributable to a $2.1 million increase in home sales from the
real estate development partnerships as well as the gain on sale of the one of
IDI's partnerships, Seville, of $2.3 million.
NEVADA INVESTMENT DIRECTIONS, INC. NIDI is a wholly owned non-banking
subsidiary of IDI formed in March 1997 that has invested in a limited
partnership, Oakmont, as a 94.12% owner (IDI being the other 5.88% owner). NIDI
was organized in the state of Nevada. IDI's investment in NIDI at March 31, 2004
amounted to
18
$480,000 and $4.3 million for the prior fiscal year. For the year ended March
31, 2004, NIDI had total assets of $490,000 and a net loss of $310,000. This
compares to total assets of $4.5 million and a net loss of $220,000 for the
prior year ended March 31, 2003. Oakmont invests in a VIE, Chandler Creek, which
is subject to FIN 46 treatment. See Oakmont, below for a discussion of the
effects of FIN 46 on the financial statements of Oakmont as well as a discussion
of VIE's in Item 8.
S&D INDIAN PALMS, LTD. Indian Palms is a wholly owned non-banking
subsidiary of IDI organized in the state of California which owns a golf resort
and land for residential lot development in California. Indian Palms sells land
to Davsha who in turn sells land to its subsidiaries and subsequently to its
real estate partnerships for lot development. Gains are realized as fully
developed lots are sold to outside parties. As a result of these land sales,
Indian Palms had a deferred gain of $3.8 million as of March 31, 2004 which
compares to $820,000 as of March 31, 2003. IDI's investment in Indian Palms at
March 31, 2004 amounted to $17.3 million. IDI's investment in Indian Palms at
March 31, 2003 amounted to $21.3 million. For the year ended March 31, 2004,
Indian Palms had total assets of $24.3 million and a net loss of $800,000. This
compares to total assets of $25.5 million and a net loss of $990,000 for the
year ended March 31, 2003. As of March 31, 2004, Indian Palms had repaid a loan
of $3.2 million from another bank, which had been secured by the land and had
been outstanding at March 31, 2003.
CALIFORNIA INVESTMENT DIRECTIONS, INC. CIDI is a wholly owned non-banking
subsidiary of IDI formed in April 2000 to purchase and hold the general
partnership interest in Indian Palms and a minority interest in Davsha, LLC.
CIDI was organized in the state of California. IDI's investment in CIDI at March
31, 2004 amounted to $1.7 million compared to an investment in CIDI at March 31,
2003 of $340,000. For the year ended March 31, 2004, CIDI had total assets of
$1.8 million and net income of $410,000. This compares to total assets of
$450,000 and net income of $100,000 for the year ended March 31, 2003. Davsha
and its subsidiaries invest in VIE's which are subject to FIN 46 treatment. See
Davsha and its subsidiaries below for a discussion of the effects of FIN 46 on
the financial statements of Davsha and its subsidiaries as well as a discussion
of VIE's in Item 8.
OAKMONT. Oakmont became a wholly owned non-banking subsidiary of NIDI and
IDI in January 2000 with NIDI having a 94.12% partnership interest and IDI
having a 5.88% partnership interest. Oakmont was organized in the state of
Texas. Oakmont is a limited partner in Chandler Creek Business Park of Round
Rock, Texas, a joint venture partnership formed to develop an industrial park
located in Round Rock, Texas. The office park consists of four office warehouse
buildings totaling 163,000 square feet and vacant land of approximately 135
acres. The project is currently 62% leased, with one building being fully leased
and marketed for sale. Because Oakmont made substantially all of the initial
capital investment in Chandler Creek and bears substantially all the risks of
ownership, the assets, liabilities, income and expense of that partnership were
consolidated with the financial statements of Oakmont, per FIN 46. The
consolidation of partnership assets into the financial statements of Oakmont
resulted in the addition $8.7 million of partnership improvements, $7.0 million
of partnership land, $280,000 of partnership construction in progress and
$170,000 of other assets for a total addition of $16.1 million in assets. This
was offset by the addition of $7.3 million of partnership borrowings and
$160,000 of other partnership liabilities as well as the addition of minority
interest (the partnership's ownership interest) of $3.7 million. At March 31,
2004, Oakmont's investment in Chandler Creek was $4.3 million and Oakmont had
extended loans of $1.9 million to the unrelated partner in Chandler Creek. This
compares to a carrying value of $2.6 million and a loan to the unrelated partner
of $3.6 million for the prior year ended March 31, 2003. For the year ended
March 31, 2004, Oakmont had total assets of $18.1 million and a net loss of
$620,000. This compares to total assets of $6.3 million and a net loss of
$560,000 at March 31, 2003. As of March 31, 2004, Oakmont had drawn $7.3 million
in outside borrowings. IDI guarantees up to $8.4 million in borrowings for
Oakmont. This amount of outside borrowings was the same as of March 31, 2003.
DAVSHA, LLC. Davsha is a wholly owned non-banking subsidiary of IDI (80%
owned) and CIDI (20% owned). Davsha was organized in the state of California
where it purchased land from Indian Palms and develops residential housing for
sale. For the year ended March 31, 2004, Davsha had total assets of $17.2
million and net income of $3.5 million. This compares to total assets of $10.8
million and net income of $950,000 for the year ended March 31, 2003.
Davsha has six wholly owned non-banking subsidiaries, Davsha II, Davsha
III, Davsha IV, Davsha V and Davsha VI and Davsha VII. Each of these
subsidiaries formed partnerships with developers and purchased lots
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from Davsha. Since each of the six Davsha subsidiaries exercise significant
influence over the operations of their respective partnerships, the assets,
liabilities, income and expense were consolidated with the financial statements
of each of the respective Davsha's, per FIN 46. The consolidation of partnership
assets into the financial statements of Davsha's are detailed below under each
respective Davsha subsidiary. IDI guarantees up to $31.8 million in outside
borrowings for Davsha but as of March 31, 2004, Davsha had no outside
borrowings. This compares to $1.0 million of outside borrowings at March 31,
2003.
DAVSHA II, LLC. Davsha II is a wholly owned non-banking subsidiary of
Davsha formed in April 2000. Davsha II was organized in the state of California.
Davsha II is a limited partner in Paragon Indian Palms Associates ("Paragon"), a
partnership formed in February 2000, to develop residential housing. Davsha's
investment in Davsha II at March 31, 2004, amounted to $1.6 million as compared
to $700,000 at March 31, 2003. For the year ended March 31, 2004, Davsha II had
total assets of $6.6 million and net income of $730,000 as compared to total
assets of $1.5 million and net income of $490,000 for the year ended March 31,
2003. The consolidation of partnership assets into the financial statements of
Davsha II resulted in the addition of $5.3 million of construction in progress
and $450,000 of partnership cash for a total addition of $5.7 million in
partnership assets. This was offset by the addition of $3.1 million of
partnership borrowings and $401,000 of other partnership liabilities as well as
the addition of minority interest (the partnership's ownership interest) of
$811,000. As of March 31, 2004, its partnership, Paragon, had drawn $3.1 million
in outside borrowings of the $5.1 million guaranteed by IDI. This compares to a
principal balance of $2.0 million at March 31, 2003.
DAVSHA III, LLC. Davsha III is a wholly owned non-banking subsidiary of
Davsha formed in February 2001. Davsha III was organized in the state of
California and is a limited partner in Indian Palms 147, LLC, a partnership
formed in February 2001 to develop residential housing. Davsha's investment in
Davsha III at March 31, 2004 amounted to $3.7 million as compared to $940,000
for the year ended March 31, 2003. Davsha III had total assets of $6.0 million
and net income of $1.6 million as compared to total assets of $5.6 million and
net income of $920,000 for the year ended March 31, 2003. The consolidation of
partnership assets into the financial statements of Davsha III resulted in the
addition of $4.9 million of construction in progress and $996,000 of other
partnership assets for a total addition of $5.9 million in partnership assets.
This was offset by the addition of $1.7 million of partnership borrowings and
$595,000 of other partnership liabilities as well as the addition of minority
interest (the partnership's ownership interest) of $1.2 million. As of March 31,
2004, Indian Palms 147 had drawn $1.7 million in outside borrowings of the $8.5
million guaranteed by IDI. This compares to a principal balance of $2.7 million
at March 31, 2003.
DAVSHA IV, LLC. Davsha IV is a wholly owned non-banking subsidiary of
Davsha formed in July 2001. Davsha IV was organized in the state of California
and is a limited partner in DH Indian Palms I, LLC., a partnership formed in
July 2001 to develop residential housing. Davsha's investment in Davsha IV at
March 31, 2004 and 2003 amounted to $2.1 million and $1.6 million, respectively.
For the year ended March 31, 2004, Davsha IV had total assets of $6.2 million
and net income of $904,000. This compares to total assets of $420,000 and net
income of $220,000 for the year ended March 31, 2003. The consolidation of
partnership assets into the financial statements of Davsha IV resulted in the
addition of $5.3 million of construction in progress, $675,000 of partnership
cash and $84,000 of other partnership assets for a total addition of $6.1
million in partnership assets. This was offset by the addition of $3.3 million
of partnership borrowings and $687,000 of other partnership liabilities as well
as the addition of minority interest (the partnership's ownership interest) of
$380,000. DH Indian Palms I had drawn $3.3 million in outside borrowings of the
$20.1 million guaranteed by IDI at March 31, 2004. This compares to a principal
balance of $1.7 million at March 31, 2003.
DAVSHA V, LLC. Davsha V is a wholly owned non-banking subsidiary of Davsha
formed in July 2001. Davsha V was organized in the state of California and is a
limited partner in Villa Santa Rosa, LLC, a partnership formed in July 2002 to
develop residential housing. Davsha's investment in Davsha V at March 31, 2004
amounted to $3.0 million as compared to $1.2 million at March 31, 2003. For the
year ended March 31, 2004, Davsha V had total assets of $12.3 million and net
income of $570,000 as compared to total assets of $470,000 and a net loss of
$1,000 at March 31, 2003. The consolidation of partnership assets into the
financial statements of Davsha V resulted in the addition of $11.7 million of
construction in progress and $108,000 of other partnership assets for a total
addition of $11.8 million in partnership assets. This was offset by the addition
of $5.5 million of partnership borrowings and $435,000 of other partnership
liabilities as well as the addition of minority interest (the
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partnership's ownership interest) of $461,000. Villa Santa Rosa had drawn $5.5
million in outside borrowings of the $12.5 million guaranteed by IDI at March
31, 2004 as compared to a principal balance of $3.3 million at March 31, 2003.
DAVSHA VI, LLC. Davsha VI is a wholly owned non-banking subsidiary of
Davsha formed in July 2001. Davsha VI was organized in the state of California
and is a limited partner in Bellasara, LLC, a partnership formed in July 2002 to
develop residential housing. Davsha's investment in Davsha VI at March 31, 2004
amounted to $1.8 million as compared to $520,000 at March 31, 2003. For the year
ended March 31, 2004, Davsha VI had total assets of $7.7 million and net income
of $345,000 as compared to total assets of $(290,000) and a net loss of $1,000
for March 31, 2003. The consolidation of partnership assets into the financial
statements of Davsha VI resulted in the addition of $7.7 million of construction
in progress for a total addition of $7.7 million in partnership assets. This was
offset by the addition of $4.7 million of partnership borrowings and $462,000 of
other partnership liabilities as well as the addition of minority interest (the
partnership's ownership interest) of $184,000. Bellasara had drawn $4.7 million
in outside borrowings of the total of $12.7 guaranteed by IDI at March 31, 2004
as compared to a principal balance of $2.6 million at March 31, 2003.
DAVSHA VII, LLC. Davsha VII is a wholly owned non-banking subsidiary of
Davsha formed in September, 2003. Davsha VII was organized in the state of
California and is a limited partner in La Vista Grande 121, LLC, a partnership
formed in June 2003 to develop residential housing. Davsha's investment in
Davsha VII at March 31, 2004 amounted to $(7,000). For the year ended March 31,
2004, Davsha VII had total assets of $2.2 million and a net loss of $7,000. IDI
guaranteed $4.5 million on behalf of La Vista Grande, however as of March 31,
2004, La Vista Grande had not drawn on its outside borrowings. It is anticipated
that development activities will commence in fiscal 2005, at which time, the
construction in progress, other partnership assets, partnership borrowings,
other partnership liabilities, and minority interest in equity and income of the
partnership, created from this activity, will be consolidated in accordance with
FIN 46.
Together, IDI, NIDI, CIDI, Indian Palms, Davsha, Davsha II, Davsha III,
Davsha IV, Davsha V, Davsha VI, Davsha VII and Oakmont represent the real estate
investment segment of the Corporation's business. At March 31, 2004, the
majority of this segment is categorized as real estate held for development and
sale on the Corporation's consolidated financial statements. Net of
non-performing real estate held for development and sale of $2.4 million, the
segment has $80.1 million of total assets consisting of construction in
progress, vacant land, improvements, other partnership assets and partnership
cash as well as the net investment in wholly-owned real estate investment
subsidiaries of $39.7 million. Other partnership assets are reported in other
assets and partnership cash is reported in cash. Reported in other borrowings
are partnership borrowings of $23.0 million and reported in other liabilities
are partnership liabilities of $5.2 million. Minority interest of the
partnerships is reported as a mezzanine item below liabilities and above
stockholders' equity. The components of income from operations of the real
estate investment subsidiaries that are consolidated in accordance with FIN 46
are reported in real estate investment partnership revenue, real estate
investment partnership cost of sales, other expenses from real estate
partnership operations, and minority interest in net income of real estate
partnership operations. Net income of IDI's wholly owned subsidiary, Indian
Palms (which is not subject to FIN 46 treatment) is reported in other revenue
(expense) from real estate operations. At March 31, 2003, the Corporation had a
specific reserve of $650,000 that had been established for probable and
reasonably estimatable declines in the property value of the golf course land at
the Indian Palms subsidiary's golf course operation. It was determined during
the fiscal year that this reserve was no longer necessary and it was taken back
into income. Therefore, as of March 31, 2004, there are no specific reserves for
the real estate investment segment. For further discussion of the real estate
held for development and sale segment, see Note 17 to the Corporation's
Consolidated Financial Statements in Item 8.
During the fiscal year ended March 31, 2004, IDI sold its investment in a
Tampa, Florida project that included an interest in a golf operation and
residential lots for a gain of $2.3 million. IDI's investment in the project was
$4.3 million at March 31, 2003. The project had reported net income of $9,000
for the year ended March 31, 2003 and had a deferred gain of $810,000 for the
same period, which was realized in the sale. As a part of the sale of this
project, the buyers borrowed $4.5 million from IDI. The principal balance of
this commercial loan was $3.1 million at March 31, 2004.
21
The balance of assets at IDI includes loans to finance the acquisition and
development of property for various partnerships and subsidiaries. At March 31,
2004, IDI had extended $17.7 million to Indian Palms, $7.4 million to Davsha,
$559,000 to CIDI and $2.3 million to Oakmont as compared to $19.3 million to
Indian Palms, $6.0 million to Davsha, $390,000 to Davsha II, $720,000 to Davsha
III, $190,000 to CIDI and $1.8 million to Oakmont at March 31, 2003. These
amounts are eliminated in consolidation.
During fiscal 2004, IDI invested in a heavy industrial battery charger
manufacturer, Power Designers, Inc., that had commercial loans with the Bank in
the amount of $479,000. The notes were written off at the Bank level and IDI
restructured the borrowing into an investment which represented IDI's initial
investment in Power Designers. The level of borrowings determines the ownership
interest in Power Designers, Inc. such that, for every $25,000 advanced under
the line of credit, IDI gains an additional .455% of ownership interest up to a
maximum ownership level of 58.0%. As of March 31, 2004, IDI had extended lines
of credit of $800,000, of a maximum line of credit of $1.6 million, to Power
Designers for operations and production which resulted in an ownership interest
of 44.0% of Power Designers by IDI.
At March 31, 2004, the Corporation had extended $34.5 million to IDI to
fund various partnership and subsidiary investments. This represents an increase
of $500,000 from borrowings of $34.0 million at March 31, 2003. These amounts
are eliminated in consolidation.
At March 31, 2004, the Corporation had extended $2,000 to NIDI to fund
various partnership investments. NIDI had borrowings from the Corporation of
$140,000 as of March 31, 2003. These amounts are eliminated in consolidation.
ANCHOR INVESTMENT SERVICES, INC. AIS is a wholly owned subsidiary of
the Bank that offers fixed and variable annuities as well as mutual funds to its
customers and members of the general public. AIS also processes stock and bond
trades and provides credit life and disability insurance services to the Bank's
consumer and mortgage loan customers as well as some group and individual
coverage. For the year ended March 31, 2004, AIS had net income of $31,000 as
compared to a net loss of $70,000 for the year ended March 31, 2003. The Bank's
investment in AIS amounted to $95,000 at March 31, 2004 as compared to $60,000
at March 31, 2003.
ADPC CORPORATION. ADPC is a wholly owned subsidiary of the Bank that holds
and develops certain of the Bank's foreclosed properties. The Bank's investment
in ADPC at March 31, 2004 amounted to $425,000 as compared to $350,000 at March
31, 2003. ADPC had net income of $75,000 for the year ended March 31, 2004 as
compared to net income of $5,000 for the year ended March 31, 2003.
ANCHOR INVESTMENT CORPORATION. AIC is an operating subsidiary of the Bank
that was incorporated in March 1993. Located in the state of Nevada, AIC was
formed for the purpose of managing a portion of the Bank's investment portfolio
(primarily mortgage-backed securities). The Bank also sells commercial real
estate and multi-family loans to AIC in the form of loan participations with the
Bank retaining servicing and charging a servicing fee of .125%. As an operating
subsidiary, AIC's results of operations are combined with the Bank's for
financial and regulatory purposes. The Bank's investment in AIC amounted to
$647.1 million at March 31, 2004 as compared to $720.0 million at March 31,
2003. AIC had net income of $19.2 million for the year ended March 31, 2004 as
compared to $23.9 million for the year ended March 31, 2003. The Bank had
outstanding notes to AIC of $151.0 million with a weighted average rate of 4.00%
as of March 31, 2004 as compared to $151.0 million at March 31, 2003, with a
weighted average rate of 4.39% with maturities during the next six months of
fiscal 2004. See Note 14, Commitments and Contingent Liabilities for further
discussion of state tax audits and proposed tax law changes and their effect on
the Corporation and AIC.
EMPLOYEES
The Corporation had 784 full-time employees and 172 part-time employees at
March 31, 2004. The Corporation promotes equal employment opportunity and
considers its relationship with its employees to be good. The employees are not
represented by a collective bargaining unit.
22
REGULATION
Set forth below is a brief description of certain laws and regulations
that relate to the regulation of the Corporation and the Bank. The description
of these laws and regulations, as well as descriptions of laws and regulations
contained elsewhere herein, does not purport to be complete and is qualified in
its entirety by reference to applicable laws and regulations.
GENERAL
The Bank is a federally chartered stock savings association whose primary
regulator is the OTS. The FDIC under the SAIF insures its deposits up to
applicable limits. The Bank is currently subject to extensive regulation,
examination and supervision by the OTS as its chartering agency, and by the FDIC
as its deposit insurer. The Bank must file reports with the OTS and the FDIC
concerning its activities and financial condition, and must obtain regulatory
approval prior to entering into certain transactions such as mergers with or
acquisitions of, other depository institutions and opening or acquiring branch
offices.
The OTS currently conducts periodic examinations to assess the Bank's
compliance with various regulatory requirements. In addition, the FDIC has the
right to perform examinations of the Bank should the OTS or the FDIC determine
the Bank is in a weakened financial condition or a failure is foreseeable. This
regulation and supervision establishes a comprehensive framework of activities
in which a savings bank can engage and is intended primarily for the protection
of the deposit insurance fund and depositors. The regulatory structure also
gives the regulatory authorities extensive discretion in connection with their
supervisory and enforcement activities and examination policies, including
policies with respect to the classification of assets and the establishment of
adequate loan loss reserves for regulatory purposes.
THE CORPORATION
The Corporation is deemed a unitary savings and loan holding company
within the meaning of Section 10(O) of the Homeowners' Loan Act ("HOLA"). The
Corporation is required to register and file reports with the OTS and is subject
to regulation and examination by the OTS. The Corporation is required to file
certain reports with, and otherwise comply with, the rules and regulations of
the Securities and Exchange Commissions ("SEC") under the federal securities
laws.
As a unitary savings and loan holding company in existence on or before
May 4, 1999, the Corporation generally is not subject to activity restrictions
as long as the Bank is in compliance with the Qualified Thrift Lender ("QTL")
Test. See "Qualified Thrift Lender Requirement."
Any change in these laws and regulations, whether by the OTS, the FDIC,
the SEC, or through legislation, could have a material adverse impact on the
Bank and the Corporation and their operations and shareholders.
FEDERAL REGULATION OF THE BANK
GENERAL. As a federally chartered, SAIF-insured savings bank, the Bank is
subject to extensive regulation by the OTS and the FDIC. Lending activities and
other investments must comply with federal statutory and regulatory
requirements. This federal regulation establishes a comprehensive framework of
activities in which an institution can engage and is intended primarily for the
protection of the SAIF, the FDIC, and the depositors. This regulatory structure
gives the regulatory authorities extensive discretion in connection with their
supervisory and enforcement activities and examination policies, including
policies regarding the classification of assets and the establishment of
adequate loan loss reserves.
23
The OTS regularly examines the Bank and issues a report of its examination
findings to the board of directors. The Bank's relationship with its depositors
and borrowers is also regulated by federal law, especially in such matters as
the ownership of savings accounts and the form and content of the Bank's
mortgage documents.
The Bank must file reports with the OTS and the FDIC concerning its
activities and financial condition, and must obtain regulatory approvals prior
to entering into transactions such as mergers with or acquisitions of other
financial institutions. Any change in such regulations, whether by the OTS, the
FDIC or the United States Congress, could have a material adverse affect on the
Bank and its operations.
QUALIFIED THRIFT LENDER REQUIREMENT. Federal savings associations must
meet a qualified thrift lender test or they become subject to operating
restrictions. Until recently, the chief restriction was the elimination of
borrowing rights from the savings association's Federal Home Loan Bank. However,
with the passage of the Gramm-Leach-Bliley Financial Modernization Act of 1999
by Congress, the failure to maintain qualified thrift lender status will not
affect the Bank's borrowing rights with the FHLB of Chicago. Notwithstanding
these changes, the Bank anticipates that it will maintain an appropriate level
of investments consisting primarily of residential mortgages, mortgage backed
securities and other mortgage-related investments, and otherwise qualify as
qualified thrift lenders. The required percentage of these mortgage-related
investments is 65% of portfolio assets. Portfolio assets are all assets minus
goodwill and other intangible assets, property used by the institution in
conducting its business and liquid assets equal to 20% of total assets.
Compliance with the qualified thrift lender test is determined on a monthly
basis in nine out of every twelve months.
INSURANCE OF DEPOSITS. The Bank's deposits are insured up to applicable
limits under the SAIF of the FDIC. The FDIC regulations assign institutions to a
particular capital group based on the level of an institution's capital - "well
capitalized," "adequately capitalized," or "undercapitalized." These three
groups are then divided into three subgroups reflecting varying levels of
supervisory concern, from those institutions considered to be healthy to those
that are considered to be of substantial supervisory concern. This matrix
results in nine assessment risk classifications, with well capitalized,
financially sound, institutions paying lower rates than those paid by
undercapitalized institutions, which are likely to pose a risk of loss to the
insurance fund absent corrective actions.
An institution's assessment rate depends on the capital category to which
it is assigned. Assessment rates for deposit insurance currently range from 0
basis points to 27 basis points. The capital and supervisory subgroup to which
an institution is assigned by the FDIC is confidential and may not be disclosed.
A bank's rate of deposit insurance assessments will depend upon the category or
subcategory to which the bank is assigned by the FDIC. Any increase in insurance
assessments could have an adverse effect on the earnings of insured
institutions, including the Bank.
REGULATORY CAPITAL REQUIREMENTS. OTS capital regulations require savings
institutions to meet three capital standards: (1) tangible capital equal to 1.5%
of total adjusted assets, (2) core capital equal to at least 3% of total
adjusted assets, and (3) risk-based capital equal to 8% of total risk-weighted
assets.
Tangible capital is defined as core capital less all intangible assets
(including supervisory goodwill), certain mortgage servicing rights and certain
investments. Core capital is defined as common stockholders' equity (including
retained earnings), noncumulative perpetual preferred stock, minority interests
in the equity accounts of consolidated subsidiaries, certain nonwithdrawable
accounts and pledged deposits of mutual savings associations and qualifying
supervisory goodwill, less nonqualifying intangible assets, certain mortgage
servicing rights and certain investments, adjusted for unrealized gains and
losses on certain available-for-sale securities.
The risk-based capital standard for savings institutions requires the
maintenance of total risk-based capital (which is defined as core capital plus
supplementary capital) of 8% of risk-weighted assets. The components of
supplementary capital include, among other items, cumulative perpetual preferred
stock, perpetual subordinated debt, mandatory convertible subordinated debt,
intermediate-term preferred stock, and the portion of the allowance for loan
losses not designated for specific loan losses. The portion of the allowance for
loan and lease losses includable in supplementary capital is limited to a
maximum of 1.25% of risk-weighted assets. Overall, supplementary capital is
limited to 100% of core capital. A savings association must calculate its
risk-weighted assets by multiplying each asset and off-balance sheet item by
various risk factors as determined by the OTS, which
24
range from 0% for cash to 100% for delinquent loans, property acquired through
foreclosure, commercial loans, and other assets.
The risk-based capital standards of the OTS generally require savings
institutions with more than a "normal" level of interest rate risk to maintain
additional total capital. An institution's interest rate risk will be measured
in terms of the sensitivity of its "net portfolio value" to changes in interest
rates. Net portfolio value is defined, generally, as the present value of
expected cash inflows from existing assets and off-balance sheet contracts less
the present value of expected cash outflows from existing liabilities. A savings
institution will be considered to have a "normal" level of interest rate risk
exposure if the decline in its net portfolio value after an immediate 200 basis
point increase or decrease in market interest rates (whichever results in the
greater decline) is less than two percent of the current estimated economic
value of its assets. An institution with a greater than normal interest rate
risk will be required to deduct from total capital, for purposes of calculating
its risk-based capital requirement, an amount (the "interest rate risk
component") equal to one-half the difference between the institution's measured
interest rate risk and the normal level of interest rate risk, multiplied by the
economic value of its total assets. For additional discussion of regulatory
capital requirements, refer to Note 10 to the Consolidated Financial Statements
in Item 8 included herewith.
LIMITATION ON DIVIDENDS AND OTHER CAPITAL DISTRIBUTIONS. OTS regulations
impose various restrictions or requirements on associations with respect to
their ability to pay dividends or make other distributions of capital.
