Back to GetFilings.com
UNITED STATES SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
FORM 10-Q
(Mark One)
[X] Quarterly report pursuant to Section 13 or l5(d) of the Securities
Exchange Act of 1934
For the quarterly period ended September 30, 2002
[ ] Transition report pursuant to Section 13 or 15(d) of the
Securities Exchange Act of 1934
For the transition period from ________ to ________
Commission File Number 000-24503
WASHINGTON BANKING COMPANY
(Exact name of registrant as specified in its charter)
Washington 91-1725825
(State or other jurisdiction of (I.R.S. Employer
incorporation or organization) Identification Number)
450 SW Bayshore Drive
Oak Harbor, Washington 98277
(Address of principal executive offices) (Zip Code)
(360) 679-3121
(Issuer's telephone number, including area code)
(Former name, former address and former fiscal year,
if changed since last report)
Indicate by check mark whether the issuer: (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 [ ]
The number of shares of the issuer's Common Stock outstanding at
November 8, 2002 was 4,520,403.
Table of Contents
PART I
Page
Item 1. Financial Statements
Condensed Consolidated Statements of Financial Condition -
September 30, 2002 and December 31, 2001 1
Condensed Consolidated Statements of Income -
Three and Nine Months Ended September 30, 2002 and 2001 2
Condensed Consolidated Statements of Shareholders' Equity and Comprehensive Income -
Nine Months Ended September 30, 2002 and 2001 3
Condensed Consolidated Statements of Cash Flows -
Nine Months Ended September 30, 2002 and 2001 4
Notes to Condensed Consolidated Financial Statements 5
Item 2. Management's Discussion and Analysis of Financial Condition and Results of Operations 9
Item 3. Quantitative and Qualitative Disclosures about Market Risk 18
Item 4. Controls and Procedures 19
PART II
Item 2. Changes in Securities 19
Item 6. Exhibits and Reports on Form 8-K 19
Signatures 20
Certification of Chief Executive Officer 21
Certification of Chief Financial Officer 22
PART I
Item 1. Financial Statements
WASHINGTON BANKING COMPANY
AND SUBSIDIARIES
Condensed Consolidated Statements of Financial Condition
September 30, 2002 and December 31, 2001
(Dollars in thousands, except per share data)
September 30, December 31,
Assets 2002 2001
---------------- ----------------
(unaudited) (audited)
Cash and due from banks $ 18,515 $ 16,838
($2,440 and $4,096, respectively, are restricted)
Interest-earning deposits 11,997 427
Federal funds sold 20,000 2,500
---------------- ----------------
Total cash and cash equivalents 50,512 19,765
---------------- ----------------
Federal Home Loan Bank stock 2,122 2,029
Investment securities available for sale 6,065 4,145
Investment securities held to maturity 16,786 18,401
---------------- ----------------
Total investment securities 24,973 24,575
---------------- ----------------
Loans receivable, net 428,226 373,198
Premises and equipment, net 16,618 15,647
Other real estate owned 449 473
Deferred tax assets 833 812
Other assets 4,207 3,216
---------------- ----------------
Total assets $ 525,818 $ 437,686
================ ================
Liabilities and Shareholders' Equity
Liabilities:
Deposits $ 452,680 $ 367,175
Other borrowed funds 17,500 32,500
Other liabilities 2,263 3,034
Trust preferred securities 15,000 --
---------------- ----------------
Total liabilities 487,443 402,709
---------------- ----------------
Commitments and contingencies -- --
Shareholders' equity:
Preferred stock, no par value. Authorized 20,000 shares:
no shares issued or outstanding -- --
Common stock, no par value. Authorized 10,000,000 shares:
issued and outstanding 4,077,750 and 4,055,250
shares at September 30, 2002 and December 31, 2001, respectively 16,191 16,124
Stock dividends to be distributed 4,669 --
Retained earnings 17,470 18,782
Accumulated other comprehensive income, net 45 71
---------------- ----------------
Total shareholders' equity 38,375 34,977
---------------- ----------------
Total liabilities and shareholders' equity $ 525,818 $ 437,686
================ ================
See accompanying notes to condensed consolidated financial statements.
1
WASHINGTON BANKING COMPANY
AND SUBSIDIARIES
Condensed Consolidated Statements of Income
Three and nine months ended September 30, 2002 and 2001 (unaudited)
(Dollars in thousands, except per share data)
Three Months Ended Nine Months Ended
September 30, September 30,
------------------------ -----------------------
2002 2001 2002 2001
----------- ----------- ---------- ----------
Interest income:
Interest and fees on loans $ 8,591 $ 8,097 $ 25,173 $ 23,437
Interest on taxable investment securities 64 104 214 349
Interest on tax-exempt investment securities 186 196 565 594
Other 145 28 212 141
----------- ----------- ---------- ----------
Total interest income 8,986 8,425 26,164 24,521
Interest expense:
Interest on deposits 2,483 3,054 7,229 10,178
Interest on trust preferred securities 211 -- 218 --
Interest on other borrowings 187 191 592 418
----------- ----------- ---------- ----------
Total interest expense 2,881 3,245 8,039 10,596
----------- ----------- ---------- ----------
Net interest income 6,105 5,180 18,125 13,925
Provision for loan losses (589) (755) (2,467) (1,815)
----------- ----------- ---------- ----------
Net interest income after
provision for loan losses 5,516 4,425 15,658 12,110
Noninterest income:
Service charges and fees 458 422 1,310 1,263
Other 487 581 1,766 1,577
----------- ----------- ---------- ----------
Total noninterest income 945 1,003 3,076 2,840
Noninterest expense:
Salaries and benefits 2,664 2,139 7,386 6,185
Occupancy 719 670 2,114 2,005
Office supplies and printing 129 122 376 384
Data processing 116 85 296 249
Consulting and professional fees 62 55 183 177
Other 731 602 2,074 1,613
----------- ----------- ---------- ----------
Total noninterest expense 4,421 3,673 12,429 10,613
----------- ----------- ---------- ----------
Income before income taxes 2,040 1,755 6,305 4,337
Provision for income taxes (720) (593) (2,156) (1,290)
----------- ----------- ---------- ----------
Net income $ 1,320 $ 1,162 $ 4,149 $ 3,047
=========== =========== ========== ==========
Net income per share, basic $ 0.29 $ 0.26 $ 0.93 $ 0.68
=========== =========== ========== ==========
Net income per share, diluted $ 0.28 $ 0.25 $ 0.87 $ 0.65
=========== =========== ========== ==========
Average number of shares outstanding, basic 4,485,525 4,460,775 4,471,291 4,449,684
Average number of shares outstanding, diluted 4,768,188 4,684,874 4,753,488 4,657,623
See accompanying notes to condensed consolidated financial statements.