The OTS rules regarding capital distributions define the term "capital
distribution" as a distribution of cash or other property to a savings
association's owners, made on account of their ownership. The definition
specifically excludes dividends consisting only of a savings association's
shares or rights to purchase shares, and payments that a mutual savings
association is required to make under the terms of a deposit instrument.
Under the revised OTS rules, capital distributions also include a savings
association's payment to repurchase, redeem, retire or otherwise acquire any of
its shares or other ownership interests, any payment to repurchase, redeem or
otherwise acquire debt instruments included in its total capital, and any
extension of credit to finance an affiliate's acquisition of those shares or
interests. Additionally, a capital distribution includes any direct or indirect
payment of cash or other property to owners or affiliates made in connection
with a corporate restructuring. The revised rule also defines as a capital
distribution any transaction the OTS or FDIC determines, by order or regulation,
to be in substance a distribution of capital. Because more than one year has
passed since the Corporation's formation, under the revised rules the
Corporation generally no longer needs specific OTS approval to repurchase its
shares; however, share repurchases still must be made in a prudent manner and
amount under a "safety and soundness" analysis.
A final category of capital distribution under the revised OTS rules is
any other distribution charged against a savings association's capital accounts
if the savings association would not be well capitalized following the
distribution. As such, the revised capital distribution rules of the OTS do not
apply to capital distributions by wholly owned operating subsidiaries of savings
associations. This is true because generally, for reporting purposes, the
accounts of a wholly-owned subsidiary are consolidated with those of the parent
savings association and any distributions by such subsidiary would not affect
the capital levels of the parent savings association.
For regulatory capital purposes, where the consolidated subsidiary is not
wholly owned, the balance sheet account "minority interests in the equity
accounts of subsidiaries that are fully consolidated" may be included in Tier I
capital and total capital if certain conditions are met. Distributions by such
consolidated subsidiaries to shareholders other than the savings association
reduce the cited balance sheet account and, therefore, reduce capital.
Consequently, distributions by subsidiaries that are not wholly owned by the
savings association are subject to the revised OTS capital distribution rules if
the savings association will not be well capitalized following the distribution.
The revised OTS rule generally requires all savings associations to file a
notice or an application for approval before making a capital distribution. A
savings association must file an application if the association is not eligible
for expedited treatment under the application processing rules of the OTS, the
total amount of all capital distributions including the proposed capital
distribution, for the applicable calendar year would exceed an amount
25
equal to the savings association's net income for that year to date plus the
savings association's retained net income for the preceding two years, or the
proposed distribution would violate a prohibition contained in any applicable
statute, regulation, or agreement between the savings association and the OTS,
or the FDIC, or a condition imposed on the savings association in an
OTS-approved application notice.
A savings association must file a notice whenever an application is not
required under the above standards and any of the following criteria is
satisfied:
- - the savings association will not be at least adequately capitalized
following the capital distribution; or
- - the capital distribution would reduce the amount of, or retire any part of
the savings association's common or preferred stock, or retire any part of
debt instruments such as notes or debentures included in the savings
association's capital; or
- - the savings association is a subsidiary of a savings and loan holding
company.
If neither the savings association nor the proposed capital distribution
meet any of the criteria listed in the previous paragraph, the savings
association is not required to file a notice or an application before making a
capital distribution.
Under the revised rule, the OTS will review a savings association's notice
or application and may disapprove a notice or deny an application if the OTS
makes any of the following determinations:
- - the savings association will be undercapitalized, significantly
undercapitalized, or critically undercapitalized under the prompt
corrective action regulations of the FDIC, as adopted by the OTS, following
the capital distribution;
- - the proposed capital distribution raises safety and soundness concerns, or
- - the proposed capital distribution violates a prohibition contained in any
statute, regulation, agreement between the savings association and the OTS
(or the FDIC), or a condition imposed on the savings association in an
OTS-approved application or notice.
Because the Bank is a subsidiary of a savings and loan holding company, it
must file a notice as described above.
LIQUIDITY. In December 2000, legislation was enacted that removed the
provision that authorized the Director of the OTS to establish a liquidity
requirement of any amount within the range of 4% to 10% of a savings
association's average daily balance of net withdrawable deposits plus short-term
borrowings depending upon economic conditions and the deposit flows of member
institutions. In revising the OTS Regulations to conform with the recent
legislation, the OTS removed the specific liquidity requirement but adopted a
rule that requires each savings association and service corporation to maintain
sufficient liquidity to ensure its safe and sound operation. At March 31, 2004,
the Bank believes that it was in compliance with these liquidity requirements.
The Bank's liquidity ratio was 5.60% at March 31, 2004.
FEDERAL RESERVE SYSTEM. The Federal Reserve Board requires all depository
institutions to maintain non-interest bearing reserves at specified levels
against their transaction accounts (primarily checking, NOW and Super NOW
checking accounts) and non-personal time deposits. At March 31, 2004, the Bank
was in compliance with these requirements. The OTS has permitted these reserves
to be used to satisfy liquidity requirements. Because required reserves must be
maintained in the form of cash or a non-interest-bearing account at a Federal
Reserve Bank, the effect of this reserve requirement is to reduce the amount of
the institution's interest-earning assets.
Savings institutions also have the authority to borrow from the Federal
Reserve "discount window." Federal Reserve Board regulations, however, require
savings institutions to exhaust all FHLB sources before borrowing from a Federal
Reserve Bank.
RESTRICTIONS ON TRANSACTIONS WITH AFFILIATES. A bank's loans to its
executive officers, directors, any owner of more than 10% of its stock (each, an
insider) and any of certain entities affiliated with any such person (an
26
insider's related interest) are subject to the conditions and limitations
imposed by Section 22(h) of the Federal Reserve Act and the Federal Reserve
Board's Regulation O thereunder. Under these restrictions, the aggregate amount
of the loans to any insider's related interests may not exceed the loans-to-one
borrower limit applicable to national banks, which is comparable to the
loans-to-one-borrower limit applicable to the Bank's loans. All loans by a bank
to all insiders and insiders' related interests may not exceed the bank's
unimpaired capital and unimpaired surplus. With certain exceptions, loans to an
executive officer, other than loans for the education of the officer's children
and certain loans secured by the officer's residence, may not exceed the greater
of $25,000 or 2.5% of the Bank's unimpaired capital and unimpaired surplus, but
in no event more than $100,000. Regulation O also requires that any proposed
loan to an insider or a related interest of that insider be approved in advance
by a majority of the board of directors of the Bank, with any interested
director not participating in the voting, if such loan, when aggregated with any
existing loans to that insider and the insider's related interests, would exceed
either $500,000 or the greater of $25,000 or 5% of the Bank's unimpaired capital
and surplus. Generally, such loans must be made on substantially the same terms
as, and follow credit underwriting procedures that are no less stringent than,
those that are prevailing at the time for comparable transactions with other
persons and must not present more than a normal risk of collectability.
An exception is made for extensions of credit made pursuant to a benefit
or compensation plan of a bank that is widely available to employees of the bank
and that does not give any preference to insiders of the bank over other
employees of the bank.
FEDERAL HOME LOAN BANK SYSTEM. The Bank is a member of the FHLB of
Chicago, which is one of 12 regional FHLBs that administer the home financing
credit function of savings associations. The FHLBs provide a central credit
facility for member savings institutions. It is funded primarily from proceeds
derived from the sale of consolidated obligations of the FHLB System. It makes
loans to members (i.e., advances) in accordance with policies and procedures
established by the board of directors of the FHLB. These policies and procedures
are subject to regulation and oversight of the Federal Housing Finance Board.
All advances from the FHLB are required to be fully secured by sufficient
collateral as determined by the FHLB. In addition, all long-term advances are
required to provide funds for residential home financing.
As a member, the Bank is required to own shares of capital stock in the
FHLB of Chicago in an amount equal to the greatest of $500, 1% of its aggregate
unpaid residential mortgage loans, home purchase contracts or similar
obligations at the beginning of each year, or 20% of its outstanding advances.
The FHLB of Chicago also imposes various limitations on advances made to member
banks, which limitations relate to the amount and type of collateral, the amount
of advances and other items. At March 31, 2004, the Bank owned $87.3 million in
FHLB stock, which is in compliance with this requirement. The Bank received
dividends on its FHLB stock for fiscal 2004 of $5.6 million as compared to $3.2
million for fiscal 2003.
The FHLBs are required to provide funds for the resolution of troubled
savings associations and to contribute to low- and moderately-priced housing
programs through direct loans or interest subsidies on advances targeted for
community investment and low- and moderate-income housing projects. These
contributions have adversely affected the level of FHLB dividends paid and could
continue to do so in the future. These contributions could also have an adverse
effect on the value of FHLB stock in the future. A reduction in value of the
Bank's FHLB stock may result in a charge to the Corporation's earnings.
ACQUISITIONS AND MERGERS. Under the federal Bank Merger Act, any merger of
the Bank - with or into another institution would require the approval of the
OTS, or the primary federal regulator of the resulting entity if it is not an
OTS-regulated institution.
PROHIBITIONS AGAINST TYING ARRANGEMENTS. Banks are subject to the
prohibitions of 12 U.S.C. Section 1972 on certain tying arrangements. A
depository institution is prohibited, subject to certain exceptions, from
extending credit to or offering any other service, or fixing or varying the
consideration for such extension of credit or service, on the condition that the
customer obtain some additional service from the institution or certain of it
affiliates or not obtain services of a competitor of the institution.
27
UNIFORM REAL ESTATE LENDING STANDARDS. Pursuant to the Federal Deposit
Insurance Corporation Improvement Act ("FDICIA"), the federal banking agencies
adopted uniform regulations prescribing standards for extensions of credit that
are secured by liens on interests in real estate or made for the purpose of
financing the construction of a building or other improvements to real estate.
Under the joint regulations adopted by the federal banking agencies, all insured
depository institutions must adopt and maintain written policies that establish
appropriate limits and standards for extensions of credit that are secured by
liens or interests in real estate or are made for the purpose of financing
permanent improvements to real estate. These policies must establish loan
portfolio diversification standards, prudent underwriting standards (including
loan-to-value limits) that are clear and measurable, loan administration
procedures, and documentation, approval and reporting requirements. The real
estate lending policies must reflect consideration of the Interagency Guidelines
for Real Estate Lending Policies that have been adopted by the federal bank
regulators.
The Interagency Guidelines, among other things, require a depository
institution to establish internal loan-to-value limits for real estate loans
that are not in excess of the following supervisory limits:
- - for loans secured by raw land, the supervisory loan-to-value limit is 65%
of the value of the collateral;
- - for land development loans (i.e., loans for the purpose of improving
property prior to erection of structures), the supervisory limit is 75%
- - for loans for the construction of commercial, multi-family or other
non-residential property, the supervisory limit is 80%;
- - for loans for the construction of on-to four-family properties, the
supervisory limit is 85%; and
- - for loans secured by other improved property (e.g., farmland, completed
commercial property and other income-producing property, including
non-owner occupied, one- to four-family property), the limit is 85%.
Although no supervisory loan-to-value limit has been established for
owner-occupied, one- to four-family and home equity loans, the Interagency
Guidelines state that for any such loan with the loan-to-value ratio that equals
or exceeds 90% at origination, an institution should require appropriate credit
enhancement in the form of either mortgage insurance or readily marketable
collateral.
COMMUNITY REINVESTMENT ACT. Under the Community Reinvestment Act, ("CRA"),
any insured depository institution, including the Bank, 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. The CRA requires the OTS, in connection
with its examination of a savings bank, to assess the depository 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, including
applications for additional branches and acquisitions.
Among other things, current CRA regulations replace the prior
process-based assessment factors with a new evaluation system that would rate an
institution based on its actual performance in meeting community needs. In
particular, the new evaluation system focuses on three tests:
- - a lending test, to evaluate the institution's record of making loan in its
service areas;
- - an investment test, to evaluate the institution's record of investing in
community development projects, affordable housing, and programs benefiting
low or moderate income individuals and businesses; and
- - a service test, to evaluate the institution's delivery of services though
its branches, ATMs and other offices.
The CRA requires the OTS, in the case of the Bank to provide a written
evaluation of a savings association's CRA performance utilizing a four-tiered
descriptive rating system and requires public disclosure of an association's CRA
rating. The Bank received at least "satisfactory" overall ratings in its most
recent CRA examination.
28
SAFETY AND SOUNDNESS STANDARDS. Pursuant to the requirements of FDICIA, as
amended by the Riegle Community Development and Regulatory Improvement Act of
1994, each federal banking agency, including the OTS, has adopted guidelines
establishing general standards relating to internal controls, information and
internal audit systems, loan documentation, credit underwriting, interest rate
exposure, asset growth, asset quality, earnings and compensation, fees and
benefits. In general, the guidelines require, among other things, appropriate
systems and practices to identify and manage the risks and exposures specified
in the guidelines. The guidelines prohibit excessive compensation as an unsafe
and unsound practice and describe compensation as excessive when amounts paid
are unreasonable or disproportionate to the services performed by an executive
officer, employee, director, or principal shareholder.
PROMPT CORRECTIVE ACTION. FDICIA also established a system of prompt
corrective action to resolve the problems of undercapitalized institutions. The
OTS, as well as other federal banking regulators, adopted the FDIC's regulations
governing the supervisory actions that may be taken against undercapitalized
institutions. The FDIC's regulations establish and define five capital
categories, in the absence of a specific capital directive, as follows:
Total Capital to Tier I Capital to Tier I Capital to
Category Risk Weighted Assets Risk Weighted Assets to Total Assets
- --------------------------------- -------------------------------- ---------------------- --------------------------
Well capitalized > or = 10% > or = 6% > or = 5%
Adequately capitalized > or = 8% > or = 4% > or = 4%*
Under capitalized < 8% < 4% < 4%*
Significantly undercapitalized < 6% < 3% < 3%
Critically undercapitalized Tangible assets to capital of 2%
*3% if the Bank receives the highest rating under the uniform system
The severity of the action authorized or required to be taken under the
prompt corrective action regulations increases as a bank's capital decreases
within the three undercapitalized categories. All banks are prohibited from
paying dividends or other capital distributions or paying management fees to any
controlling person if, following such distribution, the Bank would be
undercapitalized. The FDIC or the OTS, in the case of the Bank, is required to
monitor closely the condition of an undercapitalized bank and to restrict the
growth of its assets. An undercapitalized bank is required to file a capital
restoration plan within 45 days of the date the bank receives notice that it is
within any of the three undercapitalized categories, and the plan must be
guaranteed by any parent holding company. The aggregate liability of a parent
holding company is limited to the lesser of:
- - an amount equal to five percent of the bank's total assets at the time it
becomes "undercapitalized"; and
- - the amount that is necessary (or would have been necessary) to bring the
bank into compliance with all capital standards applicable with respect to
such bank as of the time it fails to comply with the plan.
If a bank fails to submit an acceptable plan, it is treated as if it were
"significantly undercapitalized." Banks that are significantly or critically
undercapitalized are subject to a wider range of regulatory requirements and
restrictions.
The FDIC has a broad range of grounds under which it may appoint a
receiver or conservator for an insured depository bank. If one or more grounds
exist for appointing a conservator or receiver for a bank, the FDIC may require
the bank to issue additional debt or stock, sell assets, be acquired by a
depository bank holding company or combine with another depository bank. Under
FDICIA, the FDIC is required to appoint a receiver or a conservator for a
critically undercapitalized bank within 90 days after the bank becomes
critically undercapitalized or to take such other action that would better
achieve the purposes of the prompt corrective action provisions. Such
alternative action can be renewed for successive 90-day periods. However, if the
bank continues to be critically undercapitalized on average during the quarter
that begins 270 days after it first becomes critically undercapitalized, a
receiver must be appointed, unless the FDIC makes certain findings that the bank
is viable.
29
SARBANES-OXLEY ACT OF 2002. On July 30, 2002, the Sarbanes-Oxley Act of
2002 was signed into law. It generally established a comprehensive framework to
modernize and reform the oversight of public company auditing, improve the
quality and transparency of financial reporting by those companies and
strengthen the independence of auditors. Certain of the new legislation's more
significant reforms are noted below.
- The new legislation created a public company accounting oversight
board which is empowered to set auditing, quality control and ethics
standards, to inspect registered public accounting firms, to conduct
investigations and to take disciplinary actions, subject to SEC
oversight and review. The new board will be funded by mandatory fees
paid by all public companies. The new legislation also improves the
Financial Accounting Standards Board, giving it full financial
independence from the accounting industry.
- The new legislation strengthened auditor independence from corporate
management by, among other things, limiting the scope of consulting
services that auditors can offer their public company audit clients.
- The new legislation heightened the responsibility of public company
directors and senior managers for the quality of the financial
reporting and disclosure made by their companies. Among other things,
the new legislation provides for a strong public company audit
committee that will be directly responsible for the appointment,
compensation and oversight of the work of the public company auditors.
- The new legislation contained a number of provisions to deter
wrongdoing. CEOs and CFOs will have to certify that company financial
statements fairly present the company's financial condition. If a
misleading financial statement later resulted in a restatement, the
CEO and CFO must forfeit and return to the company any bonus, stock or
stock option compensation received in the twelve months following the
misleading financial report. The new legislation also prohibits any
company officer or director from attempting to mislead or coerce an
auditor. Among other reforms, the new legislation empowers the SEC to
bar certain persons from serving as officers or directors of a public
company; prohibits insider trades during pension fund "blackout
periods;" directs the SEC to adopt rules requiring attorneys to report
securities law violations; and requires that civil penalties imposed
by the SEC go into a disgorgement fund to benefit harmed investors.
- The new legislation imposed a range of new corporate disclosure
requirements. Among other things, the new legislation requires public
companies to report all off-balance-sheet transactions and conflicts,
as well as to present any pro forma disclosures in a way that is not
misleading and in accordance with requirements to be established by
the SEC. The new legislation also accelerated the required reporting
of insider transactions, which now generally must be reported by the
end of the second business day following a covered transaction;
requires that annual reports filed with the SEC include a statement by
management asserting that it is responsible for creating and
maintaining adequate internal controls and assessing the effectiveness
of those controls; and requires companies to disclose whether or not
they have adopted an ethics code for senior financial officers, and,
if not, why not, and whether the audit committee includes at least one
"financial expert," a term which is to be defined by the SEC in
accordance with specified requirements. The new legislation also
requires the SEC, based on certain enumerated factors, to regularly
and systematically review corporate filings.
- The new legislation contained provisions which generally seek to limit
and expose to public view possible conflicts of interest affecting
securities analysts.
- Finally, the new legislation imposed a range of new criminal penalties
for fraud and other wrongful acts, as well as extends the period
during which certain types of lawsuits can be brought against a
company or its insiders
30
TAXATION
FEDERAL
The Corporation files a consolidated federal income tax return on behalf
of itself, the Bank and its subsidiaries on a fiscal tax year basis.
The Small Business Job Protection Act of 1996 (the "Job Protection Act")
repealed the "reserve method" of accounting for bad debts by most thrift
institutions effective for the taxable years beginning after 1995. Larger thrift
institutions such as the Bank are now required to use the "specific charge-off
method." The Job Protection Act also granted partial relief from reserve
recapture provisions, which are triggered by the change in method. This
legislation did not have a material impact on the Bank's financial condition or
results of operations. As of March 31, 2004, the Bank's bad debt reserves for
tax purposes totaled approximately $46.1 million. (See Note 12 to the
Consolidated Financial Statements for additional discussion).
Depending on the composition of its items of income and expense, the Bank
may be subject to alternative minimum tax ("AMT") to the extent AMT exceeds the
regular tax liability. AMT is calculated at 20% of alternative minimum taxable
income ("AMTI"). AMTI equals regular taxable income increased by certain tax
preferences, including depreciation deductions in excess of allowable AMT
amounts, certain tax-exempt interest income and 75% of the excess of adjusted
current earnings ("ACE") over AMTI. Ace equals AMTI adjusted for certain items,
primarily accelerated depreciation and tax-exempt interest. The payment of AMT
would create a tax credit, which can be carried forward indefinitely to reduce
the regular tax liability in future years.
STATE
Under current law, the state of Wisconsin imposes a corporate franchise
tax of 7.9% on the separate taxable incomes of the members of the Corporation's
consolidated income tax group except AIC and NIDI, both located in Nevada.
Presently, the income of AIC and NIDI are only subject to taxation in Nevada,
which currently does not impose a corporate income or franchise tax. See Note
14, Commitments and Contingent Liabilities for further discussion of state tax
audits and proposed tax law changes and their effect on the Corporation.
ITEM 2. PROPERTIES
At March 31, 2004, the Bank conducted its business from its headquarters
and main office at 25 West Main Street, Madison, Wisconsin and 56 other
full-service offices and two lending only offices. The Bank owns 40 of its
full-service offices, leases the land on which four such offices are located,
and leases the remaining 16 full-service offices. In addition, the Bank leases
its two loan-origination facilities. The leases expire between 2004 and 2029.
The aggregate net book value at March 31, 2004 of the properties owned or
leased, including headquarters, properties and leasehold improvements, was $23.6
million. See Note 7 to the Corporation's Consolidated Financial Statements,
included as Item 8, for information regarding the premises and equipment.
ITEM 3. LEGAL PROCEEDINGS
The Corporation is involved in routine legal proceedings occurring in the
ordinary course of business which, in the aggregate, are believed by management
of the Corporation to be immaterial to the financial condition and results of
operations of the Corporation.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
During the fourth quarter of the fiscal year ended March 31, 2004, no
matters were submitted to a vote of security holders through a solicitation of
proxies or otherwise.
31
PART II
ITEM 5. MARKET FOR REGISTRANT'S COMMON STOCK, RELATED STOCKHOLDER MATTERS AND
ISSUER PURCHASES OF EQUITY SECURITIES
COMMON STOCK
The Corporation's Common Stock is traded on the Nasdaq Stock Market,
National Market. The trading symbol is "ABCW ". As of March 31, 2004, there were
approximately 3,000 stockholders of record. That number does not include
stockholders holding their stock in street name or nominee's name.
SHAREHOLDERS' RIGHTS PLAN
On July 22, 1997, the Board of Directors of the Corporation declared a
dividend distribution of one "Right" for each outstanding share of Common Stock,
par value $0.10 per share, of the Corporation to stockholders of record at the
close of business on August 1, 1997. Subject to certain exceptions, each Right
entitles the registered holder to purchase from the Corporation one
one-hundredth of a share of Series A Preferred Stock, par value $0.10 per share,
at a price of $200.00, subject to adjustment. The Purchase Price must be paid in
cash. The description and terms of the Rights are set forth in a Rights
Agreement between the Corporation and American Stock Transfer Company, as Rights
Agent.
QUARTERLY STOCK PRICE AND DIVIDEND INFORMATION
The table below shows the reported high and low sale prices of Common
Stock and cash dividends paid per share of Common Stock during the periods
indicated in fiscal 2004 and 2003.
CASH
QUARTER ENDED HIGH LOW DIVIDEND
- ------------------ ------- ------- --------
March 31, 2004 $27.100 $24.650 $ 0.110
December 31, 2003 26.120 23.380 0.110
September 30, 2003 26.390 22.700 0.110
June 30, 2003 24.700 21.750 0.100
March 31, 2003 $22.890 $20.660 $ 0.100
December 31, 2002 21.510 19.240 0.090
September 30, 2002 23.830 16.890 0.090
June 30, 2002 23.690 19.490 0.083
For information regarding restrictions on the payments of dividends by the
Bank, see "Item 1. Business -- Regulation -- Limitations on Dividends and Other
Capital Distributions" in this report.
32
REPURCHASES OF COMMON STOCK
The following table sets forth information with respect to any purchase
made by or on behalf of the Corporation or any "affiliated purchaser," as
defined in Sections 240.10b-18(a)(3) under the Exchange Act, of shares of the
Corporation's Common Stock during the indicated periods. For the period shown,
there were no open-market purchases and the total shares purchased were all
considered affiliated purchases.
TOTAL NUMBER OF
SHARES PURCHASED AS MAXIMUM NUMBER OF
TOTAL NUMBER AVERAGE PART OF PUBLICLY SHARES THAT MAY YET BE
OF SHARES PRICE PAID ANNOUNCED PLANS OR PURCHASED UNDER THE
PERIOD PURCHASED (2) PER SHARE PROGRAMS PLANS OR PROGRAMS (1)
- --------------------- ------------- ---------- ------------------- ----------------------
January 1 - 31, 2004 5,260 $ 25.51 - 960,650
February 1 - 29, 2004 1,242 26.27 - 960,650
March 1 - 31, 2004 1,983 25.05 - 960,650
----- ---------- --- -------
8,485 $ 25.51 - 960,650
----- ---------- --- -------
(1) ON OCTOBER 28, 2003, THE CORPORATION ANNOUNCED A REPURCHASE PLAN TO
REPURCHASE UP TO 1.2 MILLION SHARES OF STOCK. THIS REPURCHASE PLAN
EXPIRES OCTOBER 28, 2004. THERE ARE NO REPURCHASE PLANS THAT HAVE
EXPIRED DURING THE PERIOD ENDED MARCH 31, 2004 AND NO PLANS THAT
HAVE BEEN TERMINATED PRIOR TO THEIR EXPIRATION FOR THE SAME PERIOD.
(2) THESE PURCHASES WERE CONSIDERED PRIVATE PURCHASES IN CONNECTION WITH
THE EXERCISE OF STOCK OPTIONS.
33
ITEM 6. SELECTED FINANCIAL DATA
FIVE-YEAR SUMMARY
AT OR FOR YEAR ENDED MARCH 31,
----------------------------------------------------------------------------------
2004 2003 2002 2001 2000
-------------- ----------- ----------- ----------- -----------
(Dollars In Thousands, Except Per Share Data)
Earnings per share:
Basic $ 2.07 $ 2.06 $ 1.59 $ 1.19 $ 0.80
Diluted 2.02 2.02 1.55 1.16 0.78
Interest income 190,262 209,605 225,701 228,647 202,594
Interest expense 79,907 92,856 128,454 148,096 119,393
Net interest income 110,355 116,749 97,247 80,551 83,201
Provision for loan losses 1,950 1,800 2,485 945 1,306
Non-interest income 82,076 32,753 21,615 13,503 14,390
Non-interest expenses 113,641 68,004 59,531 51,450 61,187
Income taxes 29,471 30,135 20,479 14,682 15,596
Net income 47,369 49,563 36,367 26,977 19,502
Total assets 3,810,386 3,538,621 3,507,076 3,127,474 2,911,152
Investment securities 29,514 100,190 73,740 56,129 86,206
Mortgage-related securities 225,221 248,749 285,586 379,159 300,519
Loans receivable held for
investment, net 3,066,812 2,770,988 2,627,248 2,414,976 2,302,721
Deposits 2,602,954 2,574,188 2,553,987 2,119,320 1,897,369
Notes payable to FHLB 755,328 554,268 569,500 669,896 649,046
Other borrowings 76,231 41,548 52,090 70,702 107,813
Stockholders' equity 301,548 293,004 277,512 219,612 217,215
Shares outstanding 22,954,535 23,942,858 24,950,258 22,814,923 24,088,147
Book value per share
at end of period $ 13.14 $ 12.24 $ 11.12 $ 9.63 $ 9.02
Dividends paid per share 0.43 0.36 0.32 0.30 0.25
Dividend payout ratio 20.77% 17.60% 20.28% 24.79% 31.25%
Yield on earning assets 5.53 6.36 7.15 7.89 7.56
Cost of funds 2.43 2.94 4.29 5.31 4.79
Interest rate spread 3.10 3.42 2.86 2.58 2.77
Net interest margin 3.21 3.54 3.08 2.78 3.10
Return on average assets 1.30 1.42 1.11 0.88 0.71
Return on average equity 15.82 17.06 14.89 12.48 8.92
Average equity to average assets 8.23 8.30 7.45 7.09 7.97
34
ITEM 7. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
This report contains certain "forward-looking statements" within the
meaning of Section 27A of the Securities Act of 1933, as amended, and Section
21E of the Securities Exchange Act of 1934, as amended. The Corporation desires
to take advantage of the "safe harbor" provisions of the Private Securities
Litigation Reform Act of 1995 and is including this statement for the expressed
purpose of availing itself of the protection of the safe harbor with respect to
all of such forward-looking statements. These forward-looking statements
describe future plans or strategies and include the Corporation's expectations
of future financial results. The Corporation's ability to predict results or the
effect of future plans or strategies is inherently uncertain and the Corporation
can give no assurance that those results or expectations will be attained.