2
WASHINGTON BANKING COMPANY
AND SUBSIDIARIES
Condensed Consolidated Statements of Shareholders' Equity
and Comprehensive Income
Nine months ended September 30, 2002 and 2001 (unaudited)
(Dollars in thousands, except per share data)
Stock Accumulated
Common stock dividends other Total
-------------------- to be Retained comprehensive shareholder's
Shares Amount distributed earnings gain (loss), net equity
--------- --------- ------------- ---------- --------------- --------------
Balances at December 31, 2000 4,033 $ 16,058 $ $ 15,470 $ (27) $ 31,501
Comprehensive income:
Net income -- -- -- 3,047 -- 3,047
Net change in unrealized gain
on securities available for sale,
net of tax of $54 -- -- -- -- 105 105
--------------
Total comprehensive income (1) 3,152
Cash dividend, $0.18 per share -- -- -- (729) -- (729)
Stock options exercised 22 66 -- -- 66
--------- --------- ------------- ---------- --------------- --------------
Balances at September 30, 2001 4,055 $ 16,124 $ -- $ 17,788 $ 78 $ 33,990
========= ========= ============= ========== =============== ==============
Balances at December 31, 2001 4,055 $ 16,124 $ -- $ 18,782 $ 71 $ 34,977
Comprehensive income:
Net income -- -- -- 4,149 -- 4,149
Net change in unrealized loss
on securities available for sale,
net of tax of $13 -- -- -- -- (26) (26)
--------------
Total comprehensive income (1) 4,123
Cash dividend, $0.195 per share -- -- -- (792) -- (792)
10% Stock dividend -- -- 4,669 (4,669) -- --
Stock options exercised 23 67 -- -- -- 67
--------- --------- ------------- ---------- --------------- --------------
Balances at September 30, 2002 4,078 $ 16,191 $ 4,669 $ 17,470 $ 45 $ 38,375
========= ========= ============= ========== =============== ==============
(1) Includes comprehensive income for the three months ended September 30, 2002 and 2001 of $1,322 and $1,185, respectively.
See accompanying notes to condensed consolidated financial statements.
3
WASHINGTON BANKING COMPANY
AND SUBSIDIARies
Condensed Consolidated Statements of Cash Flows
Nine months ended September 30, 2002 and 2001 (unaudited)
(Dollars in thousands)
Nine Months Ended September 30,
2002 2001
---------------- --------------
Cash flows from operating activities:
Net income $ 4,149 $ 3,047
Adjustments to reconcile net income to net cash
provided by operating activities:
Federal Home Loan Bank stock dividends (93) (44)
Deferred income tax expense (8) --
Amortization of investment premiums, net 56 25
Provision for loan losses 2,467 1,815
Net increase in loans held for sale (1,809) (2,516)
Depreciation of premises and equipment 937 911
Net gains on sale of premises and equipment and real estate (194) (32)
Net gains on sale of other real estate (3) (50)
Net increase in other assets (991) (1,299)
Net (increase) decrease in other liabilities (771) 536
---------------- --------------
Net cash provided by operating activities 3,740 2,393
---------------- --------------
Cash flows from investing activities:
Purchases of Federal Home Loan Bank Stock -- (478)
Purchases of investment securities available for sale (4,000) --
Maturities of investment securities available for sale 2,000 1,500
Maturities of investment securities held to maturity 1,600 1,465
Net increase in loans (55,726) (55,742)
Purchases of premises and equipment (2,082) (2,791)
Proceeds from the sale of premises and equipment 368 98
Purchases of real estate -- (175)
Proceeds from the sale of real estate owned 67 80
---------------- --------------
Net cash used in investing activities (57,773) (56,043)
---------------- --------------
Cash flows from financing activities:
Net increase in deposits 85,505 40,977
Net decrease in other borrowed funds (15,000) --
Net increase in federal funds purchased -- 20,000
Proceed from trust preferred securities 15,000 --
Dividends paid on common stock (792) (729)
Proceeds from stock options exercised 67 66
---------------- --------------
Net cash provided by financing activities 84,780 60,314
---------------- --------------
Net increase in cash and cash equivalents 30,747 6,664
Cash and cash equivalents at beginning of period 19,765 17,179
---------------- --------------
Cash and cash equivalents at end of period $ 50,512 $ 23,843
================ ==============
Supplemental information:
Loans foreclosed and transferred to real estate owned $ 40 $ 75
Cash paid for interest 8,021 10,755
Cash paid for taxes 2,911 1,500
Transfer of investments from HTM to AFS -- 1,000
See accompanying notes to condensed consolidated financial statements.
4
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
Three and nine months ended September 30, 2002 and 2001 (unaudited)
(1) Description of Business and Summary of Significant Accounting Policies
(a) Description of Business
Washington Banking Company ("WBCO"), a Washington State bank holding company was
formed on April 30, 1996. Whidbey Island Bank (the "Bank"), the principal
subsidiary of WBCO, is a Washington state-chartered commercial bank. The
business of the Bank, which is focused in the northern area of Western
Washington, consists primarily of attracting deposits from the general public
and originating loans. Although the Bank has a diversified loan portfolio, a
substantial portion of its borrowers' ability to repay their loans is dependent
upon the economic conditions affecting this area related to the retail and
service trades, tourism, agricultural and manufacturing industries, and the
large military base presence in the area. The Bank also offers nondeposit
investment products for sale through its subsidiary, WIB Financial Services,
Inc. ("WIB FSI"), which are not FDIC insured.
Effective June 23, 1998, WBCO sold 1,380,000 shares of its common stock at a
price of $12 per share, resulting in net proceeds to the Company of $14.9
million.
Washington Banking Capital Trust I (the "Trust"), the second subsidiary of WBCO,
was formed in June 2002 for the exclusive purpose of issuing Trust Preferred
Securities and common securities and using the $15.0 million in proceeds from
the issuance to acquire junior subordinated debentures issued by WBCO.
(b) Basis of Presentation
The accompanying interim condensed consolidated financial statements include the
accounts of WBCO and its subsidiaries (together, "the Company"). The
accompanying interim condensed consolidated financial statements have been
prepared, without audit, pursuant to the rules and regulations of the Securities
and Exchange Commission. Accordingly, they do not include all of the information
and footnotes required by generally accepted accounting principles for complete
financial statements. These condensed consolidated financial statements should
be read in conjunction with the December 31, 2001 audited consolidated financial
statements and notes thereto included in the Company's Annual Report on Form
10-K filed with the Securities and Exchange Commission. In management's opinion,
all adjustments (consisting of normal recurring adjustments) considered
necessary for a fair presentation have been included. Operating results for the
nine months ended September 30, 2002 are not necessarily indicative of the
results that may be expected for the year ending December 31, 2002. In preparing
the consolidated financial statements, estimates and assumptions that affect the
reported amounts of assets, liabilities, revenues and expenses are required.
Actual results could differ from those estimates.
Certain amounts in 2001 have been reclassified to conform to the 2002 financial
statement presentation.
(c) Recently Issued Accounting Pronouncements
In July 2001, Financial Accounting Standards Board ("FASB") issued Statement of
Financial Accounting Standards ("SFAS") 141, "Business Combinations" and SFAS
142, "Goodwill and Other Intangible Assets." SFAS 141 requires business
combinations initiated after June 30, 2001 to be accounted for using the
purchase method of accounting, and broadens the criteria for recording
intangible assets separate from goodwill. Recorded goodwill and intangibles will
be evaluated against this new criteria and may result in certain intangibles
being subsumed into goodwill, or alternatively, amounts initially recorded as
goodwill may be separately identified and recognized apart from goodwill. SFAS
142 requires the use of a nonamortization approach to account for purchased
goodwill and certain intangibles. Under this nonamortization approach, goodwill
and certain intangibles will not be amortized into results of operations, but
instead will be reviewed for impairment and written down and charged to results
of operations only in the periods in which the recorded value of goodwill and
certain intangibles is more than this fair value. The Company adopted the
provisions of SFAS 142 on January 1, 2002 and it had no material effect on its
results of operations or financial position.
5
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
Three and nine months ended September 30, 2002 and 2001 (unaudited)
In June 2001, the FASB issued SFAS 143, "Accounting for Asset Retirement
Obligations," which addresses financial accounting and reporting for obligations
associated with the retirement of tangible long-lived assets and the associated
asset retirement costs. The standard applies to legal obligations associated
with the retirement of long-lived assets that result from the acquisition,
construction, development and (or) normal use of the asset. SFAS 143 requires
that the fair value of a liability for an asset retirement obligation be
recognized in the period in which it is incurred if a reasonable estimate of
fair value can be made. The fair value of the liability is added to the carrying
amount of the associated asset and this additional carrying amount is
depreciated over the life of the asset.
The liability is accreted at the end of each period through charges to operating
expense. If the obligation is settled for other than the carrying amount of the
liability, the Company will recognize a gain or loss on settlement. The Company
is required and plans to adopt the provisions of SFAS 143 for the quarter ending
March 31, 2003. The Company is currently evaluating the impact that this
statement will have on their financial position and results of operations,
however, they do not expect such impact to be material.
On October 3, 2001, the FASB issued SFAS 144, "Accounting for the Impairment or
Disposal of Long-Lived Assets," which addresses financial accounting and
reporting for the impairment or disposal of long-lived assets. While SFAS 144
supersedes SFAS 121, "Accounting for the Impairment of Long-Lived Assets and for
Long-Lived Assets to Be Disposed Of," it retains many of the fundamental
provisions in that SFAS 144 also supersedes the accounting and reporting
provisions of APB Opinion No. 30, "Reporting the Results of
Operations--Reporting the Effects of Disposal of a Segment of a Business, and
Extraordinary, Unusual and Infrequently Occurring Events and Transactions," for
the disposal of a segment of a business. However, it retains the requirement in
Opinion No. 30 to report separately discontinued operations and extends that
reporting to a component of an entity that either has been disposed of (by sale,
abandonment, or in a distribution to owners) or is classified as held for sale.
The Company adopted the provisions of SFAS 144 on January 1, 2002 and it had no
material effect on its results of operations or financial position.
In April 2002, the FASB issued FSAS No. 145, "Rescission of FASB Statements No.
4, 44, and 64, Amendment of FASB Statement No. 13, and Technical Corrections."
Statement No. 145 eliminates the treatment of extinguishment of debt as
extraordinary and clarifies the accounting for certain sale-leaseback
transactions. The provisions of Statement No. 145 are required to be applied
starting with fiscal years beginning after May 15, 2002, with early adoption
encouraged. The Company believes the adoption of Statement No. 145 will have no
material impact on its financial statements.
In July 2002, the FASB issued FSAS No. 146, "Accounting for Costs Associated
with Exit or Disposal Activities." Statement No. 146 requires companies to
recognize costs associated with exit or disposal activities when they are
incurred rather than at the date of a commitment to an exit or disposal plan.
The provisions of Statement No. 146 are required to be applied prospectively to
exit or disposal activities initiated after December 31, 2002. The Company
believes the adoption of Statement No. 146 will have no material impact on its
financial statements.
In October 2002, the FASB issued FSAS No. 147, "Acquisition of Certain Financial
Institution"- an amendment of FASB Statements No. 72 and 144 and FASB
Interpretation No. 9. The provisions of this Statement that relate to the
application of the purchase method of accounting apply to all acquisitions of
financial institutions, except transactions between two or more mutual
enterprises. This Statement removes acquisitions of financial institutions from
the scope of both Statement 72 and Interpretation 9 and requires that those
transactions be accounted for in accordance with FASB Statements No. 141,
"Business Combinations," and No. 142, "Goodwill and Other Intangible Assets." In
addition, this Statement amends FASB Statement No. 144, "Accounting for the
Impairment or Disposal of Long-Lived Assets," to include in its scope long-term
customer-relationship intangible assets of financial institutions such as
depositor- and borrower-relationship intangible assets and credit cardholder
intangible assets. This Statement is effective for acquisitions for which the
6
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
Three and nine months ended September 30, 2002 and 2001 (unaudited)
date of acquisition is on or after October 1, 2002. The Company does not expect
the Statement will result in a material impact on its financial position or
results of operations.
(2) Trust Preferred Securities
On June 27, 2002, the Trust issued $15.0 million of trust preferred securities
with a 30-year maturity, callable after the fifth year, at an initial rate of
5.51%. The rate adjusts quarterly based on LIBOR (London Inter Bank Offered
Rate). These securities are considered Tier I capital for the purposes of
regulatory capital requirements. The Trust, a wholly-owned subsidiary of WBCO,
is a statutory business trust created for the exclusive purposes of issuing and
selling capital securities and utilizing sale proceeds to acquire junior
subordinated debt issued to WBCO. Accordingly, the junior subordinated
debentures are the sole assets of the Trust, and payments under the junior
subordinated debentures will be the sole revenues of the Trust. All of the
common securities of the Trust are owned by WBCO. Washington Banking Company has
fully and unconditionally guaranteed the capital securities along with all
obligations of the Trust under the trust agreements. The trust preferred
securities are included with borrowings as a separate line item in WBCO's
statement of financial conditions and distributions payable are treated as
interest expense in the consolidated statement of operations.
(3) Stock Dividend
On September 26, 2002, the Board of Directors declared a 10% stock dividend,
which was issued on October 24, 2002 to shareholders of record as of October 8,
2002.
(4) Earnings Per Share
The following illustrates the reconciliation of the numerators and denominators
of the basic and diluted earnings per share ("EPS") computations:
Three Months Ended September 30, 2002
---------------------------------------------------------
Weighted Per share
Income average shares amount
-------------- -------------------- -------------
Basic EPS
Income available to common shareholders $ 1,320 4,485,525 $ 0.29
Effect of dilutive securities: stock options -- 282,663 (0.01)
-------------- -------------------- -------------
Diluted EPS $ 1,320 4,768,188 $ 0.28
============== ==================== =============
Three Months Ended September 30, 2001
---------------------------------------------------------
Weighted Per share
Income average shares amount
-------------- -------------------- -------------
Basic EPS
Income available to common shareholders $ 1,162 4,460,775 $ 0.26
Effect of dilutive securities: stock options -- 224,099 (0.01)
-------------- -------------------- -------------
Diluted EPS $ 1,162 4,684,874 $ 0.25
============== ==================== =============
7
NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS
Three and nine months ended September 30, 2002 and 2001 (unaudited)
Nine Months Ended September 30, 2002
---------------------------------------------------------
Weighted Per share
Income average shares amount
-------------- -------------------- -------------
Basic EPS
Income available to common shareholders $ 4,149 4,471,291 $ 0.93
Effect of dilutive securities: stock options -- 282,197 (0.06)
-------------- -------------------- -------------
Diluted EPS $ 4,149 4,753,488 $ 0.87
============== ==================== =============
Nine Months Ended September 30, 2001
---------------------------------------------------------
Weighted Per share
Income average shares Amount
-------------- -------------------- -------------
Basic EPS
Income available to common shareholders $ 3,047 4,449,684 $ 0.68
Effect of dilutive securities: stock options -- 207,939 (0.03)
-------------- -------------------- -------------
Diluted EPS $ 3,047 4,657,623 $ 0.65
============== ==================== =============
Earnings per share have been adjusted for all periods to include the effect of
the 10% stock dividend declared on September 26, 2002 and issued on October 24,
2002 to shareholders of record as of October 8, 2002.