Factors that could affect actual results include but are not limited to i)
general market rates, ii) changes in market interest rates and the shape of the
yield curve, iii) general economic conditions, iv) real estate markets, v)
legislative/regulatory changes, vi) monetary and fiscal policies of the U.S.
Treasury and the Federal Reserve, vii) changes in the quality or composition of
the Corporation's loan and investment portfolios, viii) demand for loan
products, ix) the level of loan and MBS repayments, x) deposit flows, xi)
competition, xii) demand for financial services in the Corporation's markets,
and xiii) changes in accounting principles, policies or guidelines. These
factors should be considered in evaluating the forward-looking statements, and
undue reliance should not be placed on such statements.
The Corporation does not undertake and specifically disclaims any
obligation to update any forward-looking statements to reflect occurrence of
anticipated or unanticipated events or circumstances after the date of such
statements.
SIGNIFICANT ACCOUNTING POLICIES
There are a number of accounting policies that require the use of
judgment. Some of the more significant policies are as follows:
- Establishing the amount of the allowance for loan losses requires the
use of judgment as well as other systematic objective and quantitative
methods. Assets are evaluated at least quarterly and risk components
reviewed as a part of that evaluation. See Notes to Consolidated
Financial Statements - Summary of Significant Accounting Policies
"Allowances for Loan Losses" for a discussion of risk components.
- Valuation of mortgage servicing rights requires the use of judgment.
Mortgage servicing rights are established on loans that are originated
and subsequently sold. A portion of the loan's book basis to mortgage
servicing rights is allocated when a loan is sold. The fair value of
mortgage servicing rights is the present value of estimated future net
cash flows from the servicing relationship using current market
assumptions for prepayments, servicing costs and other factors. As the
loans are repaid and net servicing revenue is earned, mortgage
servicing rights are amortized into expense. Net servicing revenues
are expected to exceed this amortization expense. However, if actual
prepayment experience exceeds what was originally anticipated, net
servicing revenues may be less than expected and mortgage servicing
rights may be impaired.
- Judgment is also used in the valuation of other intangible assets
(core deposit intangibles). Core deposit intangibles have been
recorded for core deposits (defined as checking, money market and
savings deposits) that have been acquired in acquisitions that were
accounted for as purchase business combinations. The core deposit
intangible assets have been recorded using the assumption that they
provide a more favorable source of funding than more expensive
wholesale borrowings. An intangible asset has been recorded for the
present value of the difference between the expected interest to be
incurred on these deposits and interest expense that would be expected
if these deposits were replace by wholesale borrowings, over the
expected lives of the core deposits. The current estimate of the
underlying lives of the core deposits is seven to fifteen years. If it
is determined that these deposits have a shorter life, the asset will
be adjusted to reflect an expense associated with the amount that is
impaired.
35
- Goodwill is reviewed at least annually for impairment, which requires
judgment. Goodwill has been recorded as a result of an acquisition in
which purchase price exceeded fair value of net assets acquired. The
price paid for the acquisition is analyzed and compared to a number of
current indices. If goodwill is determined to be impaired, it would be
expensed in the period in which it became impaired.
The following discussion is designed to provide a more thorough discussion
of the Corporation's financial condition and results of operations as well as to
provide additional information on the Corporation's asset/liability management
strategies, sources of liquidity and capital resources. Management's discussion
and analysis should be read in conjunction with the consolidated financial
statements and supplemental data contained elsewhere in this report.
RESULTS OF OPERATIONS
Comparison of Years Ended March 31, 2004 and 2003
GENERAL. Net income decreased $2.2 million to $47.4 million in fiscal 2004
from $49.6 million in fiscal 2003. The primary component of this decrease in
earnings for fiscal 2004, as compared to fiscal 2003, was a decrease of $6.4
million in net interest income after the provision for loan losses. In addition,
non-interest expense increased $45.6 million. Exclusive of the effects of the
implementation of FIN 46, non-interest income increased $5.5 million. These
decreases were partially offset by an increase in non-interest income of $49.3
million and a decrease in tax expense of $660,000. Exclusive of the effects of
the implementation of FIN 46, non-interest expense increased $1.8 million. The
returns on average assets and average stockholders' equity for fiscal 2004 were
1.30% and 15.82%, respectively, as compared to 1.42% and 17.06%, respectively,
for fiscal 2003.
NET INTEREST INCOME. Net interest income decreased by $6.4 million during
fiscal 2004 due to a smaller increase in the volume of interest-earning assets
compared to the increase in the volume of interest-bearing liabilities coupled
with a greater decrease in the rates of interest-earning assets as compared to
the decrease in the rates of interest-bearing liabilities. The average balances
of interest-earning assets and interest-bearing liabilities increased to $3.44
billion and $3.29 billion in fiscal 2004, respectively, from $3.29 billion and
$3.15 billion, respectively, in fiscal 2003. The ratio of average
interest-earning assets to average interest-bearing liabilities increased to
1.05% in fiscal 2004 from 1.04% in fiscal 2003. The average yield on
interest-earning assets (5.53% in fiscal 2004 versus 6.36% in fiscal 2003)
decreased, as did the average cost on interest-bearing liabilities (2.43% in
fiscal 2004 versus 2.94% in fiscal 2003). The net interest margin decreased to
3.21% in fiscal 2004 from 3.54% in fiscal 2003 and the interest rate spread
decreased to 3.10% from 3.42% in fiscal 2004 and 2003, respectively. The
decrease in the net interest margin is reflective of a decrease in the cost of
funds, offset by a larger decrease in yields on loans as interest rates continue
to decrease. These factors are reflected in the analysis of changes in net
interest income, arising from changes in the volume of interest-earning assets,
interest-bearing liabilities and the rates earned and paid on such assets and
liabilities. The analysis indicates that the decrease of $6.4 million in net
interest income stemmed from net rate/volume decreases in interest earning
assets of $19.3 million which were greater than net rate/volume decreases of
interest bearing liabilities of $12.9 million.
PROVISION FOR LOAN LOSSES. Provision for loan losses increased $150,000
from $1.8 million in fiscal 2003 to $2.0 million in fiscal 2004 based on
management's ongoing evaluation of asset quality. Although there was a decrease
in net charge-offs of $170,000 in fiscal 2004, primarily due to increased
mortgage and commercial business loan recoveries and decreased mortgage loan
charge-offs, there was an increase in non-accrual loans, particularly in
commercial real estate loans. The Corporation's allowance for loan losses
decreased $1.1 million from $29.7 million at March 31, 2003 to $28.6 million at
March 31, 2004. This amount represented .87% of total loans at March 31, 2004,
as compared to 1.00% of total loans at March 31, 2003. For further discussion of
the allowance for loan losses, see "Financial Condition--Allowance for Loan and
Foreclosure Losses."
Future provisions for loan losses will continue to be based upon
management's assessment of the overall loan portfolio and the underlying
collateral, trends in non-performing loans, current economic conditions and
other relevant factors in order to maintain the allowance for loan losses at
adequate levels to provide for probable and estimable future losses. The
establishment of the amount of the loan loss allowance inherently involves
judgments by management as to the adequacy of the allowance, which ultimately
may or may not be correct. Higher rates of
36
loan defaults than anticipated would likely result in a need to increase
provisions in future years. Also, as multi-family and commercial loan portfolios
increase, additional provisions would likely be added to the loan loss allowance
as they carry a higher risk of loss.
NON-INTEREST INCOME. Non-interest income increased $49.3 million to $82.1
million for fiscal 2004 compared to $32.8 million for fiscal 2003 primarily due
to the addition of real estate investment partnership revenue of $49.7 million
for fiscal 2004 as a result of the implementation of FIN 46 during the period.
Exclusive of the effects of FIN 46, non-interest income increased $5.5 million
primarily as a result of the increase of loan servicing income of $3.2 million
and the increase of net gain on sale of investments and mortgage related
securities of $1.5 million for fiscal 2004. The gain on sale of securities was
largely due to the sale of a group of mortgage-backed securities that were sold
to reach their maximum profit potential in relation to the changing interest
rate environment. The increase in loan servicing income was primarily due to an
increase in fee income from sales in FHLB Mortgage Partnership Finance and a
decrease in the amortization of OMSR's due to a decrease in loan sales in latter
fiscal 2004. Service charges on deposits increased $890,000 essentially due to a
growth in deposits and insurance commissions increased $500,000 due to increased
sales for fiscal 2004. Partially offsetting these increases were decreases in
other categories. Net gain on sale of loans decreased $5.4 million largely due
to the increasing interest rate environment which resulted in significantly
lower levels of refinancing activity. Loan refinance activity and the ability to
recognize gains from the sale of fixed-rate loans is significantly dependent on
decreasing interest rates and, as a result, there can be no assurance that the
level of loan refinance activity and gains from the sale of loans recorded in
prior periods can be sustained in future periods. Other non-interest income,
which includes a variety of loan fee and other miscellaneous fee income,
decreased $880,000 and other revenue (expense) from real estate operations
decreased $300,000.
NON-INTEREST EXPENSE. Non-interest expense increased $45.6 million to
$113.6 million for fiscal 2004 compared to $68.0 million for fiscal 2003
primarily due to the addition of REI partnership cost of sales of $29.9 million,
other expenses from real estate partnership operations of $9.8 million and
minority interest in income of real estate partnership operations of $4.1
million for fiscal 2004 as a result of the implementation of FIN 46 during the
period. Exclusive of the effects of FIN 46, non-interest expense increased $1.8
million primarily due to the increase in compensation expense of $1.6 million.
The increase in compensation expense was largely due to an increase in incentive
compensation resulting from increased loan production earlier in the fiscal
year. Occupancy expense increased $640,000 due to increased maintenance and
repairs, increased leasehold rental, and increased depreciation. In addition,
furniture and equipment expense increased $480,000 in fiscal 2004, primarily due
to normal replacement costs and increased depreciation expense. These increases
were partially offset by a decrease of $570,000 in data processing expense and a
decrease of $440,000 in other non-interest expense in fiscal 2004.
For more information on the effects of the implementation of FIN 46 on the
consolidated operations of the Corporation, see Item 8. Note 1, Real Estate Held
for Development and Sale and Variable Interest Entities.
INCOME TAXES. Income tax expense decreased $2.9 million for fiscal 2004 as
compared to fiscal 2003. The effective tax rate for fiscal 2004 was 38.35% as
compared to 37.81% for fiscal 2003. See Note 12 to the Consolidated Financial
Statements included in Item 8. See Note 14, Commitments and Contingent
Liabilities for further discussion of state tax audits and proposed tax law
changes and their effect on the Corporation.
Comparison of Years Ended March 31, 2003 and 2002
S GENERAL. Net income increased $13.2 million to $49.6 million in fiscal
2003 from $36.4 million in fiscal 2002. The primary component of this increase
in earnings for fiscal 2003, as compared to fiscal 2002, was an increase of
$20.2 million in net interest income after the provision for loan losses. In
addition, non-interest income increased $11.1 million. These increases were
partially offset by an increase in non-interest expense of $8.5 million and an
increase in tax expense of $9.7 million. The returns on average assets and
average stockholders' equity for fiscal 2003 were 1.42% and 17.06%,
respectively, as compared to 1.11% and 14.89%, respectively, for fiscal 2002.
NET INTEREST INCOME. Net interest income increased by $19.5 million during
fiscal 2003 due to a larger increase in the volume of interest-earning assets
compared to the volume of interest-bearing liabilities coupled with
37
a greater decrease in the rates of interest-bearing liabilities as compared to
the decrease in the rates of interest-earning assets. The average balances of
interest-earning assets and interest-bearing liabilities increased to $3.29
billion and $3.15 billion in fiscal 2003, respectively, from $3.16 billion and
$3.00 billion, respectively, in fiscal 2002. The ratio of average
interest-earning assets to average interest-bearing liabilities decreased to
1.04% in fiscal 2003 from 1.05% in fiscal 2002. The average yield on
interest-earning assets (6.36% in fiscal 2003 versus 7.15% in fiscal 2002)
decreased, as did the average cost on interest-bearing liabilities (2.94% in
fiscal 2003 versus 4.29% in fiscal 2002). The net interest margin increased to
3.54% in fiscal 2003 from 3.08% in fiscal 2002 and the interest rate spread
increased to 3.42% from 2.86% in fiscal 2003 and 2003, respectively. The
increase in the net interest margin is reflective of a decrease in the cost of
funds, offset by a smaller decrease in yields on loans as interest rates
decreased. These factors are reflected in the analysis of changes in net
interest income, arising from changes in the volume of interest-earning assets,
interest-bearing liabilities and the rates earned and paid on such assets and
liabilities. The analysis indicates that the increase of $19.5 million in net
interest income stemmed from net rate/volume decreases in interest earning
assets of $16.1 million which were less than net rate/volume decreases of
interest bearing liabilities of $35.6 million.
PROVISION FOR LOAN LOSSES. Provision for loan losses decreased $685,000
from $2.5 million in fiscal 2002 to $1.8 million in fiscal 2003 based on
management's ongoing evaluation of asset quality. There was a decrease in net
charge-offs of $750,000 in fiscal 2003, primarily due to decreased commercial
business loan charge-offs, and continued improvement in the quality of the loan
portfolio. The Corporation's allowance for loan losses decreased $1.4 million
from $31.1 million at March 31, 2002 to $29.7 million at March 31, 2003. This
amount represented 1.00% of total loans at March 31, 2003, as compared to 1.09%
of total loans at March 31, 2002. For further discussion of the allowance for
loan losses, see "Financial Condition--Allowance for Loan and Foreclosure
Losses."
Future provisions for loan losses will continue to be based upon
management's assessment of the overall loan portfolio and the underlying
collateral, trends in non-performing loans, current economic conditions and
other relevant factors in order to maintain the allowance for loan losses at
adequate levels to provide for probable and estimable future losses. The
establishment of the amount of the loan loss allowance inherently involves
judgments by management as to the adequacy of the allowance, which ultimately
may or may not be correct. Higher rates of loan defaults than anticipated would
likely result in a need to increase provisions in future years. Also, as
multi-family and commercial loan portfolios increase, additional provisions
would likely be added to the loan loss allowance as they carry a higher risk of
loss.
NON-INTEREST INCOME. Non-interest income increased $11.1 million to $32.8
million for fiscal 2003 compared to $21.6 million for fiscal 2002 primarily due
to an increase of $11.9 million in gain on sale of loans. This increase was
largely due to the lower interest rate environment which resulted in
significantly higher levels of refinancing activity. Loan refinance activity and
the ability to recognize gains from the sale of fixed-rate loans is
significantly dependent on decreasing interest rates and, as a result, there can
be no assurance that the loan refinance activity and gains from the sale of
loans recorded in prior periods will be recorded in future periods. Other
non-interest income, which includes a variety of loan fee and other
miscellaneous fee income, also increased $2.9 million for fiscal 2003. Net gain
on sale of investments and securities increased $990,000. Service charges on
deposits increased $800,000 essentially due to a growth in deposits and income
from insurance commissions increased $400,000 due to increased sales. Partially
offsetting these increases were decreases in other categories. Loan servicing
income decreased $5.4 million due to increased amortization of mortgage
servicing rights. Net income from operations of real estate investments also
decreased $400,000.
NON-INTEREST EXPENSE. Non-interest expense increased $8.5 million to $68.0
million for fiscal 2003 compared to $59.5 million for fiscal 2002 as a result of
several factors. The majority of the increase was attributed to an increase in
compensation expense of $4.9 million, largely due to an increase in incentive
compensation resulting from increased loan production. Occupancy expense
increased $1.0 million due to increased maintenance and repairs and increased
depreciation. Data processing expense increased $820,000 and other non-interest
expense increased $800,000, due to increases in postage and other expenses. In
addition, furniture and equipment expense increased $680,000 in fiscal 2003,
primarily due to normal replacement costs and increased depreciation expense,
and marketing expense increased $270,000 during this fiscal year.
38
INCOME TAXES. Income tax expense increased $9.7 million for fiscal 2003 as
compared to fiscal 2002. The effective tax rate for fiscal 2003 was 37.81% as
compared to 36.03% for fiscal 2002. See Note 12 to the Consolidated Financial
Statements included in Item 8.
NET INTEREST INCOME INFORMATION
AVERAGE INTEREST-EARNING ASSETS, AVERAGE INTEREST-BEARING LIABILITIES AND
INTEREST RATE SPREAD AND MARGIN. The following table shows the Corporation's
average balances, interest, average rates, the spread between the combined
average rates earned on interest-earning assets and average cost of
interest-bearing liabilities, the average net interest margin, computed as net
interest income as a ratio of average interest-earning assets, and the ratio of
average interest-earning assets to average interest-bearing liabilities for the
years indicated. The average balances are derived from average daily balances.
39
YEAR ENDED MARCH 31,
-----------------------------------------------------------------------------------------------------
2004 2003 2002
------------------------------------ ------------------------------- ------------------------------
AVERAGE AVERAGE AVERAGE
AVERAGE YIELD/ AVERAGE YIELD/ AVERAGE YIELD/
BALANCE INTEREST COST BALANCE INTEREST COST BALANCE INTEREST COST
----------- --------- --------- ----------- -------- ------- ----------- -------- -------
(Dollars In Thousands)
INTEREST-EARNING ASSETS
Mortgage loans (1) $ 2,301,716 $ 132,890 5.77% $ 2,127,064 $143,983 6.77% $ 2,056,080 $153,611 7.47%
Consumer loans 522,374 32,150 6.15 458,939 32,727 7.13 448,974 36,189 8.06
Commercial business loans 142,640 7,791 5.46 129,068 8,136 6.30 104,539 7,072 6.76
----------- --------- ----------- -------- ----------- --------
Total loans receivable (2) 2,966,730 172,831 5.83 2,715,071 184,848 6.81 2,609,593 196,872 7.54
Mortgage-related
securities (1) 205,253 9,260 4.51 289,854 16,768 5.78 326,803 20,428 6.25
Investment securities (1) 103,656 1,742 1.68 98,988 2,900 2.93 94,360 3,720 3.94
Interest-bearing deposits 80,544 845 1.05 129,628 1,854 1.43 82,035 2,089 2.55
Federal Home Loan Bank stock 84,544 5,584 6.60 60,202 3,235 5.37 44,483 2,593 5.83
----------- --------- ----------- -------- ----------- --------
Total interest-earning
assets 3,440,727 190,262 5.53 3,293,743 209,60 6.36 3,157,274 225,701 7.15
Non-interest-earning assets 195,414 204,828 120,370
----------- ----------- -----------
Total assets $ 3,636,141 $ 3,498,571 $ 3,277,644
=========== =========== ===========
Interest-Bearing Liabilities
Demand deposits $ 756,667 3,266 0.43 $ 758,476 6,347 0.84 $ 685,761 11,929 1.74
Regular passbook savings 214,959 913 0.42 182,062 1,558 0.86 144,008 1,724 1.20
Certificates of deposit 1,625,525 49,661 3.06 1,606,256 57,934 3.61 1,490,312 79,510 5.34
----------- --------- ----------- -------- ----------- --------
Total deposits 2,597,151 53,840 2.07 2,546,794 65,839 2.59 2,320,080 93,163 4.02
Notes payable and other
borrowings 681,744 25,903 3.80 593,657 26,655 4.49 661,513 34,796 5.26
Other 11,524 164 1.42 12,776 362 2.83 13,334 495 3.71
----------- --------- ----------- -------- ----------- --------
Total interest-bearing
liabilities 3,290,419 79,907 2.43 3,153,227 92,856 2.94 2,994,928 128,454 4.29
------ -------- ---- ----------- -------- ----
Non-interest-bearing
liabilities 46,327 54,862 38,511
----------- ------ -----------
Total liabilities 3,336,746 3,208,089 3,033,439
Stockholders' equity 299,395 290,482 244,205
----------- ----------- -----------
Total liabilities and
stockholders' equity $ 3,636,141 $ 3,498,571 $ 3,277,644
=========== =========== ===========
Net interest income/
interest rate spread $ 110,355 3.10% $116,749 3.42% $ 97,247 2.86%
========= ====== ======== ==== ======== ====
Net interest-earning assets $ 150,308 $ 140,516 $ 162,346
=========== =========== ===========
Net interest margin 3.21% 3.54% 3.08%
====== ==== ====
Ratio of average
interest-earning
assets to average interest-
bearing liabilities 1.05 1.04 1.05
=========== =========== ===========
- ------------
(1) Includes amortized cost basis of assets held and available for sale.
(2) The average balances of loans include non-performing loans, interest
of which is recognized on a cash basis.
40
]
RATE/VOLUME ANALYSIS
The most significant impact on the Corporation's net interest income
between periods is derived from the interaction of changes in the volume of and
rates earned or paid on interest-earning assets and interest-bearing
liabilities. The volume of earning dollars in loans and investments, compared to
the volume of interest-bearing liabilities represented by deposits and
borrowings, combined with the spread, produces the changes in net interest
income between periods. The following table shows the relative contribution of
the changes in average volume and average interest rates on changes in net
interest income for the periods indicated. Information is provided with respect
to (i) effects on interest income attributable to changes in rate (changes in
rate multiplied by prior volume), (ii) effects on interest income attributable
to changes in volume (changes in volume multiplied by prior rate) and (iii)
changes in rate/volume (changes in rate multiplied by changes in volume).
INCREASE (DECREASE) FOR THE YEAR ENDED MARCH 31,
-----------------------------------------------------------------------------------
2004 COMPARED TO 2003 2003 COMPARED TO 2002
-----------------------------------------------------------------------------------
RATE/ RATE/
RATE VOLUME VOLUME NET RATE VOLUME VOLUME NET
---------- -------- --------- -------- --------- -------- ------- ---------
(In Thousands)
INTEREST-EARNING ASSETS
Mortgage loans (1) $ (21,180) $ 11,823 $ (1,739) $(11,095) $ (14,430) $ 5,303 $ (498) $ (9,625)
Consumer loans (4,482) 4,524 (619) (577) (4,172) 803 (93) (3,462)
Commercial business loans (1,087) 856 (114) (345) (482) 1,659 (113) 1,064
---------- -------- --------- -------- --------- -------- ------- ---------
Total loans receivable (26,749) 17,203 (2,472) (12,017) (19,084) 7,765 (704) (12,023)
Mortgage-related securities (1) (3,691) (4,894) 1,077 (7,508) (1,521) (2,310) 172 (3,660)
Investment securities (1) (1,236) 137 (58) (1,158) (955) 182 (47) (820)
Interest-bearing deposits (494) (702) 187 (1,009) (916) 1,212 (531) (235)
Federal Home Loan Bank stock 741 1,308 300 2,349 (203) 916 (72) 642
---------- -------- --------- -------- --------- -------- ------- ---------
Total net change in income on
interest-earning assets (31,429) 13,052 (966) (19,343) (22,679) 7,765 (1,182) (16,096)
INTEREST -BEARING LIABILITIES
Demand deposits (3,073) (15) 7 (3,081) (6,191) 1,265 (656) (5,582)
Regular passbook savings (785) 282 (142) (645) (492) 456 (130) (166)
Certificates of deposit (8,862) 695 (106) (8,273) (25,759) 6,186 (2,004) (21,576)
---------- -------- --------- -------- --------- -------- ------- ---------
Total deposits (12,720) 962 (241) (11,999) (32,442) 7,907 (2,790) (27,324)
Notes payable and other borrowings (4,099) 3,955 (608) (752) (5,094) (3,569) 523 (8,141)
Other (181) (35) 18 (198) (117) (21) 5 (133)
---------- -------- --------- -------- --------- -------- ------- ---------
Total net change in expense on
interest-bearing liabilities (17,000) 4,882 (831) (12,949) (37,653) 4,317 (2,262) (35,598)
---------- -------- --------- -------- --------- -------- ------- ---------
Net change in net interest income $ (14,429) $ 8,170 $ (135) $ (6,394) $ 14,974 $ 3,448 $ 1,080 $ 19,502
========== ======== ========= ======== ========= ======== ======= =========
- --------------
(1) Includes amortized cost basis of assets held and available for sale.
41
FINANCIAL CONDITION
GENERAL. Total assets of the Corporation increased $271.8 million, or
7.68%, from $3.54 billion at March 31, 2003 to $3.81 billion at March 31, 2004.
This increase was primarily funded by net increases in Federal Home Loan Bank
and other borrowings of $235.7 million and by net increases in deposits of $28.8
million. These funds were generally invested in loans receivable which increased
by $267.3 million.
MORTGAGE-RELATED SECURITIES. Mortgage-related securities (both
available-for-sale and held-to-maturity) decreased $23.5 million as a net result
during the year of (i) purchases of $128.0 million, (ii) principal repayments
and market value adjustments of $(119.7) million and (iii) sales of $31.8
million. Mortgage-related securities consisted of $131.0 million of
mortgage-backed securities ($126.8 million were available for sale and $4.2
million were held to maturity) and $94.2 million of mortgage-derivative
securities ($94.1 million were available for sale and $68,000 were held to
maturity) at March 31, 2004. The decrease of mortgage-related securities was
largely due to the sale of a group of mortgage-backed securities that were sold
to reach their maximum profit potential in relation to the changing interest
rate environment. See Notes 1 and 4 to the Consolidated Financial Statements
included in Item 8.
Mortgage-related securities are subject to inherent risks based upon the
future performance of the underlying collateral (i.e., mortgage loans) for these
securities. Among these risks are prepayment risk and interest rate risk. Should
general interest rate levels decline, the mortgage-related securities portfolio
would be subject to (i) prepayments as borrowers typically would seek to obtain
financing at lower rates, (ii) a decline in interest income received on
adjustable-rate mortgage-related securities, and (iii) an increase in fair value
of fixed-rate mortgage-related securities. Conversely, should general interest
rate levels increase, the mortgage-related securities portfolio would be subject
to (i) a longer term to maturity as borrowers would be less likely to prepay
their loans, (ii) an increase in interest income received on adjustable-rate
mortgage-related securities, (iii) a decline in fair value of fixed-rate
mortgage-related securities, and (iv) a decline in fair value of adjustable-rate
mortgage-related securities to an extent dependent upon the level of interest
rate increases, the time period to the next interest rate repricing date for the
individual security, and the applicable periodic (annual and/or lifetime) cap
which could limit the degree to which the individual security could reprice
within a given time period.
LOANS RECEIVABLE. Total net loans (including loans held for sale)
increased $267.3 million during fiscal 2004 from $2.81 billion at March 31, 2003
to $3.08 billion at March 31, 2004. The activity included (i) originations of
$3.37 billion, (ii) sales of $1.45 billion, and (iii) principal repayments and
other reductions of $1.65 billion. See Note 5 to the Corporation's Consolidated
Financial Statements included in Item 8 for more information.
NON-PERFORMING ASSETS. Non-performing assets (consisting of non-accrual
loans, non-performing real estate held for development and sale, foreclosed
properties and repossessed assets) increased to $17.3 million or 0.46% of total
assets at March 31, 2004 from $11.7 million, or 0.33%, of total assets at March
31, 2003.
42
Non-performing assets are summarized as follows for the dates indicated:
AT MARCH 31,
2004 2003 2002 2001 2000
-------- --------- -------- -------- --------
(Dollars In Thousands)
Non-accrual loans:
Single-family residential $ 3,247 $ 4,510 $ 4,505 $ 2,572 $ 2,582
Multi-family residential - 444 187 372 3
Commercial real estate 8,764 1,776 2,212 650 126
Construction and land - - 168 257 -
Consumer 642 661 933 499 571
Commercial business 2,268 2,678 1,037 697 332
-------- --------- -------- -------- --------
Total non-accrual loans 14,921 10,069 9,042 5,047 3,614
Real estate held for development and sale - 49 74 352 1,691
Foreclosed properties and repossessed assets, net 2,422 1,535 1,475 313 272
-------- --------- -------- -------- --------
Total non-performing assets $ 17,343 $ 11,653 $ 10,591 $ 5,712 $ 5,577
======== ========= ======== ======== ========
Performing troubled debt restructurings $ 2,649 $ 2,590 $ 403 $ 300 $ 144
======== ========= ======== ======== ========
Total non-accrual loans to total loans 0.45% 0.34% 0.32% 0.20% 0.15%
Total non-performing assets to total assets 0.46 0.33 0.30 0.18 0.19
Allowance for loan losses to total loans 0.87 1.00 1.09 0.94 1.00
Allowance for loan losses to total
non-accrual loans 191.72 294.74 346.04 477.04 675.26
Allowance for loan and foreclosure losses
to total non-performing assets 165.78 257.87 300.05 422.16 439.63
Non-accrual loans increased $4.9 million in fiscal 2004 to $14.9 million
at March 31, 2004. This increase was largely attributable to a $7.0 million
increase in non-accrual commercial real estate loans and was partially offset by
decreases in non-accrual single-family, multi-family, commercial business and
consumer loans. The increase in non-accrual commercial real estate loans was
largely attributable to three loans. One was a $3.1 million loan secured by a 70
unit hotel in Kenosha, Wisconsin. The second was a $1.9 million loan secured by
retail property located in Dallas, Texas. The third was a $1.5 million loan
secured by a 66 unit student housing apartment building located in Minneapolis,
Minnesota. At March 31, 2004, there were two other non-accrual commercial loans
with carrying values greater than $1.0 million. One was a $1.6 million
commercial business loan secured by a milling machining company located in
Montello, Wisconsin which was added to non-accrual loans in the fiscal year
ended March 31, 2004. The second was a commercial real estate loan which is
secured by a 161 unit motel located in Schiller Park, Illinois, with a carrying
value of $1.5 million at March 31, 2004. Loans are placed on non-accrual status
when, in the judgment 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 status, previously accrued but unpaid interest is deducted from
interest income. As a matter of policy, the Corporation does not accrue interest
on loans past due more than 90 days.
Non-performing real estate held for development and sale decreased
slightly by $49,000 during fiscal 2004. At March 31, 2004, there were no
properties in non-performing real estate held for development and sale with a
carrying value greater than $1.0 million.
Foreclosed properties and repossessed assets increased $890,000 in fiscal
2004. This increase was not attributable to any one property.
The total of performing troubled debt restructurings at March 31, 2004
increased by $59,000 and includes one loan with a carrying value greater than
$1.0 million. The troubled debt restructuring is a commercial real estate
43
loan secured by a 182 room lodge located in Sonoma, California, with a carrying
value of $2.0 million, which was acquired in the acquisition of Ledger Capital
Corp. on November 10, 2001.
ALLOWANCES FOR LOAN AND FORECLOSURE LOSSES. The Corporation's loan
portfolio, foreclosed properties, and repossessed assets are evaluated on a
continuous basis to determine the necessity for additions to the allowances for
losses and the related balance in the allowances. These evaluations consider
several factors including, but not limited to, general economic conditions,
collateral value, loan portfolio composition, loan delinquencies, prior loss
experience, anticipated loss of interest and losses inherent in the portfolio.
The evaluation of the allowance for loan losses includes a review of known loan
problems as well as potential loan problems based upon historical trends and
ratios.
To determine the level and composition of the loan loss allowance, the
loan portfolio is broken out by categories of single-family residential,
multi-family residential, commercial real estate, construction and land,
consumer and commercial business. These categories are then further divided into
performing and substandard, which includes performing and non-performing groups
of loans. A five-year historical trend is applied to each category of performing
loans to arrive at the appropriate levels of loss reserves for those respective
categories based on the ratio of loss history to overall balance in each
respective loan category. The non-performing groups are analyzed using the
trends of the current year in which they are being evaluated. For commercial
business loans, a three-year historical trend is applied since that category has
shown significant growth both in terms of overall balance and loss history
associated with that growth. The Corporation has allocated all of its allowance
for loan losses to specific categories as a result of more precise analysis of
loan portfolio performance. Also, within specific loan categories, certain loans
may be identified for specific reserve allocations as well as the whole category
of that loan type being reviewed for a calculated general reserve based on the
foregoing analysis of trends and overall balance growth within that category.
Foreclosed properties are recorded at the lower of carrying or fair value
with charge-offs, if any, charged to the allowance for loan losses prior to
transfer to foreclosed property. The fair value is primarily based on
appraisals, discounted cash flow analysis (the majority of which are based on
current occupancy and lease rates) and pending offers. A summary of the activity
in the allowance for loan losses follows:
44
YEAR ENDED MARCH 31,
-------------------------------------------------------------
2004 2003 2002 2001 2000
-------- -------- -------- ---------- --------
(Dollars In Thousands)
Allowance at beginning of year $ 29,677 $ 31,065 $ 24,076 $ 24,404 $ 24,027
Purchase of Ledger Capital Corp. - - 8,438 - -
Charge-offs:
Mortgage (534) (981) (780) (560) (45)
Consumer (788) (696) (726) (794) (833)
Commercial business (2,314) (1,840) (2,584) (271) (378)
-------- -------- -------- ---------- --------
Total charge-offs (3,636) (3,517) (4,090) (1,625) (1,256)
-------- -------- -------- ---------- --------
Recoveries:
Mortgage 295 163 10 232 87
Consumer 68 58 51 102 203
Commercial business 253 108 95 18 37
-------- -------- -------- ---------- --------
Total recoveries 616 329 156 352 327
-------- -------- -------- ---------- --------
Net charge-offs (3,020) (3,188) (3,934) (1,273) (929)
-------- -------- -------- ---------- --------
Provision 1,950 1,800 2,485 945 1,306
-------- -------- -------- ---------- --------
Allowance at end of year $ 28,607 $ 29,677 $ 31,065 $ 24,076 $ 24,404
-------- -------- -------- ---------- --------
Net charge-offs to average loans
held for sale and for investment (0.10)% (0.12)% (0.17)% (0.05)% (0.04)%
-------- -------- -------- ---------- --------
The fiscal 2004 provision for loan losses totaled $2.0 million compared to
$1.8 million in fiscal 2003. The increase of $200,000 in the provision is based
on the Corporation's policy for loan loss reserves.
Historically, the Corporation's non-performing and classified assets have
fluctuated with economic trends, both locally and nationally. At March 31, 2004,
the Bank's present level of classified assets increased $6.0 million from the
year ended March 31, 2003. This increase is in keeping with local and national
economic conditions. Management believes that the present level of the allowance
at March 31, 2004 is prudent.
Loan charge-offs were $3.6 million and $3.5 million for the fiscal years
ending March 31, 2004 and 2003, respectively. Total charge-offs for the years
ended March 31, 2004 and 2003 increased $120,000 and decreased $570,000
respectively, from the prior fiscal years. The increase in charge-offs for
fiscal 2004 was largely due to a increase of $470,000 in commercial business
charge-offs and an increase in consumer charge-offs of $90,000 offset by a
decrease in mortgage charge-offs of $450,000. The decrease in charge-offs of
$570,000 for fiscal 2003 was largely due to a decrease of $740,000 in commercial
business loan charge-offs. Mortgage loan charge-offs increased $200,000, while
consumer loan charge-offs decreased $30,000 for the year ended March 31, 2003.
Recoveries slightly offset the charge-offs for the year ended March 31, 2004 and
such recoveries increased $290,000 from $330,000 in fiscal 2003 to $620,000 in
fiscal 2004. Recoveries increased $170,000 during the fiscal year ended March
31, 2003.
Management believes that the decreased level in net charge-offs of
$170,000 for the year ended March 31, 2004 and the decreased level in net
charge-offs of $750,000 for the year ended March 31, 2003 do not represent
changes in the quality of the loan portfolio, but instead generally reflect the
local and national trends in overall consumer debt levels and bankruptcy
filings.
45
The table below shows the Corporation's allocation of the allowance for loan
losses by loan loss reserve category at the dates indicated.
YEAR ENDED MARCH 31,
--------------------------------------------------------------------
2004 2003 2002
--------------------------------------------------------------------
% OF % OF % OF
ALLOWANCE ALLOWANCE ALLOWANCE
TO TOTAL TO TOTAL TO TOTAL
AMOUNT ALLOWANCE AMOUNT ALLOWANCE AMOUNT ALLOWANCE
--------- --------- ----------- --------- ------- ---------
(Dollars in Thousands)
Single-family residential $ 904 3.16% $ 2,101 7.08% $ 2,639 8.50%
Multi-family residential 1,139 3.98 3,807 12.83 2,515 8.10
Commercial real estate 11,969 41.84 9,230 31.10 7,797 25.10
Construction and land - - - - - -
Consumer 2,206 7.71 2,151 7.25 1,986 6.39
Commercial business 12,389 43.31 12,388 41.74 12,117 39.01
Unallocated - - - - 4,011 12.91
--------- --------- ----------- --------- ------- ---------
Total allowance for
loan losses $ 28,607 100.0% $ 29,677 100.00% $31,065 100.00%
========= ========= =========== ========= ======= =========
YEAR ENDED MARCH 31,
--------------------------------------------
2001 2000
-------------------- ---------------------
% OF % OF
ALLOWANCE ALLOWANCE
TO TOTAL TO TOTAL
AMOUNT ALLOWANCE AMOUNT ALLOWANCE
-------- --------- -------- ----------
Single-family residential $ 2,104 8.74% $ 2,109 8.64%
Multi-family residential 2,284 9.49 1,749 7.17
Commercial real estate 7,181 29.83 6,360 26.06
Construction and land - - - -
Consumer 2,120 8.81 2,088 8.56
Commercial business 3,817 15.85 2,729 11.18
Unallocated 6,570 27.29 9,369 38.39
-------- --------- -------- ----------
Total allowance for
loan losses $ 24,076 100.00% $ 24,404 100.00%
======== ========= ======== ==========
Although management believes that the March 31, 2004 allowance for loan
losses is adequate based upon the current evaluation of loan delinquencies,
non-performing assets, charge-off trends, economic conditions and other factors,
there can be no assurance that future adjustments to the allowance will not be
necessary. Management also continues to pursue all practical and legal methods
of collection, repossession and disposal, and adheres to high underwriting
standards in the origination process in order to continue to maintain strong
asset quality.
DEPOSITS. Deposits increased $28.8 million during fiscal 2004 to $2.60
billion, of which $53.4 million was due to increases in certificates of deposit
and $33.0 million was due to increases in passbook accounts. These increases
were offset by a $37.8 million decrease in money market accounts and a $18.6
million decrease in NOW accounts. The increases were due to promotions and
related growth of deposit households as interest rates begin to
46
edge upward in the latter part of fiscal 2004. The weighted average cost of
deposits decreased to 2.07% at fiscal year-end 2004 compared to 2.59% at fiscal
year-end 2003.
BORROWINGS. FHLB advances increased $201.1 million during fiscal 2004
because the low interest rate environment did not encourage as great an increase
in deposits needed to fund mortgage refinances. At March 31, 2004, advances
totaled $755.3 million with a weighted average interest rate of 3.56% compared
to advances of $554.3 million with a weighted average interest rate of 4.33% at
March 31, 2003. Other loans payable increased $34.7 million from the prior
fiscal year. Other loans payable were largely comprised of other borrowings of
the partnerships, of IDI's subsidiaries, of $23.0 million. Per FIN 46, such
borrowings are consolidated into the Corporation's consolidated financial
statements. For additional information, see Note 9 to the Consolidated Financial
Statements included in Item 8.
STOCKHOLDERS' EQUITY. Stockholders' equity at March 31, 2004 was $301.5
million, or 7.91% of total assets, compared to $293.0 million, or 8.28% of total
assets at March 31, 2003. Stockholders' equity increased during the year as a
result of (i) comprehensive income of $45.9 million, which includes net income
of $47.4 million and a decrease in net unrealized losses on available-for-sale
securities included as a part of accumulated other comprehensive income of $(1.5
million), (ii) the exercise of stock options of $2.1 million, (iii) the vesting
of recognition plan shares of $10,000, and (iv) the tax benefit from certain
stock options of $1.6 million. These increases were partially offset by (i) the
purchase of treasury stock of $27.0 million (ii) the payment of cash dividends
of $10.0 million, (iii) the common stock held in a Rabbi trust of $2.2 million,
and (iv) the purchase of stock by retirement plans of $1.8 million.
LIQUIDITY AND CAPITAL RESOURCES
During fiscal 2004, the Bank made dividend payments of $18.5 million to
the Corporation. The Bank is subject to certain regulatory limitations relative
to its ability to pay dividends to the Corporation. Management believes that the
Corporation will not be adversely affected by these dividend limitations and
that projected future dividends from the Bank will be sufficient to meet the
Corporation's liquidity needs. In addition to dividends from the Bank, the
Corporation also could sell capital stock or debt issues through the capital
markets as alternative sources of funds, as well as obtain loans from outside
banks.
The Bank's primary sources of funds are principal and interest payments on
loans receivable and mortgage-related securities, sales of mortgage loans
originated for sale, FHLB advances, deposits and other borrowings. While
maturities and scheduled amortization of loans and mortgage-related securities
are a predictable source of funds, deposit flows and mortgage prepayments are
greatly influenced by general interest rates, economic conditions and
competition.
The Bank is required by the OTS to maintain levels of liquid investments
in qualifying types of U.S. Government and agency securities and other
investments sufficient to ensure its safe and sound operation. At March 31, 2004
and 2003, the Bank's liquidity ratio was 5.60% and 8.13%, respectively. The
regulatory requirements for liquidity are discussed in Regulation in Item 1.
In fiscal 2004, operating activities resulted in a net cash inflow of
$86.3 million. Operating cash flows for fiscal 2004 included earnings of $47.4
million and $28.5 million of net proceeds from the origination and sale of
mortgage loans held for sale.
Investing activities in fiscal 2004 resulted in a net cash outflow of
$256.6 million. Primary investing activities resulting in cash outflows were
$578.9 million for the purchase of securities and $1.95 billion for the
origination of loans receivable. The most significant cash inflows from
investing activities were principal repayments on loans of $1.59 billion,
proceeds of sales and maturities of investment securities of $522.9 million, and
$162.7 million of principal repayments received on mortgage-related securities.
47
Financing activities resulted in a net cash outflow of $227.9 million
including a net increase in deposits of $28.8 million, a net increase in
borrowings of $201.1 million and a cash outflow of $27.0 million for treasury
stock purchases.
At March 31, 2004, the Corporation had outstanding commitments to
originate $190.7 million of loans; commitments to extend funds to or on behalf
of customers pursuant to lines and letters of credit of $266.8 million; and
$272,000 of loans sold with recourse to the Corporation in the event of default
by the borrower. See Note 14 to the Consolidated Financial Statements included
in Item 8. Commitments to extend funds typically have a term of less than one
year. Scheduled maturities of certificates of deposit during the twelve months
following March 31, 2004 amounted to $993.5 million, and scheduled maturities of
borrowings during the same period totaled $155.2 million. The Bank has entered
into agreements with certain brokers that will provide blocks of funds at
specified interest rates for an identified fee. Management believes adequate
capital and borrowings are available from various sources to fund all
commitments to the extent required.
The following table summarizes our contractual cash obligations and other
commitments at March 31, 2004:
PAYMENT DUE BY PERIOD
----------------------------------------------------
LESS THAN MORE THAN
CONTRACTUAL OBLIGATIONS TOTAL 1 YEAR 1-3 YEARS 4-5 YEARS 5 YEARS
- ----------------------------- ------ --------- --------- --------- ---------
(Dollars in Thousands)
Long-term debt obligations - - - - -
Capital Lease obligations - - - - -
Operating Lease Obligations 11,077 1,131 1,960 1,626 6,360
Purchase Obligations - - - - -
Other long-term liabilties - - - - -
------ --------- --------- --------- ---------
Total Contractual Obligations 11,077 1,131 1,960 1,626 6,360
------ --------- --------- --------- ---------
At March 31, 2004, the Bank's capital exceeded all capital requirements of
the OTS as mandated by federal law and regulations. See Note 10 to the
Consolidated Financial Statements included in Item 8.
ITEM 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
ASSET AND LIABILITY MANAGEMENT. The primary function of asset and
liability management is to provide liquidity and maintain an appropriate balance
between interest-earning assets and interest-bearing liabilities within
specified maturities and/or repricing dates. Interest rate risk is the imbalance
between interest-earning assets and interest-bearing liabilities at a given
maturity or repricing date, and is commonly referred to as the interest rate gap
(the "gap"). A positive gap exists when there are more assets than liabilities
maturing or repricing within the same time frame. A negative gap occurs when
there are more liabilities than assets maturing or repricing within the same
time frame.
The Corporation's strategy for asset and liability management is to
maintain an interest rate gap that minimizes the impact of interest rate
movements on the net interest margin. As part of this strategy, the Corporation
sells substantially all new originations of long-term, fixed-rate, single-family
residential mortgage loans in the secondary market, invests in adjustable-rate
or medium-term, fixed-rate, single-family residential mortgage loans, invests in
medium-term mortgage-related securities, and invests in consumer loans which
generally have shorter terms to maturity and higher and/or adjustable interest
rates. The Corporation occasionally sells adjustable-rate loans at origination
to private investors.
The Corporation also originates multi-family residential and commercial
real estate loans, which generally have adjustable or floating interest rates
and/or shorter terms to maturity than conventional single-family residential
48
loans. Long-term, fixed-rate, single-family mortgage loans originated for sale
in the secondary market are generally committed for sale at the time the
interest rate is locked with the borrower. As such, these loans involve little
interest rate risk to the Corporation.
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 changes in interest rates would
adversely affect the Corporation's operations.
The Corporation's cumulative net gap position at March 31, 2004 for one
year or less was a positive 35.18% of total assets, as compared to a positive
25.10% at March 31, 2003. The calculation of a gap position requires management
to make a number of assumptions as to when an asset or liability will reprice or
mature. Management believes that its assumptions approximate actual experience
and considers them reasonable, although the actual amortization and repayment of
assets and liabilities may vary substantially.
The Corporation utilizes certain prepayment assumptions and decay rates
from various sources such as the OTS and as determined by management. The
following tables summarize the Corporation's interest rate sensitivity gap
position as of March 31, 2004 and 2003, respectively.
49
03/31/05 03/31/06 03/31/07 03/31/08
------------ ------------ ------------ ------------
(Dollars In thousands)
Rate sensitive assets:
Mortgage loans - Fixed(1)(2) $ 662,477 $ 143,915 $ 66,447 $ 33,415
Average interest rate 5.74% 6.08% 5.99% 5.90%
Mortgage loans -Variable(1)(2) 1,089,251 220,463 86,729 36,190
Average interest rate 5.12% 5.58% 5.61% 5.64%
Consumer loans(1) 502,466 33,870 8,423 2,375
Average interest rate 5.92% 6.47% 6.43% 6.40%
Commercial business loans(1) 122,487 20,871 5,385 1,538
Average interest rate 5.03% 5.03% 5.03% 5.03%
Mortgage-related securities(3) 152,046 40,297 16,827 7,863
Average interest rate 4.50% 4.48% 4.48% 4.47%
Investment securities and other
interest-earning assets(3) 233,051 4,830 3,260 2,201
Average interest rate 3.01% 3.33% 3.33% 3.33%
Total rate sensitive assets 2,761,778 464,246 187,071 83,582
Rate sensitive liabilities:
Interest-bearing
transaction accounts(4) 272,636 148,935 96,935 61,645
Average interest rate 0.43% 0.41% 0.41% 0.39%
Time-deposits(4) 993,455 321,164 215,284 64,480
Average interest rate 2.56% 2.60% 2.80% 4.47%
Borrowings 155,200 184,740 285,699 99,420
Average interest rate 3.99% 3.30% 3.20% 3.32%
Total rate sensitive liabilities 1,421,291 654,839 597,918 225,545
Interest sensitivity gap $ 1,340,487 $ (190,593) $ (410,847) $ (141,963)
============ ============ ============ ============
Cumulative interest sensitivity gap $ 1,340,487 $ 1,149,894 $ 739,047 $ 597,084
============ ============ ============ ============
Cumulative interest sensitivity
gap as a percent of total assets 35.18% 30.18% 19.40% 15.67%
FAIR VALUE
03/31/09 THEREAFTER TOTAL 03/31/04
------------ ------------ ------------ ------------
(Dollars In thousands)
Rate sensitive assets:
Mortgage loans - Fixed(1)(2) $ 18,185 $ 28,045 $ 952,484 $ 950,276
Average interest rate 5.82% 5.76%
Mortgage loans -Variable(1)(2) 13,205 360 1,446,198 1,437,189
Average interest rate 5.66% 5.20%
Consumer loans(1) 713 317 548,164 566,949
Average interest rate 6.38% 6.36%
Commercial business loans(1) 462 211 150,954 151,160
Average interest rate 5.03% 5.03%
Mortgage-related securities(3) 3,893 4,295 225,221 226,984
Average interest rate 4.47% 4.46%
Investment securities and other
interest-earning assets(3) 1,485 2,136 246,963 247,262
Average interest rate 3.33% 3.33%
Total rate sensitive assets 37,943 35,364 3,569,984 3,579,820
Rate sensitive liabilities:
Interest-bearing
transaction accounts(4) 41,892 92,475 714,518 662,655
Average interest rate 0.39% 0.37%
Time-deposits(4) 64,480 360 1,659,223 1,648,810
Average interest rate 4.47% 3.52%
Borrowings 85,000 21,500 831,559 811,923
Average interest rate 4.50% 4.83%
Total rate sensitive liabilities 191,372 114,335 3,205,300 3,123,388
Interest sensitivity gap $ (153,429) $ (78,971) $ 364,684
============ ============ ============
Cumulative interest sensitivity gap $ 443,655 $ 364,684
============ ============
Cumulative interest sensitivity
gap as a percent of total assets 11.64% 9.57%
- -------------------
(1) Balances have been reduced for (i) undisbursed loan proceeds, which
aggregated $187.3 million, and (ii) non-accrual loans, which amounted to
$14.9 million.
(2) Includes $14.6 million of loans held for sale spread throughout the
periods.
(3) Includes $250.4 million of securities available for sale spread throughout
the periods.
(4) Does not include $197.5 million of demand accounts because they are
non-interest-bearing. Also does not include accrued interest payable,
which amounted to $6.9 million. Projected decay rates for demand deposits
and passbook savings are selected by management from various sources such
as the OTS.
50
03/31/04 03/31/05 03/31/06 03/31/07
------------ ------------ ------------ ------------
(Dollars In thousands)
Rate sensitive assets:
Mortgage loans - Fixed(1)(2) $ 590,511 $ 137,422 $ 68,428 $ 36,181
Average interest rate 6.51% 6.72% 6.60% 6.48%
Mortgage loans -Variable(1)(2) 896,005 201,398 115,696 57,094
Average interest rate 5.90% 6.39% 6.43% 6.43%
Consumer loans(1) 469,911 29,794 6,671 1,705
Average interest rate 6.85% 7.16% 7.09% 7.04%
Commercial business loans(1) 107,931 18,785 5,139 1,568
Average interest rate 5.64% 5.64% 5.64% 5.64%
Mortgage-related securities(3) 196,826 41,861 14,581 5,748
Average interest rate 5.70% 5.68% 5.66% 5.65%
Investment securities and other
interest-earning assets(3) 187,743 17,389 12,697 9,271
Average interest rate 3.03% 2.16% 2.16% 2.16%
Total rate sensitive assets 2,448,927 446,649 223,212 111,567
Rate sensitive liabilities:
Interest-bearing
transaction accounts(4) 330,002 188,407 124,642 82,676
Average interest rate 0.55% 0.51% 0.48% 0.45%
Time-deposits(4) 1,059,549 400,001 128,790 7,389
Average interest rate 3.24% 3.62% 4.70% 3.93%
Borrowings 171,048 137,900 91,850 83,368
Average interest rate 4.13% 4.34% 4.26% 4.32%
Total rate sensitive liabilities 1,560,599 726,308 345,282 173,433
Interest sensitivity gap $ 888,328 $ (279,659) $ (122,070) $ (61,866)
============ ============ ============ ============
Cumulative interest sensitivity gap $ 888,328 $ 608,669 $ 486,599 $ 424,733
============ ============ ============ ============
Cumulative interest sensitivity
gap as a percent of total assets 25.10% 17.20% 13.75% 12.00%
FAIR VALUE
03/31/08 THEREAFTER TOTAL 03/31/03
------------ ------------ ------------ ------------
(Dollars In thousands)
Rate sensitive assets:
Mortgage loans - Fixed(1)(2) $ 20,593 $ 34,729 $ 887,864 $ 887,920
Average interest rate 6.40% 6.37%
Mortgage loans -Variable(1)(2) 33,771 401 1,304,365 1,310,606
Average interest rate 6.44% 6.00%
Consumer loans(1) 466 183 508,730 526,419
Average interest rate 7.01% 6.97%
Commercial business loans(1) 505 257 134,185 132,957
Average interest rate 5.64% 5.64%
Mortgage-related securities(3) 2,420 1,969 263,405 266,499
Average interest rate 5.64% 5.62%
Investment securities and other
interest-earning assets(3) 6,770 14,187 248,057 248,027
Average interest rate 2.16% 2.87%
Total rate sensitive assets 64,525 51,726 3,346,606 3,372,428
Rate sensitive liabilities:
Interest-bearing
transaction accounts(4) 55,939 124,077 905,743 858,421
Average interest rate 0.43% 0.37%
Time-deposits(4) 7,289 660 1,603,678 1,609,133
Average interest rate 3.99% 0.00%
Borrowings 44,650 67,000 595,816 594,419
Average interest rate 3.75% 5.31%
Total rate sensitive liabilities 107,878 191,737 3,105,237 3,061,973
Interest sensitivity gap $ (43,353) $ (140,011) $ 241,369
============ ============ ============
Cumulative interest sensitivity gap $ 381,380 $ 241,369
============ ============
Cumulative interest sensitivity
gap as a percent of total assets 10.78% 6.82%
- -------------------
(1) Balances have been reduced for (i) undisbursed loan proceeds, which
aggregated $160.8 million, and (ii) non-accrual loans, which amounted to
$10.1 million.