At September 30, 2002 and 2001 there were options to purchase 493,611 and
447,480 shares of common stock outstanding, respectively. For the quarters ended
September 30, 2002 and 2001, options to purchase zero and 37,950 shares of
common stock, respectively, were antidilutive and, therefore, not included in
computation of diluted net income per share. For the nine months ended September
30, 2002 and 2001, options to purchase zero and 98,550 shares of common stock,
respectively, were antidilutive and, therefore, not included in computation of
diluted net income per share.
(5) Subsequent Event
On October 17, 2002, the Board of Directors declared a cash dividend of $0.065
per share to shareholders of record as of November 5, 2002, which is payable on
November 25, 2002.
8
Item 2. Management's Discussion and Analysis of Financial Condition and Results
of Operations
Note Regarding Forward-Looking Statements: This Form 10-Q includes
forward-looking statements, which management believes are a benefit to
shareholders. These forward-looking statements describe Washington Banking
Company's management's expectations regarding future events and developments
such as future operating results, growth in loans and deposits, continued
success of the Company's business plan and the strength of the local economy.
The words "will," "believe," "expect," "should," "anticipate" and words of
similar construction are intended in part to help identify forward-looking
statements. Future events are difficult to predict, and the expectations
described below are necessarily subject to risk and uncertainty that may cause
actual results to differ materially and adversely. In addition to discussions
about risks and uncertainties set forth from time to time in the Company's
filings with the SEC, factors that may cause actual results to differ materially
from those contemplated in such forward-looking statements include, among
others, the following possibilities: (1) local and national general and economic
conditions, including the impact of the events of September 11, 2001 and any
further similar events, are less favorable than expected or have a more direct
and pronounced effect on the Company than expected and adversely affect the
Company's ability to continue its internal growth at historical rates and
maintain the quality of its earning assets; (2) changes in interest rates reduce
interest margins more than expected and negatively affect funding sources; (3)
projected business increases following strategic expansion or opening or
acquiring new branches are lower than expected; (4) costs or difficulties
related to the integration of acquisitions are greater than expected; (5)
competitive pressure among financial institutions increases significantly; (6)
legislation or regulatory requirements or changes adversely affect the banking
and financial services sector; and (7) Washington Banking Company's ability to
realize the efficiencies it expects to receive from its investment in personnel
and infrastructure.
Overview
Washington Banking Company (the "Company") is a registered bank holding company
with two wholly-owned subsidiaries - Whidbey Island Bank (the "Bank"), the
Company's principal subsidiary, and Washington Banking Capital Trust I (the
"Trust"). The Bank is a Washington state-chartered bank that conducts a
full-service community commercial banking business. Its business includes
commercial loan, real estate loan and construction loan portfolios, and is
active in the consumer banking field, providing personal and consumer-oriented
loan programs. The Bank also provides a wide range of deposit services, insured
by the FDIC, for individuals and businesses including checking and savings
accounts as well as money market accounts, certificates of deposit, individual
retirement accounts, safe deposit boxes and other consumer and business related
financial services. The Company also offers nondeposit investment products for
sale through the Bank's subsidiary, WIB Financial Services, Inc., which are not
FDIC insured.
The Trust was formed in June 2002 for the exclusive purpose of issuing trust
preferred securities to acquire junior subordinated debentures issued by the
Company. Those debentures are the sole assets of the Trust and payments on the
debt will be the sole revenues of the Trust. The Company has fully and
unconditionally guaranteed all obligations of the Trust.
Headquartered in Oak Harbor, the Company's primary market area is located in
northwestern Washington state between Seattle and the Canadian border. In recent
years, the region has experienced strong population growth and economic
diversification. The region's economy has evolved from one that was once heavily
dependent upon forestry, fishing and farming to an economy with a much more
diverse blend of industries including retail trade, services, manufacturing,
tourism and a large military base presence.
The Company's strategy is one of value-added growth. Management believes that
qualitative and sustainable growth of the Company, coupled with maintaining
profitability, is currently the most appropriate path to providing good value
for its shareholders. To date, the Company's growth has been achieved
organically and it attributes its reputation for focusing on customer service
and satisfaction as one of the cornerstones to the Company's success. The
Company's primary objectives are to improve profitability and operating
efficiencies, increase market penetration in areas currently served, and to
continue an expansion strategy in appropriate market areas.
9
The Company believes that growing the infrastructure is an excellent way to
build franchise value and increase business while managing up-front costs.
During the third quarter the Company constructed a building for the new branch
in Stanwood (Snohomish county) and began leasing space for the
Fairhaven/Bellingham branch (Whatcom county) and the Loan Production Office
("LPO") in Smokey Point/Arlington (Snohomish county). With the addition of these
offices, the Company now has locations in four counties. Construction of a
building is also underway for the relocation of the Camano Island branch.
Management believes these locations will enhance customer service by providing
easier branch access and more convenient availability of services to new and
existing Bank customers.
Financial Condition
Total Assets. Total assets increased to $525.8 million at September 30, 2002
from $437.7 million at December 31, 2001, an increase of 20.1%. This increase
resulted primarily from growth in the loan portfolio, which was funded by
deposit growth, investment maturities and borrowings. The proceeds from a
non-dilutive private placement of $15.0 million of trust preferred securities
issued in June 2002 contributed to the increase in assets and are also being
used to fund the Company's expansion.
Loans. Net loans totaled $428.2 million at September 30, 2002, an increase of
14.7%, from $373.2 million at December 31, 2001. The Company increased its
allowance for loan losses to $5.5 million at September 30, 2002 representing
1.26% of total loans, from $4.3 million or 1.14% of total loans at December 31,
2001, in an effort to remain conservative and improve coverage. See "Lending
Activities - Provision and Allowance for Loan Losses," below.
Total Investment Securities. Total investment securities were $25.0 million and
$24.6 million at September 30, 2002 and December 2001, respectively, an increase
of 1.6%. Management is using a portion of the proceeds of the trust preferred
securities to purchase investments and is in the process of building the
portfolio with laddered securities that reflect the Company's investment policy
guidelines and collateral funding issues to help achieve the business plan of
the Company.
Premises and Equipment. Premises and equipment, net of depreciation, were $16.6
million and $15.6 million at September 30, 2002 and December 31, 2001,
respectively, an increase of 6.2%. The increase reflects the construction of new
branch offices and related furniture and fixtures, offset by the sale of the
North Whidbey branch property during first quarter 2002. The increase to
premises and equipment is an indication of future expectations as the Company
continues its strategy of expansion and market penetration. Acquisition of banks
or branches may also be used as a means of expansion if appropriate
opportunities arise.
Deposits. Deposits grew 23.3% to $452.7 million at September 30, 2002 from
$367.2 million at December 31, 2001. The Company's philosophy is to develop
long-term customer relationships. Management believes that the best way to
establish customer loyalty is by placing an emphasis on meeting the customers'
financial needs and providing exceptional service. The Company attributes its
successful deposit growth to its continuing efforts to meet these objectives
through various deposit promotions, cross-sales efforts, financial planning and
other means. In addition, many customers are seeking the security of
FDIC-insured deposit vehicles given the recent volatility of the investment
market. Average noninterest-bearing deposits increased 13.0% to $56.1 million,
at September 30, 2002 from September 30, 2001, while average interest-bearing
deposits increased 24.5% to $379.8 million, compared to the like period a year
ago. See " - Deposits," below.
Shareholders' Equity. The Company's shareholders' equity increased 9.7% to $38.4
million at September 30, 2002 from $35.0 million at December 31, 2001. The
increase reflects earnings and proceeds from stock options exercised, offset by
the payment of cash dividends and the decrease in unrealized gain on
available-for-sale securities, net of tax, during the first nine months of 2002.