(2) Includes $43.1 million of loans held for sale spread throughout the
periods.
(3) Includes $282.9 million of securities available for sale spread throughout
the periods.
(4) Does not include $151.0 million of demand accounts because they are
non-interest-bearing. Also does not include accrued interest payable,
which amounted to $8.1 million. Projected decay rates for demand deposits
and passbook savings are selected by management from various sources such
as the OTS.
51
ITEM 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA
INDEX TO CONSOLIDATED FINANCIAL STATEMENTS OF ANCHOR BANCORP WISCONSIN INC.
Page
----
CONSOLIDATED FINANCIAL STATEMENTS
Consolidated Balance Sheets .................................................. 54
Consolidated Statements of Income............................................. 55
Consolidated Statements of Changes in Stockholders' Equity.................... 57
Consolidated Statements of Cash Flows......................................... 59
Notes to Consolidated Financial Statements ................................... 61
Report of Independent Registered Public Accounting Firm ...................... 94
SUPPLEMENTARY DATA
Quarterly Financial Information............................................... 95
52
CONSOLIDATED BALANCE SHEETS
MARCH 31, MARCH 31,
2004 2003
---------------------------------
(In Thousands, Except Share Data)
ASSETS
Cash $ 65,938 $ 69,178
Interest-bearing deposits 133,055 72,249
-------------- --------------
Cash and cash equivalents 198,993 141,427
Investment securities available for sale 29,514 97,192
Investment securities held to maturity (fair value of $ 3,095) - 2,998
Mortgage-related securities available for sale 220,918 185,751
Mortgage-related securities held to maturity (fair value of $4,489
and $66,077, respectively) 4,303 62,998
Loans receivable, net:
Held for sale 14,578 43,054
Held for investment 3,066,812 2,770,988
Foreclosed properties and repossessed assets, net 2,422 1,535
Real estate held for development and sale 77,749 44,994
Office properties and equipment 31,233 31,905
Federal Home Loan Bank stock--at cost 87,320 81,868
Accrued interest on investments and loans and other assets 56,588 53,955
Goodwill 19,956 19,956
-------------- --------------
Total assets $ 3,810,386 $ 3,538,621
============== ==============
LIABILITIES AND STOCKHOLDERS' EQUITY
Deposits $ 2,602,954 $ 2,574,188
Federal Home Loan Bank and other borrowings 831,559 595,816
Advance payments by borrowers for taxes and insurance 6,732 6,579
Other liabilities 60,902 69,034
-------------- --------------
Total liabilities 3,502,147 3,245,617
-------------- --------------
Minority interest in real estate partnerships 6,691 -
-------------- --------------
Preferred stock, $.10 par value, 5,000,000 shares
authorized, none outstanding - -
Common stock, $.10 par value, 100,000,000 shares authorized,
25,363,339 shares issued, 22,954,535 and 23,942,858 shares outstanding,
respectively 2,536 2,536
Additional paid-in capital 67,926 64,271
Retained earnings 284,329 251,729
Accumulated other comprehensive income 2,670 4,177
Treasury stock (2,408,804 shares and 1,420,481 shares, respectively), at cost (50,324) (28,917)
Unearned deferred compensation (5,589) (792)
-------------- --------------
Total stockholders' equity 301,548 293,004
Total liabilities and stockholders' equity $ 3,810,386 $ 3,538,621
============== ==============
See accompanying Notes to Consolidated Financial Statements.
53
CONSOLIDATED STATEMENTS OF INCOME
YEAR ENDED MARCH 31,
--------------------------------------
2004 2003 2002
--------------------------------------
(In Thousands, Except Per Share Data)
INTEREST INCOME:
Loans $ 172,831 $ 184,848 $ 196,871
Mortgage-related securities 9,260 16,768 20,428
Investment securities 7,326 6,135 6,313
Interest-bearing deposits 845 1,854 2,089
---------- ---------- ----------
Total interest income 190,262 209,605 225,701
INTEREST EXPENSE:
Deposits 53,840 65,839 93,163
Notes payable and other borrowings 25,903 26,655 34,796
Other 164 362 495
---------- ---------- ----------
Total interest expense 79,907 92,856 128,454
---------- ---------- ----------
Net interest income 110,355 116,749 97,247
Provision for loan losses 1,950 1,800 2,485
---------- ---------- ----------
Net interest income after provision for loan losses 108,405 114,949 94,762
NON-INTEREST INCOME:
Real estate investment partnership revenue 49,735 - -
Loan servicing income (loss) (1,446) (4,667) 728
Service charges on deposits 8,141 7,249 6,466
Insurance commissions 2,413 1,909 1,500
Net gain on sale of loans 15,327 20,720 8,861
Net gain on sale of investments and mortgage-related securities 3,341 1,798 813
Other revenue (expense) from real estate operations (365) (63) 333
Other 4,930 5,807 2,914
---------- ---------- ----------
Total non-interest income 82,076 32,753 21,615
54
CONSOLIDATED STATEMENTS OF INCOME (CON'T.)
YEAR ENDED MARCH 31,
--------------------------------------
2004 2003 2002
--------------------------------------
NON-INTEREST EXPENSE:
Compensation 39,018 37,439 32,554
Real estate investment partnership cost of sales 29,881 - -
Occupancy 6,521 5,884 4,867
Furniture and equipment 5,708 5,232 4,549
Data processing 4,766 5,338 4,516
Marketing 2,693 2,531 2,262
Other expenses from real estate partnership operations 9,849 - -
Minority interest in income of real estate partnership operations 4,063 - -
Other 11,142 11,580 10,783
---------- ---------- ----------
Total non-interest expense 113,641 68,004 59,531
---------- ---------- ----------
Income before income taxes 76,840 79,698 56,846
Income taxes 29,471 30,135 20,479
---------- ---------- ----------
Net income $ 47,369 $ 49,563 $ 36,367
========== ========== ==========
Earnings per share:
Basic $ 2.07 $ 2.06 $ 1.59
Diluted 2.02 2.02 1.55
Dividends declared per share 0.43 0.36 0.32
See accompanying Notes to Consolidated Financial Statements.
55
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY
ACCU-
MULATED
OTHER
ADDITIONAL UNEARNED COMPRE-
COMMON PAID-IN RETAINED TREASURY DEFERRED HENSIVE
STOCK CAPITAL EARNINGS STOCK COMPENSATION INCOME TOTAL
------ ---------- -------- --------- ------------ ------- ----------
(Dollars in thousands except per share data)
Balance at April 31, 2001 $2,536 $ 56,571 $197,599 $ (38,339) $ (709) $ 1,954 $ 219,612
Comprehensive income:
Net income - - 36,367 - - - 36,367
Change in net unrealized gains (losses)
on available-for-sale securities
net of tax of $2.3 million - - - - - 519 519
----------
Comprehensive income 36,886
Purchase of treasury stock - - - (16,816) - - (16,816)
Purchase of Ledger Capital Corp. - 3,201 (3,038) 37,992 - - 38,155
Exercise of stock options - - (5,217) 8,653 - - 3,436
Issuance of management recognition plan - - (99) 2,186 - - 2,087
Cash dividend ($ 0.32 per share) - - (7,464) - - - (7,464)
Recognition plan shares vested - 1,068 - - (348) - 720
Tax benefit from stock
related compensation - 895 1 - - - 896
------ ---------- -------- --------- ------------ ------- ----------
Balance at March 31, 2002 $2,536 $ 61,735 $218,149 $ (6,324) $ (1,057) $ 2,473 $ 277,512
------ ---------- -------- --------- ------------ ------- ----------
Comprehensive income:
Net income - - 49,563 - - - 49,563
Change in net unrealized gains (losses)
on available-for-sale securities
net of tax of $1.1 million - - - - - 1,704 1,704
----------
Comprehensive income 51,267
Purchase of treasury stock - - - (33,809) - - (33,809)
Exercise of stock options - - (6,906) 9,329 - - 2,423
Issuance of management recognition plan - - (119) 1,887 - - 1,768
Cash dividend ($ 0.3625 per share) - - (8,958) - - - (8,958)
Recognition plan shares vested - 382 - - 265 - 647
Tax benefit from stock
related compensation - 2,154 - - - - 2,154
------ ---------- -------- --------- ------------ ------- ----------
Balance at March 31, 2003 $2,536 $ 64,271 $251,729 $ (28,917) $ (792) $ 4,177 $ 293,004
====== ========== ======== ========= ============ ======= ==========
56
CONSOLIDATED STATEMENTS OF CHANGES IN STOCKHOLDERS' EQUITY (CON'T )
ACCU-
MULATED
OTHER
ADDITIONAL UNEARNED COMPRE-
COMMON PAID-IN RETAINED TREASURY DEFERRED HENSIVE
STOCK CAPITAL EARNINGS STOCK COMPENSATION LOSS TOTAL
------ ---------- -------- --------- ------------ ------- ----------
(Dollars in thousands except per share data)
Balance at April 1, 2003 $2,536 $ 64,271 $251,729 $ (28,917) $ (792) $ 4,177 $ 293,004
Comprehensive income:
Net income - - 47,369 - - - 47,369
Change in net unrealized gains (losses)
on available-for-sale securities
net of tax of $(1.1) million - - - - - (1,507) (1,507)
----------
Comprehensive income 45,862
Purchase of treasury stock - - - (27,006) - - (27,006)
Exercise of stock options - - (4,647) 6,705 - - 2,058
Issuance of management and benefit plans - 1,955 (93) 1,564 (5,197) - (1,771)
Forfeiture of shares by retirement plans - - - (2,670) 2,670 - -
Cash dividend ($ 0.11 per share) - - (10,029) - - - (10,029)
Recognition plan shares vested - - - - 10 - 10
Common stock in Rabbi Trust - 100 - - (2,280) - (2,180)
Tax benefit from stock
related compensation - 1,600 - - - - 1,600
------ ---------- -------- --------- ------------ ------- ----------
Balance at March 31, 2004 $2,536 $ 67,926 $284,329 $ (50,324) $ (5,589) $ 2,670 $ 301,548
====== ========== ======== ========= ============ ======= ==========
See accompanying Notes to Consolidated Financial Statements
The following table summarizes reclassification adjustments and the related
income tax effect to the components of other comprehensive income for the years
presented.
YEAR ENDED MARCH 31,
--------------------------------------
2004 2003 2002
--------------------------------------
(Dollars in thousands)
Unrealized holding gains (losses) on available for sale securities
arising during the period:
Unrealized net gains $ 896 $ 4,538 $ 1,624
Related tax benefit (expense) (343) (1,716) (586)
Net after tax unrealized gains (losses) on available for sale
securities
---------- ---------- ----------
553 2,822 1,038
Less: Reclassification adjustment for net gains (losses)
realized during the period:
Realized net gains on sales of available for sale
securities 3,341 1,798 813
Related tax expense (1,281) (680) (294)
---------- ---------- ----------
Net after tax reclassification adjustment 2,060 1,118 519
---------- ---------- ----------
Total other comprehensive income (loss) $ (1,507) $ 1,704 $ 519
---------- ---------- ----------
57
CONSOLIDATED STATEMENTS OF CASH FLOWS
YEAR ENDED MARCH 31,
--------------------------------------------
2004 2003 2002
--------------------------------------------
(IN THOUSANDS)
OPERATING ACTIVITIES
Net income $ 47,369 $ 49,563 $ 36,367
Adjustments to reconcile net income to net
cash provided (used) by operating activities:
Provision for loan losses 1,950 1,800 2,485
Provision for depreciation and amortization 3,972 3,746 3,118
Net increase (decrease) due to origination and sale of loans held for sale 28,476 3,466 (28,898)
Net gain on sales of loans (15,327) (20,720) (8,861)
Amortization of cost of stock benefit plans 221 120 136
Deferred income taxes 2,726 2,362 290
Tax benefit from stock related compensation 1,600 2,154 896
Decrease in accrued interest receivable 1,461 2,052 944
Decrease in accrued interest payable (972) (3,116) (7,297)
Increase (decrease) in accounts payable (8,132) 22,885 7,547
Other 24,739 (7,783) (33,034)
------------ ------------ ------------
Net cash provided (used) by operating activities 88,083 56,529 (26,307)
INVESTING ACTIVITIES
Proceeds from sales of investment securities available for sale 19,842 16,468 6,131
Proceeds from maturities of investment securities 503,043 347,176 434,681
Purchase of investment securities available for sale (450,930) (391,443) (456,679)
Proceeds from sale of mortgage-related securities held to maturity 19,757 - -
Proceeds from sale of mortgage-related securities available for sale 12,009 54,005 26,426
Purchase of mortgage-related securities available for sale (127,950) (80,353) (65,858)
Principal collected on mortgage-related securities 162,673 194,602 132,065
Loans originated for investment (1,951,281) (1,549,261) (744,192)
Principal repayments on loans 1,588,739 1,279,077 539,781
Purchases of office properties and equipment (5,703) (5,083) (307)
Sales of office properties and equipment 2,559 1,581 11,447
Sales of real estate 1,566 1,907 6,491
Net cash paid to purchase Ledger Capital Corp - - (1,985)
Investment in real estate held for development and sale (32,755) (46) (4,819)
------------ ------------ ------------
Net cash used by investing activities (258,431) (131,370) (116,818)
See accompanying Notes to Consolidated Financial Statements
58
CONSOLIDATED STATEMENTS OF CASH FLOWS (CONT'D)
YEAR ENDED MARCH 31,
--------------------------------------
2004 2003 2002
--------------------------------------
(IN THOUSANDS)
FINANCING ACTIVITIES
Net increase in deposit accounts $ 28,766 $ 20,201 $ 437,604
Increase (decrease) in advance payments by borrowers
for taxes and insurance 153 (1,259) (80)
Proceeds from notes payable to Federal Home Loan Bank 796,960 294,168 623,200
Repayment of notes payable to Federal Home Loan Bank (595,900) (309,400) (723,596)
Decrease in securities sold under agreements
to repurchase - - (27,948)
Increase (decrease) in other loans payable 34,683 (10,542) 9,336
Treasury stock purchased (27,006) (33,809) (16,816)
Exercise of stock options 2,058 2,423 3,436
Issuance of management and benefit plans (1,771) 1,768 2,087
Payments of cash dividends to stockholders (10,029) (8,958) (7,464)
---------- ---------- ----------
Net cash provided (used) by financing activities 227,914 (45,408) 299,759
---------- ---------- ----------
Net increase (decrease) in cash and cash equivalents 57,566 (120,249) 156,634
Cash and cash equivalents at beginning of year 141,427 261,676 105,042
---------- ---------- ----------
Cash and cash equivalents at end of year $ 198,993 $ 141,427 $ 261,676
========== ========== ==========
SUPPLEMENTARY CASH FLOW INFORMATION:
Cash paid or credited to accounts:
Interest on deposits and borrowings $ 80,879 $ 89,740 $ 127,031
Income taxes 29,174 22,487 15,719
Non-cash transactions:
Securitization of mortgage loans held for sale to mortgage-backed
securities 40,259 124,115 -
See accompanying Notes to Consolidated Financial Statements
59
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
NOTE 1 - SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
BUSINESS. Anchor BanCorp Wisconsin Inc. (the "Corporation") is a Wisconsin
corporation incorporated in 1992 for the purpose of becoming a savings and loan
holding company for AnchorBank, fsb (the "Bank"), a wholly-owned subsidiary. The
Bank provides a full range of financial services to individual customers through
its branch locations in Wisconsin. The Bank is subject to competition from other
financial institutions and other financial service providers. The Corporation
and its subsidiary also are subject to the regulations of certain federal and
state agencies and undergo periodic examinations by those regulatory
authorities. The Corporation also has a non-banking subsidiary, Investment
Directions, Inc. ("IDI"), which invests in real estate held for development and
sale.
BASIS OF FINANCIAL STATEMENT PRESENTATION. The consolidated financial statements
have been prepared in accordance with accounting principles generally accepted
in the United States and include the accounts and operations of the Corporation
and its wholly owned subsidiaries, the Bank and IDI, and their wholly owned
subsidiaries. The Bank has the following subsidiaries: Anchor Investment
Corporation, Anchor Investment Services Inc., and ADPC Corporation. IDI's wholly
owned subsidiaries are Nevada Investment Directions, Inc. ("NIDI") and
California Investment Directions, Inc. ("CIDI"). Significant intercompany
accounts and transactions have been eliminated. Investments in joint ventures
and other 50% or less owned partnerships over which it has been determined that
the Corporation exerts significant influence are also consolidated under
Financial Accounting Standards Board Interpretation No. 46, "Consolidation of
Variable Interest Entities, an Interpretation of Accounting Research Bulletin
No. 51" ("FIN 46"). FIN 46 was adopted by the Corporation for the quarter ended
December 31, 2003. For a discussion of the effects of the adoption of FIN 46 on
the financial statements of the Corporation, see the discussion later in this
section entitled, "Variable Interest Entities".
In preparing the consolidated financial statements, management is required to
make estimates and assumptions that affect the amounts reported in the
consolidated financial statements and accompanying notes. Actual results could
differ from those estimates.
CASH AND CASH EQUIVALENTS. The Corporation considers federal funds sold and
interest-bearing deposits that have an original maturity of three months or less
to be cash equivalents.
INVESTMENT AND MORTGAGE-RELATED SECURITIES HELD-TO-MATURITY AND
AVAILABLE-FOR-SALE. Debt securities that the Corporation has the intent and
ability to hold to maturity are classified as held-to-maturity and are stated at
amortized cost. Securities not classified as held-to-maturity are classified as
available-for-sale. Available-for-sale securities are stated at fair value, with
the unrealized gains and losses, net of tax, reported as a separate component of
accumulated other comprehensive income in stockholders' equity.
Discounts and premiums on investment and mortgage-backed securities are accreted
and amortized into interest income using the effective yield method over the
estimated remaining life of the assets.
Realized gains and losses, and declines in value judged to be other than
temporary, are included in "Net gain on sale of securities" in the consolidated
statements of income as a component of other income. The cost of securities sold
is based on the specific identification method.
LOANS HELD FOR SALE. Loans held for sale generally consist of the current
origination of certain fixed-rate mortgage loans and certain adjustable-rate
mortgage loans and are carried at lower of cost or market value, determined on
an aggregate basis. Fees received from the borrower and direct costs to
originate the loan are deferred and recorded as an adjustment of the sales
price.
MORTGAGE SERVICING RIGHTS. Mortgage servicing rights are recorded as an asset
when loans are sold to third parties with servicing rights retained. The cost of
mortgage servicing rights is amortized in proportion to, and over the period of,
estimated net servicing revenues. Impairment of mortgage servicing rights is
assessed based on the fair values of those rights. The fair value of the
servicing rights is determined by estimating the present value of future
60
net cash flows, taking into consideration market loan prepayment speeds,
discount rates, servicing costs and other economic factors. For purposes of
measuring impairment, the rights are stratified based on predominant risk
characteristics of the underlying loans which include product type (i.e., fixed
or adjustable) and interest rate bands. The amount of impairment recognized is
the amount by which the capitalized mortgage servicing rights for a stratum
exceed their fair value.
INTEREST ON LOANS. Interest on loans is accrued on the unpaid principal balances
as earned. Loans are placed on non-accrual status when, in the judgment of
management, the probability of collection of principal and interest is deemed to
be insufficient to warrant further accrual. When a loan is placed on non-accrual
status, previously accrued but unpaid interest is deducted from interest income.
Payments received on non-accrual loans are applied to interest on a cash basis.
Loans are restored to accrual status when the obligation is brought current, has
performed in accordance with the contractual terms for a reasonable period of
time, and the ultimate collectibility of the total contractual principal and
interest is no longer in doubt.
LOAN FEES AND DISCOUNTS. Loan origination and commitment fees and certain direct
loan origination costs are deferred and amortized as an adjustment to the
related loan's yield. The Corporation is amortizing these amounts, as well as
discounts on purchased loans, using the level yield method, adjusted for
prepayments, over the life of the related loans.
FORECLOSED PROPERTIES AND REPOSSESSED ASSETS. Real estate acquired by
foreclosure or by deed in lieu of foreclosure and other repossessed assets is
carried at the lower of cost or fair value, less estimated selling expenses.
Costs relating to the development and improvement of the property are
capitalized; holding period costs are charged to expense.
ALLOWANCE FOR LOAN LOSSES. The allowance for loan losses is maintained at a
level believed adequate by management to absorb probable and estimable losses
inherent in the loan portfolio and is based on the size and current risk
characteristics of the loan portfolio; an assessment of individual problem
loans; actual and anticipated loss experience; and current economic events in
specific industries and geographical areas. These economic events include
unemployment levels, regulatory guidance, and general economic conditions.
Determination of the reserve is inherently subjective as it requires significant
estimates, including the amounts and timing of expected future cash flows on
impaired loans, estimated losses on pools of homogeneous loans based on
historical loss experience, and consideration of current economic trends, all of
which may be susceptible to significant change. Loan losses are charged off
against the allowance, while recoveries of amounts previously charged off are
credited to the allowance. A provision for loan losses is charged to operating
expense based on management's periodic evaluation of the factors previously
mentioned as well as other pertinent factors.
Specific reserves are established for expected losses resulting from analysis
developed through specific credit allocations on individual loans and are based
on a regular analysis of impaired loans where the internal credit rating is at
or below a predetermined classification. A loan is considered impaired when it
is probable that the Corporation will be unable to collect all contractual
principal and interest due according to the terms of the loan agreement. Loans
subject to impairment are defined as non-accrual and restructured loans
exclusive of smaller homogeneous loans such as home equity, installment, and 1-4
family residential loans. The fair value of the loans is determined based on the
present value of expected future cash flows discounted at the loan's effective
interest rate, the market price of the loan, or the fair value of the underlying
collateral less costs to sell, if the loan is collateral dependent.
REAL ESTATE HELD FOR DEVELOPMENT AND SALE. Real estate held for development and
sale includes investments in land and partnerships that purchased land or other
property. These investments are carried at the lower of cost plus capitalized
development costs and interest, less accumulated depreciation, or estimated fair
value. Income on the sale of land and lots between the entities is deferred
until development and construction are complete and a third party purchases a
completed home. Deferred income is then recognized as a component of
non-interest income under net income (loss) from operations of real estate
investments.
61
The Corporation's investment in real estate held for investment and sale
includes 50% owned real estate partnerships which are considered variable
interest entities and therefore subject to the requirements of FIN 46. See
Variable Interest Entities ("VIE's"), in this section for further discussion of
real estate held for development and sale and the effect of FIN 46 on the
consolidated balance sheet and statement of operations.
Real estate held for development and sale of $77.7 million consists of assets of
the subsidiaries which invest in VIE's of $38.0 million (which includes
construction in progress, land and improvements) as well as assets of wholly
owned subsidiaries of $39.7 million. Cash and other assets of the variable
interest entities of $1.1 million and $1.3 million, respectively, are reported
in the respective areas of cash and accrued interest on investments and loans
and other assets on the consolidated balance sheet. Liabilities total $28.2
million consisting of borrowings of the VIE's of $25.6 million, reported in
Federal Home Loan Bank and other borrowings, other liabilities of the same
entities of $2.6 million, reported in other liabilities and minority interest of
$6.7 million, which represents the ownership interests of the other partners.
The assets and liabilities in real estate held for development and sale is
summarized in the following table:
MARCH 31,
------------------------
2004 2003
------------------------
(In thousands)
Assets of wholly owned real estate investment subsidiaries $39,731 $36,493
Assets of real estate held for
development and sale of subsidiaries investing in VIE's 38,018 8,452
------- -------
Real estate held for development and sale 77,749 44,945
Cash and other assets of real estate investment subsidiaries 2,387 49
------- -------
Total assets of real estate held for development and sale 80,136 44,994
Borrowings of subsidiaries investing in VIE's 25,640 -
Other liabilities of subsidiaries investing in VIE's 2,580 -
------- -------
Total liabilities of real estate held for development and sale 28,220 -
Minority interest in real estate partnerships 6,691 -
------- -------
Net assets of real estate held for development and sale $45,225 $44,994
======= =======
Real estate investment partnership revenue is presented in non-interest income
and represents revenue recognized upon the closing of sales of developed lots
and homes to independent third parties. Real estate investment partnership cost
of sales is included in non-interest expense and represents the costs of such
closed sales. Other revenue and other expenses from real estate operations are
also included in non-interest income and non-interest expense, respectively.
Minority interest in real estate partnerships represents the equity interests of
development partners in the real estate investment partnerships. The development
partners' share of income is reflected as minority interest in income of real
estate partnership operations in non-interest expense.
62
The results of operations of the real estate investment segment are summarized
in the following table (in thousands):
YEAR ENDED MARCH 31,
-----------------------------------------------
2004 2003 2002
-----------------------------------------------
(In thousands)
Real estate investment partnership revenue $ 49,735 $ - $ -
Real estate investment partnership cost of sales (29,881) - -
Other expenses from real estate partnership operations (9,849) - -
Minority interest in income of real estate partnership operations (4,063) - -
Net income of real estate investment subsidiaries investing
-------- -------- --------
in variable interest entities, before tax 5,942 - -
-------- -------- --------
Other revenue (expense) from real estate operations
(365) (63) 333
-------- -------- --------
Income (loss) of real estate partnership investment subsidiaries, before tax $ 5,577 $ (63) $ 333
======== ======== ========
OFFICE PROPERTIES AND EQUIPMENT. Office properties and equipment are recorded at
cost and include expenditures for new facilities and items that substantially
increase the useful lives of existing buildings and equipment. Expenditures for
normal repairs and maintenance are charged to operations as incurred. 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.
ADVERTISING COSTS. All advertising costs incurred by the Corporation are
expensed in the period in which they are incurred.
DEPRECIATION AND AMORTIZATION. The cost of office properties and equipment is
being depreciated principally by the straight-line method over the estimated
useful lives of the assets. The cost of capitalized leasehold improvements is
amortized on the straight-line method over the lesser of the term of the
respective lease or estimated economic life.
INCOME TAXES. The Corporation's deferred income tax assets and liabilities are
computed annually for differences between the financial statement and tax basis
of assets and liabilities that will result in taxable or deductible amounts in
the future based on enacted tax laws and rates applicable to periods in which
the differences are expected to affect taxable income. Valuation allowances are
established, when necessary, to reduce deferred tax assets to the amount
expected to be realized. Income tax expense is the tax payable or refundable for
the period adjusted for the change during the period in deferred tax assets and
liabilities. The Corporation and its subsidiaries file a consolidated federal
income tax return and separate state income tax returns. The intercompany
settlement of taxes paid is based on tax sharing agreements which generally
allocate taxes to each entity on a separate return basis.
EARNINGS PER SHARE. Basic earnings per share ("EPS") is computed by dividing net
income by the weighted average number of common shares outstanding for the
period. The basic EPS computation excludes the dilutive effect of all common
stock equivalents. Diluted EPS is computed by dividing net income by the
weighted average number of common shares outstanding plus all potential common
shares which could be issued if securities or other contracts to issue common
stock were exercised or converted into common stock or resulted in the issuance
of common stock. Diluted EPS reflects the potential dilution that could occur if
securities or other contracts to issue common stock were exercised or converted
into common stock. The Corporation's potential common shares represent shares
issuable under its long-term incentive compensation plans. Such common stock
equivalents are computed based on the treasury stock method using the average
market price for the period.
COMPREHENSIVE INCOME. Comprehensive income is the total of reported net income
and all other revenues, expenses, gains and losses that under generally accepted
accounting principles bypass reported net income. The Corporation includes
unrealized gains or losses, net of tax, on securities available for sale in
other comprehensive income.
63
RECENT ACCOUNTING CHANGES.
VARIABLE INTEREST ENTITIES. In January 2003, the Financial Accounting Standards
Board issued FIN 46. FIN 46 requires the consolidation of entities in which an
enterprise absorbs a majority of the entity's expected losses, receives a
majority of the entity's expected residual returns, or both, as a result of
ownership, contractual or other financial interests in the entity. The
provisions of this statement are effective immediately for variable interests in
variable interest entities ("VIE's") created after January 31, 2003. The
Corporation adopted FIN 46 for the quarter ended December 31, 2003.
Largely as a result of the consolidation of the IDI partnerships into the
Corporation's financial statements as required by FIN 46, real estate investment
assets increased by $32.8 million (mainly due to the consolidation of
construction in progress of $35.1 million, improvements of $8.7 million, and
vacant land of $7.0 million. Other assets of the partnerships of $1.3 million
were added to other assets and partnership cash of $1.1 million was added to
cash.. Additionally, other borrowings of the partnerships of $25.6 million and
other partnership liabilities of $2.6 million were added, respectively, to other
borrowings and other liabilities. The increases in assets and liabilities were
accompanied by minority interest (the other partners' ownership interests) of
$6.7 million on the statement of financial condition as a mezzanine item, after
liabilities and before stockholders' equity.
The income statement treatment for those real estate investment subsidiaries
that are subject to the application of FIN 46, is merely a reclassification of
revenues and expenses into other income and expense accounts rather than in a
single net income figure as previously reported. As such, there was no income
effect from the application of FIN 46 on the results of operations for the
Corporation. The effects of the consolidation on the Corporation's consolidated
statement of income for the year ended March 31, 2004 are the addition of real
estate investment partnership revenue of $49.7 million, real estate investment
partnership cost of sales of $29.9 million, other expenses from real estate
partnership operations of $9.8 million, and minority interest in income of
partnerships of $4.1 million. The net income from operations of wholly owned
real estate investment subsidiaries are reported in other revenue (expense) from
real estate operations. That amount was $(365,000) for the year ended March 31,
2004.
See Item 7. Management Discussion and Analysis of Financial Condition and
Results of Operations for a full discussion of real estate held for development
and sale operations as well as Item 1. Subsidiaries.
STOCK OPTIONS. On December 31, 2002, FASB issued SFAS No. 148, "Accounting for
Stock-Based Compensation - Transition and Disclosure." SFAS No. 148 amends SFAS
No. 123, "Accounting for Stock-Based Compensation" to provide alternative
methods of transition to the fair value method of accounting for stock-based
employee compensation. In addition, SFAS No. 148 amends the disclosure
provisions of SFAS No. 123 to require disclosure in the summary of significant
accounting policies of the effect of the Company's accounting policy with
respect to stock-based employee compensation on reported net income and earnings
per share in annual and interim financial statements. SFAS No. 148's amendment
of the transition and annual disclosure provisions of SFAS No. 123 are effective
for fiscal years ending after December 15, 2002. The Corporation will continue
to account for stock-based compensation in accordance with APB Opinion 25 as
allowed under FASB No. 123.
The Corporation has stock option plans under which shares of common stock are
reserved for the grant of both incentive and non-incentive stock options to
directors, officers and employees. The date the options are first exercisable is
determined by a committee of the Board of Directors of the Corporation. The
options expire no later than ten years from the grant date.
64
A summary of stock options activity for all periods follows:
YEAR ENDED MARCH 31,
-------------------------------------------------------------------------------
2004 2003 2002
----------------------- ----------------------- -------------------------
WEIGHTED WEIGHTED WEIGHTED
AVERAGE AVERAGE AVERAGE
OPTIONS PRICE OPTIONS PRICE OPTIONS PRICE
----------- --------- ---------- ---------- ----------- ----------
Outstanding at beginning of year 1,679,856 $ 12.65 1,956,009 $ 10.39 1,937,143 $ 9.64
Granted 189,200 23.77 179,500 22.07 544,670 9.74
Exercised (276,044) 7.61 (454,191) 6.62 (512,200) 6.71
Forfeited (500) 23.77 (1,462) 17.75 (13,604) 16.26
---------- --------- ---------
Outstanding at end of year 1,592,512 14.84 1,679,856 12.65 1,956,009 10.39
========== ========= =========
Options exercisable at year-end 1,297,564 1,451,360 1,774,265
========== ========= =========
At March 31, 2004, 366,490 shares were available for future grants.
The following table represents outstanding stock options and exercisable stock
options at their respective ranges of exercise prices at March 31, 2004:
Options Outstanding Exercisable Options
---------------------------------------- ----------------------------
Weighted-
Average Weighted- Weighted-
Remaining Average Average
Contractual Exercise Exercise
Range of Execrise Prices Shares Life (Years) Price Shares Price
- ------------------------ --------- ------------- ---------- ----------- --------
$5.40 - $6.53 286,180 1.09 $ 6.35 286,180 $ 6.35
$8.50 - $12.99 402,984 2.91 10.69 402,984 10.69
$15.06 - $23.77 903,348 6.95 19.38 608,400 17.87
--------- ---------
1,592,512 4.87 14.84 1,297,564 13.10
========= =========
The Corporation applies APB Opinion No. 25 and related interpretations in
accounting for stock options. Accordingly, no compensation cost has been
recognized for its stock option plans. Had compensation cost for the
Corporation's stock option plans been determined based on the fair value at the
date of grant for awards under the stock option plans consistent with the method
of SFAS No. 123, the Corporation's net income and earnings per share would have
been reduced to the pro forma amounts indicated (in thousands, except per share
amounts):
65
YEAR ENDED MARCH 31,
--------------------------------------------
2004 2003 2002
---------- --------- ----------
Net Income
As reported $ 47,369 $ 49,563 $ 36,367
Pro forma 46,891 49,200 36,200
Earnings per share-Basic
As reported $ 2.07 $ 2.06 $ 1.59
Pro forma 2.05 2.04 1.58
Earnings per share-Diluted
As reported $ 2.02 $ 2.02 $ 1.55
Pro forma 2.00 2.01 1.54
The pro forma amounts indicated above may not be representative of the effects
on reported net income for future years. The fair values of stock options
granted in fiscal years ended March 31, 2004, 2003, and 2002 were estimated on
the date of grant using the Black-Scholes option-pricing model.
The weighted average fair values for options granted as of March 31, 2004, 2003,
and 2002 and related assumptions are as follows:
YEAR ENDED MARCH 31,
--------------------------------------------
2004 2003 2002
---------- --------- ----------
Weighted average fair value $ 6.37 $ 5.91 $ 3.87
Expected volatility 31.20% 45.56% 31.15%
Risk free interest rate 3.00% 3.00% 3.00%
Expected lives 5 years 5 years 5 years
Dividend yield 1.81% 1.81% 2.24%
66
RECLASSIFICATIONS. Certain 2003 and 2002 accounts have been reclassified to
conform to the 2004 presentations.
NOTE 2 - BUSINESS COMBINATION
On November 10, 2001, Ledger Capital Corp. ("Ledger") was acquired by the
Corporation following the receipt of all required regulatory and stockholder
approvals. The Corporation acquired 100 percent of the outstanding common shares
of Ledger and the results of Ledger's operations have been included in the
consolidated financial statements since that date. The transaction resulted in
goodwill of approximately $20.0 million, a core deposit intangible of $3.1
million and added 4 full service offices in the Milwaukee metropolitan area.
The $20.0 million of goodwill was assigned to the community banking segment. The
total goodwill amount is not deductible for tax purposes. The core deposit
intangible is subject to amortization over an estimated useful life of four
years. The estimated amortization expense for 2005 is $850,000 and $330,000 for
the final year.
67
NOTE 3 - INVESTMENT SECURITIES
The amortized cost and fair values of investment securities are as follows (in
thousands):
GROSS GROSS
AMORTIZED UNREALIZED UNREALIZED
COST GAINS LOSSES FAIR VALUE
------------ --------------- --------------- ------------
AT MARCH 31, 2004:
Available for Sale:
U.S. Government and federal agency
obligations $ 16,586 $ 18 $ (18) $ 16,586
Mutual funds 2,503 - (13) 2,490
Corporate stock and other 9,583 877 (22) 10,438
-------- -------- -------- --------
$ 28,672 $ 895 $ (53) $ 29,514
======== ======== ======== ========
Held to Maturity:
U.S. Government and federal agency
obligations $ - $ - $ - $ -
======== ======== ======== ========
AT MARCH 31, 2003:
Available for Sale:
U.S. Government and federal agency
obligations $ 75,675 $ 154 $ (6) $ 75,823
Mutual funds 9,815 2 (5) 9,812
Corporate stock and other 10,151 1,706 (300) 11,557
-------- -------- -------- --------
$ 95,641 $ 1,862 $ (311) $ 97,192
======== ======== ======== ========
Held to Maturity:
U.S. Government and federal agency
obligations $ 2,998 $ 97 $ - $ 3,095
======== ======== ======== ========
Proceeds from sales of investment securities available for sale during the years
ended March 31, 2004, 2003, and 2002 were $19,842,000, $16,468,000, and
$6,131,000, respectively. There were no gains realized on the sale of investment
securities for 2003. Gross gains of $2,141,000 and $376,000 were realized on
sales in 2004 and 2002, respectively. Gross losses of $68,000, $275,000, and
$28,000 were realized on sales of investment securities for the years ended
March 31, 2004, 2003 and 2002, respectively.
At March 31, 2004, there were no investment securities pledged as collateral for
deposits greater than $100,000 or pledged as collateral for FHLB borrowings.
68
The amortized cost and fair value of investment securities by contractual
maturity at March 31, 2004 are shown below (in thousands). Actual maturities may
differ from contractual maturities because issuers have the right to call or
prepay obligations with or without call or prepayment penalties. There were no
callable securities at March 31, 2004.
AVAILABLE FOR SALE
----------------------------
AMORTIZED FAIR
COST VALUE
----------------------------
(In Thousands)
Due in one year or less $19,987 $19,991
Due after one year through five years 3,234 3,239
Due after five years 3,752 4,034
Corporate stock 1,699 2,250
------- -------
$28,672 $29,514
======= =======
The table below shows the Corporation's gross unrealized losses and fair value
of investments, aggregated by investment category and length of time that
individual investments have been in a continuous unrealized loss position at
March 31, 2004.
AT MARCH 31, 2004
---------------------------------------------------------------------------------
LESS THAN 12 12 MONTHS OR TOTAL
MONTHS MORE
----------------------- -------------------------- -------------------------
UNREALIZED UNREALIZED UNREALIZED
DESCRIPTION OF SECURITIES FAIR VALUE LOSS FAIR VALUE LOSS FAIR VALUE LOSS
- ------------------------------------- ----------- ----------- ---------- -------------- ---------- -----------
(In Thousands)
US Treasury obligations and direct
obligations of US government
agencies $ 2,112 $ (18) $ - $ - $ 2,112 $ (18)
Mutual funds 1,972 (13) - - 1,972 (13)
Corporate stock and other 371 (19) 264 (3) 635 (22)
------- ------- ------- ------- ------- -------
Total temporarily impaired securities $ 4,455 $ (50) $ 264 $ (3) $ 4,719 $ (53)
------- ------- ------- ------- ------- -------
The foregoing represent four investment securities that, due to the current
interest rate environment, have declined in value but do not presently represent
realized losses. The Corporation anticipates that the above investments, which
have been in a continuous loss position but are not other-than-temporarily
impaired, will be kept in its portfolio. If held, it is anticipated that the
investments will regain their value. If the Corporation determines that any of
the above investments are impaired, they will be deemed permanently impaired and
the realized loss will be recorded.
69
NOTE 4 - MORTGAGE-RELATED SECURITIES
Mortgage-backed securities are backed by government sponsored agencies,
including the Federal Home Loan Mortgage Corporation, the Federal National
Mortgage Association and the Government National Mortgage Association. CMOs and
REMICs are trusts which own securities backed by the government sponsored
agencies noted above. Mortgage-backed securities, CMOs and REMICs have estimated
average lives of five years or less.
The amortized cost and fair values of mortgage-related securities are as follows
(in thousands):
GROSS GROSS
AMORTIZED UNREALIZED UNREALIZED
COST GAINS LOSSES FAIR VALUE
--------- ---------- ---------- -----------
AT MARCH 31, 2004:
Available for Sale:
CMO's and REMICS $ 92,890 $ 1,404 $ (147) $ 94,147
Mortgage-backed securities 124,945 1,884 (58) 126,771
--------- --------- --------- ---------
$ 217,835 $ 3,288 $ (205) $ 220,918
========= ========= ========= =========
Held to Maturity:
CMO's and REMICS $ 68 $ 4 $ - $ 72
Mortgage-backed securities 4,235 182 - 4,417
--------- --------- --------- ---------
$ 4,303 $ 186 $ - $ 4,489
========= ========= ========= =========
AT MARCH 31, 2003:
Available for Sale:
CMO's and REMICS $ 53,737 $ 538 $ (121) $ 54,154
Mortgage-backed securities 127,116 4,481 - 131,597
--------- --------- --------- ---------
$ 180,853 $ 5,019 $ (121) $ 185,751
========= ========= ========= =========
Held to Maturity:
CMO's and REMICS $ 2,600 $ 61 $ - $ 2,661
Mortgage-backed securities 60,398 3,018 - 63,416
--------- --------- --------- ---------
$ 62,998 $ 3,079 $ - $ 66,077
========= ========= ========= =========
Proceeds from sales of mortgage-related securities available for sale during the
years ended March 31, 2004, 2003 and 2002 were $12,009,000, $54,005,000, and
$26,426,000, respectively. There were also proceeds from the sale of
mortgage-related securities held-to maturity of $19,842,000 for the year ended
March 31, 2004. These held-to-maturity securities were sold under safe harbor
provisions in that they had reached pay down levels of 85% or less and were thus
deemed eligible for sale. Gross gains of $327,000, $2,089,000, and $486,000 were
realized on sales in 2004, 2003 and 2002, respectively. Gross gains of $959,000
were realized on sales of mortgage-related securities held-to-maturity for the
year ended March 31, 2004. Gross losses of $4,000, $16,000 and $21,000 were
realized on sales in 2004, 2003, and 2002, respectively. Gross losses of $14,000
were realized on sales of mortgage-related securities held-to-maturity for the
year ended March 31, 2004.
At March 31, 2004, $138.3 million of the Corporation's mortgage-related
securities available for sale and $4.4 million mortgage-related securities held
to maturity were pledged as collateral to secure various obligations of the
Corporation. See Note 8. There were mortgage-related securities available for
sale of $1.2 million pledged as collateral for deposits greater than $100,000 at
March 31, 2004.
70
The table below shows the Corporation's mortgage-related securities' gross
unrealized losses and fair value, aggregated by category and length of time that
individual securities have been in a continuous unrealized loss position at
March 31, 2004.
AT MARCH 31, 2004
---------------------------------------------------------------------------------------
LESS THAN 12 MONTHS 12 MONTHS OR MORE TOTAL
------------------------- --------------------------- --------------------------
UNREALIZED UNREALIZED UNREALIZED
DESCRIPTION OF SECURITIES FAIR VALUE LOSS FAIR VALUE LOSS FAIR VALUE LOSS
- ------------------------------ ---------- ------------ ---------- --------- ----------- -----------
(In Thousands)
CMO's and REMICS $ 18,928 $ (133) $ 1,280 $ (14) $ 20,208 $ (147)
Mortgage-backed securities 9,076 (58) - - 9,076 (58)
-------- -------- -------- -------- -------- --------
$ 28,004 $ (191) $ 1,280 $ (14) $ 29,284 $ (205)
======== ======== ======== ======== ======== ========
The foregoing represent thirteen securities that, due to the current interest
rate environment, have declined in value but do not presently represent realized
losses. The Corporation anticipates that the above securities, which have been
in a continuous loss position but are not other-than-temporarily impaired, will
be kept in its portfolio. If held, it is anticipated that these securities will
continue to receive principal pay downs and ultimately regain value. If the
Corporation determines that any of the above securities are impaired, they will
be deemed permanently impaired and the realized loss will be recorded.
71
NOTE 5 - LOANS RECEIVABLE
Loans receivable held for investment consist of the following (in thousands):
MARCH 31,
---------------------------
2004 2003
----------- -----------
First mortgage loans:
Single-family residential $ 748,216 $ 724,900
Multi-family residential 521,646 474,678
Commercial real estate 801,841 747,682
Construction 392,713 331,338
Land 123,823 47,951
---------- ----------
2,588,239 2,326,549
Second mortgage loans 290,139 269,990
Education loans 191,472 166,507
Commercial business loans and leases 156,636 137,360
Credit card and other consumer loans 62,353 66,150
---------- ----------
3,288,839 2,966,556
Less:
Undisbursed loan proceeds 187,364 160,724
Allowance for loan losses 28,607 29,677
Unearned loan fees 5,946 4,946
Discount on purchased loans 103 147
Unearned interest 7 74
---------- ----------
222,027 195,568
---------- ----------
$3,066,812 $2,770,988
========== ==========
A summary of the activity in the allowance for loan losses follows:
YEAR ENDED MARCH 31,
-----------------------------------------
2004 2003 2002
-------- ----------- --------
(Dollars In Thousands)
Allowance at beginning of year $ 29,677 $ 31,065 $ 24,076
Provision 1,950 1,800 2,485
Charge-offs (3,636) (3,517) (4,090)
Recoveries 616 329 156
Purchase of Ledger Capital Corp. - - 8,438
-------- -------- --------
Allowance at end of year $ 28,607 $ 29,677 $ 31,065
======== ======== ========
At March 31, 2004, the Corporation has identified assets of $11.7 million of
loans as impaired, net of reserves. Impaired loans increased $6.9 million at
March 31, 2004 from $4.8 million at March 31, 2003. A loan is identified as
impaired when, according to FAS 114, based on current information and events, it
is probable that a creditor will be unable to collect all amounts due according
to the contractual terms of the loan agreement. Such loans are not, nor have
been, on a past due and non-accrual status. The increase in impaired loans is
largely due to the addition of four commercial real estate loans and one
commercial business loan which all have a carrying value greater than
72
$1.0 million. These additions were partially offset by the removal of a
commercial business loan with a carrying value greater than $1.0 million. A
summary of the details regarding impaired loans follows:
AT MARCH 31,
------------------------------------
2004 2003 2002
------- ------- ------
(In Thousands)
Impaired loans with valuation
reserve required $17,126 $ 8,483 $11,467
Less:
Specific valuation allowance 5,382 3,717 4,240
------- ------- -------
Total impaired loans $11,744 $ 4,766 $ 7,227
======= ======= =======
Average impaired loans $ 6,389 $ 6,288 $ 6,216
Interest income recognized
on impaired loans $ 710 $ 613 $ 740
Interest income recognized on a cash basis
on impaired loans $ 710 $ 613 $ 740
Certain mortgage loans are pledged as collateral for FHLB borrowings. See Note
9.
A substantial portion of the Bank's loans are collateralized by real estate in
and around the State of Wisconsin. Accordingly, the ultimate collectibility of a
substantial portion of the loan portfolio is susceptible to changes in market
conditions in that area.
Mortgage loans serviced for others are not included in the consolidated balance
sheets. The unpaid principal balances of mortgage loans serviced for others were
approximately $2,705,330,000 and $2,526,645,000 at March 31, 2004 and 2003,
respectively.
NOTE 6 - GOODWILL, OTHER INTANGIBLES AND MORTGAGE SERVICING RIGHTS
The Corporation's carrying value of goodwill was $20.0 million at March 31, 2004
and at March 31, 2003. Information regarding the Company's other intangible
assets follows:
MARCH 31, 2004 MARCH 31, 2003
--------------------------------- -------------------------------------
CARRYING ACCUMULATED CARRYING ACCUMULATED
AMOUNT AMORTIZATION NET AMOUNT AMORTIZATION NET
--------------------------------- -------------------------------------
(In Thousands)
Other intangible assets:
Core deposit premium $ 3,408 $ 2,229 $ 1,179 $ 3,408 $ 1,377 $ 2,031
Mortgage servicing rights 21,613 9,325 12,288 23,283 11,564 11,719
======= ======= ======= ======= ======= =======
Total $25,021 $11,554 $13,467 $26,691 $12,941 $13,750
======= ======= ======= ======= ======= =======
Mortgage servicing rights of $12,288,000, $11,719,000, and $13,150,000 are
included in other assets for the years ended March 31, 2004, 2003 and 2002,
respectively. $9,385,000, $10,942,000, and $10,196,000 were capitalized during
the years ended March 31, 2004, 2003, and 2002, respectively. Amortization of
mortgage servicing rights was $9,325,000, $11,564,000, and $5,175,000, for the
years ended March 31, 2004, 2003, and 2002, respectively.
73
The valuation allowance for the impairment of mortgage servicing rights was
$2,425,000 and $2,934,000 for the years ended March 31, 2004 and 2003,
respectively. For discussion of the fair value of mortgage servicing rights and
method of valuation, see Note 1.
The projections of amortization expense for mortgage servicing rights and core
deposit premium set forth below are based on asset balances and the interest
rate environment as of March 31, 2004. Future amortization expense may be
significantly different depending upon changes in the mortgage servicing
portfolio, mortgage interest rates and market conditions.
MORTGAGE CORE
SERVICING DEPOSIT
RIGHTS PREMIUM TOTAL
--------------- ------------- ------------
(In Thousands)
Year ended March 31, 2004 (actual) $ 9,325 $ 852 $ 10,177
Estimate for the year ended March 31,
2005 6,144 852 6,996
2006 3,072 327 3,399
2007 1,536 - 1,536
2008 1,536 - 1,536
--------------- ------------- ------------
$ 12,288 $ 1,179 $ 13,467
=============== ============= ============
NOTE 7 - OFFICE PROPERTIES AND EQUIPMENT
Office properties and equipment are summarized as follows (in thousands):
MARCH 31,
-------------------------------
2004 2003
--------- -------
Land and land improvements $ 6,781 $ 7,670
Office buildings 35,664 34,791
Furniture and equipment 31,234 28,461
Leasehold improvements 2,456 2,331
------- -------
76,135 73,253
Less allowance for depreciation and amortization 44,902 41,348
------- -------
$31,233 $31,905
======= =======
During the years ending March 31, 2004, 2003, and 2002, building depreciation
expense was $1,337,000, $1,166,000, and $962,000, respectively. The furniture
and fixture depreciation expense during the years ended March 31, 2004, 2003,
and 2002 was $2,635,000, $2,580,000, and $2,156,000, respectively.
74
The Bank leases various branch offices, office facilities and equipment under
noncancelable operating leases which expire on various dates through 2029.
Future minimum payments under noncancelable operating leases with initial or
remaining terms of one year or more for the years indicated are as follows at
March 31, 2004:
AMOUNT OF FUTURE
YEAR MINIMUM PAYMENTS
- ------------------------------------------------------ ----------------
(Dollars in thousands)
2005 $ 1,131
2006 1,058
2007 902
2008 821
2009 805
Thereafter 6,360
--------
Total $ 11,077
========
For the years ended March 31, 2004, 2003 and 2002, leasehold rental expense was
$1,060,000, $826,000 and $752,000, respectively.
75
NOTE 8 - DEPOSITS
Deposits are summarized as follows (in thousands):
MARCH 31,
-----------------------------------------------------------------
WEIGHTED WEIGHTED
2004 AVERAGE RATE 2003 AVERAGE RATE
-----------------------------------------------------------------
Negotiable order of withdrawal ("NOW") accounts:
Non-interest-bearing $ 224,015 0.00% $ 260,551 0.00%
Interest-bearing
Fixed rate 118,471 0.20% 99,917 0.26%
Variable rate 51,469 0.39% 52,087 0.44%
------- -------
393,955 0.11% 412,555 0.12%
Variable rate insured money market accounts 314,913 0.50% 352,736 0.75%
Passbook accounts 229,349 0.40% 196,320 0.50%
Certificates of deposit:
0.00% to 2.99% 1,164,180 2.10% 529,798 2.35%
3.00% to 4.99% 339,461 3.80% 869,557 3.67%
5.00% to 6.99% 152,341 5.28% 201,276 5.31%
7.00% to 8.99% 136 7.16% 726 7.10%
Ledger purchase accounting adjustment 1,767 3,119
----------- -----------
1,657,885 2.74% 1,604,476 3.43%
----------- -----------
2,596,102 1.86% 2,566,087 2.67%
Accrued interest on deposits 6,852 8,101
----------- -----------
$ 2,602,954 $ 2,574,188
=========== ===========
A summary of annual maturities of certificates of deposit outstanding at March
31, 2004 follows (in thousands):
MATURES DURING YEAR ENDED MARCH 31, AMOUNT
- --------------------------------------------------------
2005 $ 995,064
2006 451,605
2007 81,897
2008 96,074
Thereafter 33,245
-----------
$ 1,657,885
-----------
At March 31, 2004 and 2003, certificates of deposit with balances greater than
or equal to $100,000 amounted to $216,484,000, and $204,610,000, respectively.