10
Consolidated Average Balance Sheet and Analysis of Net Interest Income and
Expense
The following table sets forth at the dates indicated the Company's consolidated
average balance sheet and analysis of net interest income and expense:
Three Months Ended September 30, 2002 Three Months Ended September 30, 2001
Interest Interest
Average earned/ Average Average earned/ Average
(Dollars in thousands) balance paid yield (1) balance paid yield (1)
----------- ----------- ----------- ------------ ------------ ------------
Assets
Loans (2) $ 426,048 $ 8,591 8.07% $ 352,457 $ 8,097 9.19%
Federal funds sold 15,784 63 1.60% 177 2 4.52%
Interest-earning cash 12,019 51 1.70% 829 6 2.90%
Investments:
Taxable 6,987 95 5.44% 8,071 124 6.15%
Non-taxable (3) 15,848 249 6.28% 16,747 262 6.26%
----------- ----------- ----------- ------------ ------------ ------------
Interest-earning assets 476,686 9,049 7.59% 378,281 8,491 8.98%
Noninterest-earning assets 32,564 31,328
----------- ------------
Total assets $ 509,250 $ 409,609
=========== ============
Liabilities and
Shareholders' equity
Deposits:
Interest-bearing demand
and money market $ 155,850 $ 678 1.74% $ 117,099 $ 691 2.36%
Savings 29,743 104 1.40% 26,576 129 1.94%
CDs 193,894 1,701 3.51% 161,048 2,234 5.55%
----------- ----------- ----------- ------------ ------------ ------------
Interest-bearing deposits 379,487 2,483 2.62% 304,723 3,054 4.01%
Federal funds purchased -- -- -- 9,529 88 3.69%
Trust preferred securities 15,000 211 5.63% -- -- --
Borrowings and other
interest-bearing liabilities 18,885 187 3.96% 10,268 103 4.01%
----------- ----------- ----------- ------------ ------------ ------------
Interest-bearing liabilities 413,372 2,881 2.79% 324,520 3,245 4.00%
Noninterest-bearing deposits 56,087 49,638
Other noninterest-bearing
liabilities 2,276 2,156
----------- ------------
Total liabilities 471,735 376,314
Shareholders' equity 37,515 33,295
----------- ------------
Total liabilities and
shareholders' equity $ 509,250 $ 409,609
=========== ============
Net interest income (3) $ 6,168 $ 5,246
=========== ============
Net interest spread (1) 4.80% 4.98%
=========== ============
Net interest margin (1) 5.18% 5.55%
=========== ============
(1) Annualized
(2) Includes loan fees of $231 and $165 for the three months ended September 30, 2002 and 2001, respectively.
(3) Interest income on non-taxable investments is presented on a fully taxable-equivalent basis using the federal statutory
rate of 34%. These adjustments were $63 and $66 for the three months ended September 30, 2002 and 2001, respectively.
11
Results of Operations
The Company's results of operations are dependent to a large degree on net
interest income. Interest income and cost of funds are affected significantly by
general economic conditions, particularly changes in market interest rates, and
by government policies and the actions of regulatory authorities. The Company
generates noninterest income generally through service charges and fees and
other sources. The Company's noninterest expenses consist primarily of
compensation and employee benefit expense, and occupancy expense.
Net Income. Net income for the third quarter of 2002 increased 13.6% to $1.3
million, or $0.28 per diluted share, from $1.2 million, or $0.25 per diluted
share, for the third quarter of 2001. Net income for the nine months ended
September 30, 2002 increased 36.2% to $4.1 million, or $0.87 per diluted share,
from $3.0 million, or $0.65 per diluted share, for the nine months ended
September 30, 2001. The improvement was primarily due to increased net interest
income.
Net Interest Income. Net interest income for the third quarter of 2002 increased
17.9% to $6.1 million from $5.2 million for the third quarter of 2001. For the
first nine months of 2002, net interest income increased 30.2% to $18.1 million
from $13.9 million for the like period in 2001. The increase in net interest
income is largely due to the consistent growth rate, repricing, and changing
maturities of both our loan portfolio and our deposits.
Average interest-earning assets for the third quarter increased to $476.7
million at September 30, 2002, compared to $378.3 million at September 30, 2001,
a growth of 26.0%, while the average yield on interest-earning assets decreased
to 7.59% compared to 8.98% in third quarter of the prior year. The average yield
on loans decreased to 8.07% for the quarter ended September 30, 2002 from 9.19%
for the quarter ended September 30, 2001.
The average cost of interest-bearing liabilities decreased in the third quarter
of 2002 to 2.79% from 4.00% for the quarter ended September 30, 2001 due to the
lower deposit costs. This resulting decrease was realized even though the
Company had a higher cost on borrowings, mostly due to the trust preferred
interest costs. Average interest-bearing liabilities for the quarter increased
to $413.4 million at September 30, 2002 compared to $324.5 million at September
30, 2001, a growth of 27.4%.
During the third quarter of 2002, asset yields decreased more than liability
costs resulting in a lower net interest spread compared to the third quarter of
2001. The net interest spread was 4.80% for the quarter ended September 30, 2002
compared to 4.98% for the quarter ended September 30, 2001.
Net interest margin (net interest income divided by average interest-earning
assets) decreased to 5.18% in the third quarter of 2002 from 5.55% in the third
quarter of 2001. Interest-earning assets increased 26.0% in comparison to the
net interest income (on a fully taxable-equivalent basis) increase of 17.6%. The
lower net interest margin for third quarter 2002 was due in part to the
greater-than-anticipated deposit growth invested in lower-yielding, short-term,
overnight funds.
Noninterest Income. Noninterest income decreased $58,000, or 5.8%, in the third
quarter of 2002 compared to the like period last year. The majority of this
decrease is due to profits from WIB Financial Services, Inc., the bank's
investment services subsidiary, declining in the third quarter after being
relatively strong in the first half of the year.
For the first nine months of 2002, noninterest income increased $236,000, or
8.3% compared to the like period a year ago. This increase was primarily due to
the gain on sale of assets from the sale of the vacated North Whidbey branch
property and strong annuity and mutual fund sales in the first quarter of 2002
and an increase in ATM income for the year.
12
Noninterest Expense. Noninterest expense increased $748,000, or 20.4%, in the
third quarter of 2002. Employee compensation, a major component of noninterest
expense, increased 24.5% for the quarter compared with the like period in 2001.
For the first nine months of 2002, noninterest expense rose to $12.4 million
from $10.6 million one year ago, a 17.1% increase. Year to date, employee
compensation expense increased 19.4%. These increases were mainly due to
additional costs for salaries and employee benefits, reflecting the growth of
the Company. As expected, with the addition of new offices, the efficiency ratio
(noninterest expense divided by the sum of net interest income plus noninterest
income less non-recurring gains) rose slightly to 62.71% for the third quarter
2002 compared to 59.40% for the like period in 2001. For the first nine months
of 2002 and 2001, the efficiency ratio improved to 58.62% from 63.30%.
Income Taxes. For the third quarters of 2002 and 2001, the Company recorded
income tax provisions of $720,000 and $593,000, respectively. For the first nine
months of 2002 and 2001, the Company recorded income tax provisions of $2.2
million and $1.3 million, respectively. The overall year-to-date effective tax
rate was approximately 34% and 30%, respectively, at September 30, 2002 and
2001. The higher tax rate is in anticipation of the Company's increased tax base
due to the decrease in tax-exempt interest income as a percentage of income.