76
NOTE 9 - FEDERAL HOME LOAN BANK AND OTHER BORROWINGS
Federal Home Loan Bank ("FHLB") and other borrowings consist of the following
(dollars in thousands):
MARCH 31, 2004 MARCH 31, 2003
-------------------------------------------------
MATURES DURING WEIGHTED WEIGHTED
YEAR ENDED MARCH 31, AMOUNT RATE AMOUNT RATE
------------------------------------------------------------------------
FHLB advances: 2004 - - 129,500 4.15%
2005 155,200 3.99% 137,900 4.34
2006 184,740 3.11 91,850 4.26
2007 209,468 3.24 83,368 4.32
2008 99,420 3.32 44,650 3.75
2009 85,000 4.50 49,000 5.40
2010 2,150 3.42 - 0.00
2011 4,350 5.30 3,000 6.06
2012 15,000 4.90 15,000 4.90
Other loans payable various 76,231 3.11 41,548 2.78
-------- ---------
$831,559 3.52% $ 595,816 4.24%
======== ==== ========= ====
The Bank selects loans that meet underwriting criteria established by the FHLB
as collateral for outstanding advances. FHLB advances are limited to 75% of
single-family loans and to 50% of multi-family loans meeting such criteria. In
addition, these notes are collateralized by FHLB stock of $87,320,000 at March
31, 2004. The FHLB borrowings are also collateralized by mortgage-related
securities of $142.7 million. There were no investment securities pledged as
collateral for FHLB borrowings at March 31, 2004.
Included in other loans payable is a short-term line of credit to the
Corporation in the amount of $75.0 million at U.S. Bank. As of March 31, 2004,
and 2003, the Corporation had drawn a total of $50.6 million, and $37.3 million,
respectively. The interest is based on LIBOR (London InterBank Offering Rate),
and is payable monthly and each draw has a specified maturity. The final
maturity of the line of credit is in October 2004. The remaining balance of
other loans payable represent mortgage loans on real estate held for development
with a carrying value of $25.6 million and an undrawn portion of $78.0 million.
NOTE 10 - STOCKHOLDERS' EQUITY
The Board of Directors of the Corporation is authorized to issue preferred stock
in series and to establish the voting powers, other special rights of the shares
of each such series and the qualifications and restrictions thereof. Preferred
stock may rank prior to the common stock as to dividend rights, liquidation
preferences or both, and may have full or limited voting rights. Under Wisconsin
state law, preferred stockholders would be entitled to vote as a separate class
or series in certain circumstances, including any amendment which would
adversely change the specific terms of such series of stock or which would
create or enlarge any class or series ranking prior thereto in rights and
preferences. No preferred stock has been issued.
The Bank is subject to various regulatory capital requirements administered by
the federal banking agencies. Failure to meet minimum capital requirements can
initiate certain mandatory, and possibly additional discretionary actions by
regulators that, if undertaken, could have a direct material effect on the
Bank's financial statements. Under capital adequacy guidelines and the
regulatory framework for prompt corrective action, the Bank must meet specific
capital guidelines that involve quantitative measures of the Bank's assets,
liabilities and certain off-balance-sheet items as calculated under regulatory
accounting practices. The Bank's capital amounts and classification are also
subject to qualitative judgments by the regulators about components, risk
weightings, and other factors.
77
Qualitative measures established by regulation to ensure capital adequacy
require the Bank to maintain minimum amounts and ratios of core, tangible, and
risk-based capital. Management believes, as of March 31, 2004, that the Bank
meets all capital adequacy requirements to which it is subject.
As of March 31, 2004, the most recent notification from the Office of Thrift
Supervision ("OTS") categorizes the Bank as well capitalized under the framework
for prompt corrective action. To be categorized as well capitalized, the Bank
must maintain minimum core, tangible, and risk-based capital ratios. There have
been no conditions or events since that notification that management believes
have changed the Bank's category. The qualification results in a lower
assessment of FDIC premiums and other benefits.
The following table summarizes the Bank's capital ratios and the ratios required
by its federal regulators at March 31, 2004 and 2003 (dollars in thousands):
MINIMUM REQUIRED
MINIMUM REQUIRED TO BE WELL
FOR CAPITAL CAPITALIZED UNDER
ACTUAL ADEQUACY PURPOSES OTS REQUIREMENTS
------------------------------------------------------------------
AMOUNT RATIO AMOUNT RATIO AMOUNT RATIO
------------------------------------------------------------------
AS OF MARCH 31, 2004:
Tier 1 capital
(to adjusted tangible assets) $285,680 7.71% $111,208 3.00% $185,346 5.00%
Risk-based capital
(to risk-based assets) 308,912 10.61 232,858 8.00 291,073 10.00
Tangible capital
(to tangible assets) 285,680 7.71 55,604 1.50 N/A N/A
AS OF MARCH 31, 2003:
Tier 1 capital
(to adjusted tangible assets) $258,057 7.43% $104,234 3.00% $173,723 5.00%
Risk-based capital
(to risk-based assets) 283,004 10.63 213,027 8.00 266,283 10.00
Tangible capital
(to tangible assets) 258,057 7.43 52,117 1.50 N/A N/A
78
The following table reconciles stockholders' equity to federal regulatory
capital at March 31, 2004 and 2003 (dollars in thousands):
MARCH 31, MARCH 31,
----------------------------
2004 2003
----------------------------
Stockholders' equity of the Corporation $301,548 $293,004
Less: Capitalization of the Corporation and non-bank
subsidiaries 8,674 (8,496)
-------- --------
Stockholders' equity of the Bank 310,222 284,508
Less: Intangible assets and other non-includable assets (24,542) (26,451)
-------- --------
Tier 1 and tangible capital 285,680 258,057
Plus: Allowable general valuation allowances 23,232 24,947
-------- --------
Risk based capital $308,912 $283,004
======== ========
The Bank may not declare or pay a cash dividend if such declaration and payment
would violate regulatory requirements. Unlike the Bank, the Corporation is not
subject to these regulatory restrictions on the payment of dividends to its
stockholders. However, the source of its future corporate dividends may depend
upon dividends from the Bank.
SHAREHOLDERS' RIGHTS PLAN
On July 22, 1997, the Board of Directors of the Corporation declared a dividend
distribution of one "Right" for each outstanding share of Common Stock, par
value $0.10 per share, of the Corporation to stockholders of record at the close
of business on August 1, 1997. Subject to certain exceptions, each Right
entitles the registered holder to purchase from the Corporation one
one-hundredth of a share of Series A Preferred Stock, par value $0.10 per share,
at a price of $200.00, subject to adjustment. The Purchase Price must be paid in
cash. The description and terms of the Rights are set forth in a Rights
Agreement between the Corporation and American Stock Transfer Company, as Rights
Agent.
NOTE 11 - EMPLOYEE BENEFIT PLANS
The Corporation maintains a defined contribution plan that covers substantially
all employees with more than six months of service who are at least 21 years of
age. Participating employees may contribute up to 15% of their compensation. The
Corporation matches 100% of the amounts contributed by each participating
employee up to 2% of the employee's compensation, 50% of the employee's
contribution up to the next 2% of compensation, and 25% of each employee's
contributions up to the next 4% of compensation. The Corporation may also
contribute additional amounts at its discretion. The Corporation's contribution
was $718,000, $683,000, and $781,000, for the years ended March 31, 2004, 2003,
and 2002, respectively.
The Corporation sponsors an Employee Stock Ownership Plan ("ESOP") which covers
substantially all employees with more than one year of employment who are at
least 21 years of age. Any discretionary contributions to the ESOP have been
allocated among participants on the basis of compensation. Forfeitures are
reallocated among the remaining participating employees. The dividends on ESOP
shares were used to purchase additional shares to be allocated under the plan.
The number of shares allocated to participants is determined based on the annual
contribution plus any shares purchased from dividends received during the year.
The ESOP plan expense for fiscal years 2004, 2003 and 2002 was $493,000, and
$978,000, and $450,000, respectively.
79
The activity in the ESOP shares of both plans is as follows:
YEAR ENDED MARCH 31,
-----------------------------------------------------
2004 2003 2002
---------- --------- ----------
Balance at beginning of year 1,483,535 1,364,758 1,340,188
Additional shares purchased 36,726 258,815 45,000
Shares distributed for terminations (89,436) (41,000) (14,930)
Sale of shares for cash distributions (41,401) (99,038) (5,500)
--------- --------- ---------
Balance at end of year 1,389,424 1,483,535 1,364,758
Allocated shares included above 1,389,424 1,483,535 1,364,758
--------- --------- ---------
Unallocated shares - - -
========= ========= =========
During 1992, the Corporation formed four Management Recognition Plans ("MRPs")
which acquired a total of 4% of the shares of common stock. The Bank contributed
$2,000,000 to the MRPs to enable the MRP trustee to acquire a total of 1,000,000
shares of common stock. Of these, 16,000 shares, 20,602 shares, and 22,556
shares were granted during the years ended March 31, 2004, 2003, and 2002,
respectively, to employees in management positions. These grants had fair values
of $380,000, $450,000, and $320,000, for the respective years. The $2,000,000
contributed to the MRPs is being amortized to compensation expense as the Bank's
employees become vested in the awarded shares. The amount amortized to expense
was $221,000, $120,000, and $140,000 for the years ended March 31, 2004, 2003,
and 2002, respectively. Shares vested during the years ended March 31, 2004,
2003, and 2002 and distributed to the employees totaled 5,000, 30,802, and
47,056, respectively. The remaining unamortized cost of the MRPs is reflected as
a reduction of stockholders' equity.
The activity in the MRP shares is as follows:
YEAR ENDED MARCH 31,
---------------------------------------
2004 2003 2002
---------------------------------------
Balance at beginning of year 395,987 420,230 439,072
Additional shares purchased 6,646 6,559 28,214
Shares vested 5,000 (30,802) (47,056)
------- ------- -------
Balance at end of year 397,633 395,987 420,230
Allocated shares included above 16,000 5,000 15,200
------- ------- -------
Unallocated shares 381,633 390,987 405,030
======= ======= =======
The Corporation has two types of deferred compensation plans to benefit certain
executives of the Corporation and the Bank. The first type of plan provides for
contributions by both the participant and the Corporation equal to the amounts
in excess of limitations imposed by the Internal Revenue Code amendment of 1986.
The expense associated with this plan for fiscal 2004, 2003, and 2002 was
$100,000, $100,000, $23,000, respectively. The second type of plan provides for
contributions by the Corporation to supplement the participant's retirement. The
expense associated with this plan for fiscal 2004, 2003, and 2002 was $871,000,
$447,000 and $596,000, respectively.
80
NOTE 12 - INCOME TAXES
The Corporation and its subsidiaries file a consolidated federal income tax
return and separate state income tax returns.
The Bank qualified under provisions of the Internal Revenue Code which permitted
as a deduction from taxable income allowable bad debt deductions, which
significantly exceeded actual losses and the financial statement loan loss
provisions. At March 31, 2004, retained earnings included approximately
$46,057,000 for which no provision for income tax has been made. Income taxes of
approximately $18,485,000 would be imposed if the Bank were to use these
reserves for any purpose other than to absorb bad debt losses.
The provision for income taxes consists of the following (in thousands):
YEAR ENDED MARCH 31,
2004 2003 2002
-------------------------------------
Current:
Federal $23,976 $24,440 $16,632
State 2,769 3,333 (233)
------- ------- -------
26,745 27,773 16,399
Deferred:
Federal 1,571 2,274 3,061
State 1,155 88 1,019
------- ------- -------
2,726 2,362 4,080
------- ------- -------
Total IncomeTax Expense $29,471 $30,135 $20,479
======= ======= =======
The provision for income taxes differs from that computed at the federal
statutory corporate tax rate as follows (in thousands):
YEAR ENDED MARCH 31,
2004 2003 2002
-----------------------------------
Income before income taxes $76,840 $79,698 $56,846
======= ======= =======
Income tax expense at federal statutory
rate of 35% $26,894 $27,894 $19,896
State income taxes, net of federal income
tax benefits 2,465 2,222 510
Increase in valuation allowance - 56 63
Other 112 (37) 10
------- ------- -------
Income tax provision $29,471 $30,135 $20,479
======= ======= =======
81
Deferred income tax assets and liabilities reflect the net tax effects of
temporary differences between the carrying amounts of assets and liabilities for
financial reporting purposes and the amounts used for income tax purposes.
The significant components of the Corporation's deferred tax assets
(liabilities) are as follows (in thousands):
AT MARCH 31,
2004 2003 2002
--------------------------------------
Deferred tax assets:
Allowances for loan losses $11,812 $12,159 $12,556
Other 6,300 7,621 7,685
------- ------- -------
Total deferred tax assets 18,112 19,780 20,241
Valuation allowance (278) (392) (336)
------- ------- -------
Adjusted deferred tax assets 17,834 19,388 19,905
Deferred tax liabilities:
FHLB stock dividends (6,461) (4,220) (3,307)
Excess servicing (4,233) (4,156) (4,676)
Other (2,887) (4,017) (2,565)
------- ------- -------
Total deferred tax liabilities (13,581) (12,393) (10,548)
------- ------- -------
Net deferred tax assets before effect of
unrealized gains on available for sale securities 4,253 6,995 9,357
------- ------- -------
Tax effect of net unrealized gains/(losses)
on available for sale securities (1,458) (2,475) (1,505)
------- ------- -------
Net deferred tax assets $ 2,795 $ 4,520 $ 7,852
======= ======= =======
NOTE 13 - GUARANTEES.
Financial Interpretation No. 45 "Guarantor's Accounting and Disclosure
Requirements for Guarantees, Including Indirect Guarantees of Indebtedness to
Others" (FIN 45) requires certain guarantees to be recorded at fair value as a
liability at inception and when a loss is probable and reasonably estimable, as
those terms are defined in FASB Statement No. 5 "Accounting for Contingencies."
FIN 45 also requires a guarantor to make significant new disclosures (see below)
even when the likelihood of making any payments under the guarantee is remote.
82
The Corporation's real estate investment segment, IDI, is required to guaranty
the partnership loans of its subsidiaries, for the development of homes for
sale. As of March 31, 2004 the Corporation's real estate investment subsidiary,
IDI, had guaranteed $103.6 million for the following partnerships on behalf of
the respective subsidiaries. As of that same date, $25.6 million is outstanding.
The table below summarizes the individual subsidiaries and their respective
guarantees and outstanding loan balances.
AMOUNT AMOUNT
SUBSIDIARY PARTNERSHIP AMOUNT OUTSTANDING OUTSTANDING
OF IDI ENTITY GUARANTEED AT 3/31/04 AT 3/31/03
- ---------------- ---------------------------- ---------- ----------- -----------
(Dollars in thousands)
Oakmont Chandler Creek $ 8,440 $ 7,340 $ 7,340
Davsha Century 31,750 - 1,010
Davsha II Paragon 5,100 3,130 2,000
Davsha III Indian Palms 147, LLC 8,500 1,650 2,700
Davsha IV DH Indian Palms, LLC 20,070 3,330 1,700
Davsha V Villa Santa Rosa, LLC 12,500 5,490 3,300
Davsha VI Bellasara 168, LLC 12,740 4,700 2,600
Davsha VII La Vista Grande 121, LLC 4,500 - -
-------- ------- -------
Total $103,600 $25,640 $20,650
======== ======= =======
IDI has real estate partnership investments within its subsidiaries for which it
guarantees the above loans. These partnerships are also funded by financing with
loans guaranteed by IDI and secured by the lots and homes being developed within
each of the respective partnership entities.
As a limited partner, the Corporation still has the ability to exercise
significant influence over operating and financial policies. This influence is
evident in the terms of the respective partnership agreements and participation
in policy-making processes. The Corporation has a 50% controlling interest in
the respective limited partnerships and therefore has significant influence over
the right to approve the sale or refinancing of assets of the respective
partnerships in accordance with those partnership agreements.
In acting as a partner with a controlling interest, the Corporation is committed
to providing additional levels of funding to meet partnership operating deficits
up to an aggregate amount of $103.6 million. At March 31, 2004, the
Corporation's aggregate net investment in these partnerships totaled $5.5
million consisting of assets of $38.0 million and cash and other assets of $2.4
million less other borrowings of $23.0 million (reported as a part of FHLB and
other borrowings), other liabilities of $5.2 million (reported as a part of
other liabilities) and minority interest of $6.7 million. These amounts
represent the Corporation's maximum exposure to loss at March 31, 2004 as a
result of involvement with these limited partnerships.
The partnership agreements generally contain buy-sell provisions whereby certain
partners can require the purchase or sale of ownership interests by certain
partners.
83
NOTE 14 - COMMITMENTS AND CONTINGENT LIABILITIES
The Corporation is a party to financial instruments with off-balance-sheet risk
in the normal course of business to meet the financing needs of its customers.
These financial instruments include commitments to extend credit, loans sold
with recourse against the Corporation and financial guarantees which involve, to
varying degrees, elements of credit and interest rate risk in excess of the
amount recognized in the consolidated balance sheets. The contract amounts of
those instruments reflect the extent of involvement and exposure to credit loss
the Corporation has in particular classes of financial instruments. The
Corporation uses the same credit policies in making commitments and conditional
obligations as it does for on-balance-sheet instruments. Since many of the
commitments are expected to expire without being drawn upon, the total committed
amounts do not necessarily represent future cash requirements.
Financial instruments whose contract amounts represent credit risk are as
follows (in thousands):
MARCH 31,
---------------------------
2004 2003
---------------------------
Commitments to extend credit:
Fixed rate $ 123,465 $ 180,964
Adjustable rate 67,280 33,507
Unused lines of credit:
Home equity 89,949 81,725
Credit cards 34,256 36,262
Commercial 103,995 96,497
Letters of credit 38,638 28,968
Loans sold with recourse 272 368
Credit enhancement under the Federal
Home Loan Bank of Chicago Mortgage
Partnership Finance Program 11,226 8,906
Real estate investment segment borrowings 77,960 4,198
Commitments to extend credit and unused lines of credit are agreements to lend
to a customer as long as there is no violation of any condition established in
the contract. Letters of credit commit the Corporation to make payments on
behalf of customers when certain specified future events occur. Commitments and
letters of credit generally have fixed expiration dates or other termination
clauses and may require payment of a fee. As some such commitments expire
without being drawn upon or funded by the Federal Home Loan Bank of Chicago
(FHLB), the total commitment amounts do not necessarily represent future cash
requirements. The Corporation evaluates each customer's creditworthiness on a
case-by-case basis. With the exception of credit card lines of credit, the
Corporation generally extends credit only on a secured basis. Collateral
obtained varies, but consists primarily of single-family residences and
income-producing commercial properties. Fixed-rate loan commitments expose the
Corporation to a certain amount of interest rate risk if market rates of
interest substantially increase during the commitment period. Similar risks
exist relative to loans classified as held for sale, which totaled $14,578,000
and $43,054,000 at March 31, 2004 and 2003, respectively. This exposure,
however, is mitigated by the existence of firm commitments to sell the majority
of the fixed-rate loans. Commitments to sell mortgage loans within 60 days at
March 31, 2004 and 2003 amounted to $111,146,000 and $251,458,000, respectively.
The Corporation participates in the FHLB Mortgage Partnership Finance Program
(the Program). In addition to entering into forward commitments to sell mortgage
loans to a secondary market agency, the Corporation enters into firm commitments
to deliver loans to the FHLB through the Program. Under the Program, loans are
funded by the FHLB and the Corporation receives an agency fee reported as a
component of gain on sale of loans. The Corporation had firm commitments
outstanding to deliver loans through the Program of $31.1 million at March 31,
2004. Once delivered to the Program, the Corporation provides a contractually
agreed-upon credit enhancement and performs servicing of the loans. Under the
credit enhancement, the Corporation is liable for losses on loans
84
delivered to the Program after application of any mortgage insurance and a
contractually agreed-upon credit enhancement provided by the Program subject to
an agree-upon maximum. The Corporation received a fee for this credit
enhancement. The Corporation does not anticipate that any credit losses will be
incurred in excess of anticipated credit enhancement fees.
Loans sold to investors with recourse to the Corporation met the underwriting
standards of the investor and the Corporation at the time of origination. In the
event of default by the borrower, the investor may resell the loans to the
Corporation at par value. As the Corporation expects relatively few such loans
to become delinquent, the total amount of loans sold with recourse does not
necessarily represent future cash requirements. Collateral obtained on such
loans consists primarily of single-family residences.
Except for the above-noted commitments to originate and/or sell mortgage loans
in the normal course of business, the Corporation and the Bank have not
undertaken the use of off-balance-sheet derivative financial instruments for any
purpose.
Like many financial institutions located in Wisconsin, the Bank and its former
affiliates transferred investment securities to out-of-state investment
subsidiaries. The Bank's Nevada investment subsidiary now holds and manages
these assets. The investment subsidiary has not filed returns with, or paid
income or franchise taxes to, the state of Wisconsin. The Wisconsin Department
of Revenue (the "Department") recently implemented a program to audit Wisconsin
financial institutions which formed investment subsidiaries located outside of
Wisconsin, and the Department has generally indicated that it intends to assess
income or franchise taxes on the income of the out-of-state investment
subsidiaries of Wisconsin banks. The Bank recently completed such an audit. The
Department has not issued an assessment to the Bank, but the Department has
stated that it intends to do so if the matter is not settled.
Prior to formation of the investment subsidiary, the Bank and its former
affiliates sought and obtained private letter rulings from the Department
regarding the non-taxability of the investment subsidiary in the state of
Wisconsin. The Bank believes that it complied with Wisconsin law and the private
rulings received from the Department and that it is not liable for any taxes or
interest that the Department may claim. Should an assessment be forthcoming, the
Bank intends to defend its position vigorously through the normal administrative
appeals process in place at the Department and through other judicial channels
should they become necessary. If the Bank had been required to pay Wisconsin
income tax on the investment subsidiary's income for the year ended March 31,
2004, the Corporation's income tax expense would have been approximately $1.5
million higher than reported. This would have reduced the Corporation's diluted
and basic earnings per share by approximately $0.07 per share. Furthermore, if
the Department determines that the earnings of the Nevada investment subsidiary
in open tax years prior to fiscal 2004 are subject to tax in Wisconsin,
management estimates that the Bank may be subject to a tax obligation of up to
$14 million, net of federal and state tax benefit. This amount includes an
estimate for statutory interest, but excludes any penalties that may be assessed
by the Department, which could be as high as 25% of the gross amount. Although
the Bank will vigorously oppose any such assessment, there can be no assurance
that the Department will not be successful in whole or in part in its efforts to
tax the income of the Bank's Nevada investment subsidiary.
In the ordinary course of business, there are legal proceedings against the
Corporation and its subsidiaries. Management considers that the aggregate
liabilities, if any, resulting from such actions would not have a material,
adverse effect on the financial position of the Corporation.
85
NOTE 15 - FAIR VALUE OF FINANCIAL INSTRUMENTS
Disclosure of fair value information about financial instruments, for which it
is practicable to estimate that value, is required whether or not recognized in
the consolidated balance sheets. In cases where quoted market prices are not
available, fair values are based on estimates using present value or other
valuation techniques. Those techniques are significantly affected by the
assumptions used, including the discount rate and estimates of future cash
flows. In that regard, the derived fair value estimates cannot be substantiated
by comparison to independent markets and, in many cases, could not be realized
in immediate settlement of the instruments. Certain financial instruments and
all non-financial instruments are excluded from the disclosure requirements.
Accordingly, the aggregate fair value amounts presented do not necessarily
represent the underlying value of the Corporation.
The Corporation, in estimating its fair value disclosures for financial
instruments, used the following methods and assumptions:
CASH AND CASH EQUIVALENTS AND ACCRUED INTEREST: The carrying amounts reported in
the balance sheets approximate those assets' and liabilities' fair values.
INVESTMENT AND MORTGAGE-RELATED SECURITIES: Fair values for investment and
mortgage-related securities are based on quoted market prices, where available.
If quoted market prices are not available, fair values are based on quoted
market prices of comparable instruments.
LOANS RECEIVABLE: For variable-rate loans that reprice frequently and with no
significant change in credit risk, fair values are based on carrying values. The
fair values for loans held for sale are based on outstanding sale commitments or
quoted market prices of similar loans sold in conjunction with securitization
transactions, adjusted for differences in loan characteristics. The fair value
of fixed-rate residential mortgage loans held for investment, commercial real
estate loans, rental property mortgage loans and consumer and other loans and
leases are estimated using discounted cash flow analyses, using interest rates
currently being offered for loans with similar terms to borrowers of similar
credit quality. For construction loans, fair values are based on carrying values
due to the short-term nature of the loans.
FEDERAL HOME LOAN BANK STOCK: The carrying amount of FHLB stock equals its fair
value because the shares can be resold to the FHLB or other member banks at
their carrying amount of $100 per share par amount.
DEPOSITS: The fair values disclosed for NOW accounts, passbook accounts and
variable rate insured money market accounts are, by definition, equal to the
amount payable on demand at the reporting date (i.e., their carrying amounts).
The fair values of fixed-rate certificates of deposit are estimated using a
discounted cash flow calculation that applies current incremental interest rates
being offered on certificates of deposit to a schedule of aggregated expected
monthly maturities of the outstanding certificates of deposit.
BORROWINGS: The fair value of the Corporation's borrowings are estimated using
discounted cash flow analysis, based on the Corporation's current incremental
borrowing rates for similar types of borrowing arrangements.
OFF-BALANCE-SHEET INSTRUMENTS: Fair values of the Corporation's
off-balance-sheet instruments (lending commitments and unused lines of credit)
are based on fees currently charged to enter into similar agreements, taking
into account the remaining terms of the agreements, the counterparties' credit
standing and discounted cash flow analyses. The fair value of these
off-balance-sheet items approximates the recorded amounts of the related fees
and is not material at March 31, 2004 and 2003.