Lending Activities
Loan Portfolio Composition. The Company originates a wide variety of loans
including commercial, real estate and consumer loans. The following table sets
forth the Company's loan portfolio composition by type of loan at the dates
indicated:
September 30, 2002 December 31, 2001
------------------------------- -------------------------------
(Dollars in thousands) Balance % of total Balance % of total
--------------- -------------- --------------- --------------
Commercial $ 103,045 23.8% $ 109,867 29.1%
Real estate mortgages:
One-to-four family residential 42,638 9.8% 42,850 11.4%
Five-or-more family
residential and commercial 92,944 21.5% 65,782 17.4%
--------------- -------------- -------------------------------
Total real estate mortgages 135,582 31.3% 108,632 28.8%
Real estate construction 34,879 8.0% 26,917 7.1%
Consumer 160,069 36.9% 132,067 35.0%
--------------- -------------- -------------------------------
Subtotal 433,575 100.0% 377,483 100.0%
============== ==============
Less: allowance for loans losses (5,467) (4,308)
Deferred loan fees, net 118 23
--------------- ---------------
Loans, net $ 428,226 $ 373,198
=============== ===============
During the nine months ended September 30, 2002, net loans increased 14.7% from
year-end 2001. Total commercial loans decreased 6.2%, while real estate
mortgage, real estate construction and consumer loans increased 24.8%, 29.6% and
21.2%, respectively, at September 30, 2002 from year-end 2001. At September 30,
2002, indirect dealer loans were $95.5 million, or 59.7% of the consumer loan
portfolio, as compared to $73.0 million, or 55.3%, at December 31, 2001. The
commercial loan decrease reflects some weakening in the local economy. However,
other loan growth has been driven by the favorable interest rate environment.
13
Nonperforming Assets. The following table sets forth an analysis of the
composition of the Company's nonperforming assets ("NPAs") at the dates
indicated:
(Dollars in thousands) September 30, 2002 December 31, 2001
---------------------- ----------------------
Nonaccrual loans $ 4,103 $ 2,094
Restructured loans -- --
---------------------- ----------------------
Total nonperforming loans 4,103 2,094
Real estate owned 449 473
---------------------- ----------------------
Total nonperforming assets $ 4,552 $ 2,567
====================== ======================
Accruing loans past due >= 90 days $ 50 $ --
Allowance for loan losses 5,467 4,308
Ratio of nonperforming loans to loans 0.95% 0.55%
Ratio of allowance for loan losses to loans 1.26% 1.14%
Ratio of allowance for loan losses to nonperforming loans 133.24% 205.73%
Ratio of nonperforming assets to total assets 0.87% 0.59%
Nonperforming loans increased to $4.1 million, or 0.95% of total loans, at
September 30, 2002 from $2.1 million, or 0.55% of total loans, at December 31,
2001. One credit, which has been significantly impacted by the downturn in the
telecommunications industry, accounts for $1.2 million, or 60.0% of this
increase. The remainder of the increase in nonperforming loans comes primarily
from the commercial loan sector, reflecting some weakening in the local economy
and some softening in the commercial real estate arena, although the Company's
market is removed from the high level of commercial real estate vacancies that
have impacted the Seattle metropolitan area. The current allowance for loan
losses of $5.5 million represents 133.24% of nonperforming loans at September
30, 2002, as compared to 205.73% of nonperforming loans at December 31, 2001.
The allowance for loan losses is 1.26% of total loans at September 30, 2002 as
compared to 1.14% of total loans at December 31, 2001.
In general, delinquencies remain low and underwriting standards continue to be
strengthened to mitigate risk associated with the potential softening of the
economy. NPAs continue to be comparable to state and national FDIC peer group
averages and management remains confident in the Company's asset quality.
Provision and Allowance for Loan Losses. The Company recorded a $589,000
provision for loan losses for the third quarter of 2002, compared with $755,000
for the like period a year ago. The allowance for loan losses ratios remained
adequate in all categories. Management determined that these additions were
warranted in anticipation of potential additional economic softening. The
Company had $691,000 in net loan charge-offs, representing 0.16% of average
loans during the third quarter of 2002, compared to $423,000, or 0.12%, in the
third quarter of 2001.
For the nine months ended September 30, 2002, the Company recorded a $2.5
million provision for loan losses, compared with $1.8 million for the like
period a year ago. The Company recorded $1.3 million in net loan charge-offs,
representing 0.32% of average loans during the first nine months of 2002,
compared to $753,000 in net loan charge-offs, or 0.23% of average loans for the
like period in 2001. The increase in charge-offs is attributed to more
aggressive write-downs on consumer delinquencies, overall growth of the loan
portfolio, increased charge-offs on certain loans in the construction trades and
a softening economy. Net loan charge-offs attributed to indirect dealer loans
were $574,000, representing 0.68% of average indirect dealer loans during the
first nine months of 2002, compared to $197,000, or 0.34% of average indirect
dealer loans for the like period in 2001. Management has tightened consumer
lending standards over the last year and established additional guidelines and
limits on lending to certain industries in order to mitigate risk.
14
The allowance for loan losses is maintained at a level considered adequate by
management to provide for anticipated loan losses based on management's
assessment of various factors affecting the loan portfolio. This includes a
review of problem loans, general business and economic conditions, seasoning of
the loan portfolio, bank regulatory examination results and findings of internal
and external credit examiners, loss experience and an overall evaluation of the
quality of the underlying collateral. Management's assessment of the allowance
for loan losses is done formally on a quarterly basis and is reviewed
continually throughout each quarter with increases to the allowance for loan
losses made as deemed necessary.
The following table sets forth the changes in the Company's allowance for loan
losses at the dates indicated. The allocation is based on an evaluation of
defined loan problems, historical ratios of loan losses and other factors that
may affect future loan losses in the categories of loans shown:
(Dollars in thousands) Three Months Ended Nine Months Ended
September 30, September 30,
2002 2001 2002 2001
-------------- -------------- -------------- ---------------
Balance at beginning of period $ 5,569 $ 3,394 $ 4,308 $ 2,664
Charge-offs:
Commercial (234) (145) (508) (249)
Real estate (33) (72) (43) (117)
Consumer (474) (275) (932) (563)
-------------- -------------- -------------- ---------------
Total charge-offs (741) (492) (1,483) (929)
Recoveries:
Commercial 1 4 10 70
Real estate -- 6 -- 6
Consumer 49 59 165 100
-------------- -------------- -------------- ---------------
Total recoveries 50 69 175 176
Net charge-offs (691) (423) (1,308) (753)
Provision for loan losses 589 755 2,467 1,815
-------------- -------------- -------------- ---------------
Balance at end of period $ 5,467 $ 3,726 $ 5,467 $ 3,726
============== ============== ============== ===============
While management believes that it uses the best information available to
determine the allowance for loan losses, potential continuation of the economic
downturn and unforeseen market conditions could result in adjustments to the
allowance for loan losses, and net income could be significantly affected, if
circumstances differ substantially from the assumptions used in making the final
determination. Management anticipates that normal growth of the loan portfolio,
coupled with credit weakness that could occur as a result of a continuing
slowdown in the local economy may require increases in the provisions to the
allowance for loan losses during the remainder of 2002.
Deposits
The Company provides a range of deposit services, including noninterest-bearing
checking accounts, interest-bearing checking and savings accounts, money market
accounts and certificates of deposit ("CDs"). These accounts generally earn
interest at rates established by management based on competitive market factors
and management's desire to increase or decrease certain types or maturities of
deposits. The Company does not pay brokerage commissions to attract deposits. It
strives to establish customer relationships to attract core deposits in
noninterest-bearing transactional accounts and thus reduce its costs of funds.