86
The carrying amounts and fair values of the Corporation's financial instruments
consist of the following (in thousands):
MARCH 31,
-----------------------------------------------------------
2004 2003
--------------------------- ---------------------------
CARRYING FAIR CARRYING FAIR
AMOUNT VALUE AMOUNT VALUE
----------- ----------- ----------- -----------
Financial assets:
Cash equivalents $ 198,993 $ 198,993 $ 141,427 $ 141,427
Investment securities 29,514 29,514 100,190 100,287
Mortgage-related securities 225,221 225,407 248,749 251,828
Loans held for sale 14,578 14,737 43,054 43,054
Loans receivable 3,066,812 3,105,574 2,770,988 2,857,902
Federal Home Loan Bank stock 87,320 87,320 81,868 81,868
Accrued interest receivable 16,410 16,410 17,866 17,866
Financial liabilities:
Deposits 2,602,954 2,489,327 2,574,188 2,467,554
Federal Home Loan Bank and other borrowings 831,559 811,923 595,816 594,419
Accrued interest payable--borrowings 2,400 2,400 2,148 2,148
87
NOTE 16 - CONDENSED PARENT ONLY FINANCIAL INFORMATION
The following represents the unconsolidated financial information of the
Corporation:
CONDENSED BALANCE SHEETS
MARCH 31,
---------------------
2004 2003
-------- --------
(In Thousands)
ASSETS
Cash and cash equivalents $ 127 $ 1,046
Investment in subsidiaries 314,412 286,743
Securities available for sale 2,284 5,548
Loans receivable from non-bank subsidiaries 34,478 34,147
Other 6,566 4,388
-------- --------
Total assets $357,867 $331,872
======== ========
LIABILITIES
Loans payable $ 50,600 $ 37,350
Other liabilities 5,719 1,518
-------- --------
Total liabilities 56,319 38,868
STOCKHOLDERS' EQUITY
Total stockholders' equity 301,548 293,004
-------- --------
Total liabilities and stockholders' equity $357,867 $331,872
======== ========
CONDENSED STATEMENTS OF INCOME
YEAR ENDED MARCH 31,
-----------------------------------
2004 2003 2002
-------- -------- --------
(In Thousands)
Interest income $ 1,153 $ 1,332 $ 1,787
Interest expense 1,061 1,041 1,441
-------- -------- --------
Net interest income 92 291 346
Equity in net income from subsidiaries 46,277 49,850 36,830
Non-interest income 2,141 (460) 310
-------- -------- --------
48,510 49,681 37,486
Non-interest expense 409 310 1,429
-------- -------- --------
Income before income taxes 48,101 49,371 36,057
Income taxes 732 (192) (310)
-------- -------- --------
Net income $ 47,369 $ 49,563 $ 36,367
======== ======== ========
88
CONDENSED STATEMENTS OF CASH FLOWS
YEAR ENDED MARCH 31,
------------------------------------
2004 2003 2002
-------- -------- --------
(In Thousands)
OPERATING ACTIVITIES
Net income $ 47,369 $ 49,563 $ 36,367
Adjustments to reconcile net income to net cash
provided (used) by operating activities:
Equity in net income of subsidiaries (46,277) (49,850) (36,830)
Dividends from Bank subsidiary 18,500 46,500 5,000
Other 2,769 (836) 3,705
-------- -------- --------
Net cash provided (used) by operating activities 22,361 45,377 8,242
INVESTING ACTIVITIES
Proceeds from maturities of investment securities - 250 -
Proceeds from sales of investment securities available for sale 549 46 1,112
Purchase of investment securities available for sale - (236) (400)
Proceeds from sales of mortgage-related securities available for sale - - 3,969
Net increase in loans receivable from non-bank subsidiaries (331) (1,477) (3,194)
Cash paid to purchase Ledger Capital Corp - - (3,318)
Net cash provided by investing activities 218 (1,417) (1,831)
-------- -------- --------
FINANCING ACTIVITIES
Increase (decrease) in loans payable 13,250 (5,350) 12,600
Purchase of treasury stock (27,006) (33,809) (16,816)
Exercise of stock options 2,058 2,423 3,436
Purchase of stock by retirement plans (1,771) 2,349 2,087
Cash dividend paid (10,029) (8,958) (7,464)
-------- -------- --------
Net cash used by financing activities (23,498) (43,345) (6,157)
Increase (decrease) in cash and cash equivalents (919) 615 254
Cash and cash equivalents at beginning of year 1,046 431 177
-------- -------- --------
Cash and cash equivalents at end of year $ 127 $ 1,046 $ 431
======== ======== ========
89
NOTE 17 - SEGMENT INFORMATION
The Corporation is required to report each operating segment based on
materiality thresholds of ten percent or more of certain amounts, such as
revenue. Additionally, the Corporation is required to report separate operating
segments until the revenue attributable to such segments is at least 75 percent
of total consolidated revenue. The Corporation combines operating segments, even
though they may be individually material, if the segments have similar basic
characteristics in the nature of the products, production processes, and type or
class of customer for products or services. Based on the above criteria, the
Corporation has two reportable segments.
COMMUNITY BANKING: This segment is the main basis of operation for the
Corporation and includes the branch network and other deposit support services;
origination, sales and servicing of one-to-four family loans; origination of
multifamily, commercial real estate and business loans; origination of a variety
of consumer loans; and sales of alternative financial investments such as tax
deferred annuities.
REAL ESTATE INVESTMENTS: The Corporation's non-banking subsidiary, IDI, and its
subsidiaries, NIDI and CIDI, invest in real estate developments. Such
developments include recreational residential developments and industrial
developments (such as office parks).
The Real Estate Investment segment borrows funds from the Corporation to meet
its operating needs. Such intercompany borrowings are eliminated in
consolidation. The interest income and interest expense associated with such
borrowings are also eliminated in consolidation.
The following represents reconciliations of reportable segment revenues, profit
or loss, and assets to the Corporation's consolidated totals for the years ended
March 31, 2004, 2003, and 2002, respectively.
YEAR ENDED MARCH 31, 2004
--------------------------------------------------------------
(In Thousands)
CONSOLIDATED
REAL ESTATE COMMUNITY INTERSEGMENT FINANCIAL
INVESTMENTS BANKING ELIMINATIONS STATEMENTS
----------- ----------- ------------ -----------
Interest income $ 325 $ 190,262 $ (325) $ 190,262
Interest expense 274 79,907 (274) 79,907
----------- ----------- ----------- -----------
Net interest income (loss) 51 110,355 (51) 110,355
Provision for loan losses - 1,950 - 1,950
----------- ----------- ----------- -----------
Net interest income (loss) after provision for loan losses 51 108,405 (51) 108,405
Real estate investment partnership revenue 49,410 - 325 49,735
Other revenue (expense) from real estate operations (365) - - (365)
Other income - 76,499 - 76,499
Real estate investment partnership cost of sales (29,881) - - (29,881)
Other expense from real estate partnership operations (9,575) - (274) (9,849)
Minority interest in income of real estate partnerships (4,063) - - (4,063)
Other expense - 113,641 - 113,641
----------- ----------- ----------- -----------
Income before income taxes 5,577 71,263 - 164,426
Income tax expense 1,903 27,568 - 29,471
----------- ----------- ----------- -----------
Net income $ 3,674 $ 43,695 $ - $ 47,369
=========== =========== =========== ===========
Total Assets $ 80,136 $ 3,730,250 $ - $ 3,810,386
90
YEAR ENDED MARCH 31, 2003
----------------------------------------------------------
(In Thousands)
CONSOLIDATED
REAL ESTATE COMMUNITY INTERSEGMENT FINANCIAL
INVESTMENTS BANKING ELIMINATIONS STATEMENTS
----------- ---------- ------------ ------------
Interest income $ 26 $ 209,605 $ (26) $ 209,605
Interest expense 294 92,856 (294) 92,856
---------- ---------- ---------- ----------
Net interest income (loss) (268) 116,749 268 116,749
Provision for loan losses - 1,800 - 1,800
---------- ---------- ---------- ----------
Net interest income (loss) after provision for loan losses (268) 114,949 268 114,949
Real estate investment partnership revenue - - - -
Other revenue (expense) from real estate operations - - - -
Other income 16,088 32,816 (16,151) 32,753
Real estate investment partnership cost of sales - - - -
Other expense from real estate partnership operations - - - -
Minority interest in income of real estate partnerships - - - -
Other expense 15,883 68,004 (15,883) 68,004
---------- ---------- ---------- ----------
Income before income taxes (63) 79,761 - 79,698
Income tax expense (benefit) (380) 30,515 - 30,135
---------- ---------- ---------- ----------
Net income $ 317 $ 49,246 $ - $ 49,563
========== ========== ========== ==========
Total Assets $ 40,877 $3,497,744 $ - $3,538,621
YEAR ENDED MARCH 31, 2002
----------------------------------------------------
(In Thousands)
CONSOLIDATED
REAL ESTATE COMMUNITY INTERSEGMENT FINANCIAL
INVESTMENTS BANKING ELIMINATIONS STATEMENTS
----------- ---------- ------------ ------------
Interest income $ 185 $ 225,701 $ (185) $ 225,701
Interest expense 447 128,454 (447) 128,454
---------- ---------- ---------- ----------
Net interest income (262) 97,247 262 97,247
Provision for loan losses - 2,485 - 2,485
---------- ---------- ---------- ----------
Net interest income after provision for loan losses (262) 94,762 262 94,762
Real estate investment partnership revenue - - - -
Other revenue (expense) from real estate operations - - - -
Other income 20,599 21,282 (20,266) 21,615
Real estate investment partnership cost of sales - - - -
Other expense from real estate partnership operations - - - -
Minority interest in income of real estate partnerships - - - -
Other expense 20,004 59,531 (20,004) 59,531
---------- ---------- ---------- ----------
Income (loss) before income taxes 333 56,513 - 56,846
Income tax expense (benefit) (642) 21,121 - 20,479
---------- ---------- ---------- ----------
Net income (loss) $ 975 $ 35,392 $ - $ 36,367
========== ========== ========== ==========
Total Assets $ 46,986 $3,460,090 $ - $3,507,076
91
NOTE 18 - EARNINGS PER SHARE
The computation of earnings per share for fiscal years 2004, 2003, and 2002 is
as follows:
TWELVE MONTHS ENDED MARCH 31,
-------------------------------------------
2004 2003 2002
----------- ----------- -----------
Numerator:
Net income $47,368,586 $49,563,246 $36,366,934
----------- ----------- -----------
Numerator for basic and diluted earnings
per share--income available to common
stockholders $47,368,586 $49,563,246 $36,366,934
Denominator:
Denominator for basic earnings per
share--weighted-average common
shares outstanding 22,882,166 24,003,163 22,852,144
Effect of dilutive securities:
Employee stock options 502,686 581,257 593,423
Management Recognition Plans 14,702 8,012 17,300
----------- ----------- -----------
Denominator for diluted earnings per
share--adjusted weighted-average
common shares and assumed conversions 23,399,554 24,592,432 23,462,867
=========== =========== ===========
Basic earnings per share $ 2.07 $ 2.06 $ 1.59
=========== =========== ===========
Diluted earnings per share $ 2.02 $ 2.02 $ 1.55
=========== =========== ===========
92
Report of Independent Registered Public Accounting Firm
Board of Directors and Stockholders
Anchor BanCorp Wisconsin Inc.
We have audited the accompanying consolidated balance sheets of Anchor BanCorp
Wisconsin Inc. (the "Corporation") as of March 31, 2004 and 2003, and the
related consolidated statements of income, changes in stockholders' equity and
cash flows for each of the three years in the period ended March 31, 2004. 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 the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.
In our opinion, the financial statements referred to above present fairly, in
all material respects, the consolidated financial position of Anchor BanCorp
Wisconsin Inc. at March 31, 2004 and 2003, and the consolidated results of its
operations and its cash flows for each of the three years in the period ended
March 31, 2004, in conformity with U.S. generally accepted accounting
principles.
As discussed in Note 1, in 2004 Anchor BanCorp Wisconsin Inc. changed its
methodology for accounting for real estate investment partnerships.
/s/ Ernst & Young LLP
Milwaukee, Wisconsin
May 14, 2004
93
QUARTERLY FINANCIAL INFORMATION
MAR 31, DEC 31, SEP 30, JUN 30, MAR 31, DEC 31, SEP 30, JUN 30,
2004 2003 2003 2003 2003 2002 2002 2002
-------- -------- -------- -------- -------- -------- -------- --------
(In Thousands, Except Per Share Data)
Interest income:
Loans $ 42,244 $ 42,905 $ 43,570 $ 44,112 $ 43,853 $ 45,504 $ 47,467 $ 48,024
Securities and other 3,850 4,336 4,315 4,930 5,483 6,983 5,867 6,424
-------- -------- -------- -------- -------- -------- -------- --------
Total interest income 46,094 47,241 47,885 49,042 49,336 52,487 53,334 54,448
Interest expense:
Deposits 12,377 13,160 13,820 14,483 14,492 16,177 16,813 18,357
Borrowings and other 6,894 6,591 6,483 6,099 6,148 6,611 6,949 7,309
-------- -------- -------- -------- -------- -------- -------- --------
Total interest expense 19,271 19,751 20,303 20,582 20,640 22,788 23,762 25,666
-------- -------- -------- -------- -------- -------- -------- --------
Net interest income 26,823 27,490 27,582 28,460 28,696 29,699 29,572 28,782
Provision for loan losses 600 450 450 450 450 450 450 450
-------- -------- -------- -------- -------- -------- -------- --------
Net interest income after
provision for loan losses 26,223 27,040 27,132 28,010 28,246 29,249 29,122 28,332
Real estate investment partnership
revenue 37,879 11,856 - - - - - -
Service charges on deposits 1,970 2,046 2,121 2,004 1,816 1,867 1,868 1,698
Net gain on sale of loans 2,426 1,683 1,411 9,807 6,346 7,605 4,928 1,841
Net gain (loss) on sale of investments
and mortgage-related securities 3,041 (40) (12) 352 837 206 666 89
Other revenue (expense) from real
estate operations (3,616) (682) 3,295 638 - - - -
Other non-interest income 2,155 2,393 1,084 265 2,365 (723) (455) 1,799
-------- -------- -------- -------- -------- -------- -------- --------
Total non-interest income 43,855 17,256 7,899 13,066 11,364 8,955 7,007 5,427
Compensation 9,359 9,995 9,276 10,388 10,138 9,210 8,883 9,208
Real estate partnership cost of sales 22,094 7,787 - - - - - -
Other expenses from real estate
partnership operations 8,796 1,053 - - - - - -
Minority interest in income of real
estate partnership operations 2,585 1,478 - - - - - -
Other non-interest expense 7,583 7,906 7,579 7,762 8,002 7,327 7,847 7,389
-------- -------- -------- -------- -------- -------- -------- --------
Total non-interest expense 50,417 28,219 16,855 18,150 18,140 16,537 16,730 16,597
-------- -------- -------- -------- -------- -------- -------- --------
Income before income taxes 19,661 16,077 18,176 22,926 21,470 21,667 19,399 17,162
Income taxes 7,523 6,139 6,976 8,833 8,203 8,260 7,285 6,387
-------- -------- -------- -------- -------- -------- -------- --------
Net income $ 12,138 $ 9,938 $ 11,200 $ 14,093 $ 13,267 $ 13,407 $ 12,114 $ 10,775
======== ======== ======== ======== ======== ======== ======== ========
Earnings Per Share:
Basic $ 0.54 $ 0.44 $ 0.49 $ 0.61 $ 0.56 $ 0.56 $ 0.50 $ 0.43
Diluted 0.53 0.43 0.48 0.59 0.55 0.55 0.49 0.42
ITEM 9. CHANGES IN AND DISAGREEMENTS WITH ACCOUNTANTS ON ACCOUNTING AND
FINANCIAL DISCLOSURE
None.
94
ITEM 9A. CONTROLS AND PROCEDURES
(a) EVALUATION OF DISCLOSURE CONTROLS AND PROCEDURES. In response to the
adoption of Sarbanes-Oxley Act of 2002, the Corporation's and the
certifying officers of this report have implemented disclosure
controls and procedures to ensure that material information relating
to the Corporation is made known to the signing officers, and
consequently reflected in periodic SEC reports. These controls and
procedures were built upon the Corporation's pre-existing practices.
The Corporation and those officers have evaluated for this report
the effectiveness of those disclosures, controls and procedures
within 90 days prior to its filing. The Corporation and the
certifying officers believe that these disclosure controls and
procedures are effective, based upon this evaluation.
(b) CHANGES IN INTERNAL CONTROLS. During the period covered by this
report, there were not any significant change in the Corporation's
internal controls or in other factors that could significantly
affect these controls subsequent to the date of their evaluation,
including any corrective actions with respect to material weaknesses
and significant deficiencies.
PART III
ITEM 10. DIRECTORS AND EXECUTIVE OFFICERS OF THE REGISTRANT
The information relating to Directors and Executive Officers is
incorporated herein by reference to pages 3 to 13 in the Registrant's Proxy
Statement for the Annual Meeting of Stockholders to be held on July 27, 2004.
The Corporation has adopted a code of business conduct and ethics for the
CEO and CFO which is available on the Corporation's website at
www.anchorbank.com.
ITEM 11. EXECUTIVE COMPENSATION
The information relating to executive compensation is incorporated herein
by reference to pages 18 to 28 in the Registrant's Proxy Statement for the
Annual Meeting of Stockholders to be held on July 27, 2004.
ITEM 12. SECURITY OWNERSHIP OF CERTAIN BENEFICIAL OWNERS AND MANAGEMENT
The information relating to security ownership of certain beneficial
owners and management is incorporated herein by reference to pages 14 to 17 in
the Registrant's Proxy Statement for the Annual Meeting of Stockholders to be
held on July 27, 2004.
The information relating to the Equity Compensation Plan table is
incorporated herein by reference to pages 20 to 21 in the Registrant's Proxy
Statement.
ITEM 13. CERTAIN RELATIONSHIPS AND RELATED TRANSACTIONS
The information relating to certain relationships and related transactions
is incorporated herein by reference to page 29 to the Registrant's Proxy
Statement for the Annual Meeting of Stockholders to be held on July 27, 2004.
96
PART IV
ITEM 15. EXHIBITS, FINANCIAL STATEMENT SCHEDULES, AND REPORTS ON FORM 8-K
(a)(1) FINANCIAL STATEMENTS
The following consolidated financial statements of the Corporation and its
subsidiaries, together with the report thereon of Ernst & Young LLP, dated May
14, 2004 are incorporated herein by reference to Item 8 of this Annual Report on
Form 10-K:
Consolidated Balance Sheets at March 31, 2004 and 2003.
Consolidated Statements of Income for each year in the three-year period
ended March 31, 2004.
Consolidated Statements of Stockholders' Equity for each year in the
three-year period ended March 31, 2004.
Consolidated Statements of Cash Flows for each year in the three-year
period ended March 31, 2004.
Notes to Consolidated Financial Statements.
Independent Auditors' Report.
(a)(2) FINANCIAL STATEMENT SCHEDULES
All schedules are omitted because they are not required or are not
applicable or the required information is shown in the consolidated financial
statements or notes thereto.
(a)(3) EXHIBITS
The following exhibits are either filed as part of this Annual Report on
Form 10-K or are incorporated herein by reference:
EXHIBIT NO. 3. CERTIFICATE OF INCORPORATION AND BYLAWS:
3.1 Articles of Incorporation of Anchor BanCorp Wisconsin Inc. as
amended to date including Articles of Amendment with respect
to series A Preferred Stock (incorporated by reference to
Exhibit 3.1 from Registrant's Form 10-K for the year ended
March 31, 2001).
3.2 Bylaws of Anchor BanCorp Wisconsin Inc. (incorporated by
reference to Exhibit 3.2 of Registrant's Form S-1,
Registration Statement, filed on March 19, 1992, as amended,
Registration No. 33-46536 ("Form S-1")).
EXHIBIT NO. 4. INSTRUMENTS DEFINING THE RIGHTS OF SECURITY HOLDERS:
4 Form of Common Stock Certificate (incorporated by reference to
Exhibit 4 of Registrant's Form S-1).
EXHIBIT NO. 10. MATERIAL CONTRACTS:
10.1 Anchor BanCorp Wisconsin Inc. Retirement Plan (incorporated by
reference to Exhibit 10.1 of Registrant's Form S-1).
97
10.2 Anchor BanCorp Wisconsin Inc. 1992 Stock Incentive Plan
(incorporated by reference to Exhibit 10.2 of Registrant's
Form S-1).
10.3 Anchor BanCorp Wisconsin Inc. 1992 Director's Stock Option
Plan (incorporated by reference to Exhibit 10.3 of
Registrant's Form S-1).
10.4 Anchor BanCorp Wisconsin Inc. Amended and Restated Management
Recognition Plan (incorporated by reference to the
Registrant's proxy statement filed on June 29, 2001).
10.5 Anchor BanCorp Wisconsin Inc. Employee Stock Ownership Plan
(incorporated by reference to Exhibit 10.5 of Registrant's
Form S-1).
10.6 Employment Agreement among the Corporation, the Bank and
Douglas J. Timmerman (incorporated by reference to Exhibit
10.6 of Registrant's Annual Report or Form 10-K for the year
ended March 31, 1995).
10.7 Deferred Compensation Agreement between the Corporation and
Douglas J. Timmerman, as amended (incorporated by reference to
Exhibit 10.7 of Registrant's Form S-1) and form of related
Deferred Compensation Trust Agreement, as amended
(incorporated by reference to Exhibit 10.7 of Registrant's
Annual Report or Form 10-K for the year ended March 31, 1994).
10.8 1995 Stock Option Plan for Non-Employee Directors
(incorporated by reference to the Registrant's proxy statement
filed on June 16, 1995).
10.9 1995 Stock Incentive Plan (incorporated by reference to the
Registrant's proxy statement filed on June 16, 1995).
10.10 Employment Agreement among the Corporation, the Bank and J.
Anthony Cattelino (incorporated by reference to Exhibit 10.10
of Registrant's Annual Report or Form 10-K for the year ended
March 31, 1995).
10.11 Employment Agreement among the Corporation, the Bank and
Michael W. Helser (incorporated by reference to Exhibit 10.11
of Registrant's Annual Report or Form 10-K for the year ended
March 31, 1995).
10.12 Severance Agreement among the Corporation, the Bank and Ronald
R. Osterholz (incorporated by reference to Exhibit 10.12 of
Registrant's Annual Report or Form 10-K for the year ended
March 31, 1995).
10.13 Severance Agreement among the Corporation, the Bank and David
L. Weimert (incorporated by reference to Exhibit 10.13 of
Registrant's Annual Report or Form 10-K for the year ended
March 31, 1995).
10.14 Severance Agreement among the Corporation, the Bank and Donald
F. Bertucci (incorporated by reference to Exhibit 10.14 of
Registrant's Annual Report or Form 10-K for the year ended
March 31, 1995).
10.15 Anchor BanCorp Wisconsin Inc. Directors' Deferred Compensation
Plan (incorporated by reference to Exhibit 10.9 of
Registrant's Form S-1).
10.16 Anchor BanCorp Wisconsin Inc. Annual Incentive Bonus Plan
(incorporated by reference to Exhibit 10.10 of Registrant's
Form S-1).
98
10.17 AnchorBank, S.S.B. Supplemental Executive Retirement Plan
(incorporated by reference to Exhibit 10.11 of Registrant's
Annual Report or Form 10-K for the year ended March 31, 1994).
10.18 AnchorBank, S.S.B. Excess Benefit Plan (incorporated by
reference to Exhibit 10.12 of Registrant's Annual Report or
Form 10-K for the year ended March 31, 1994).
10.19 Stockholder Rights Agreement, dated July 22, 1997 between the
corporation and Firstar Trust Company, as Rights Agent
(incorporated by reference to the Registrant's current Report
on Form 8-K filed on July 28, 1997).
10.20 2001 Stock Option Plan for Non-Employee Directors
(incorporated herein by reference to the Registrant's proxy
statement filed on June 29, 2001).
10.21 2004 Equity Incentive Plan (incorporated herein by reference
to the Registrant's proxy statement filed June 11, 2004.
The Corporation's management contracts or compensatory plans or
arrangements consist of Exhibits 10.1-10.20 above.
EXHIBIT NO. 11. COMPUTATION OF EARNINGS PER SHARE:
Refer to Note 17 of the Notes to Consolidated Financial
Statements in Item 8.
EXHIBIT NO. 21. SUBSIDIARIES OF THE REGISTRANT:
Subsidiary information is incorporated by reference to "Part
I, Item 1, Business-General" and "Part I, Item 1,
Business-Subsidiaries."
EXHIBIT NO. 23. CONSENT OF ERNST & YOUNG LLP:
The consent of Ernst & Young LLP is included herein as an
exhibit to this Report.
EXHIBIT 31.1 Certification of Chief Executive Officer Pursuant to Rules
13a-14 and 15d-14 of the Securities Exchange Act of 1934 and
Section 302 of the Sarbanes-Oxley Act of 2002 is included
herein as an exhibit to this Report.
EXHIBIT 31.2 Certification of Chief Financial Officer Pursuant to Rules
13a-14 and 15d-14 of the Securities Exchange Act of 1934 and
Section 302 of the Sarbanes-Oxley Act of 2002 is included
herein as an exhibit to this Report.
EXHIBIT 32.1 Certification of Chief Executive Officer pursuant to Section
906 of the Sarbanes-Oxley Act of 2002 (18 U.S.C. 1350) is
included herein as an exhibit to this report.
EXHIBIT 32.2 Certification of Chief Financial Officer pursuant to Section
906 of the Sarbanes-Oxley Act of 2002 (18 U.S.C. 1350) is
included herein as an exhibit to this report.
(b) FORMS 8-K
The Corporation filed a Current Report on Form 8-K on January 28,
2004 under Items 7 and 12 to furnish the Corporation's earnings
release for the quarter ended December 31, 2003.
99
(c) EXHIBITS
Exhibits to the Form 10-K required by Item 601 of Regulation S-K are
attached or incorporated herein by reference as stated in the Index
to Exhibits.
(d) FINANCIAL STATEMENTS EXCLUDED FROM ANNUAL REPORT TO SHAREHOLDERS
PURSUANT TO RULE 14A3(B)
Not applicable
100
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.
ANCHOR BANCORP WISCONSIN INC.
By: /s/ Douglas J. Timmerman
-------------------------------------------
Douglas J. Timmerman
Chairman of the Board, President and Chief
Executive Officer
Date: June 4, 2004
Pursuant to the requirements of the Securities Exchange Act of 1934, this
report has been signed by the following persons in the capacities and on the
dates indicated.
By: /s/ Douglas J. Timmerman By: /s/ Michael W. Helser
--------------------------------- -----------------------------------
Douglas J. Timmerman Michael W. Helser
Chairman of the Board, President Treasurer and Chief Financial Officer
and Chief Executive Officer (principal financial and
(principal executive officer) accounting officer)
Date: June 4, 2004 Date: June 4, 2004
101
By: /s/ Donald D. Kropidlowski By: /s/ Greg M. Larson
------------------------------ --------------------------------
Donald D. Kropidlowski Greg M. Larson
Director Director
Date: June 4, 2004 Date: June 4, 2004
By: /s/ Richard A. Bergstrom By: /s/ Pat Richter
------------------------------ --------------------------------
Richard A. Bergstrom Pat Richter
Director Director
Date: June 4, 2004 Date: June 4, 2004
By: /s/ Bruce A. Robertson By: /s/ Holly Cremer Berkenstadt
------------------------------ --------------------------------
Bruce A. Robertson Holly Cremer Berkenstadt
Director Director
Date: June 4, 2004 Date: June 4 2004
By: /s/ James D. Smessaert By: /s/ David L. Omachinski
------------------------------ --------------------------------
James D. Smessaert David L. Omachinski
Director Director
Date: June 4 2004 Date: June 4, 2004
By: /s/ Donald D. Parker By: /s/ Mark D. Timmerman
------------------------------ --------------------------------
Donald D. Parker Mark D. Timmerman
Director Director
Date: June 4, 2004 Date: June 4, 2004
102