15
The following table sets forth the average balances outstanding and average
interest rates for each major category of deposits at the dates indicated:
Three Months Ended September 30,
----------------------------------------------------
2002 2001
------------------------- --------------------------
(Dollars in thousands) Average Average Average Average
balance rate balance rate
------------------------- --------------------------
Interest-bearing demand and
money market deposits $ 155,850 1.74% $ 117,099 2.36%
Savings deposits 29,743 1.40% 26,576 1.94%
CDs 193,894 3.51% 161,048 5.55%
------------------------- --------------------------
Total interest-bearing deposits 379,487 2.62% 304,723 4.01%
Demand and other
noninterest-bearing deposits 56,087 49,638
------------- -------------
Total average deposits $ 435,574 $ 354,361
============= =============
Liquidity and Sources of Funds
Sources of Funds. The Company's sources of funds are customer deposits, loan
repayments, current earnings, cash and demand balances due from other banks,
federal funds sold, short-term investments and investment securities available
for sale. These funds are used to make loans and to support continuing
operations. The Bank relies primarily upon customer deposits and investments to
provide liquidity. The Company will mainly use such funds to make loans and to
purchase securities, the majority of which are issued by federal, state and
local governments. Additional funds are available through established Federal
Home Loan Bank ("FHLB") and correspondent bank lines of credit, which the
Company may use to supplement funding sources.
The Company's strategy includes maintaining a "well-capitalized" status for
regulatory purposes, while maintaining a favorable liquidity position and proper
asset/liability mix. With this strategy in mind, management evaluated potential
capital-raising alternatives such as trust preferred securities, issuance of
common stock, and other sources. Management determined that issuing trust
preferred securities would be in the best interest of the Company and on June
27, 2002, the Trust issued $15.0 million of trust preferred securities. Trust
preferred securities are held as debt for tax purposes, while the proceeds of
the offering count as Tier I capital without increasing the shareholder base,
and therefore not diluting earnings per share.
Deposits. Total deposits increased 23.3%, to $452.7 million, at September 30,
2002 from $367.2 million at December 31, 2001. The Company, by policy, has not
accepted brokered deposits. It has made a concerted effort to attract deposits
in the market area it serves through competitive pricing and delivery of quality
service. Historically, the Company has been able to retain a significant amount
of its deposits as they mature.
The Company's deposits are expected to fluctuate according to the level of the
Company's deposit market share, economic conditions and normal seasonal
variations, among other things. Certificates of deposit are the only deposit
group that has stated maturity dates. At September 30, 2002, the Company had
$196.8 million in CDs of which approximately $161.1 million, or 81.9%, are
scheduled to mature within one year, as compared to $161.7 million in CDs of
which approximately $150.9 million, or 93.4% at December 31, 2001. Uncertain
market and economic conditions may cause some customers to choose to move funds
into core deposit accounts or withdraw funds, rather than renew CDs as they
mature. However, based on prior experience, the Company anticipates that a
substantial portion of outstanding CDs will renew upon maturity.
16
Borrowings. At September 30, 2002 the Company had a $78.8 million line of credit
with the FHLB, of which $17.5 million was advanced, and lines of credit with
financial institutions in the amount of $14.0 million, with no advances on these
lines of credit as of that date. At December 31, 2001 the Company had a $65.5
million line of credit with the FHLB, of which $32.5 million was advanced, and
lines of credit with financial institutions in the amount of $13.0 million, with
no advances on these lines of credit as of that date.
The Company has $15.0 million of trust preferred obligations at a quarterly
adjusted floating rate based on the 3-month LIBOR plus 3.65% with a 30-year
maturity, and an option to redeem at par anytime after the fifth year. At
September 30, 2002 the rate on the Company's trust preferred obligations was
5.51%.
Investments. The Company's total portfolio of investment securities increased
1.6% to $25.0 million at September 30, 2002 from $24.6 million at December 31,
2001. The investment portfolio consists of government agency securities,
municipal securities, mortgage backed securities, FHLB stock, and corporate
obligations. No investment exceeds 10% of the Company's shareholders' equity.
The following table summarizes the amortized cost, market value and recorded
value of securities in the Company's portfolio by contractual maturity groups:
September 30, 2002
--------------------------------------------------------
(Dollars in thousands) Amortized cost Market value Recorded value
---------------- ----------------- -----------------
Amounts maturing:
Within one year $ 6,108 $ 6,162 $ 6,138
One to five years 9,637 10,139 9,670
Six to ten years 7,583 8,016 7,577
Over ten years 1,576 1,596 1,588
---------------- ----------------- -----------------
Total $ 24,904 $ 25,913 $ 24,973
================ ================= =================
At September 30, 2002, the Company's investment portfolio consisted of $16.8
million, or 67.22% in held-to-maturity investments at carrying value, as
compared to $18.4, or 74.88%, at December 31, 2001, and $8.2 million, or 32.78%,
in available-for-sale securities at carrying value, as compared to $6.2 million,
or 25.12%, at December 31, 2001. For liquidity purposes, the Company's future
security purchases will primarily be designated as available-for-sale and will
increase as a percent of total investment securities at carrying value.
Capital and Capital Ratios
The Company's shareholders' equity increased 9.7% to $38.4 million at September
30, 2002 from $35.0 million at December 31, 2001. This increase is due to net
income of $4.1 million and $67,000 in proceeds from the exercise of stock
options, offset by the payment of cash dividends of $792,000 and a decrease in
unrealized gain on available-for-sale securities of $26,000, net of tax, during
the nine months ended September 30, 2002. Total assets increased to $525.8
million at September 30, 2002 from $437.7 million at December 31, 2001, an
increase of 20.1%. The ratio of shareholders' equity to total assets was 7.3% at
September 30, 2002, as compared to 8.0% at December 31, 2001.
Banking regulations require bank holding companies and banks to maintain a
minimum leverage ratio of core capital to adjusted average total assets of at
least 4%. In addition, banking regulators have adopted risk-based capital
guidelines, under which risk percentages are assigned to various categories of
assets and off-balance sheet items to calculate a risk-adjusted capital ratio.
Tier I capital generally consists of common shareholders' equity (which does not
include unrealized gains and losses on securities), less goodwill and certain
identifiable intangible assets, while Tier II capital includes the allowance for
loan losses and subordinated debt both subject to certain limitations.
17
The FDIC established the qualifications necessary to be classified as a
"well-capitalized" bank, primarily for assignment of FDIC insurance premium
rates. As the following table indicates, the Company (on a consolidated basis)
and the Bank qualified as "well capitalized" at September 30, 2002:
FDIC Requirements Company Ratios
-------------------------------- ----------------------------------------
Adequately- Well- September 30, December 31,
capitalized capitalized 2002 2001
-------------- ------------- --------------- -----------------
Total risk-based capital ratio 8% 10% 12.45% 9.64%
Tier 1 risk-based capital ratio 4% 6% 11.27% 8.57%
Leverage ratio 4% 5% 10.32% 8.03%
There can be no assurance that additional capital will not be required in the
future due to greater-than-expected growth, or otherwise.
Capital Expenditures and Commitments.
The Company had no material capital expenditures or commitments for the quarter
ended September 30, 2002.
Significant Accounting Policies
See "Notes to Condensed Consolidated Financial Statements."
2002 Anticipated Financial Performance
In February 2002, the Company announced targets for 2002 including 20% to 25%
earnings growth, 15% to 20% loan growth, 10% to 15% deposit growth, ROE of at
least 13%, and an efficiency ratio in the low sixties. The Company believes that
these goals can be attained through continuing its basic banking strategy of
building core deposits and building a conservative loan portfolio. The Company
is on track to meet its 2002 performance goals however it anticipates that
earnings per share and earnings growth will likely come in at the lower end of
the projected range. This reflects the expectations that the costs associated
with expanding the branch system and increasing the allowance for loan losses
may have on the Company's bottom line.
Item 3. Quantitative and Qualitative Disclosures about Market Risk
A number of measures are used to monitor and manage interest rate risk,
including income simulations and interest sensitivity (gap) analyses. An income
simulation model is the primary tool used to assess the direction and magnitude
of changes in net interest income resulting from changes in interest rates. Key
assumptions in the model include prepayment speeds on mortgage-related assets,
cash flows and maturities of other investment securities, loan and deposit
volumes, and pricing. These assumptions are inherently uncertain and, as a
result, the model cannot precisely estimate net interest income or precisely
predict the impact of higher or lower interest rates on net interest income.
Actual results will differ from simulated results due to timing, magnitude and
frequency of interest rate changes, changes in market conditions and management
strategies, among other factors. At September 30, 2002, based on the measures
used to monitor and manage interest rate risk, there had not been a material
change in the Company's interest rate risk since December 31, 2001. For
additional information, refer to the Company's Form 10-K for the year ended
December 31, 2001.
18
Item 4. Controls and Procedures
The Company's management, including the Chief Executive Officer and the Chief
Financial Officer, evaluated the Company's disclosure controls and procedures
(as defined in Rule 13a-14(c) under the Securities Exchange Act of 1934) within
90 days prior to the filing date of this quarterly report. Based on this
evaluation, the Chief Executive Officer and the Chief Financial Officer
concluded that the Company's disclosure controls and procedures are effective.
There were no significant changes in the Company's internal controls that could
significantly affect its disclosure controls and procedures since the date of
the evaluation.
PART II
Item 2. Changes in Securities
(a) On June 27, 2002, the Company issued a $15.0 million Floating Rate Junior
Subordinated Debenture (the "Debenture") to Washington Banking Capital Trust I,
a statutory business trust subsidiary. The Trust issued $15.0 million in Trust
Preferred Securities to Bear Stearns Securities Corp. based upon this Debenture
and a guarantee from the Company. The Trust Preferred Securities, due June 30,
2032, have a 30-year maturity and are callable by the Company after the fifth
year. Interest is payable quarterly at a rate of 3.65% above the three-month
LIBOR rate. The Company paid a placement fee of $450,000 plus certain expenses
to SAMCO Capital Markets, which acted as placement agent for the offering of the
Trust Preferred Securities. The issuance of the Debenture and the Trust
Preferred Securities were exempt from registration under the Securities Act
pursuant to Section 4(2) thereunder. The proceeds of the Debenture will be used
primarily to fund the Company's expansion.
Item 6. Exhibits and Reports on Form 8-K
(a) Exhibits
99.1 Section 906 Certification of Chief Executive Officer
99.2 Section 906 Certification of Chief Financial Officer
(b) Reports on Form 8-K
The Company did not file any current reports on Form 8-K during the
third quarter of 2002.
19
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned, thereunto duly authorized.
WASHINGTON BANKING COMPANY
Date: November 13, 2002 By /s/ Michal D. Cann
-------------------
Michal D. Cann
President and
Chief Executive Officer
Principal executive officer
Date: November 13, 2002 By /s/ Phyllis A. Hawkins
----------------------
Phyllis A. Hawkins
Senior Vice President and
Chief Financial Officer
Principal financial and
accounting officer
20
CERTIFICATION OF CHIEF EXECUTIVE OFFICER
I, Michal D. Cann, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Washington Banking
Company;
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by
this report;
3. Based on my knowledge, the financial statements, and other financial
information included in this quarterly report, fairly present in all
material respects the financial condition, results of operations and cash
flows of the registrant as of, and for, the periods presented in this
report;
4. The registrant's other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined
in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a) Designed such disclosure controls and procedures, or caused such
disclosure and controls and procedures to be designed under our
supervision, to ensure that material information relating to the
registrant, including its consolidated subsidiaries, is made known to
us by others within those entities, particularly during the period in
which this report is being prepared;
b) Evaluated the effectiveness of the registrant's disclosure controls
and procedures as of a date within 90 days prior to the filing date of
this report (the "Evaluation Date"); and
c) Presented in this report our conclusions about the effectiveness of
the disclosure controls and procedures based on our evaluation as of
the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on
our most recent evaluation, to the registrant's auditors and the audit
committee of registrant's board of directors (or persons performing the
equivalent function):
a) All significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to
record, process, summarize and report financial data and have
identified for the registrant's auditors any material weaknesses in
internal controls; and
b) Any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
controls; and
6. The registrant's other certifying officer and I have indicated in this
report whether or not there were significant changes in internal controls
or in other factors that could significantly affect internal controls
subsequent to the date of our most recent evaluation, including any
corrective actions with regard to significant deficiencies and material
weaknesses.
Date: November 13, 2002 By /s/ Michal D. Cann
-------------------
Michal D. Cann
President and
Chief Executive Officer
21
CERTIFICATION OF CHIEF FINANCIAL OFFICER
I, Phyllis A. Hawkins, certify that:
1. I have reviewed this quarterly report on Form 10-Q of Washington Banking
Company;
2. Based on my knowledge, this quarterly report does not contain any untrue
statement of a material fact or omit to state a material fact necessary to
make the statements made, in light of the circumstances under which such
statements were made, not misleading with respect to the period covered by
this report;
3. Based on my knowledge, the financial statements, and other financial
information included in this report, fairly present in all material
respects the financial condition, results of operations and cash flows of
the registrant as of, and for, the periods presented in this report;
4. The registrant's other certifying officer and I are responsible for
establishing and maintaining disclosure controls and procedures (as defined
in Exchange Act Rules 13a-14 and 15d-14) for the registrant and we have:
a) Designed such disclosure controls and procedures, or caused such
disclosure and controls and procedures to be designed under our
supervision, to ensure that material information relating to the
registrant, including its consolidated subsidiaries, is made known to
us by others within those entities, particularly during the period in
which this report is being prepared;
b) Evaluated the effectiveness of the registrant's disclosure controls
and procedures as of a date within 90 days prior to the filing date of
this report (the "Evaluation Date"); and
c) Presented in this report our conclusions about the effectiveness of
the disclosure controls and procedures based on our evaluation as of
the Evaluation Date;
5. The registrant's other certifying officers and I have disclosed, based on
our most recent evaluation, to the registrant's auditors and the audit
committee of registrant's board of directors (or persons performing the
equivalent function):
a) All significant deficiencies in the design or operation of internal
controls which could adversely affect the registrant's ability to
record, process, summarize and report financial data and have
identified for the registrant's auditors any material weaknesses in
internal controls; and
b) Any fraud, whether or not material, that involves management or other
employees who have a significant role in the registrant's internal
controls; and
6. The registrant's other certifying officer and I have indicated in this
report whether or not there were significant changes in internal controls
or in other factors that could significantly affect internal controls
subsequent to the date of our most recent evaluation, including any
corrective actions with regard to significant deficiencies and material
weaknesses.
Date: November 13, 2002 By /s/ Phyllis A. Hawkins
----------------------
Phyllis A. Hawkins
Senior Vice President and
Chief Financial Officer
22